Multiple Choice
Governments can improve market outcomes for which of the following situations?
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7. Externalities
Public Solutions to Externalities
Multiple Choice
Government subsidies to small and large farmers are designed in large part to:
A
reduce competition among farmers
B
eliminate all forms of market failure
C
encourage the production of goods that generate positive externalities
D
increase the market price of agricultural products
Verified step by step guidance1
Understand the concept of externalities: Externalities occur when a third party is affected by the production or consumption of a good, and these effects are not reflected in market prices. Positive externalities provide benefits to others beyond the individual producer or consumer.
Recognize that government subsidies are often used to encourage activities that generate positive externalities because the market tends to underproduce these goods without intervention.
Analyze the options given: reducing competition, eliminating all market failures, encouraging production of goods with positive externalities, and increasing market prices. Consider which aligns with the role of subsidies in addressing externalities.
Recall that subsidies lower the cost of production, which incentivizes producers to increase output of goods that have beneficial spillover effects on society, i.e., goods with positive externalities.
Conclude that the primary purpose of subsidies in this context is to encourage the production of goods that generate positive externalities, helping to correct market failure by aligning private incentives with social benefits.
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