ECON10004 Lecture Notes - Lecture 5: Coase Theorem, Transaction Cost, Economic Equilibrium
Microeconomics Week 5
CHAPTER 10: EXTERNALITIES
Externality: the uopesated ipat of oe perso’s atios o the elleig of a
bystander
• Negative if effect on bystander is adverse
• Positive if beneficial
• Equilibrium fails to maximise the total benefit to society as a whole because it
ignores externalities
Externalities and Market Inefficiency
Negative Externalities in Production
Internalising an Externality: altering incentives so that people take into account the
external effects of their action
• Eg. By taxing aluminium producers for each tonne of aluminium sold which would
shift supply curve upwards
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Positive Externalities in Production
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find more resources at oneclass.com
Externalities in Consumption
• Some externalities associated consumption rather than goods
o Consumption of alcohol negative effect on driving
o Vaiatio’s positie effet o athig diseases
PRIVATE SOLUTIONS TO EXTERNALITIES
Coase Theorem: 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
Why Private Solutions do not always work
Transaction Costs: the costs that parties incur in the process of agreeing to, and following
through on, a bargain
• Coase Theorem only applies when interest parties have no trouble reaching and
enforcing agreement
• Transaction costs are expenses usually of lawyers
• Reaching an efficient bargain is especially difficult when number of interested parties
is large
PUBLIC POLICIES ON EXTERNALITIES
Command-and-control Policies: Regulation
• Remedy externality by requiring or forbidding certain activities
• Regulate behaviour directly
• To design good rules, regulators need to know details about specific industries and
alternative technologies they could adopt
Market-based policy 1: Corrective taxes and subsidies
• Government can used market-based policies to align private incentives with social
efficiency
• Can internalise externality by taxing activities that have negative externalities and
subsidising activities with positive externalities
find more resources at oneclass.com
find more resources at oneclass.com
Document Summary
Internalising an externality: altering incentives so that people take into account the external effects of their action: eg. By taxing aluminium producers for each tonne of aluminium sold which would shift supply curve upwards. Externalities in consumption: some externalities associated consumption rather than goods, consumption of alcohol negative effect on driving, va(cid:272)(cid:272)i(cid:374)atio(cid:374)"s positi(cid:448)e effe(cid:272)t o(cid:374) (cid:272)at(cid:272)hi(cid:374)g diseases. Coase theorem: 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. Command-and-control policies: regulation: remedy externality by requiring or forbidding certain activities, regulate behaviour directly, to design good rules, regulators need to know details about specific industries and alternative technologies they could adopt. Market-based policy 1: corrective taxes and subsidies: government can used market-based policies to align private incentives with social efficiency, can internalise externality by taxing activities that have negative externalities and subsidising activities with positive externalities.
