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Slide 1: Markets, Externalities, and Public Goods

Summary of Chapter 4 from Environmental Economics

 Welcome to the presentation summarizing Chapter 4 of Environmental


Economics. Today, we will explore the concepts of markets,
externalities, and public goods, and how they influence environmental
and economic outcomes.

 Let’s start by looking at the definition of markets, understanding


externalities, and how public goods fit into the overall picture.

Slide 2: Introduction

 In this section, we will introduce the three main topics:

1. Markets: How they function in an economy.

2. Externalities: The unintended side effects of economic


activities that impact others.

3. Public Goods: Goods that are non-excludable and non-rivalrous,


and how they create unique challenges for market systems.

 This overview sets the stage for a deeper dive into each of these
concepts.

Slide 3: Market

 Markets are systems where buyers and sellers exchange goods or


services. They rely on the forces of supply and demand to determine
prices.

 While markets are efficient in many cases, they sometimes fail to


allocate resources optimally, which brings us to the next topic: market
failures.

Slide 4: Market (continued)

 Here, we discuss the conditions under which markets fail. Market


failures occur primarily due to externalities and public goods.
Externalities, which can be either positive or negative, are the costs or
benefits that affect third parties who are not directly involved in the
transaction.

 Public goods pose a different challenge because they are


underprovided by markets due to their unique characteristics.

Slide 5: Market Failures

 Market failures happen when:

o Negative externalities, such as pollution, lead to overproduction


of harmful goods.

o Positive externalities, like education, are underproduced because


individuals don't capture all the benefits.

 In such cases, government intervention is often necessary to correct


the failures.

Slide 6: Externalities

 Externalities can be either negative or positive:

o Negative externalities: Costs not borne by the producer, such


as air pollution from factories.

o Positive externalities: Benefits enjoyed by others, such as the


societal gains from education.

 Externalities occur because the full social cost or benefit of an action is


not reflected in market prices.

Slide 7: Externalities (continued)

 The key idea here is that externalities create inefficiencies in the


market. Without intervention, negative externalities can result in
overproduction of harmful goods, while positive externalities can lead
to underproduction of beneficial goods.

Slide 8: Externalities (continued)


 Negative externalities result in costs to society that are not accounted
for by the producer or consumer, while positive externalities generate
benefits that others enjoy without contributing. Both cases require
external intervention to achieve market efficiency.

Slide 9: Negative Externalities

 An example of a negative externality is water pollution caused by


factories. The cost of cleaning up or dealing with the polluted water
falls on downstream users, not the factory itself.

 This leads to overproduction of harmful goods. The solution often


involves government intervention, such as regulations or taxes, to limit
production and align the private cost with the social cost.

Slide 10: Positive Externalities

 Positive externalities, on the other hand, result in goods or services


being underproduced. A good example is education, which benefits not
only the individual but also society as a whole.

 The consequence of underproduction means that society doesn't enjoy


enough of these benefits. Government intervention, through subsidies
or direct provision, can help increase the production of goods with
positive externalities.

Slide 11: Public Goods

 Public goods are both non-excludable and non-rivalrous, meaning:

o Non-excludable: People cannot be excluded from using the


good, even if they do not pay for it.

o Non-rivalrous: One person’s use of the good does not diminish


its availability to others.

 Examples include clean air and lighthouses.

Slide 12: Public Goods (continued)


 The challenge with public goods is that markets fail to provide them
efficiently. Since people can benefit from them without paying, there is
little incentive for private firms to produce them, leading to
underprovision.

Slide 13: Free Rider Problem

 The free rider problem is when people can enjoy public goods without
paying for them. Since individuals are not incentivized to contribute,
the good is often underproduced.

 Governments often step in to provide public goods, ensuring that


society as a whole can benefit from them without relying on voluntary
contributions.

Slide 14: Market Efficiency and Public Goods

 Here, we illustrate why markets cannot supply public goods efficiently.


Take lighthouses as an example: they benefit all sailors, but it's difficult
to charge each individual user. This leads to a situation where the
market fails to provide the good efficiently.

 The government typically needs to step in to provide these goods.

Slide 15: Policy Interventions

 To address market failures, governments can use taxes and subsidies.


For example:

o Taxes: To correct negative externalities, such as pollution taxes


that aim to reduce harmful emissions.

o Subsidies: To encourage the production of goods with positive


externalities, such as subsidies for renewable energy.

Slide 16: Regulatory Solutions

 Regulatory solutions are another tool used to address externalities.


These include command-and-control regulations, where the
government imposes rules to directly limit harmful behaviors.
 Examples include pollution control laws and emission limits, which
mandate the maximum allowable levels of pollutants.

Slide 17: Case Study – Clean Air

 Clean air is a public good, and achieving clean air requires collective
action. In this case study, we see that as pollution increases, people
are willing to pay more to improve air quality.

 Research by the National Academy of Sciences found that reducing


auto emissions by 10% yielded a benefit of $2 billion, which exceeds
the cost of implementation. This example demonstrates the
importance of addressing externalities through government
intervention.

Slide 18: Case Study – Clean Air (continued)

 The willingness of individuals to pay for clean air varies by income,


with higher-income earners willing to contribute more. The gap
between demand curves widens as income rises, showing the disparity
in how different income groups value environmental quality.

 This underscores the importance of equity considerations in


environmental policies.

Slide 19: Efficiency vs. Equity

 A critical tension in environmental economics is balancing efficiency


and equity. Efficiency refers to maximizing the total net benefits from
an activity, while equity focuses on the fair distribution of resources.

 Policymakers must strike a balance between these two goals, ensuring


that environmental benefits are not only maximized but also fairly
distributed among different groups in society.

Slide 20: Conclusion

 In conclusion, markets are powerful tools for allocating resources but


are not perfect. Externalities and public goods present unique
challenges that require government intervention to achieve social
efficiency.

 Public goods, in particular, play a crucial role in societal well-being but


are often underprovided by the market. Therefore, collective action is
needed to ensure they are available to everyone.

Slide 21: Questions

 This is the closing slide where I invite any questions or further


discussion. Feel free to ask about any of the topics covered, whether it
be markets, externalities, public goods, or policy interventions.

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