Which of the following best explains how a business can increase its sales and profits yet still experience problems related to externalities?

• A. The business receives government subsidies that fully offset any external costs.
• B. The business's activities generate negative externalities, causing social costs that exceed private profits.
• C. The business only produces goods with positive externalities, so there are no social costs.
• D. The business is operating in a perfectly competitive market with no externalities.

Answer: (B)

Verified step by step guidance

1. Step 1: Understand the concept of externalities. Externalities occur when a business's actions affect third parties who are not directly involved in the transaction. These effects can be either positive (benefits) or negative (costs).
2. Step 2: Recognize that private profits reflect the business's internal costs and revenues, but do not account for external costs or benefits imposed on society.
3. Step 3: Analyze how a business can increase sales and profits by expanding production or sales, but if its activities generate negative externalities (such as pollution), the social costs to others may exceed the private gains.
4. Step 4: Understand that even if a business is profitable, the presence of negative externalities means that the overall social welfare is reduced because the external costs are not reflected in the market price.
5. Step 5: Conclude that the best explanation is that the business's activities generate negative externalities, causing social costs that exceed private profits, which explains why problems related to externalities persist despite increased sales and profits.