Negative externality of consumption

Question 1

Negative externality of consumption

Answer 1

• costs to third party
• not directly involved in consumption of gd/svc
• not compensated for damages
• e.g. second-hand smokers, air pollution frm automobiles
• result in overallocation of resources to production of gd

Question 2

Demerit goods

Answer 2

• gov considers to be socially undesirable and intrinsically bad for consumers, with -ve externalities
• discourage consumption e.g. alcohol, cigarettes
• failure of info (not aware of full negative effects) to consumer
• over-value product –> overconsumption –> mkt failure if left mkts to supply
• total cost to society underestimated when third party cost not taken into acct

Question 3

Pigouvian taxes

Answer 3

• imposed on gd on gd with ext cost
• ss falls, leftward shift frm MPC to (MPC+tax)
• if tax = MEC , MPC+tax curve intersects MPB at Qs (socially opt lvl)
• Allocative efficiency attained
• e.g. SG Tobacco tax: 42.7 cents per g

Question 4

Evaluation of Pigouvian tax (+ve)

Answer 4

• Mkt based soln (preferred by economists)
• indirect taxes internalize MEC
• incentivize consumers to change their consumptions patterns by changing px
• gd becomes more expensive, consumption falls

Question 5

Evaluation of Pigouvian tax (-ve)

Answer 5

• dependent on PED of gd
• producers pass tax burden to consumers
• dd px inelastic (lack of substitutes, addictive)
• less than proportionate fall
• not effective in reducing consumption sufficiently to socially opt lvl

Question 6

Legislation and regulation

Answer 6

• prevent/limit consumer activities that create ext cost
• legal restrictions ie. smoking in public plcs
• shift MPB curve leftwards to MSB
• qty drop to sically opt lvl
• eliminate MEC

Question 7

Evaluation of legislation and regulation

Answer 7

• certain regulations are more effective ie. smoking
• not viable for all types of -ve consumption externalities
• e.g. difficult to regulate petrol consumption
• price elasticity of dd of ccertain gds
• gov must evaluate based on type of gd

Question 8

Education

Answer 8

• consumers dont have perfect knowledge/info of damage demerit gds bring
• gov increase info available via education system (Long term soln)
• fund public awareness campaigns to reduce dd, shift MPB to left
• revenues frm taxes on demerit gds use to finance necessary spending

Question 9

Evaluation of education

Answer 9

• might not be effective in terms of reducing consumption
• e.g. many teenagers accept dangers of smoking/drinking, not affected by measures meant to discourage
• manage to convince themselves that they will not be affected/ something to worry abt in the future
• irrational behaviour

Question 10

Consumer nudges

Answer 10

• encourage consumers to reduce consumption voluntarily

- freedom of choice