EXTERNALITIES AND

PUBLIC GOODS
EXTERNALITY
This is the uncompensated income of one person’s actions on the well-being of a
bystander. It arises when a person engages in an activity that influences the well-being of
a bystander
 TYPES OF EXTERNALITIES

Negative Externalities Positive Externalities

There are different types of costs related to
externalities: • The marginal private cost is the cost
• Private costs are costs that is borne
by the producer of a good or service. of producing an additional unit of
Marginal cost is the cost of good or service that is borne by the
producing an additional unit of a producer of that good and service.
good or service.

• An external cost is a cost of • The marginal social cost is the

producing a good or service that is marginal cost incurred by the entire
NOT borne by the producer, but by society, and is the sum of marginal
other people. A marginal external private cost and marginal external
cost is the cost of producing an cost.
additional unit of a good or service
that falls on people other than the
producer.
  
Managing Negative Externalities
 Property rights are legally established titles to the ownership, use,
and disposal of factors of production and goods and services that are
enforceable in the courts.
Establish property rights  The Coase Theorem is a proposition that if property rights exist and the
costs of enforcing them are low, then the market outcome is efficient and
it does not matter who has the property rights (whether the polluter or the
victim).

 RA 9003, Ecological Solid Waste Management Act of 2000

Mandate Clean Technology  RA 9275 Philippine Clean Water Act of 2004
 RA 8749 Philippine Clean Air Act of 1999
 RA 6969 Toxic Substances, Hazardous and Nuclear Waste Control Act of
1990

Governments can use taxes as an incentive for producers to reduce the pollution they
create. Taxes used this way are called Pigovian taxes. By setting the tax equal to the
Tax Pollution marginal external cost, firms would be made to behave in the same way as they would if
they bore the cost of externality directly.
 
POSITIVE EXTERNALITIES

1 A private benefit is a benefit that 2 3

An external benefit is a benefit Marginal social benefit is the
the consumer of a good or service
from a good or service that
receives. The marginal private benefit enjoyed by society – by
someone other than the consumer
benefit is the benefit from an the consumers of a good or
receives. A marginal external
additional unit of good or service service and by everyone else
benefit is a benefit from an
that the consumer of that good or
additional unit of a good or service who benefits from it.
service receives
that people other than the
consumer enjoy.
 Public provision

OBTAINING
POSITIVE Private subsidies

EXTERNALITIES
Vouchers
PUBLIC GOODS
Excludability/nonexcludability – a good, or
service, is excludable if it is possible to prevent
someone from enjoying its benefits. People
must pay to consume them. A good or service
is nonexcludable if it is impossible, or extremely
costly, to prevent someone from benefitting
from it. Examples are police services, fish in the
Pacific Ocean, or a concerta in TV.
Rival/nonrival goods – A good or service is rival
if the use of one person decreases the quantity
available for someone else. For example, a truck
can’t deliver things to two (2) places at the same
time. A good or service is nonrival if its use by
one person does not decrease the quantity
available for someone else. The services of the
city police and the TV concert are nonrival.
PUBLIC GOODS
PUBLIC GOODS
PRICE

Demand is equal to
marginal benefit to society

QUANTITY OF STREET
LIGHTS
ISSUES WITH PUBLIC GOODS

Free-rider problem – A free rider is a person who

enjoys the benefits from a good or service
without paying for it. Because everyone
consumes the same quantity of goods, no one
can be excluded from enjoying its benefits, and
no one has an incentive to pay for it. Everyone
has an incentive to free ride. The free-rider
problem is that the private market, left on its
own, would provide too small quantity of a
public good. To produce efficient quantity,
government action is required.
Drop in the bucket problem – This is
another issue associated with the
provision of public goods. This states
that the public good or service is
usually so costly that its provision
normally does not depend on whether
any single person pays.
Economists refer to areas like the fishing grounds as common
resources. Common resources, like public goods, are
nonexcludeable. One cannot keep someone from setting out a
fishing line in open sea. But, in contrast to public goods, the
Common
consumption of a common resource by one person has an
effect on the availability of that resource to others. If a person Resources
catches too many fish, the population will suffer and there will
be none left for future generations.
.
  Economists have worried for a long time about the
management of commons. The central concern is the
overuse of resources.
 If a common resource is shared by many, and
technology is well developed, overuse is more likely.
In modern times, overfishing of the sea is a problem
TRAGEDY that worries many policy makers.
 As with externalities, there are several policy

OF instruments we can use to control overuse of a

commons. Standards are common; there are in most
areas times of the year one cannot fish and limits on
. COMMONS the size of fish that can be landed. Taxes are also
common, typically levied by limiting and charging for
fishing licenses. For some commons problems, a
solution is found by privatizing the resource, as
England did in the enclosure movement. If a common
area is turned into a private resource, the owner will
have incentives for using that resource efficiently.