(a) Using appropriate diagrams compare the level of production when there is a positive production externality with the production level when there is a negative production externality. How can the resulting inefficient production levels be corrected? 

Externalities lead to market failure because a product or service's price equilibrium does not accurately reflect the true costs and benefits of that product or service. Equilibrium, which represents the ideal balance between buyers' benefits and producers' costs, is supposed to result in the optimal level of production. However, the equilibrium level is flawed when there are significant externalities, creating incentives that drive individual actors to make decisions which end up making the group worse off. This is known as a market failure.

Negative Externalities

When negative externalities are present, it means the producer does not bear all costs, which results in excess production. With positive externalities, the buyer does not get all the benefits of the good, resulting in decreased production. Let's look at a negative externality example of a factory that produces widgets. Remember, it pollutes the environment during the production process. The cost of the pollution is not borne by the factory, but instead shared by society.

If the negative externality is taken into account, then the cost of the widget would be higher. This would result in decreased production and a more efficient equilibrium. In this case, the market failure would be too much production and a price that didn't match the true _____ _________ _____ _________ ________ ________ ___ ____ _____.
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