Chapter 10 Externalities

Internalizing the Externality

altering incentives so that people take account of the external effects of their actions

Market-Based Policy II: Tradable Pollution Permits

any voluntary transfer of the right to pollute; keeps pollution the same and increases economic efficiency while creating the new scarce resource of pollution permits

Corrective Taxes

a tax designed to induce private decision makers to take account of the social costs that arise from a negative externality; ideally equals external cost to negative externality

Corrective Subsidies

a subsidy designed to induce private decision makers to take account of the social costs that arise from a positive externality; ideally equals external cost to positive externality

Objections to the Economic Analysis of Pollution

clean resources are human rights, can't just pay a fee; some argue that a clean environment is a normal good that has a positive income elasticity

Differences between corrective tax & pollution permits

corrective taxes set the price while pollution permits set the quantity

Negative Externalities

cost to society is larger than the cost to producers; Qmarket is larger than the Qoptimal

Command-and-Control Policies: Regulation

government can fix externalities by requiring or forbidding certain things; sometimes not sensible such as with transportation and pollution; always need to weigh the costs and benefits

Private Solutions

government encourages donations to charities through tax deductions; the golden rule (take into account how your actions affect other people)-- internalizing externalities

Industrial Policy

government intervention that promotes technology-enhancing industies

Technology spillover

important positive externality, impact of research and efforts to technological advance; patents internalize this externality by giving property rights

Social Cost of Negative Externalities

includes private costs to producers plus the costs to bystanders adversely affected

Market-Based Policy I: Corrective Taxes & Subsidies

instead of regulating behavior, the government can use policy to align private incentives with social efficiency (corrective taxes and subsidies)

Negative Externalities lead markets to produce a ___ quantity than is socially desirable. To remedy the problem, the government can internalize the externality by ___ goods that have negative externalities.

larger; taxing

Positive Externalities lead markets to produce a ___ quantity than is socially desirable. To remedy the problem, the government can internalize the externality by ___ goods that have positive externalities.

smaller; subsidizing

Positive Externalities

social value is greater than the private value, socially optimal quantity is greater than the usual market quantity

Transaction Cost

the costs that parties incur in the process of agreeing to and following through on a bargain

Coase Theorem

the proposition that if private parties can bargain without cost over the allocation of resources, they can solve the problem of externalities on their own; initial distribution of rights doesn't matter still can reach a bargain where everyone is better off; only comes into play when the parties involved don't have any trouble reaching/enforcing an agreement

Externality

the uncompensated impact of one person's actions on the well-being of a bystander (positive or negative); the market equilibrium is not efficient when it comes to externalities because it fails to max benefits to all of society

Fixing Negative Externalities (Internalizing the Externality)

to achieve the optimal outcome, could tax producers for each unit of good produced->shift the supply curve up by the size of the tax->supply curve=social cost curve, gives consumers an incentive to consume less as the price goes up

Fixing Positive Externalities (Internalizing the Externality)

to achieve the optimal outcome, the government provides a subsidy->shift the demand curve up by the size of the subsidy->demand curve=social value curve

Corrective Taxes benefits

when externalities are present, corrective taxes raise revenue and enhance economic efficiency--no deadweight loss