Economic Concepts & Models Codexery

Externality

Unpriced cost or benefit to an uninvolved third party.

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Externality

Kohsheen Sharma · CC BY-SA 4.0

Externalities can be either positive or negative, and they represent a type of market failure because the competitive equilibrium does not achieve Pareto optimality.[1][2][3] When an economic activity generates a cost or benefit that impacts a third party not involved in the transaction, and this effect is absent from market prices, it is termed an externality.[4][5]

Quick Facts

First developed by
Arthur Pigou
Year first developed
1920
Further developed by
Alfred Marshall (external economies concept)
Year further developed
1890
Field
Economics
Known for
Concept of unpriced costs or benefits to third parties from economic activity; Pigouvian tax

Facts from the source article.

Key facts and history

Marshall introduced the term "externality" in his 1890 work "Principles of Economics".[6] Arthur Pigou further developed the concept in his 1920 work "The Economics of Welfare".[6] A positive externality example is education, which benefits both the individual and society.[4] Governments often impose taxes to internalize externalities so market prices reflect all costs and benefits.[3]

Alfred Marshall, a British economist, initially formulated the concept of externalities during the 1890s.[7][6] Frank Knight, an American economist, advanced the comprehension of externalities via his 1920s and 1930s analyses of social costs.[8] Environmental pollution serves as the classic illustration of a negative externality.[7]

What the cited sources add

Caplan notes that research and development is a standard positive externality example, while air pollution is a standard negative one.[9] Caplan explains that if one thousand people would pay ten dollars each for cleaner air, a ten-thousand-dollar externality of pollution exists.[9] Caplan gives the example that mowing your lawn has both a positive externality (improving neighborhood appearance) and a negative one (creating loud noise).[9] Caplan argues it is more productive to ask about transactions costs than to debate whether something is an externality.[9]

The "Microeconomics – Externalities" source states that externalities are often defined as positive or negative consequences on unrelated third parties.[10] According to that same source, externalities, whether positive or negative, can manifest in either production or consumption activities.[10]

References

  1. Wikipedia, "Externality" (CC BY-SA 4.0), which cites: Mankiw, "Principios de Economía (Principles of Economics)", Cengage Learning, 1998, p. 198–199; "How do externalities affect equilibrium and create market failure?", investopedia (original not read by us) en.wikipedia.org
  2. Wikipedia, "Externality" (CC BY-SA 4.0), which cites: Gruber, "Public Finance and Public Policy", Worth Publishers, p. 334 (original not read by us) en.wikipedia.org
  3. Wikipedia, "Externality" (CC BY-SA 4.0), which cites: Stewart, "How significant are externalities for development?", World Development, June 1991, p. 569–594; Jaeger, William. Environmental Economics for Tree Huggers and Other Skeptics, p. 80 (Island Press 2012): "Economists often say that externalities need to be 'in (original not read by us) en.wikipedia.org
  4. Wikipedia, "Externality" (CC BY-SA 4.0), which cites: "Microeconomics" by Robert S. Pindyck and Daniel L. Rubinfeld (original not read by us) en.wikipedia.org
  5. Wikipedia, "Externality" (CC BY-SA 4.0), which cites: "Microeconomics – Externalities"; Goodstein, "Economics and the Environment", Wiley, 2014-01-21, p. 32 (we also read that source) en.wikipedia.org
  6. Wikipedia, "Externality" (CC BY-SA 4.0), which cites: Boudreaux, "Externality: Origins and Classifications", Natural Resources Journal, 2019, p. 1–34 (original not read by us) en.wikipedia.org
  7. Wikipedia, "Externality" (CC BY-SA 4.0), which cites: Boudreaux, "Externality: Origins and Classifications", Natural Resources Journal, 2019, p. 1–34; Pigou, "The Economics of Welfare", Routledge, 2017-10-24, p. 3–22 (we also read that source) en.wikipedia.org
  8. Wikipedia, "Externality" (CC BY-SA 4.0), which cites: Knight, "The ethics of competition", Routledge, Taylor & Francis Group, 2017 (we also read that source) en.wikipedia.org
  9. Caplan, "Externalities", The Library of Economics and Liberty. facts only, no text reused. econlib.org
  10. "Microeconomics – Externalities". facts only, no text reused. principles-of-economics-and-business.blogspot.com

Each numbered sentence above was checked against the source it cites before publication. Sentences citing Wikipedia adapt text from the English Wikipedia article Externality (contributors), used under CC BY-SA 4.0; this entry is available under the same licence. Other sources were used for facts only; no text or images are copied from them.

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Sources

Compiled from Wikipedia and the sources listed below. Text from Wikipedia is available under CC BY-SA 4.0; this entry is adapted from it.

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