Positive Externalities

When you buy a flu shot, you weigh your own benefit: fewer sick days, no misery. That is marginal private benefit, MPB. But your shot also protects your neighbor, your coworkers, the stranger next to you on the bus, since you cannot spread a disease you do not have. Those spillover gains are external benefits, and nobody pays you for them, so you never factor them into your decision. Marginal social benefit, MSB, is MPB plus that external benefit, so MSB sits above MPB at every quantity.

The private market produces where MPB meets marginal cost, call that quantity Q_private. The socially efficient quantity, Q_social, is where MSB meets marginal cost, and because MSB is higher, Q_social is larger. The gap between them is underproduction: the market stops too soon, and the triangle between MSB and MC from Q_private to Q_social is deadweight loss, benefit to society that never gets realized. With MPB = 30 - Q, MSB = 40 - Q, and MC = 10 + Q, the private market sets 30 - Q = 10 + Q, so Q_private = 10. The social optimum sets 40 - Q = 10 + Q, so Q_social = 15. Underproduction is 5 units.

This sits opposite negative externalities in the same unit: there, MSC sits above MPC and the market overproduces; here, MSB sits above MPB and the market underproduces. Both are missing-price problems, and both point toward the same fix in the next topics, government intervention, here usually a subsidy that pulls the private price down and pushes quantity up toward Q_social.