Final answer:
In the case of unregulated lumber production that causes pollution, a negative externality results in overproduction of lumber compared to the efficient amount. Market failure occurs because firms do not account for the social costs of pollution, leading to excess production and associated deadweight loss. Government intervention is often necessary to correct this inefficiency.
Step-by-step explanation:
If lumber production causes pollution, this pollution is considered a negative externality not accounted for in the cost of production. In an unregulated market, externalities like pollution lead to market failure, where the interaction of demand and supply does not lead to an efficient outcome where social costs and benefits are coordinated. Firms will tend to overproduce lumber because they do not bear the full social costs, and thus there is an overproduction of lumber compared to the efficient amount where all social costs are considered.
The presence of a negative externality, such as pollution, means that the social costs exceed the private costs reflected in the market. Since firms do not account for these additional social costs, they produce more than the socially optimal quantity, leading to an excessive amount of pollution. To correct this, government intervention, such as taxes or regulation, is typically required to internalize these externalities and decrease production to the efficient level, thereby reducing the associated deadweight loss.