EXTERNALITIES Tragedy of the commons Where can you find beer for 5 - - PowerPoint PPT Presentation

EXTERNALITIES

Tragedy of the commons

• Where can you find beer for 5 cents a bottle?
• Where has all the Newfoundland cod gone?
• Drill, baby, drill!
• Common facilities

Congestion

• Road pricing: London, Hong-Kong, etc (not NYC)
• Landing slots at LaGuardia airport
• Movie downloads, online gaming and Internet

congestion

Anti-theft systems

• The club and lojack: positive or negative externality?
• Home anti-theft systems

Collective reputations

• Keeping McDonalds restrooms clean
• Chilean wines in the U.S.
• The liability of “Made in China”

Public goods

• National defense and neighborhood security
• Health
• Education
• Public parks
• Art
• Commodity advertising

Anti-commons

• Software patent thickets
• Patent trolls
• Litigation and innovation

Solutions to the externalities problem

• Ignore them: we live in a world of second-bests
• Self regulation

− MacDonalds; wine producers − Raisin growers trade associations; Central Park Conservancy

• Pigouvian taxes: pay for the externality

− Gasoline tax; road tax

• Quantity regulation

− pollution caps; landing slots

• Direct provision of public goods
• Private negotiation: Coase’s theorem

Pigouvian taxes: example

• Gasoline market (suppose supply reflects production cost)
• Each time a gallon of gasoline is burnt, a social cost c is created

(in addition to the cost of producing that one gallon of gasoline)

• As a result, socially optimal level of gasoline consumption is lower

than what the market equilibrium induces

• A properly designed gasoline tax t leads consumers to burn the

socially optimal level of gasoline

Pigouvian taxes: example

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• p◦

p∗ q∗ q◦ p q

D S + c S + t S t

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The Coase theorem: example

• Two property owners own land on a mountainside.

Property Owner #1’s land is upstream from Owner #2 and there is significant, damaging runoff from Owner #1’s land to Owner #2’s land. Four scenarios:

− Does #2 have a court claim over #1 or vice-versa? − Is damage greater than cost of building wall (e.g., $100 v $50); or inversely, is cost of building the wall greater than damage?

• In all cases, equilibrium outcome is socially optimal
• What is the role of the Courts here?

NYU Law School and the Coase Theorem

Class assignments are made by lottery. There are no waiting lists for classes. This gives students an incentive to sign up for the most popular classes, even if they don’t want to take them. If they win a seat in one of the most sought-after classes, they can work out a deal to sell their seat to another student. (The way this is done is by the person holding the winning lottery ticket withdrawing from the class and the other person signing up for it a few seconds later; since there isn’t a waiting list, this scheme will work as long as no one else happens to sign up for the class in that few-second gap.) In the end, the students willing to pay the most for classes are the ones taking them, which is efficient. — Steven Levitt, New York Times 2008

Advertising commodities

• Some advertising campaigns are directed at generic

products or commodities. Why would anyone pay to advertise milk?

• $1 spent on advertising yields $3 to $6 of additional

revenues

• But: huge free-riding problem
• Some programs are mandatory (for all firms in industry)
• But: some producers have challenged this in court

“Advertising Commodities Can Be Tricky, but It Does Pay Off,” by Hal Varian, The New York Times, June 1, 2006. Harry M. Kaiser, Julian M. Alston, John M. Crespi and Richard J. Sexton, The Economics of Commodity Promotion Programs (Peter Lang Publishing, 2005).

Advertising commodities

• How would you structure a campaign to provide

producers with the appropriate incentives?

• What should the Courts decide on the challenges by

individual producers?

• Are commodity marketing programs socially beneficial?
• Can you think of similar problems with similar conflicts
• f interests? Do the solutions there apply in the

present context?

Regulation of gasoline consumption

• US strategy: enforce CAFE (corporate average fuel

efficiency) standards; almost no sales tax

• EU strategy: set (very) high gasoline taxes
• Pigou, 1; Coase, 0