Question

Discuss two cases of either a negative or positive externality that affects you directly. What are the economic outcomes associated with each externality (in terms of surplus/over production etc.)? What are some ways that you could intervene to correct these externalities? If your solution requires the government to be involved, discuss why. If not, also describe why! (please make a reference to Coase's theorem that could be relevant.)

Answer 1

Externalities are the costs or benefits which are incurred by a third party. It could be both positive and negative.

Example of negative externality

Pollution is an example of negative externality . Being sitiuated in a city , one is usually a victim of air pollution. In cases of negative externality, the firms do not include the cost to the society rather the costs which are private to the from are included. This leads to more than the efficient quantity being produced . Once the Marginal social cost is being equated to the Marginal benefit , the efficient quantity would be determined.

If property rights are well defined according to coase theorem and the citizens have the right to clean air , then the polluter ie the firm polluting would need to compensate the citizens . One way is through government intervention which could be through taxes or cap on the units of pollution. The government can tax the firms which would increase the cost of goods. Another way is to limit the units of pollution released. By this also the units of pollution emission would be reduced.

A positive externality could be vaccination and sanitation. Vaccination and sanitation when given to individuals benefit not only the individuals rather the society or community as a while. In case of communicable diseases , if vaccination is provided to the individuals and the sanitation is proper in a community the disease would not spread and this would generate a positive externality because the whole community, even the ones who have not been vaccinated will have reduced chances if being attacked by the disease.

Positive externalities are underproduced because both the consumers and producers fail to value it at optimum. The returns to produce a good with positive externality are more the marginal benefits of the firm producing it.

(You can comment for doubts )