In the presence of a positive externality, the social marginal benefit curve lies relative to the private marginal benefit curve how?

• A. Below
• B. Above
• C. At the same height
• D. Not related

Answer: (B)

A positive externality means people other than the buyer receive benefits from the good, so the total value to society from producing an extra unit is higher than the private value to the buyer alone. The social marginal benefit equals the private marginal benefit plus the positive external benefit, which is greater than zero. Therefore the social marginal benefit curve lies above the private marginal benefit curve for every quantity. This explains why the market underproduces relative to the social optimum—the private decision makers don’t account for the extra benefits enjoyed by others. The supervisor of policy would aim to raise production until the social marginal benefit equals the marginal cost, often via a subsidy.