I. A. Briefly explain and distinguish real externalities (such as pollution), pecuniary externalities, and rent seeking.
Real Externality: A's action results in a cost born by B or a benefit received by B (without requiring B's consent)
Pecuniary Externality: A's action results in a cost born by B and an equal benefit to C.
Rent seeking: A's action results in a cost born by B and an equal benefit to A.
B. Pick one of the above and briefly explain why it does or does not lead to inefficient outcomes.
Real Externality: A does not take the cost to B into account in deciding what actions to take, so may take actions that are worth taking judged by costs and benefits to him but not work taking judged by costs and benefits to everyone, including B.
Pecuniary Externality: A's net benefit is equal to the net benefit to everyone affected, since the effects on B and C cancel. So if an action produces net benefits for A, it produces net benefits for everyone. A takes the actions that produce net benefits for him--which is the efficient decision.
Rent Seeking: A takes account of the benefit to him but not the cost of B, so may take actions that are on net worth taking. If there is open entry to the rent seeking game--other people can make the transfer go to themselves instead of to A by spending more than A does on making the transfer (lobbying, stealing, ...)--people keep bidding up the price until the entire gain has been dissipated. B is still losing, but A (or A' who has won the competition) is spending about as much getting the transfer as the transfer is worth to him.