Social Optimum 2

Recall the rule for the The rule for a socially optimal allocation of resources is still the equimarginal rule, MB=MC. However, we now have two kinds each of costs and benefits. We will abbreviate

MSC: marginal social cost
MSB: marginal social benefit
MPB: marginal private benefit
MPC: marginal private cost

Using these definitions, we can state the rule for a social optimum, and the problem of externality, more precisely. The rule for a socially optimal allocation of resources is

MSB=MSC

and the problem is that rational self-interested decision-makers operate according to a different rule

MPB=MPC

So now let's look at some examples -- practically important ones.