If we do not switch to renewable energy, which of the following is most likely to occur due to externalities?

• A. There will be no impact on social welfare because energy markets are always efficient.
• B. Social costs from pollution will exceed private costs, leading to market inefficiency.
• C. Social benefits will always be greater than social costs, resulting in optimal resource allocation.
• D. Private costs will fully account for all environmental damages, eliminating externalities.

Answer: (B)

Verified step by step guidance

1. Step 1: Understand the concept of externalities. Externalities occur when a third party is affected by the production or consumption of a good or service, but these effects are not reflected in market prices.
2. Step 2: Identify the difference between private costs and social costs. Private costs are the costs borne by producers or consumers directly involved in a transaction, while social costs include both private costs and any external costs imposed on society (such as pollution).
3. Step 3: Recognize that if external costs (like pollution) are not accounted for in the market, the social cost will be higher than the private cost. This means the market price does not reflect the true cost to society.
4. Step 4: Understand that when social costs exceed private costs, the market outcome is inefficient because too much of the harmful good (non-renewable energy) is produced and consumed, leading to a loss in social welfare.
5. Step 5: Conclude that without switching to renewable energy or implementing corrective measures, the externality causes market failure, where social costs from pollution exceed private costs, resulting in inefficiency.