Definition of an Externality

Slides:



Advertisements
Similar presentations
PART 10 Market Failures Markets may fail to generate efficient results due to Monopoly Externalities Public Goods Open Access Markets may also have informational.
Advertisements

4 THE ECONOMICS OF THE PUBLIC SECTOR. Copyright©2004 South-Western 10 Externalities.
1 Chapter 14 Practice Quiz Environmental Economics.
EXTERNALITIES Chapter 5.
In chapter 10, we look for the answers to these questions:
Natural Monopoly Natural Monopoly – an industry in which economies of scale are so important that only one firm can survive. In other words, it is more.
10 Externalities.
1 Chapter 3 Externalities and Public Policy. 2 Externalities Externalities are costs or benefits of market transactions not reflected in prices. Negative.
Externalities and Property Rights
Externalities.
LECTURE #9: MICROECONOMICS CHAPTER 10
Ch. 5: EFFICIENCY AND EQUITY
Externalities Consumption Externalities Production Externalities.
Industry Supply Industry Equilibrium in the Short Run Industry Equilibrium in the Long Run Example: Taxation in the Short and Long runs Economic Rents.
4 THE ECONOMICS OF THE PUBLIC SECTOR. Copyright©2004 South-Western 10 Externalities.
Externalities Chapter 10 Copyright © 2004 by South-Western,a division of Thomson Learning.
© 2008 Prentice Hall Business Publishing Economics R. Glenn Hubbard, Anthony Patrick O’Brien, 2e. Fernando & Yvonn Quijano Prepared by: Chapter 5 Externalities,
An externality arises when a person engages in an activity that influences the well-being of one or more bystanders with the person engaging in the.
A.S 3.3 Describe and illustrate resource allocation via the public sector to compensate market failure.
Sample Questions ECON 2420 Exam 1.
C. Bordoy UWC Maastricht Market Failure Evaluation of policies to correct externalities.
Chapter 2 The Economic Approach:
Lecture Notes: Econ 203 Introductory Microeconomics Lecture/Chapter 10: Externalities M. Cary Leahey Manhattan College Fall 2012.
© 2007 Thomson South-Western Pollution Problems 4.
Harcourt, Inc. items and derived items copyright © 2001 by Harcourt, Inc. Environmental Economics.
Principles of Micro Chapter 10: Externalities by Tanya Molodtsova, Fall 2005.
Copyright©2004 South-Western 10 Externalities. Copyright © 2004 South-Western EXTERNALITIES AND MARKET INEFFICIENCY An externality refers to the uncompensated.
Chapter 10 notes Externalities.
PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy Randall Holcombe 15 CHAPTER Taxes On Business Income and Wealth.
Chapter 5: Market Failure: A Role for Government
General Equilibrium and the Efficiency of Perfect Competition
Chapter 2 Externalities and the Environment McGraw-Hill/Irwin
Principles of Tax Policy
Harcourt Brace & Company Chapter 10 Externalities (Lecture by D. Boldt on 10/18/01 in Econ
Market Failure Solutions A review of various approaches to address imperfections of the free market system.
CHAPTER 6 The Economic Role of the State PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy Randall Holcombe.
Review for Exam 1 Chapters 1 Through 5. Production Possibilities Frontiers and Opportunity Costs Learning Objective 2.1 Production possibilities frontier.
Principles of Microeconomics : Ch.10 Second Canadian Edition Externalities Chapter 10 © 2002 by Nelson, a division of Thomson Canada Limited.
Chapter 10 Externalities. Objectives 1.) Learn the concepts of external costs and external benefits. 2.) Understand why the presence of externalities.
Externalities.
 Markets sometimes fail to allocate resources efficiently – some of these market failures are called externalities  An externality is when a person.
Copyright © 2002 by Thomson Learning, Inc. Chapter 3 Externalities and Public Policy Copyright © 2002 Thomson Learning, Inc. Thomson Learning™ is a trademark.
Lecture 9 Markets without market power: Perfect competition.
Externalities Chapter 10. EXTERNALITIES An externality is the uncompensated impact of one person’s actions on another person –Both positive & negative.
Chapter 181 Externalities and Public Goods. Chapter 182 Externalities Externalities are the effects of production and consumption activities not directly.
Externalities and Public Policy
Positive Principles of Taxation
18 CHAPTER Taxation and Redistribution PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy Randall Holcombe.
PPA 723: Managerial Economics Lecture 18: Externalities The Maxwell School, Syracuse University Professor John Yinger.
The Market Economy Process of voluntary exchange Specialization
Externalities >> chapter: 17 Krugman/Wells Economics ©2009  Worth Publishers 1 of 32.
MICROECONOMICS Chapter 5 Efficiency and Equity
Market Failure Chapter 14 Externalities. Economic Freedom Economic freedom refers to the degree to which private individuals are able to carry out voluntary.
Chapter 5: The Public Sector. Economic and technical efficiency Technical efficiency – no unemployed or underemployed resources (i.e., operating on PPC).
MARKET FAILURES AND GOVERNMENT INTERVENTION Inna Ushcatz and Ieta Shams.
Chapter 10 Externalities. Market Failure Market failure is when the free market does not provide the best outcome for society. Monopoly is a form of market.
Excise Taxes, Unit Taxes, Ad Valorem Taxes
THE ECONOMICS OF THE PUBLIC SECTOR. Copyright©2004 South-Western Externalities.
MARKET FAILURE UNIT -V. MARKET FAILURE :- Market failure occurs when private transactions result in a socially inefficient allocation of goods, services.
MANAGERIAL ECONOMICS 12 th Edition By Mark Hirschey.
Market Failures Chapter 7 Sections 2 and 3 Economic Solutions to Global Warming.
Efficiency and Equity CHAPTER 5. After studying this chapter you will be able to Describe the alternative methods of allocating scarce resources Explain.
Topic 4 : Externalities. Definition of Externality An externality is an economic cost or benefit that is the by-product of economic activity but that.
AP MICROECONOMICS UNIT #6 MARKET FAILURE/ ROLE OF GOVERNMENT
Externalities.
Chapter 10 Externalities
C h a p t e r 3 EXTERNALITIES AND GOVERNMENT POLICY
The Economics of Pollution
Chapter 2 Externalities and the Environment McGraw-Hill/Irwin
Presentation transcript:

Definition of an Externality Economic cost/benefit that is the by-product of economic activity Allocated outside of market system There are both negative and positive externalities

Public Policy Toward Externalities Importance of transactions costs Large numbers = High transactions High transactions costs make bargaining break down Importance of internalization of externalities

Negative Externalities Cost imposed on others as by-product of productive activity Allocated outside of market system Market price understates true opportunity cost of production Example: pollution

Negative Externalities in Supply and Demand Framework

Private Actions to Correct an Externality Small numbers – private exchange may allow for internalization of externality Example: Leaf burning neighbor

Corrective Taxation of an Externality Charge a tax equal to external cost results in economically efficient level of output Difficult to estimate total external cost Difficult to determine who is responsible for cost

Corrective Taxation of an Externality

What Should be Taxed? Can reduce external cost in other ways Example: smokestack scrubber Create incentives to reduce amount of externality per unit of production Set tax equal to cost externality imposes on others

Should Compensation be Paid to Those Harmed? Reciprocal nature of problem Proceeds of corrective tax should not be paid as compensation Gives both parties incentive to avoid harm

Taxation versus Regulation Regulation – requires certain steps be taken to reduce externality Taxes and regulations – same effects in short run Reduce output Different effects in long run Regulation creates profits, encourages entry Optimal tax creates losses, encourages exit

Taxation versus Regulation

Politics of Quotas versus Taxes Firms - regulatory solutions more profitable than corrective taxes firms will lobby for regulatory solutions Taxpayers - benefit from corrective taxes Corrective taxes generate additional revenue Does not provide long-run incentive for entry Firms usually have more political influence

Incentives for Regulation versus Taxation Regulatory solution – approximates corrective tax solution in short run Does not give incentive to further reduce externality Corrective tax solution – gives incentive to reduce externality when cost effective Difficult to apply in real world Negative political pressure

Marketable Pollution Rights Can help allocate resources more efficiently Can reduce pollution over time without excess burden Less political opposition

Marketable Pollution Rights Established by giving firms rights to create certain amount of pollution Rights can be bought and sold Buy rights to increase pollution Sell rights when pollution reduced Example: Clean Air Act of 1990

Politics and Pollution Control Corrective taxes and regulation Impose costs on existing polluters Create opposition Marketable rights Imposes no additional costs Incentive to reduce pollution

Optimal Amount of Pollution Weigh marginal benefits against marginal costs Zero pollution is not optimal Negative externalities cited as reason for government involvement in economy

Positive Externalities Benefit to others not allocated within market Demand curve does not reflect true value of activity Activity will be under-produced

Positive Externalities

Solutions Subsidies – negative taxes that correct for positive used externalities Optimal subsidy set equal to amount of external benefit

Excess Burden and Excess Benefit Should we subsidize all positive externalities? Should we tax all negative externalities? Excess burden of taxation needs to be considered

Technological and Pecuniary Externalities Technological externalities – directly affect firm’s production function or individuals utility function Operate outside market system

Technological and Pecuniary Externalities Pecuniary externalities – influence market supply and demand conditions No resources allocated outside market system Does not result in misallocation of resources Government involvement can cause resource misallocation

Marginal and Inframarginal Externalities Inframarginal externalities – no marginal benefits/costs Individuals account for benefits/costs of actions at the margin Do not necessarily imply inefficient allocation of resources Do not require policy action

Negative Inframarginal Externalities A marginal reduction in externality will not make anyone better off Optimal tax is zero

Negative Inframarginal Externalities

Positive Inframarginal Externalities Optimal quantity produced without subsidy Example: K-12 Education

Positive Inframarginal Externalities