Question
Soybeans are produced and sold in a perfectly competitive market. The fertilizers used in soybean production generate a negative externality by seeping liquid contaminants into
Soybeans are produced and sold in a perfectly competitive market. The fertilizers used in soybean
production generate a negative externality by seeping liquid contaminants into local rivers.
a) Draw a correctly labeled graph of the soybean market, and show each of the following.
i. The marginal private cost, labeled MPC
ii. The marginal social cost, labeled MSC
iii. The marginal social benefit, labeled MSB
iv. The market equilibrium quantity, labeled QC
v. The socially optimal quantity, labeled QS
vi. The area of the deadweight loss, shaded completely
b) Assume the government sets a binding price floor such that the quantity demanded in the
market is between QS and QC.
i. What will happen to the quantity produced?
ii. Will the price floor reduce the deadweight loss? Explain.
c) Assume instead of a price floor, the government decides to impose a lump-sum tax. What will
happen to the socially optimal quantity? Explain.
d) Assume instead of a lump-sum tax, the government decides to impose a per-unit tax equal to
the marginal external cost.
i. On your graph in part (a), indicate the new market equilibrium quantity, labeled QN.
ii. What will happen to the deadweight loss? Explain.
e) If this market were a monopoly with identical cost conditions, would the monopoly's profit-
maximizing quantity be greater than, less than, or equal to QC?
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