Explain why externalities prevent the attainment of efficiency when goods are traded in competitive markets?
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When externalities present, the market fails to achieve an efficient allocation of resources since the marginal costs (MC) or marginal benefits (MB) that market participants base their decision on from the actual marginal social costs or benefits. 1. Negative Externalities ? When there are negative externalities, the price of a good or service does not reflect the full marginal social cost (MSC) of resources allocated in its production. P < MSC ? The MSC will equal to the marginal private cost (MPC) plus the marginal external cost (MEC) MSC = MPC + MEC ? The MEC is thecost...
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