Which of the following is an example of government regulation addressing externalities in the automobile industry?

• A. Providing tax breaks for purchasing luxury vehicles
• B. Allowing car companies to set their own emission targets
• C. Encouraging voluntary agreements among automobile firms
• D. Imposing fuel efficiency standards on car manufacturers

Answer: (D)

Verified step by step guidance

1. Step 1: Understand the concept of externalities. Externalities occur when the actions of individuals or firms have effects on third parties that are not reflected in market prices. In the automobile industry, negative externalities often include pollution and environmental damage caused by vehicle emissions.
2. Step 2: Identify what government regulation means in the context of externalities. Government regulation typically involves rules or laws that directly control or influence behavior to reduce negative externalities, such as setting limits or standards.
3. Step 3: Analyze each option to see if it represents a government regulation aimed at reducing negative externalities. For example, providing tax breaks or encouraging voluntary agreements are incentives or voluntary measures, not direct regulations.
4. Step 4: Recognize that 'imposing fuel efficiency standards on car manufacturers' is a direct government mandate that requires manufacturers to meet specific environmental performance criteria, thereby addressing the negative externality of pollution.
5. Step 5: Conclude that the correct example of government regulation addressing externalities in the automobile industry is the imposition of fuel efficiency standards, as it directly controls the externality by limiting emissions.