What happens when a Pigouvian subsidy is provided?

A Pigouvian subsidy is a financial incentive given to encourage positive externalities associated with the consumption or production of a good or service. When a Pigouvian subsidy is provided, it effectively reduces the cost of getting a good or service for consumers, which in turn raises their willingness to pay for it.

This increase in willingness to pay causes the marginal private benefit curve to shift upward, reflecting that consumers derive greater private benefits from the good when it is subsidized. As the subsidy makes the good more attractive or affordable, more consumers are likely to purchase and consume it, enhancing social welfare and reducing the gap between private benefits and social benefits.

In contrast, the other options do not accurately reflect the effects of a Pigouvian subsidy. A downward shift in the marginal private benefit curve would indicate a decrease in benefits, which contradicts the purpose of the subsidy. Similarly, a decrease in demand or a decrease in supply does not align with the intended effect of a subsidy, which is to stimulate demand and encourage production by lowering costs for consumers. Thus, the upward shift in the marginal private benefit curve represents the correct understanding of what occurs when a Pigouvian subsidy is introduced.