Externalities
kdihl0Externalities
Education is an example of a positive externality: acquiring more education benefits the individual student and having a more highly educated work force is good for the economy as a whole.
The accompanying table illustrates the marginal benefit to Sian per year of education and the marginal cost per year of education. Each year of education has a marginal external benefit to society equal to $8,000. Assume that the marginal social cost is the same as the marginal cost paid by an individual student.
Quantity of Education (in years) | Sian’s Marginal Benefit per year | Sian’s Marginal Cost per year |
9 | - | - |
10 | $20,000 | $15,000 |
11 | 19,000 | 16,000 |
12 | 18,000 | 17,000 |
13 | 17,000 | 18,000 |
14 | 16,000 | 19,000 |
15 | 15,000 | 20,000 |
16 | 14,000 | 21,000 |
17 | 13,000 | 22,000 |
- Find Sian’s market equilibrium number of years of education
- Calculate the marginal social benefit schedule
Years of Education | Sian’s marginal benefit per year | Marginal external benefit to society | Marginal social benefit | Sian’s marginal cost per year |
9 | - | - | - | - |
10 | $20,000 | $8,000 |
| $15,000 |
11 | 19,000 | 8,000 |
| 16,000 |
12 | 18,000 | 8,000 |
| 17,000 |
13 | 17,000 | 8,000 |
| 18,000 |
14 | 16,000 | 8,000 |
| 19,000 |
15 | 15,000 | 8,000 |
| 20,000 |
16 | 14,000 | 8,000 |
| 21,000 |
17 | 13,000 | 8,000 |
| 22,000 |
- What is the socially optimal number of years of education?
- You are in charge of education funding. Would you use a Pigouvian tax or a Pigouvian subsidy to induce Sian to choose the socially optimal amount of education? Justify your answer.
- How high would you set this tax or subsidy per year of education? Justify your answer.
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