CA Foundation · Business Economics · Public Finance
A firm's production of steel has a marginal private cost of Rs 500 per tonne and imposes a pollution damage of Rs 120 per tonne on nearby residents. What is the marginal social cost per tonne, and what Pigouvian tax would make the firm bear the full social cost?
Marginal social cost is Rs 620 per tonne, found by adding the Rs 120 external damage to the Rs 500 private cost. A Pigouvian tax of Rs 120 per tonne makes the firm bear the full social cost, correcting the externality.
- AMarginal social cost Rs 380; tax Rs 120
- BMarginal social cost Rs 620; tax Rs 120Correct
- CMarginal social cost Rs 620; tax Rs 500
- DMarginal social cost Rs 500; tax Rs 120
Explanation
Marginal social cost = marginal private cost + marginal external cost = 500 + 120 = Rs 620. A Pigouvian tax equal to the marginal external cost, Rs 120 per tonne, makes the firm's cost equal to the social cost. Subtracting the damage (Rs 380) is a sign error.
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