Positive Consumption Externalities

• • If merit goods, such as education, were to be provided solely through the market at the market price of P1, where MPC = MPB, too few people would benefit from education. This is because, the privately optimal level of consumption of Q1 is below the socially optimal level of consumption of education at point B, in which MSC = MSB, where a quantity of Q2 is consumed.
• • This represents that the free-market provision of merit goods lead to under-consumption.
• • Between the units Q1 to Q2, MSB > MSC. Therefore, increasing production and consumption from Q1 to Q2 will add to the welfare of society and remove the DWL.
• • In order to increase consumption, the government may subsidise producers which reduces the price of education to P2. At the subsidised price, consumption rises to the socially optimal level of Q2, ensuring that the correct quantity of the good is provided, thus correcting the market failure.