When there is market failure due to a negative externality:
A)there are no way of correcting it.
B)setting price equal to marginal social cost will solve it.
C)the free market produces output at a too high price.
D)externalities have been taken into account.
E)the best solution eliminates the externality entirely.

Question

Quizplus · Accepted Answer

Setting the price equal to marginal social cost (MSC) will solve the market failure caused by negative externality. When a negative externality exists, the marginal cost to society is greater than the marginal cost to producers. Therefore, if we set the price equal to MSC, the output level will be reduced to the socially optimal level where marginal cost to society equals the marginal benefit to society, and the externality will be resolved. This is the most efficient solution.

When There Is Market Failure Due to a Negative Externality