Externalities

Question 1

Define externalities.

Answer 1

Spill-over (third party) effects from production and consumption for which no appropriate compensation is paid.

Question 2

Externalities cause…

Answer 2

market failure if the price mechanism doesn’t take account of the social costs and benefits of production and consumption.

Question 3

What are negative production externalities? Give examples.

Answer 3

Where the MSC of production is higher than the MPC - over production 
E.g.:
- Air pollution from factories
- Pollution from fertilisers
- Industrial waste
- Noise pollution
- Collapsing fish stocks
- Methane emissions

Question 4

What are positive consumption externalities? Give examples.

Answer 4

Where the MSB of consumption is higher than the MPB - under consumption
E.g.:
- External benefits from museums and libraries
- Community-access defibrillators

Question 5

What are positive production externalities? Give examples.

Answer 5

Where the MSC of production is lower than the MPC - under production
E.g.:
- Lower transport costs for local firms following construction of new roads

Question 6

What are negative consumption externalities? Give examples.

Answer 6

Where the MSB is lower than the MPB - over consumption
E.g.:
- Impact on family life/social cohesion of problem gambling or drug addiction
- Vehicle pollution
- Household waste
- Noise pollution from neighbours
- Air pollution from smokers
- Traffic congestion
- Gambling addiction
- Litter from tourists
- Spiller costs from obesity