Question

figure 5-1
(graph with price, quantity, supply curves s₁, s₂, demand, q₁, q₂, p₁, p₂)
figure 5-1 shows a market with an externality. the current market equilibrium output of q₁ is not the economically efficient output. the economically efficient output is q₂.
refer to figure 5-1. if, because of an externality, the economically efficient output is q₂ and not the current equilibrium output of q₁, what does s₂ represent?
options:

• the market supply curve reflecting marginal social cost
• the market supply curve reflecting external cost
• the market supply curve reflecting implicit cost
• the market supply curve reflecting marginal private cost

Explanation:

To determine what \( S_2 \) represents, we analyze the market with an externality. The economically efficient output (\( Q_2 \)) occurs where marginal social cost (MSC) equals demand (marginal social benefit). The supply curve \( S_2 \) is to the left of \( S_1 \), indicating a higher cost (including external costs) at each quantity.

• "The market supply curve reflecting marginal social cost" is correct because MSC includes private and external costs. The efficient output \( Q_2 \) is where MSC (from \( S_2 \)) meets demand.
• "External cost" alone is incorrect as \( S_2 \) reflects total social cost (private + external), not just external.
• "Implicit cost" is irrelevant here, as implicit costs are part of private cost (not related to externalities in this context).
• "Marginal private cost" would be \( S_1 \) (since \( Q_1 \) is the private equilibrium), so \( S_2 \) is not private cost.

Answer:

the market supply curve reflecting marginal social cost