Assume the costs (social and private) and marginal benefits (social and private) per gallon of gasoline in Canada are modeled as follows to illustrate the negative externality of gasoline combustion:
MPB = 12.80 - 0.4Q
MSB = 12.80 - 0.42Q
MSC = MPC = 1.25 + 0.02Q
(where Q is millions of gallons)
1. Illustrate the equation that represents the market externality. Provide the economic interpretation of this equation, using its specific numerical value(s).
2. Identify the efficient equilibrium, QE and PE, for this market.
3. Identify the dollar value of a per-unit gasoline tax that would achieve the efficient solution, and determine the tax revenues generated to the government as result.