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Externalities  and Solutions Joyce Jih Vicky Liu [1 st  hour]
What is an externality? <ul><ul><li>The uncompensated impact of one person’s actions on the well-being of a bystander. </l...
Negative Externality <ul><ul><li>The impact on the bystander is adverse. </li></ul></ul><ul><ul><li>The social-cost curve ...
Negative Externality Graph
Positive Externalities  [a beneficial  impact on the well-being of a bystander who doesn’t pay or receive any compensation...
Analysis <ul><li>Demand curve doesn’t reflect value to society. </li></ul><ul><li>Social value>private value, social value...
<ul><li>Positive Externality Graph </li></ul>
Education <ul><li>More educated population leads to better government. </li></ul><ul><li>Productivity benefit of education...
Restored Historic Buildings <ul><li>People who walk or ride by them can enjoy their beauty and sense of history that the b...
Technology Spillover <ul><li>Creates knowledge that others can use. </li></ul><ul><li>Inventors can not capture the full b...
Technology Spillover: Solutions  <ul><li>Government can  subsidize  the production of the certain technology [supply curve...
Private Solutions <ul><ul><li>Moral codes and social sanctions. </li></ul></ul><ul><ul><ul><li>People don't litter because...
Coase Theorem <ul><ul><li>The proposition that if private parties can bargain without cost over the allocation of resource...
Failure of Private Solutions <ul><ul><li>Transaction costs - costs that parties incur in the process of agreeing and follo...
Government Policies <ul><ul><li>Command-and-control policies regulate behavior directly. </li></ul></ul><ul><ul><li>Market...
Pigovian Taxes <ul><ul><li>Taxes enacted to correct the effects of negative externalities. </li></ul></ul><ul><ul><li>  Fo...
Tradable Pollution Permits <ul><ul><li>Pollution permits allow factories to produce X amount of waste. </li></ul></ul><ul>...
Comparison between Pigovian Tax and Pollution Permits
THE END! <ul><li>free cookies now   </li></ul>
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2011: Externalities and Solutions (by Joyce and Vicky)

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2011: Externalities and Solutions (by Joyce and Vicky)

  1. 1. Externalities and Solutions Joyce Jih Vicky Liu [1 st hour]
  2. 2. What is an externality? <ul><ul><li>The uncompensated impact of one person’s actions on the well-being of a bystander. </li></ul></ul><ul><ul><li>Arises when a person engages in an activity that influences the well-being of a bystander and yet neither pays nor receives any compensation for that effect. </li></ul></ul><ul><ul><li>Results in market inefficiency or market failures. </li></ul></ul><ul><ul><li>Two types: negative and positive. </li></ul></ul>
  3. 3. Negative Externality <ul><ul><li>The impact on the bystander is adverse. </li></ul></ul><ul><ul><li>The social-cost curve includes external costs to affected bystanders. </li></ul></ul><ul><ul><li>The cost to society is larger than the cost to the suppliers. Difference between the two curves reflects the cost of the externality. </li></ul></ul><ul><ul><li>The optimal quantity is where the social-cost curve crosses the demand curve. </li></ul></ul><ul><ul><li>Equilibrium quantity is larger than optimal quantity. </li></ul></ul>
  4. 4. Negative Externality Graph
  5. 5. Positive Externalities [a beneficial impact on the well-being of a bystander who doesn’t pay or receive any compensation for that effect]
  6. 6. Analysis <ul><li>Demand curve doesn’t reflect value to society. </li></ul><ul><li>Social value>private value, social value curve is above the demand curve. </li></ul><ul><li>Optimal quantity is found where social-value curve and supply curve intersect </li></ul><ul><li>*Socially optimal quantity is greater than the quantity determined by the private market* </li></ul>
  7. 7. <ul><li>Positive Externality Graph </li></ul>
  8. 8. Education <ul><li>More educated population leads to better government. </li></ul><ul><li>Productivity benefit of education not necessarily an externality; consumer reaps benefits in form of higher wages </li></ul><ul><li>If some of productivity benefits spill over and benefit other people, this would count as a positive externality as well. </li></ul><ul><li>Heavily subsidized through public schools and government scholarships </li></ul>
  9. 9. Restored Historic Buildings <ul><li>People who walk or ride by them can enjoy their beauty and sense of history that the buildings provide </li></ul><ul><li>Building owners tend to discard older buildings too quickly. </li></ul><ul><li>Local governments regulate destruction of historic buildings by providing tax breaks to owners who restore them. </li></ul>
  10. 10. Technology Spillover <ul><li>Creates knowledge that others can use. </li></ul><ul><li>Inventors can not capture the full benefits of their inventions so they tend to devote too few resources to research. </li></ul><ul><li>Industrial Policy: Some believe that government should encourage industries that yield largest spillovers. Others believe that there are no precise measurements and industries with most political clout will receive the most subsidies. </li></ul>
  11. 11. Technology Spillover: Solutions <ul><li>Government can subsidize the production of the certain technology [supply curve would shift down by the amount of subsidy, therefore, increasing the equilibrium of robots. Subsidy = value of technology spillover] </li></ul><ul><li>Patent protection give inventors exclusive use of their inventions for a period of time, which captures much of economic benefit, give firms greater incentive to engage in research </li></ul>
  12. 12. Private Solutions <ul><ul><li>Moral codes and social sanctions. </li></ul></ul><ul><ul><ul><li>People don't litter because it's the wrong thing to do. </li></ul></ul></ul><ul><ul><li>Charities are funded with private donations.   </li></ul></ul><ul><ul><ul><li>Education and protecting the environment have positive externalities. </li></ul></ul></ul><ul><ul><li>Integrating different types of businesses. </li></ul></ul><ul><ul><ul><li>Apple growers and beekeepers can work together to  produce the optimal quantity. </li></ul></ul></ul><ul><ul><ul><li>Contracts can also solve inefficiencies. </li></ul></ul></ul>
  13. 13. Coase Theorem <ul><ul><li>The proposition that if private parties can bargain without cost over the allocation of resources, they can solve the problem of externalities on their own. </li></ul></ul><ul><ul><li>Example: Dick, Jane, and Spot </li></ul></ul><ul><ul><ul><li>Dick's dog, Spot, barks and disturbs Dick's neighbor, Jane. </li></ul></ul></ul><ul><ul><ul><li>Dick's benefit from the dog and Jane's cost from the barking determine the efficient outcome reached. </li></ul></ul></ul><ul><ul><li>Distribution of rights determines the distribution of economic well-being.  </li></ul></ul>
  14. 14. Failure of Private Solutions <ul><ul><li>Transaction costs - costs that parties incur in the process of agreeing and following through on a bargain. </li></ul></ul><ul><ul><ul><li>e.g.: translators, lawyers </li></ul></ul></ul><ul><ul><li>Bargaining breaks down because both sides try to hold out for a better deal. </li></ul></ul><ul><ul><li>Too many parties involved; impossible to please everyone. </li></ul></ul>
  15. 15. Government Policies <ul><ul><li>Command-and-control policies regulate behavior directly. </li></ul></ul><ul><ul><li>Market-based policies provide incentives so that private decision makers will solve the problem on their own. </li></ul></ul>
  16. 16. Pigovian Taxes <ul><ul><li>Taxes enacted to correct the effects of negative externalities. </li></ul></ul><ul><ul><li>  For instance, the EPA could levy a tax on each factory of $50,000 for each ton of pollution it emits. </li></ul></ul><ul><ul><li>Pigovian taxes place a price on the right to pollute. </li></ul></ul><ul><ul><li>Economicists favor pigovian taxes because they encourage factories to reduce waste in order to pay less taxes, and therefore are better for the environment. </li></ul></ul><ul><ul><li>However, taxes create a deadweight loss. </li></ul></ul>
  17. 17. Tradable Pollution Permits <ul><ul><li>Pollution permits allow factories to produce X amount of waste. </li></ul></ul><ul><ul><li>Trades may be made. </li></ul></ul><ul><ul><ul><li>Example: Factory A can sell its right to pollute 100 tons to Factory B for $5 million.   </li></ul></ul></ul><ul><ul><li>Permits are more efficient when the demand curve for pollution is unknown, therefore the EPA does not know what size tax would achieve its goal level of pollution. </li></ul></ul>
  18. 18. Comparison between Pigovian Tax and Pollution Permits
  19. 19. THE END! <ul><li>free cookies now  </li></ul>

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