A paper mill discharges chemicals into a river which washes the shores of a downstream resort area. The private cost, social cost, and marginal benefit associated with the production of paper are given by the following equations: PMC = 5 + Q, SMC = 10 + 2Q, and MB = 35 - 0.5Q. The marginal external cost at the competitive free- market equilibrium is

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The marginal external cost is equal to the difference between the social marginal cost and the private marginal cost. The social marginal cost is equal to the marginal benefit, which is 35 - 0.5Q. The private marginal cost is equal to 10 + 2Q. Therefore, the marginal external cost is equal to (35 - 0.5Q) - (10 + 2Q) = 25 - 2.5Q. At the competitive free-market equilibrium, Q = 10. Therefore, the marginal external cost is equal to 25 - 2.5(10) = 5.

A Paper Mill Discharges Chemicals into a River Which Washes