Micro Foundations · intro
What moves on the Externalities & Pigouvian Taxes diagram
A Pigouvian taxPigouvian taxA tax set equal to the external harm of an activity, forcing the market to price the damage it causes. equal to marginal external cost aligns private costs with social costs, fixing the quantity.
The market overproduces: it ignores the red MSC gap.
A tax equal to the external harm makes producers PAY the social cost, private supply and MSC merge into one line.
The gap closes: the market now lands on the social optimum by itself. The externalityexternalityA cost or benefit that lands on someone outside the transaction, pollution's harm, vaccination's protection. is priced in.
Examiners ask this as: carbon tax, pigouvian internalize, pollution priced.
Other scenarios on Externalities & Pigouvian Taxes