Which of the following best explains how privatization can help stimulate gains in economic efficiency when addressing externalities?

• A. Privatization guarantees that public goods will be provided at socially optimal levels without the need for regulation.
• B. By assigning property rights, privatization encourages individuals to internalize external costs and benefits, leading to more efficient resource allocation.
• C. Privatization increases the number of firms in the market, automatically reducing externalities through competition.
• D. Privatization eliminates all government intervention, which always results in efficient outcomes regardless of externalities.

Answer: (B)

Verified step by step guidance

1. Understand the concept of externalities: Externalities occur when a third party is affected by the production or consumption of a good or service, and these effects are not reflected in market prices.
2. Recognize that economic efficiency is achieved when resources are allocated in a way that maximizes total social welfare, including both private and external costs or benefits.
3. Learn that privatization involves assigning property rights to individuals or firms, which means they have control over resources and the incentives to manage them effectively.
4. Analyze how assigning property rights through privatization encourages owners to internalize external costs or benefits, meaning they take these external effects into account when making decisions, leading to better resource allocation.
5. Conclude that this internalization reduces the inefficiencies caused by externalities, as owners now have a direct financial interest in minimizing negative externalities or maximizing positive ones, thus improving overall economic efficiency.