Which of the following is true of public solutions to externalities?

• A. Public solutions to externalities are only effective in perfectly competitive markets.
• B. Government intervention can internalize externalities through taxes or subsidies.
• C. Public solutions to externalities always eliminate the deadweight loss.
• D. Public solutions to externalities require no information about the marginal social cost or benefit.

Answer: (B)

Verified step by step guidance

1. Step 1: Understand what externalities are — they occur when a market transaction affects third parties not directly involved, causing a divergence between private and social costs or benefits.
2. Step 2: Recognize that public solutions, such as government intervention, aim to internalize these externalities by aligning private incentives with social costs or benefits.
3. Step 3: Identify common public solutions like taxes (Pigouvian taxes) imposed on negative externalities or subsidies provided for positive externalities, which adjust private costs or benefits to reflect social ones.
4. Step 4: Note that these interventions do not require the market to be perfectly competitive, but they do require some information about the marginal social cost or benefit to set the correct tax or subsidy level.
5. Step 5: Understand that while public solutions can reduce or eliminate deadweight loss caused by externalities, they do not always guarantee complete elimination due to practical limitations such as imperfect information or enforcement.