The Externalities - Assignment Example

?abezugly [Manager] 24 November Externalities Externalities can be defined as a benefit or cost that arises from the result of an economic transaction, and in turn affects people who were not participating in that transaction. To put it more simply, externalities are the outcomes of a transaction that fall on third parties who are not the parties involved in the transaction. There are really only two types of externalities- positive externalities and negative externalities. Positive externalities occur when the social benefit of the transaction is greater than the private cost of the transaction. Negative externalities occur when the social cost of the transaction is greater than the private cost of the transaction. When economies have competition and no externalities, the markets will allocate resources in order to maximize the surplus available. However, when or if these conditions are not met, market failure may occur, as the market has not achieved the optimal outcome. If the parties involved can bargain without cost over the allocated resources, then the private market will always solve the problem of externalities. However, we realize this is not the case in all circumstances and therefore may require government means of intervention to correct the imbalance. Market failures in this case are failures only in the limited sense that they involve transaction costs that can be weakened by substituting internal organization for market exchange. (Unknown Author. “Market Failures and Externalities.” BasicEconomics.info). Market failures are affected by all of the following: static markets, contractual incompleteness, strategic misrepresentation risk, information processing effects, and institutional adaptations. (Williamson Oliver E., The American Economic Review). These influences all play an integral role in the steps to market failure. The justification for government intervention usually comes about as a result of market failure within a particular market. This government intervention is implemented through the means of public policy, taxes, subsidies, bailouts, regulations, and wage and price controls. The government may also include attempts to correct market failure through the re-allocation of resources. A prime example of this would be the recent government bailouts and stimulus packages put together by Obama and Congress. There are several different perspectives about the cause of market failure, but market failure will always occur if there the market is ‘monopolized’ or a small group of businesses hold significant power. Some market failures are also due to the nature of the good or service being a public good. Negative externalities affect social cost much greater than the private cost. A great example of this would be the seat belt law and helmet law for motorcyclists. There are several times when we have sat in a car and wondered why should I put my seat belt on? I am only riding around the corner… People have often questioned whether the government has the right to tell someone to put on their seat belt or wear a helmet when riding. The negative externality is derived from the scientific data that shows us that people involved in automobile accidents that wear seat belts and helmets have much less greater injuries than those that do not. These safety devises can greatly reduce fatalities associated with the incidents. Society as a whole, often times must foot the bill of these injuries through tax dollars because many of the people involved in these crashes do not have enough insurance. When you add medical bills, missed work, disabilities, and foster care- the social burden can become quite great. Also a lot of the funding that goes behind programs is tied to safety compliance. (Unknown Author. Cals.ncsu.edu) A great example of a positive externality would be the new green energy initiative that is taking place. In the past couple of years, the U.S. government has dramatically stressed the importance of fuel independence from the Middle East, and has sought ways to increase fuel production in the United States. As a result, the U.S. government has subsidized research into alternative energies and fuels by creating programs to match investor funds, and create tax breaks for private investors. This is a positive externality in that government spending has been re-allocated to support these projects. These projects allow for greater job creation, economic dependence, a cleaner environment, less war and violence, and lower cost of goods for foreign products in the future. (Flattau, Edward. “Consider Externalities When Discussing Alternative Energy.” Huffington Post.) When looking at positive and negative externalities, the key focus is really on the social cost to society. The reason that alternative energy is such a great positive externality as opposed to fossil fuels or building new refineries, and or nuclear plants, is that although more energy can be produced there is no harm to the greater good environmentally. Another example of a positive externality is public education. Unfortunately, we see a lack of government involvement in this externality. This may be because that the direct result of public education is hard to quantify. However, if we did not educate the masses where would that leave us? This one may sit on the fence with some politicians because there is no direct correlation between education, and the creation of private goods that in turn will stimulate the market. Public goods are difficult to distinguish from private goods in the sense that without government action people may attempt to become free riders, enjoying many of the benefits while letting others pay for them. (Callahan, Gene “What is an Externality?” The Free Market). Government can do several things to intervene in the case of market failure. In the first example we see that the government intervenes by placing laws into effect in order to stop people from not wearing their seat belts. Fines are imposed so that people are not crashing and dying at a greater rate than without the requirement of the belts and helmets. These fines also go back into funding the government budget as they are once again reallocated as seen fit. Without government interaction in the energy business we would see the more prevalent monopolies of fossil fuel domination exist. The environment would be of little or no concern as large fuel conglomerates continue to produce dirty fuels at the cost of our environment and domestic jobs. (Flattau, Edward. “Consider Externalities When Discussing Alternative Energy”. Huffington Post). We would continue to see more violence and turmoil, as our society would need to find ways of obtaining fuel. Government subsidizing of alternative energy allows for cleaner fuels, an increase in jobs, tax cuts for domestic investing, and a better environment. Lastly public education is of upmost importance, yet seems to lack enough government intervention. Public education does not necessarily produce a direct private good, but the individuals that are educated in the system will one day be productive in our society. We must ask the government if they do not allocate enough funding into the programs, what would you have these students become? Could it be, that this is the reason why nations that are increasing in economic wealth stress the importance of education so much? It is time for the U.S. government to seriously consider all of these externalities and the role that they will play in affecting our future social costs. It is clear to see that externalities are naturally created, as there will always be a constant struggle between the social cost and the private cost. Public safety, alternative energy sources, and public education are all real examples of externalities in our society. Without government intervention we will continue to see market failures and private goods outweighing the social cost. Capitalism is our natural course, for better or worse, but we still must realize the ways in which social costs will affect the masses if ignored. Reference: Cactus. “Externalities and the Case for Government Intervention”. Angry Bear. 05 October 2007. Callahan, Gene. “What is an Externality?” The Free Market. August 2001. Volume 19, Number 8. Flattau, Edward. “Consider Externalities When Discussing Alternative Energy”. Huffington Post. 5 November 2010. Hajara. “Externalities”. www.tutebox.com 28 April 2011. Kehinde, Opemipo. “Government Action to Reduce Externalities”. Clueless 3655. 01 November 2010. Liebowitz S.J., Margolis, Stephen E. “Are Network Externalities a New Source of Market Failure?” www.utdallas.edu 28 April 2011. Unknown Author. “Market Failures and Externalities.” Basic Enonomics.Info. 28 April 2011 Unknown Author. “Negative Externalities”. www.cals.ncsu.edu 28 April 2011. Read More