Define Private Costs
Costs that fall directly on the economic decision maker (examples: the gasoline to drive your car, the parking tickets..)
Define External Costs
Pollution or any other costs that are imposed on a person without compensation other than the person who incurred it.
Define Social Costs
When we factor in private and external costs together.
Are all Externalities bad?
No, in some cases a decision makers action can benefit not only themselves but other people as well
Define Private benefits
Benefits that occur directly to the decision maker
Define External benefits
Benefits that are imposed on another person without compensation due to another person causing it.
Define Social benefit
When you add private benefit and external benefits together.
Define Externalities
When you add external costs and external benefits together.
External costs are seen as
negative externality
External benefits are seen as
positive externality
Why are externalities so important
They are one of the common causes of market failure.
Define Network externality
the idea that someone can provide benefit or harm by participating in an activity or usage of a good. (can be positive or negative)
Define Production externality
An externality that is caused when a good or service is being produced
Define Consumption externality
An externality that is caused when a good or service is being consumed.
Define negative production externality
When an external cost is produced while making a good or service. (when companies don’t take into account third party external costs - car companies not factoring in pollution)
Define negative consumption externality
The third party cost when an individual consumes or participates in a good or service. (drivers driving cars = emitting pollution )
Why does market outcome lead to too much production
Because nobody factors in the external costs from a society standpoint, everyone only views private costs and benefits.
Is positive externality different than negative externality
Unfortunately not, positive externality also moves quantity away from efficient equilibrium levels, reducing total surplus
Define positive consumption externalities
When a third party benefit is imposed onto someone other than the decision maker who did the job.
When does market failure occur?
When private individuals and firms are unable to ensure efficient markets
Define Coarse theorem
The idea that an efficient market can be achieved through individuals privately trading, even with the presence of externalities
2 things to hold with Coarse theorem
- Individuals can create contract agreements to pay one another
- No transactional costs
3 most common public ways to resolve externalities
- Taxes and Subsidies
- Quotas
- Tradable allowances
Define Pigovian Tax and what are the taxes included under the Pigovian Tax
Taxation that is imposed to tackle negative externalities
1. Carbon tax
2. Sin tax (alcohols and cigars)
