Chapter 18, Problem 1RQ

To determine

The problem of externality.

Explanation of Solution

The externality is the consequence faced by the person who is not involved in the action in the form of additional benefit or cost. The externality which is affecting in the form of additional cost to the third party is known as the negative externality and the one that affects with the benefits to the third party is known as the positive externality.

a) Here, the externality is created by the restrictive export policy by the Brazil government and the externality is creating inefficiency in the market. The inefficiency is created through the reduced supply and increased price level in the market which means the price is incapable of indicating the true social value of the product. When the price of coffee increases in the US market, the consumers who are elastic in their demand towards the price would change their consumption from the coffee to its substitute that is tea. As the demand for tea increases in the market, the price of tea also increases which is the effect of the changes in the market demand and supply and not the externality.

b) The advertising blimps are used to provide information to the people. They provide much useful information to the public regarding many issues and causes. Here, the advertising blimp also does the same job of providing the information to the people but the problem is that the positioning of the advertisement blimp is not accurate as it causes distractions to some of the passengers and riders. It is reflected in the accident that the motorcyclist faced. Thus, the blimp is causing additional cost to the rider in the form of medical expenses and the repair expenses of the motorcycle, and so on. Thus, it causes the negative externality to the rider.

Economics Concept Introduction

Externality: The externality is the cost or benefit incurred to the third party who does not choose to take up the cost or benefit as he will not be involved in the process.