Thread: external costs

Would you possibly readily elaborate the following?

There are external costs when the price set by buyers and sellers of goods fails to include some costs, to anyone, that result from the production and use of the goods.").


A boring passage




Thanks in advance

Example: Pollution.

Banter illustration:
Factory X manufactures novelty plastic dog shite which it sells for 4$ (and is a best seller online while children starve in other countries but they dont count since in the "law" of supply and demand, demand only counts if you have money).
Lets say the manufacturing of 1000 dog shite unit produces pollution which causes 2000 hospitalization for respiratory failure, 200 death which cost a fortune in caskets, 500 cancer cases which cost scans, outrageous fortunes in cheomtherapy and devastates wetlands that cost millions of taxpayer money to clean out, so lets say a total external cost of 1000 million dollars. So when you buy a 4$ dog shite you do not pay the 1 million $ ($1,000,004) of damages the dog shite causes to society.

Now if an ethical producer said hey Im going to make a factory that neutralizes pollution but the cost will be such that a dog shite unit cost 6$, the true cost for society could be 6$ instead of 1,000,004$, but since the unscrupulous other producers will sell theirs for 4$ the valiant producer goes out of business, and the other producers realize that under a monetary system(or our current economic system) it is advantageous to shovel out as much of the external cost as possible on to the public and the environment to be more competitive.

The key here is not that they are polluting, but that they are polluting other peoples' land, air and water.

The air and water are technically common property to all citizens, but the factory is polluting more than the factory owner's rightful share of that air and water. The people who get sick from breathing the air are most likely breathing it on their own land, meaning that the air over their own land has been stolen from them outright.

Instead of paying a fine to the government, the factory owner really should be forced to pay the people whom he has robbed the value of what he has stolen from them.

For the most part, "externality" and "theft" are the same thing.

yes, the bad thing is that people are breathing "their own air" and this private propery is polluted by mr x, its not like we live in an ecosystem we rely on for survival.

you have been caught red handed kojax, you are illegitematly breathing oxygen that is the property of the owners of the air around the trees that capitalisticlally generated the for profit oxygen which is their own private-property-meme air, you are stealing the air that has been malevolently stolen by the wind without a duly signed contract by the air property owner.... and be sure to pay royalties on the sunlight owned by the crazy lady in spain that claims the sun belongs to her.

(just teasing)

It can also apply to the costs of infrastructure. Stuff like water treatment, public roads, public transportation services, sewage...
All costs born outside of the simple buyer and seller relationship and usually subsidized through general taxation.

Thank you all so much. These Great answers.

We also defer payment on many things to later generations.

External costs (or benefits) also known as externalities, are costs (or benefits) that are not taken into account by the market mechanism. Polution was a great example. Another one may be health costs. Eg a tobacco or alcohol industry does not calculate consumer's future health problems. Systemic risk raised by banking/financial practices is another example.
To put it simple, market mechanisms do not include social costs (/social benefits) therefore the market outcome is not the best possible. These costs are the external costs (benefits).
There are a few possible ways to include these costs in the market mechanism (eg by taxation, permits, etc) but note that it's not always possible to cost them precisely. Note also, by creating more markets to handle already existed market inefficiencies you can lead the economy to produce more negative externalities (external costs).
Also, note that in order to quantify social costs (in order to optimize the market outcome) you must presuppose a social welfare function (which is rather difficult or even impossible to be estimated theoretically and empirically).

Btw, the most notated economics paper is the "Coase theroem", which tries to prove that optimized solutions may be found even if negative externalities exist. (btw, Coase won economics nobel prize in 1991 mainly due to this paper).

Another example is huge amount of Western Defense dollars spent to provide security for oil production around the world. We pay at the pump than pay a hidden significant amount through taxes to secure the extraction, transportation, and refining of that fuel before it gets to the pump.

some non technical videos that are based on (negative) externalities:

The Price of Gas - YouTube

The Story of Electronics (2010) - YouTube

The High Price of Materialism - YouTube

On the other side, a nice example of an external benefit that I forgot to mention is the so called "Solow residual" (which is is that part of economic growth not explicable by measurable changes in the capital and labour amounts). It's often explained by the "external" economies which lead to increasing returns to scale.