Taxes for factoring in negative externalities

In the last video, we first thought about externalities, the negative externalities of having plastic bags around. It causes litter, it might damage animals and the environment in some way. We're assuming ... And we assumed in that video that we were able to calculate the actual external cost of a plastic bag. This two cents a bag is the impact on litter in the environment. Then we were able to figure out that if we factor this in, instead of just having the regular marginal cost cover the suppliers, if we added that marginal cost curve to the external cost, we would get a supplier plus external costs, marginal cost curve, and then we'd get what is actually the optimal price and quantity of plastic bags so that we actually do not eat into our surplus by creating all of this negative surplus where the total cost of the bags are higher than the total benefit. One thing that we did not touch on in that video, is how does this actually happen? If we just let things be, and we just had the supplier's marginal cost curve and we have the consumer's demand curve, in this case, the consumers were the supermarkets, then the equilibrium price that'll be reached will be right over here because although we're theoretically saying that there's this cost over here, the cost won't be factored in into the markets. So if you are the benevolent emperor in this society, what do you do? What do you do to get the quantity closer to this point right over here than what the equilibrium quantity will be when you don't factor in the external cost? There's a bunch of options here. You could just ban plastic bags ... ban plastic bags, you could put a quota on plastic bags, you could put a quota, so saying that more than a certain amount of bags could not be produced, or you could tax plastic bags, or you could tax plastic bags. Let's think about which of these will result in the most surplus, the most benefit to society in aggregate. One core assumption we're going to make is that this is an accurate assessment of the external cost per bag. If you were to just ban plastic bags as this benevolent emperor, maybe seemingly or hopefully benevolent emperor of this society right here, if you just banned plastic bags, what would happen? Well, then this market just won't exist. All of this surplus that could have existed, won't exist anymore, so you would actually be destroying surplus. You could say, "No, no, no ... plastic bags are horrible. They should just be outright banned. There's no amount of benefit for which plastic bags are worth using," but in that case, you're actually arguing this point right over here. You'd be arguing that, "No, it's not 2 cents a bag, it's 10 cents a bag," of negative externality, and because of that, you would have this curve shift up even more and then there's no positive quantity there and maybe a ban would be all right. But if the 2 cents is the externality, the negative externality, and if you were to ban plastic bags, then you would actually be removing, you would be removing this surplus from society. That doesn't seem like a good option. Now what about a quota? You kind of look at the study right over here and you say, "Look, the optimal amount of plastic bags is 1.9 million bags per week, so I will just say that that's most that the market can produce." But when you say that, that's assuming that you really do understand what this demand curve looks like. I just drew a straight line here just out of simplicity, and assuming that you really do understand what this marginal cost curve looks like. Throughout this playlist, we've been assuming that we kind of do understand those things, but in the real world, it's actually very hard to know exactly what the marginal cost of the curve looks like, and it's also hard to know exactly what the marginal benefit curve, or the demand curve looks like, especially because they're always changing. There's always more competitors, less competitors, more substitute products, more R&D, things are getting more efficient, less efficient; and so it's very hard to know what the true equilibrium quantity should be. A quota is difficult. We don't have quite the right information. A tax is interesting. A tax says, "Look, regardless of what the marginal cost curve really is, we're just going to shift it up by 2 cents." We saw that when we first talked about taxes. When we first talked about taxes, we talked about they're introducing a dead weight loss because you're not producing as much quantity as you would have otherwise, or as much quantity isn't being consumed. But here, a tax could actually prevent a dead weight loss because if you have a 2 cent tax, essentially adding the cost of the negative externality in the form of a tax on top of the supplier's cost right over here, you are going to cause the equilibrium quantity to be the quantity where you're not generating all of this negative surplus, and it's just a positive side effect, and once again, this is all assuming that this is the right number, but it would be a positive side effect that you would also generate some revenue for the government. What's good about the tax in this circumstance right over here, you're not assuming anything about what the marginal cost curve looks like or what the demand curve looks like. As long as you're assuming that this is the right number, the tax will always shift whatever the marginal cost curve is, it'll always shift it to the right point to intersect wherever the demand curve is at this equilibrium point, that gives us an equilibrium price and an equilibrium quantity. So if this is the right number and you put a 2 cent tax per bag, a 2 cent tax per bag, then this is probably going to be the best option in terms of optimizing the total surplus.