Externalities, Residuals, Intangibles, and Incommensurables
1. Externality: Non-market exchange in which one or more
parties to the exchange are not compensated and may have
little choice in the exchange. Externality is a broader
term which includes residuals, intangibles, and incommensurables.
Externalities can be either negative or positive for the
Example: Effects of locating an oil refinery adjacent
to a residential neighborhood: air pollution and associated
health effects, noise pollution, light pollution, increased
traffic, risk of industrial accident (all negative externalities)
and availability of high-paying jobs, increased tax base
for schools and other infrastructure (positive effect).
2. Residuals: Waste products (i.e.. pollution) created
during the extraction, transportation, refining, or manufacturing
processes necessary to deliver goods and service to the
Example: Sulfur dioxide pollution created by coal-fired
electrical generating plant.
3. Intangibles: A good, service, or effect of an action
that cannot be assigned monetary values (text); cultural
or personal values which cannot be measured in monetary
terms (my definition).
In my view, our text uses this term too broadly and a
bit sloppily. The working assumption of applying economic
models to environmental problems is that most externalities
can be incorporated into the economic system. For example,
even human life has been assigned monetary value by our
insurance and legal systems.
Example: Compensation for destruction of religious or
spiritually significant place.
4. Incommensurable: Effects of a given action that can,
with some effort, be assigned monetary value.
Example: Cost of monitoring sulfur dioxide pollution created
by a coal-fired electrical generating plant.
Strategies for the Including Environmental Cost of Doing
1. The problem with Common Property Resources
Garrett Hardin (1868) "The Tragedy of the Common"
Science 162: 1243-1248.
Over use of lumber resources on publicly held land.
Extraction of mineral resources on publicly held land.
Pollution of Air and Water by individuals and industry
Social Costs: The cost of producing and delivering goods
or service, including traditional economic cost and externalities.
2. Models for recovering social costs.
a) Society Pays: Federal and state taxes assessed on public
for problems created by residuals. Such a tax could be
charged in the form of a general sales tax. The problem
with this model is it is anti-free market. The real cost
of using natural resources is not apparent to the consumer
and it does not encourage the consumer to alter behavior.
b) Polluter Pays Principle: Covers the cost of negative
residuals released during refining and manufacturing.
Does not cover the cost associated with negative residuals
produced on consumption.
Effluent (water discharge) charge
c) Throughput Tax: Charge placed on producer of products
which include cost of all residuals including residual
cost of consumption of product or service.
Many "button batteries" conatain significant
amounts of Mercuy (Mercuric oxide batteries typically
contain 35 to 50% Mercuy by weight). A throughput tax
which could be partically recoverable through a deposite
program could be used to reduce pollution
d) Consumer Pays Model: Tax placed on sale of product
which will cover cost pollution caused by use of product
or disposal of any residual remaining after its use.
Pollution tax on gasoline: except for a fraction of a
penny used for LUST site cleanup there is no pollution
tax on Gasoline in Wisconsin. Wisconsin has the 2nd highest
gas tax in the country, 32.1¢/gallon plus 18.4¢
federal tax. In Wisconsin state gasoline tax is a dedicated
to the DOT for highway construction and matainace. Gasoline
tax currenly covers about 90% of the state highway cost.
How could we calculate fair costs of pollution from our
e) Incentive-based regulation uses the economic behavior
of firms and households to attain desired environmental
goals. Incentive-based programs involve taxes on emissions
or tradable emission permits. The primary strength of
incentive-based regulation is the flexibility it provides
the polluter to find the least-cost way to reduce emissions.
3. Models for environmental planning:
a) Cost effectiveness Analysis:
Summing all the cost and monetary returns involved in
implementing a single plan in order to determine the return
on the investment.
b) Benefit-Cost Analysis (or B:C ratio):
Compares the costs and benefits of several competing plans
at the same time.
Shopper in the supermarket analogy.
4. Quantifying Externalities: Putting the Price on Incommensurables
a) Shadow Pricing (creating a fudge factor) included in
B:C ratio analysis
b) Willingness to Pay:
Ask consumers what they are willing to pay for incommensurables.
Contingent valuation method (CVM): questionnaire including
c) Proxy Value:
Example: The value of deer hunting to an individual is
equal to the cost of his equipment, hunting license, time
off work, travel expenses, etc.
d) Replacement Cost:
The Cost of replacing the resource.
Example: If an oil spill fouls a beach, what is the cost
of replacing the polluted sand with clean sand.
e) Avoidance Cost:
If an individual or industry is legally exploiting a resource
that is of value to society, ask society how much it will
pay an individual not to use a resource.
Example: Farmers abusing ground water in Texas
C. Examples of application of models:
Clean Air Act of 1990: Pollution credits program