2.8 Market failure - externalities and common pool or common access resources

• Social optimum occurs where marginal social benefit equals marginal social cost

• Allocative efficiency maximizes social or community surplus

• Diagram: allocative efficiency

• Positive externalities of production or consumption create under-allocation without intervention

• Negative externalities of production or consumption create over-allocation without intervention

• Merit goods and demerit goods are linked to positive and negative externality cases

• Diagram: market failure from negative production, negative consumption, positive production, and positive consumption externalities

• Calculate welfare loss from an externality diagram

• Common pool resources are rivalrous but non-excludable

• The tragedy of the commons can cause unsustainable production and negative externalities

• Responses include Pigouvian taxes, carbon taxes, regulation, education, tradable permits, international agreements, collective self-governance, subsidies, and government provision

• Diagram: government responses to externalities using Pigouvian taxes, carbon taxes, subsidies, legislation, regulation, and education

• Diagram: carbon tax effects on a particular polluting industry

• Evaluation considers measurement challenges, policy effectiveness, and stakeholder consequences

• International cooperation matters because sustainability issues are global

• Monitoring and enforcement are major challenges in international cooperation