Multiple Choice
Why might states prefer receiving a grant-in-aid rather than an unfunded mandate when addressing externalities?
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7. Externalities
Public Solutions to Externalities
Multiple Choice
Which of the following best describes a public solution to externalities in the context of microeconomics?
A
A country attempts to impose political control over another territory.
B
Private negotiations between affected parties lead to an efficient outcome.
C
Firms voluntarily reduce their negative externalities without any intervention.
D
The government imposes taxes or subsidies to correct market outcomes.
Verified step by step guidance1
Understand the concept of externalities: Externalities occur when a third party is affected by the actions of others, either positively or negatively, without compensation or payment.
Recognize that a public solution to externalities involves government intervention to correct market failures caused by these external effects.
Identify common public solutions such as taxes (Pigouvian taxes) on negative externalities or subsidies on positive externalities, which aim to align private costs or benefits with social costs or benefits.
Compare the options given: private negotiations and voluntary firm actions are private solutions, while political control over another territory is unrelated to externalities.
Conclude that the best description of a public solution is when the government imposes taxes or subsidies to correct market outcomes, internalizing the externality.
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