Ch.16 (externalities)

what does internalize the externalities mean?

when individuals take the costs or benefits into account they internalize the externality- in that case, the outcome is efficient w/o govt. intervention.

sapling example

without any govt. intervention, firm x, and firm y will each produce 900 tons of pollutants per year. Regulators have discovered that the optimal level of 1,000 tons each year. Suppose that regulators limit each firm's annual pollution to 500 tons. 1. how much will each firm reduce its emissions? Firm X- 400 (before- 900 each)- (new- 500) 900-500= 400 Firm Y- 400 (before 900) - (new 500) = 900-500=400

external cost (negative externality)

An external cost (or negative externality) is an uncompensated cost that an individual or firm imposes on others. Ex: the environmental cost of pollution/ smoking Ex: the cost created by people who text while driving, increasing the risk of accidents that will harm others as well as themselves.

Coase Theory (example)

Consider two neighbors, Mick and Christina, who both like to barbecue in their backyards during the summer - Christina does not like Mick's music, the volume of which is at a socially inefficient level. - Coase argues that Christina, for example, could pay Mick to play his music at the socially optimal level according to the Coase theorem, private parties can negotiate to an efficient solution in the presence of externalities if the ______ are relatively low - transaction costs

categorize each policy response according to the type of regulation it best describes (sapling example)

Environmental standards: - the govt. requires that auto manufacturers use a new, cleaner technology in producing cars - the govt. requires that auto manufactures limit pollution to a specified threshold Tradable Emissions Permits: - auto manufacturers are allowed to pollute as much as they wish, as long as they have purchased a sufficient number of pollution licenses Emission Taxes: - an auto manufacturer is charged a fee per unit of pollution emitted into a river

external benefit (positive externality)

External benefit (or positive externality) is a benefit that an individual or firm confers on others without receiving compensation. Ex: when you get a flu shot, you are less likely to pass on the fly virus to roommates. Yet you alone incur the monetary cost of the vaccine and the painful jab. - beekeeper who keeps the bees for honey. A side effect or externality is the pollination of crops nearby

socially optimal quantity of pollution (slopes)

The MSC curve is UPWARD sloping- so the MSC increases as pollution increases. (as pollution increases the cost to society increases) The MSB curve is DOWNWARD sloping, so the MSB falls as pollution increases. (more pollution drives the MSB downward)

External costs/ benefits (example)

The lease on Alison's apartment will expire next month, and she wants to move closer to campus. 1. If she lied to stay up late and loves listening to all kinds of music, she will view the band(s) practicing downstairs as a(n) - external benefit 2. If she is a morning persona and loves the smell of donuts, she will view the donut shop as a(n) - external benefit if she perceives the smell of donuts to be a good thing, she is experiencing an external benefit 3. If her roommate hates loud music and the smell of donuts makes her sick, she will reject both apartments due to what she sees as a(n) - external cost external benefit- is a benefit that an individual or firm confers on others w/o receiving compensation external cost- is an uncompensated cost than an individual or firm imposes on others (pollution)

Why is a Pigouvian subsidy beneficial when a good or activity yields external benefits?

a pigouvian subsidy- is a payment designed to encourage activities that yield external benefits subsidy on education--the externality is a positive one - means that the marginal social benefit of education is higher than the marginal individual benefit. Education is good for society as a whole. By applying a subsidy to activities that yield external benefits (positive externalities,) it gives people an incentive to do more of those activities

Tradable emission permits

are licenses to emit limited quantities of pollutants that can be bought and sold by polluters - does not impose a direct restriction on how much an individual firm can pollute as long as they acquire permission to pollute.

Why are emissions taxes and tradable emissions permits more efficient than environmental standards?

environmental standards are inefficient because it leaves the MB of pollution higher for some plants than others- those who use older technology and has a higher cost of reducing pollution. - environmental standards provide no incentive for polluters to reduce pollution below the specified amount Whereas, both emissions taxes and tradable permits efficiently reach the optimal outcome - these policies do not just induce firms to reduce output, they incentivize firms to create and use technologies that emit less pollution Emissions taxes are more efficient than environmental standards because they ensure that the marginal benefit of pollution is equal for all sources of pollution

network externality

exists when the value of a good or service to an individual is greater when many other people use the good or service as well ex- telephone, internet, social media - industries producing goods characterized by network externalities tend toward monopoly- the one with the largest network wins - a good is subject to positive feedback- when success breeds greater success and failure breeds greater failure (bandwagon effect)

emission tax (or Pigouvian tax)

is a tax that depends on the amount of pollution a firm produces. Ex: the govt. charges power plants $200 for every ton of sulfur dioxide they emit - Taxes designed to reduce external costs are known as Pigouvian taxes - is intended to cause firms or agents to internalize the external costs of their behaviors by imposing a tax (fee) for each unit of pollution their behavior causes

Marginal Social Cost (MSC)

is the additional cost imposed on society by an additional unit of pollution. Ex: sulfur dioxide from coal-fired power plants mixes with rainwater to form acid rain

Marginal Social Benefit (MSB)

is the additional gain to society from an additional unit of pollution - the MSB of pollution is the goods and services that could be had by society if it tolerated another unit of pollution (what goods/services would have been produced if they had not been stopped b/c of pollution)

socially optimal quantity of pollution

is the quantity of pollution that equates the MSB and MSC of pollution - MSB=MSC of pollution - the quantity of pollution that society would choose if all the costs and benefits of pollution were fully accounted for. - in the absence of govt. intervention, the quantity of pollution will be at the level at which the MSB of pollution is zero- they have no incentive to stop. MSB- what goods/services would have been produced if they had not been stopped b/c of pollution

Environmental standards

rules that protect the environment by specifying actions by producers and consumers Ex: the law requires almost all vehicles to have catalytic converters - environmental standards directly mandate the behavior of individual/ or firms. This type of regulation is exemplified by the govt. requirement.

What is the Coase Theorem?

the Coase theorem says that, in the presence of externalities (positive/negative) an economy can reach an efficient solution as long as transaction costs are sufficiently low. - what Coase argued is that, either way, if transaction costs are sufficiently low, then private parties can make a mutually beneficial deal. transaction costs: the costs to an individual making a deal

transaction costs

the costs to an individual making a deal. - the costs of making a deal are known as transaction costs