Suppose there are 100 residents on the island of Mahalo. Whenever someone purchases a palm tree to plant on the island, everyone on the island receives the same benefits from the tree, which include beauty, shade, and erosion control. The table below shows the total social cost (which is also the total private cost) and the total private benefit received per resident depending on the quantity of palm trees purchased. Use this information to answer the questions that follow. Quantity of palm trees Total social cost (total private cost) Total private benefit per resident
0 $0 $0
1 200 8
2 400 12
3 600 14
4 800 15

Required:
a. Does the purchase of palm trees create a negative externality, a positive externality, or no externality? Explain.
b. Draw a graph that depicts the marginal social cost and the marginal social benefit of palm trees.
c. What quantity of palm trees would be purchased if they were sold in a private market? Explain.
d. What is the socially optimal quantity of palm trees? Explain.
e. In this situation are palm trees a private good, a public good, or a common resource?
f. What could be an appropriate governmental policy response to this situation?

a. Does the purchase of palm trees create a negative externality, a positive externality, or no externality? Explain.

A positive externality is created since individuals that have nothing to do with the original transaction still benefit from it.

b. Draw a graph that depicts the marginal social cost and the marginal social benefit of palm trees.

Q of palm trees             Marginal private cost      Marginal private benefit

0                                               $0                                    $0

1                                             $200                                 $800

2                                            $200                                 $400

3                                            $200                                 $200

4                                            $200                                 $100

See attached graph

c. What quantity of palm trees would be purchased if they were sold in a private market? Explain.

3 palm trees, since marginal cost = marginal benefit

d. What is the socially optimal quantity of palm trees? Explain.

3 palm trees, since marginal cost = marginal benefit

e. In this situation are palm trees a private good, a public good, or a common resource?

a public good because every citizen can benefit from them, and they are not rival in consumption  

f. What could be an appropriate governmental policy response to this situation?

The government could subsidize palm trees in order to lower the private cost, so more trees are purchased, increasing total social benefit.