Negative Externalities in Production | A-Level Economics Model Paragraph

Negative Externalities in Production

Market failure occurs when there is a misallocation of resources. The market for magazines have negative externalities in production, as shown by the diagram below. Negative externalities occur when there is a cost to the third party from the production of the good or service. The third party can be anyone apart from the buyer or the seller. For example, magazines are made using paper, which means trees need to be cut down. This causes damage to the environment, which is a burden on taxpayers and future generations. The diagram shows that there is a divergence between marginal social cost and marginal private cost. Social cost = private cost + external cost. This means that social cost is higher than private cost in the market for magazines as it factors in cost to the third party. These externalities get ignored in the free market, where MPC=MPB. The socially optimal quantity would be qs where MSC=MSB. Magazines are over-produced in the free-market.

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