1.

0 Introduction

It is a fact that free market and laissez-faire type of economic policies have often led to situations
considered sub-optimal from many points of view, even from purely efficient considerations.
Some economists then, by fundamentally accepting the theoretical argument included in the
neoclassical theory of competitive equilibrium, have tried to study in more detail, possible
reasons why the claimed superiority of the free market may fail to manifest itself.

The reason that has been found that prevent the economy to settle on efficient, competitive
equilibriums, have been termed as market failures, which imply the existence of anything that
prevents the agents in the economy from engaging in all of the actually profitable trades. In other
words, is a situation defined by an inefficient distribution of goods and services in the free
market, and the individual incentives for rational behavior do not lead to rational outcomes for
the larger society as the rational self-interest produces a less than optimal or economically
inefficient outcome.

As a result, whenever one of these failures exists, the economy will reach an equilibrium that is
not competitive, and thus, not necessarily efficient. Some of the market failures recognized in the
economic literature include the presence of externalities which is mainly due to incomplete
property rights and the presence of public goods which is due to common property resources.

An externality is the effect of some production or consumption activity on other agents than
those directly involved in the transaction. Usually, the external benefit or costs associated with
the externality are not recognized or borne by the agents involved in the transaction, and as such,
their existence is not reflected in the equilibrium price, which fails to capture the external
benefits or the external cost, resulting in a socially inefficient allocation of the resources.

On the other hand, the non-excludability, non-rivalry of goods which is referred to as public
good make it difficult to define private property rights, and thus the incentives to trade them are
non-existence. Thus, inefficiency, resource allocation exist in such good as no private operator
will find it profitable to provide a good that other people can enjoy without paying for it such as
immunization programs and public defense.

It is in this light that this paper analyzed the application of public goods, externalities, and
market failure nexus with practical evidence.
2.0 Theoretical underpinning to the Public Good, Externalities and Market
Failure Nexus

The nexus between Public good, externalities, and market failure is anchored on the Coase
theorem. The Coase Theorem is applied to situations where the economic activities of one party
impose a cost on or damage to the property of another party. Based on the bargaining that
occurs during the process, funds may either be offered to compensate one party for the other's
activities or to pay the party whose activity inflicts the damages in order to stop that activity.

For example, if a business that produces machines in a factory is subject to a noise complaint
initiated by neighboring households who can hear the loud noises of machines being made, the
Coase Theorem would lead to two possible settlements.

The business may choose to offer financial compensation to the affected parties in order to be
allowed to continue producing the noise or the business might refrain from producing the noise
if the neighbors can be induced to pay the business to do so, in order to compensate the business
for additional costs or lost revenue associated with stopping the noise. The latter would not
actually occur, so the result would be the business continuing operations with no exchange of
money.

If the market value produced by the activity that is making the noise exceeds the market value
of the damage that the noise causes to the neighbors, then the efficient market outcome to the
dispute is that the business will continue making machines. The business can continue to
produce the noise and compensate the neighbors out of the revenue generated.

If the value of the business's output of making machines is less than the cost imposed on the
neighbors by the noise, then the efficient outcome is that the business will stop making
machines and the neighbors would compensate the business for doing so. In the real world,
however, neighbors would not pay a business to stop making machines because the cost of
doing so is higher than the value they place on the absence of noise.

In order for Coase Theorem to apply, conditions for efficient competitive markets around the
disputed property must occur. If not, an efficient solution is unlikely to be reached. These
assumptions: zero transaction (bargaining) costs, perfect information, no market power
differences, and efficient markets for all related goods and production factors, are obviously a
high hurdle to pass in the real world where transaction costs are ubiquitous, information is never
perfect, market power is the norm, and most markets for final goods and production factors do
not meet the requirements for perfect competitive efficiency.

Because the conditions necessary for the Coase Theorem to apply in real-world disputes over
the distribution of property rights virtually never occur outside of the idealized economic
model, some question its relevance to applied questions of law and economics. Recognizing
these real-world difficulties with applying the Coase Theorem, some economists view the
theorem not as a prescription for how disputes ought to be resolved, but as an explanation for
why so many apparently inefficient outcomes to economic disputes can be found in the real
world.

3.0 Conceptual Issues

3.1 Externality

In real-life situations, most goods are regarded as mixed goods because of the interdependence
between consumers and producers. In an attempt to maximize utility, consumers depend on
consumers, consumers depend on producers and producers depend on other producers. This
element of dependence is what is regarded as externality.

Externality is any action of one economic agent (individual or firm) having an impact on another
economic agent. This action could have either a negative or a positive impact. Externality has
also been conceptualized as those gains and losses which are sustained by others as a result of
actions initiated by producers or consumers or both and for which no compensation is paid. In a
nutshell, it is regarded as being the effect failure, or the inability of the market to maintain the
competitive nature, resulting to interdependence. They are sometimes called third-party effect or
neighborhood effect spillovers and can take the following form:

i. Production - Production Externality: It is an action by one firm producing a

commodity which affect another firm (negatively or positively) in its production process.
Take Kaduna refinery that dump its waste in river Kaduna killing all the fish, fishermen
 are affected negatively since they will be out of business. A positive production-
production externality can also take place, between a farmer with an apple orchard and a
farmer who keep bees. The bees’ keeper will benefit from the farmer with apple orchard
because the bees will get nectar from the apple and make honey, similarly, the apple
farmer benefit since in the process of collecting nectar, the bees pollinate the apple and
fertilization will take place in the apple farm.
ii. Consumption – Production Externality: This involves an action by consumers that
affect producers. An example is the case of the cars or motorist that emit smoke that
affects the crops planted along the roadside especially vegetable. This can be toxic for
people to consume.
iii. Consumption – Consumption Externality: It is the action of one consumer affecting
another consumer. A positive consumption – consumption externality is government
health programmes like vaccination which prevents people from contracting disease,
making them more productive. Similarly, parents’ investment in education of their
children can benefit individuals and the whole country.

The presence of externality which have been identify by scholars to be an issue in welfare
economics is cause many factors which include economic system and environmental interaction;
incomplete property right, absence of markets and interdependence between production and
consumption.

i. Economic System and Environmental Interaction: All resources needed by man have
a direct or indirect link with the environment, such as raw material, water and air. These
resources are transformed into either consumer goods or intermediate goods and later
returned to the environment in form of polluted air, water, empty tins and bottles.
Eternality occurs because of the limited assimilative capacity of the environment. As for
some good, their biochemical and organic content make them non-biodegradable hence
zero assimilative capacity in the environment.
ii. Incomplete Property Rights: There are some resources in which economic agents
(firms and individuals) do not have complete property right to claim ownership when
using the resources, such as land, air, water. This has led to the existence of both positive
and negative externalities.
 iii. Absence of Markets: Markets do not exist for some environmental resources like fresh
air, therefore, people do not consider the social cost involved in polluting the air for both
the present and future generations.
iv. There is a high rate of interdependence between production and consumption activities
which have led to the existence of externalities. Anytime externalities exist, the demand
curves fails to capture the full individual willingness to pay for a particular good or
services, similarly, the supply curve fail to capture the full cost the producer incur in the
process of producing such a commodity but not the willingness to pay for those who
benefit directly without their own action. This negates the perfect competitive motive.

In proffering solutions to externalities, authors have suggested different possibilities of attaining

Pareto optimal, some of these solution include prohibition, merger, directive and taxation.

i. Prohibition: The optimality condition does not require that externalities be eliminated.
Instead, optimality requires that externalities be present in the right amount, because we
cannot stop people from riding cars nor stop companies from producing waste and smoke
in their manufacturing activities. But standards can be established to ensure that the
environment is not abused, by a careful weighting of costs and benefits.
ii. Merger: Merger is a voluntary way of internalizing externalities. Suppose a
manufacturing firm that discharge waste in a stream now merges with a fish producing
firm as subsidiary, the consolidated firm should balance the cost of disposing the waste at
the upstream plant by means other than discharge waste into the stream. This is balance
in such a way as to maximize the continued profit for the two production operations.
iii. Regulation: Another collective action which is often suggested is government regulation.
The official governmental response to the fact that cars contribute to air pollution in our
cities has been to reduce the range of consumer choice by simply requiring that all new
cars be equipped with devices which are supposed to reduce the level of pollutant that
escape from the engine. This regulation will reduce to the barest minimum the side
effects of the air pollution.
iv. Sometimes, government can take direct actions to eliminate externalities. Consider a lake
where people fish, due to the high number of fishermen, the number of catch begin to
 decline, government can stock the lake so as to raise the population of fishes and this will
reduce or eliminate the externalities.

All the above policies need to be combined in order to attain the best solution as each has it own
defects in the process of application to a given environment.

3.2 Public Goods

3.3 Market Failure

4.0 Public goods, Externality, and Market Failure Nexus

Public health and welfare programs, education, roads, research and development, national and
domestic security, and a clean environment have all been labeled public goods. Most economic
arguments for government intervention are based on the idea that the marketplace cannot provide
public goods or handle externalities. Government intervention has also been a call to play in
providing public goods due to externalities especially those with a negative outcome. The
possible remedies are majorly through subsidies (in the case of positive externalities) and taxes
(in the case of negative externalities) etc

Despite the importance of both the government and private sector in wealth re-distribution, it’s
important that imperfections of market solutions to public goods problems must be weighed
against the imperfections of government solutions. This is because Governments most time rely
on bureaucracy and have weak incentives to serve consumers. Therefore, they produce
inefficiently. Furthermore, politicians may supply public "goods" in a manner to serve their own
interests, rather than the interests of the public; by compelling persons to support projects they do
not desire. Private solutions to public goods problems, when possible, are usually more efficient
than governmental solutions.

Public goods have two distinct aspects which include "non-excludability" and "non-rivalrous
consumption." Non-excludability means that nonpayers cannot be excluded from the benefits of
the good or service. If an entrepreneur stages a fireworks show, for example, people can watch
the show from their windows or backyards. Because the entrepreneur cannot charge a fee for
consumption, the fireworks show may go unproduced, even if demand for the show is strong.

The fireworks example illustrates the "free-rider" problem. Even if the fireworks show is worth a
hundred naira to each person, many will not pay the hundred naira to the entrepreneur, seeking
for "free ride" by allowing others to pay for the show and then watch for free from his or her
backyard. This hence leads to externality. If the free-rider problem cannot be solved, valuable
goods and services, ones that people want and otherwise would be willing to pay for, will remain
unproduced, hence leading to market failure.

The second aspect of public goods is what economists call non-rivalrous consumption. Assume
the entrepreneur manages to exclude non-contributors from watching the show (perhaps one can
see the show only from a private field). A price will be charged for entrance to the field, and
people who are unwilling to pay this price will be excluded. If the field is large enough, however,
the exclusion is inefficient because even nonpayers could watch the show without increasing the
show's cost or diminishing anyone else's enjoyment. That is a non-rivalrous competition to watch
the show.

In a nutshell, it is evidence that in welfare, economics, the issue of public goods, externalities,
and market failure cannot be overemphasized as it is an important area of micro-economics in
explaining efficiency with regard to the distribution of goods and services in the society.

5.0 Conclusion and Recommendations

In addressing the public goods, externality, and market failure nexus problem, individual
property rights should be clearly defined in the appropriate economic resource. Property rights
are a less effective solution for environmental problems involving the air, however, because
rights to the air cannot be defined and enforced easily. It is hard to imagine, for instance, how
market mechanisms alone could prevent the depletion of the earth's ozone layer. In such cases,
economists recognize the likely necessity of a regulatory or governmental solution.

Contractual arrangements can sometimes be used to overcome other public goods and
externalities problems. If the research and development activities of one firm benefit other firms
in the same industry, these firms may pool their resources and agree to a joint project (antitrust
regulations permitting). Each firm will pay part of the cost, and the contributing firms will share
the benefits. In this context, economists say that the externalities are "internalized."

Contractual arrangements sometimes fail to solve public goods and externalities problems. The
costs of bargaining and striking an agreement may be very high. Some parties to the agreement
may seek to hold out for a better deal, and the agreement may collapse. In other cases, it is
simply too costly to contact and deal with all the potential beneficiaries of an agreement. A
factory, for instance, might find it impossible to negotiate directly with each affected citizen to
decrease pollution.

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