Cost of pollution

First, Externality

An externality is an economic term referring to a cost or benefit incurred or received by a third party. However, the third party has no control over the creation of that cost or benefit.

An externality can be both positive or negative and can stem from either the production or consumption of a good or service. The costs and benefits can be both private—to an individual or an organization—or social, meaning it can affect society as a whole.

Negative externality

Most externalities are negative. A negative externality is a cost that is suffered by a third party as a consequence of an economic transaction. In a transaction, the producer and consumer are the first and second parties, and third parties include any individual, organization, property owner, or resource that is indirectly affected.

Pollution is a well-known negative externality. A corporation may decide to cut costs and increase profits by implementing new operations that are more harmful to the environment. The corporation realizes costs in the form of expanding operations but also generates returns that are higher than the costs.

However, the externality also increases the aggregate cost to the economy and society making it a negative externality. That’s why, third party individual or organization ends up paying for the cost of pollution while suffering the consequences on personal health and well being. Externalities are negative when the social costs outweigh the private costs.

Overcoming Externalities 

There are solutions that exist to overcome the negative effects of externalities. These can include those from both the public and private sectors.

Taxes are one solution to overcoming externalities. To help reduce the negative effects of certain externalities such as pollution, governments can impose a tax on the goods causing the externalities. The tax, called a Pigovian tax, is considered to be equal to the value of the negative externality. This tax is meant to discourage activities that impose a net cost to an unrelated third party. That means that the imposition of this type of tax will reduce the market outcome of the externality to an amount that is considered efficient.

Subsidies can also overcome negative externalities by encouraging the consumption of a positive externality. For example, If government or private cooperation subsidise public transport, it will encourage people to drive less, and reduce their negative externalities.

The Governments can also implement regulation to help reduce the effects of externalities. Regulation is considered the most common solution. The public often turns to governments to pass and enact legislation and regulation to curb the negative effects of externalities. Examples includes environmental regulations or health-related legislation.