Ordinarily the efficiency of a market relies upon the existence of a perfect competition condition in the particular economic setting. “Externalities in the market usually occurs when an individual or the firm imposes a benefit or cost on some other individual who either does not have to pay for the benefit, or is not compensated for the cost” (Miceli, 2004). Consider a scenario whereby the a firm has a private marginal cost showing that the total accrued cost of inputs is actually far much less than impending social marginal cost, which is in essence reflects the real time costs for total societal inputs. In this case, if this were to be projected on a quantity and price curve, establishing the actual external costs would be found at the respective points of intersection for the marginal cost curves. This would therefore lead to overproduction of product essentials due to occurrence of a negative externality (Miceli, 2004).
Considering the fact that producers and consumers are a market a market in essence, the easier way of eliminating inefficiency would ordinarily involve the institution of a regulating mechanism, for instance, a taxation system. This will effectively serve to check the effect of the externality by raising the private marginal cost of the produce to a level where it intersects the strategic price set at the social optimum output levels (Miceli, 2004). However, this option still does not check the impact brought about by competition variables available by the number of players in the industry. The most feasible alternative would be to institute a competitive strategy whereby conditions for entering the market are made less stringent so that consumers can consequently have a wide choice of product suppliers. Consider a scenario where an output in the computer chip industry causes the prices to drop significantly leading to greater subsidies from the regulator due to losses accrued (Margolis & Liebowitz, n.d). In this case, externality has not been sufficiently internalized. Alternatively, in order to catalyze the effect by bringing input prices to be almost equal to social marginal cost then increasing subsidies as the cost of production increases by transferring the extra subsidy to the consumer (Margolis & Liebowitz, n.d). This way the costs would have solved the issue resulting from the externalities, which could be due to technological limitations based on environmental variables.
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