Externalities
Overview
When a factory buys raw materials and pays its workers, it counts those costs carefully. It does not, however, pay anything for the smoke it releases into a neighbouring town's air, and the price it charges customers takes no account of that harm. Costs and benefits that spill over onto people who were never part of the original deal are called externalities, and they are one of the clearest reasons the free market gets the 'right' amount of a good wrong.
In this lesson you will define external costs and external benefits, learn the formulae for social cost and social benefit, and build a precise picture of how a negative or positive externality pulls private and social costs (or benefits) apart. You will also see the range of policies governments use to close that gap, several of them in use in the United Kingdom today.
Objectives
- Definition of external costs
- Examples of external costs, including pollution, congestion and environmental damage
- Definition of external benefits
- Examples of external benefits, including education, healthcare and vaccinations
- Definition and formula for social costs (private costs + external costs) and social benefits (private benefits + external benefits)
Lesson Note
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Lesson Evaluation
Congratulations on completing the lesson on Externalities. Now that youve explored the key concepts and ideas, its time to put your knowledge to the test. This section offers a variety of practice questions designed to reinforce your understanding and help you gauge your grasp of the material.
You will encounter a mix of question types, including multiple-choice questions, short answer questions, and essay questions. Each question is thoughtfully crafted to assess different aspects of your knowledge and critical thinking skills.
Use this evaluation section as an opportunity to reinforce your understanding of the topic and to identify any areas where you may need additional study. Don't be discouraged by any challenges you encounter; instead, view them as opportunities for growth and improvement.
- Which of the following is an example of an external cost? A) A shop's rent B) Air pollution from a factory harming nearby residents C) Wages paid to staff D) Profit earned by a business Answer: B
- Social cost is calculated as: A) Private cost minus external cost B) Private cost plus external cost C) External cost minus private benefit D) Private benefit plus external cost Answer: B
- A factory's private cost of production is GBP 60,000 and it creates an external cost of GBP 15,000. What is the social cost? A) GBP 45,000 B) GBP 60,000 C) GBP 75,000 D) GBP 15,000 Answer: C
- Which of the following is most likely to create a positive externality? A) A factory dumping waste into a river B) A household getting vaccinated against a contagious disease C) A driver causing traffic congestion D) A firm emitting noise pollution Answer: B
- Which government policy directly caps the total quantity of pollution allowed while letting firms trade the right to pollute? A) A subsidy B) A tradeable permit scheme C) A public information campaign D) A minimum price Answer: B
Available on the Green Bridge App
Download the Green Bridge CBT app on your phone or computer to access full lesson notes, practice questions, and more.
Available on the Green Bridge App
Download the Green Bridge CBT app on your phone or computer to access full lesson notes, practice questions, and more.
Recommended Books
Practice Mock Questions
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