Social Costs & Social Benefits (Cambridge (CIE) A Level Economics): Revision Note
Exam code: 9708
Understanding social costs
In many markets, the costs of producing or consuming a good are not limited to the buyer and seller
Some costs are imposed on third parties, meaning people who are not directly involved in the transaction
These are known as 'external costs'.
When external costs exist, the true cost to society is higher than the private cost faced by firms and consumers
Key definitions
Marginal private cost (MPC)
The additional cost incurred to the consumer and producer through the consumption or production (output) of one additional unit of output
Marginal external cost (MPE)
The additional cost incurred to a third party through the consumption or production (output) of one additional unit of output
Marginal social cost (MSC)
The additional cost incurred to society incurred through the consumption or production of one additional unit of output
It is the sum of the private costs plus the external costs
Case Study
Air Pollution From Coal Power
Context
Coal-fired power stations are widely used in countries such as China, India, and South Africa to generate electricity
Electricity producers sell power to households and firms at a price that mainly reflects their private production costs
External Cost
Burning coal releases air pollutants and greenhouse gases
These cause:
Respiratory illnesses
Environmental damage
Increased healthcare costs
These costs are borne by society rather than the electricity producers
Implication for efficiency
The marginal social cost (MSC) of producing electricity is higher than the marginal private cost (MPC)
Firms only consider their private costs when deciding output
As a result, the market produces more electricity from coal than is socially optimal
This creates allocative inefficiency and welfare loss
Examiner Tips and Tricks
You must not confuse social costs with external costs
Social Costs = Private Costs + External Costs
Understanding social benefits
Some goods create benefits that extend beyond the individual consumer
These benefits affect third parties who are not directly involved in the transaction
These are known as external benefits
When external benefits exist, the true benefit to society is greater than the private benefit received by consumers
This means the market may produce too little output, leading to allocative inefficiency
Key definitions
Marginal private benefit (MPB)
The additional benefit received by the consumer and producer from the consumption or production (output) of one additional unit of output
Marginal external benefit (MEB)
The additional benefit incurred by a third party through the consumption or production (output) of one additional unit of output
Marginal social benefit (MSB)
The benefit to society received from the consumption or production (output) of one additional unit of output
It is the sum of the private benefits plus the external benefits
Case Study
Context
The image below shows markets which offer external benefits
Governments and international organisations such as the World Health Organization (WHO) promote vaccination programmes worldwide
Individuals receive vaccines to protect themselves from diseases such as measles or COVID-19
External Benefit
Vaccinated individuals are less likely to spread infectious diseases
This protects:
vulnerable groups
unvaccinated individuals
the wider community
Society therefore gains additional health benefits beyond the individual consumer
Implication for efficiency
The marginal social benefit (MSB) of vaccination is greater than the marginal private benefit (MPB)
Individuals may underestimate the wider benefits to society
As a result, the free market may lead to under-consumption of vaccines
This creates allocative inefficiency, as society would benefit from higher vaccination rates
Examiner Tips and Tricks
You must not confuse social benefits with external benefits
Social Benefits = Private Benefits + External Benefits
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