Markets will underproduce goods that yield external benefits and overproduce those that generate external costs.

Question

Quizplus · Accepted Answer

This is due to the fact that markets typically only take into account the private costs and benefits of production and consumption, rather than the full societal costs and benefits which can include externalities – the costs or benefits that are experienced by individuals or groups that are not directly involved in the production or consumption of the good. As a result, goods that generate positive externalities, such as education or vaccinations, may be underproduced since the private market may not capture the full benefits that accrue to society, while goods that generate negative externalities, such as pollution or tobacco products, may be overproduced since the private costs may not reflect the full social costs.

Markets Will Underproduce Goods That Yield External Benefits and Overproduce