Glossary
Deadweight Loss (DWL)
The loss of economic efficiency that occurs when the free market equilibrium is not at the socially optimal quantity, representing a reduction in total surplus.
Example:
The Deadweight Loss from a monopoly is the lost consumer and producer surplus due to the firm producing less than the efficient quantity.
Externality
A side effect of an economic decision that affects someone who was not part of the original choice, impacting a third party either positively or negatively.
Example:
When a new park is built in a neighborhood, it creates a positive externality for nearby homeowners whose property values increase.
Free Market Quantity (QFM)
The quantity of a good or service produced and consumed in a market without government intervention, determined where marginal private cost equals marginal private benefit.
Example:
In a market for sugary drinks, the Free Market Quantity is where the cost to the producer equals the benefit to the consumer, often leading to overconsumption due to health externalities.
Marginal Private Benefit (MPB)
The direct benefit received by a consumer from consuming one additional unit of a good or service, excluding any external benefits.
Example:
The Marginal Private Benefit of buying a new smartphone is the direct utility and satisfaction the owner gets from using it.
Marginal Private Cost (MPC)
The direct cost incurred by a producer for producing one additional unit of a good or service, excluding any external costs.
Example:
The Marginal Private Cost for a bakery to produce one more loaf of bread includes the cost of flour, yeast, and the baker's time.
Marginal Social Benefit (MSB)
The total benefit to society from consuming one more unit of a good, which includes both the private benefits to the consumer and any external benefits to others.
Example:
The Marginal Social Benefit of a public education system includes the direct benefit to students plus the broader societal benefits of a more informed populace.
Marginal Social Cost (MSC)
The total cost to society of producing one more unit of a good, which includes both the private costs to the producer and any external costs imposed on others.
Example:
For a factory producing steel, the Marginal Social Cost includes the cost of raw materials and labor, plus the cost of air pollution to the community.
Negative Externality
An externality where an economic activity imposes a cost on a third party not involved in the transaction.
Example:
The noise pollution from a late-night construction project is a negative externality for residents trying to sleep.
Per-Unit Subsidy
A payment from the government for each unit of a good or service produced or consumed, often used to encourage activities with positive externalities by reducing the private cost or increasing the private benefit.
Example:
A per-unit subsidy on solar panel installations can encourage more homeowners to adopt renewable energy, benefiting the environment.
Per-Unit Tax
A tax levied on each unit of a good or service produced or sold, often used by the government to correct negative externalities by increasing the private cost.
Example:
A government might impose a per-unit tax on plastic bags to discourage their use and reduce environmental waste.
Pigouvian Subsidies
Subsidies specifically designed to correct positive externalities by making the private benefit equal to the social benefit, thereby encouraging more of the beneficial activity.
Example:
Government funding for basic scientific research is a form of Pigouvian Subsidy to promote innovation that benefits society as a whole.
Pigouvian Taxes
Taxes specifically designed to correct negative externalities by making the private cost equal to the social cost, thereby internalizing the externality.
Example:
A carbon tax on emissions is a Pigouvian Tax aimed at reducing pollution by making polluters pay for the external costs they impose.
Positive Externality
An externality where an economic activity creates a benefit for a third party not involved in the transaction.
Example:
When a homeowner plants a beautiful garden, it creates a positive externality for neighbors who enjoy the view.
Socially Optimal Quantity (QSO)
The quantity of a good or service that maximizes total social welfare, occurring where marginal social cost equals marginal social benefit.
Example:
The Socially Optimal Quantity of vaccinations is higher than the free market quantity because it accounts for the public health benefits to everyone, not just the vaccinated individual.