Internalizing the Externality
Internalizing the externality is a concept in economics that refers to the process of making a party responsible for the costs of their actions that have an effect on a third party. This is done by either making the party pay for the costs or by making them take action to reduce the costs. This concept is used to address the issue of externalities, which are costs or benefits that are not taken into account by the market and are not reflected in the price of a good or service.
History of Internalizing the Externality
The concept of internalizing the externality was first introduced by British economist Arthur Cecil Pigou in his 1920 book, The Economics of Welfare. Pigou argued that externalities should be taken into account when making economic decisions, and proposed a system of taxation to internalize the costs of externalities. This system of taxation is known as a Pigovian tax, and is still used today to address externalities.
Since Pigou’s work, the concept of internalizing the externality has been further developed by economists such as Ronald Coase and Kenneth Arrow. Coase argued that externalities should be addressed through negotiation between the parties involved, while Arrow argued that externalities should be addressed through government regulation.
Comparison of Internalizing the Externality
| Method | Costs | Benefits |
|---|---|---|
| Pigovian Tax | Taxes paid by the party responsible for the externality | Reduction in the costs of the externality |
| Negotiation | Costs of negotiation | Reduction in the costs of the externality |
| Government Regulation | Costs of enforcement | Reduction in the costs of the externality |
Summary
Internalizing the externality is a concept in economics that refers to the process of making a party responsible for the costs of their actions that have an effect on a third party. This is done by either making the party pay for the costs or by making them take action to reduce the costs. This concept was first introduced by British economist Arthur Cecil Pigou in his 1920 book, The Economics of Welfare. Since then, the concept has been further developed by economists such as Ronald Coase and Kenneth Arrow. There are several methods for internalizing the externality, including Pigovian taxes, negotiation, and government regulation. For more information about this term, please visit the websites of the World Bank, the International Monetary Fund, and the Organisation for Economic Co-operation and Development.
See Also
- Externality
- Pigovian Tax
- Negotiation
- Government Regulation
- Cost-Benefit Analysis
- Environmental Economics
- Market Failure
- Public Goods
- External Cost
- External Benefit
