When the production or consumption of a good involves an externality:
A)resources are necessarily overallocated to the good.
B)resources are necessarily underallocated to the good.
C)someone not involved in buying or selling the good is affected.
D)the market will efficiently allocate resources to its production.

Question

When the production or consumption of a good involves an externality:
A)​resources are necessarily overallocated to the good.
B)​resources are necessarily underallocated to the good.
C)​someone not involved in buying or selling the good is affected.
D)​the market will efficiently allocate resources to its production.

Quizplus · Accepted Answer

When there is an external cost or benefit associated with production or consumption of a good, someone outside the transaction is affected. For example, air pollution from a factory affects people living in the surrounding areas who are not involved in buying or selling the goods produced by the factory. This creates a market failure because the market only takes into account the private costs and benefits of production and consumption, not the external costs and benefits. As a result, resources may be overallocated or underallocated to the production of the good, leading to inefficient outcomes. So, option C is correct.

When the Production or Consumption of a Good Involves an Externality