A per-unit subsidy corrects the underproduction caused by a positive externality by effectively lowering the price producers must charge, shown graphically as a downward shift of the supply (marginal private cost) curve until it intersects the marginal private benefit (demand) curve at the socially optimal quantity. The ideal subsidy equals the marginal external benefit (the vertical gap between the MSB and MPB curves) at that quantity, and it eliminates the deadweight loss present at the original market equilibrium.

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A positive externality is illustrated on a supply-and-demand graph where the marginal social benefit (MSB) curve lies above the marginal private benefit (MPB) curve, which is represented by the demand curve: $$MSB = MPB + MEB$$ where MEB is the marginal external benefit, shown as the vertical distance between the two curves. The market equilibrium occurs where the MPB curve intersects the supply curve (marginal social cost), producing a quantity below the socially optimal quantity, which is found where the MSB curve intersects the supply curve. The area bounded by the MSB and supply curves between these two quantities represents the deadweight loss from underproduction.

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