Taking account of economic externalities

Markets are the best way to apply the intelligence of the whole society to the problem of how resources should be distributed. But some resources are not subject to market forces. Some costs are not accounted for in market transactions. The costs that are outside the normal cost/benefit analysis are called externalities. They are borne not by the economic actors, but by society at large.

When we charge fees in proportion to the adverse impacts that external actions cause, we can internalize the externalities. They become a normal part of the economic calculus. The market failure that they represent is then repaired. Only by taking account of externalities can we have prices tell us the truth about the true costs of our actions.

If we charge fees in proportion to adverse impacts caused, and if we recognize all the people as owners of the air and water and other natural resources and disburse the fee proceeds to all people equally, we will have achieved a synthesis of capitalism and communism. We will have the best of both systems together, without the worst of either.

When will we take this last big step in the evolution of our economic system?

A Capitalism-Communism Synthesis

Well John, there’s several problems with externalities. The biggest being where do you stop? You could go on forever with them if you wanted to.

The second thing is that we do account for externalities in some cases where the externality is obvious or severe.

For automobiles, we pay extra taxes on gas, we have to pay for catalytic convertors on cars, and oil companies are held responsible for their actions to a certain degree. Some want it bigger, some smaller, and that’s the nature of market forces.

Exxon must pay for an environmental impact study before it goes drilling in some sensitive areas. The cost of that, as well as preserving the environment, or cleaning it up ultimately gets reflected in the cost of the gas.

That’s just an example or two, but we already do it in a lot of things.

It is conventional economic wisdom that pollution should be taxed according to the marginal damages of the last pound of emissions.

That’s where you stop.

In practice, most environmental policies are of the command and control variety. The EPA and local authorities devise a plan whereby they mandate the proper pollution control equipment for every emitter. This leads to inefficiencies, since it is difficult for a central planner to devise a least-cost solution.

Of course there are political considerations as well. Among them, companies do not want to pay for the environmental damages that they inflict, after installing the necessary equipment.

And there’s political compromise. We may pay a tax on gasoline, but we don’t actually pay a tax on CO2 emissions. If we did so, the costs would fall too heavily on coal. (My understanding is that a CO2 tax would, roughly speaking, be a tax on coal).

Well, some may want it bigger and some want it smaller, but I don’t think there is really any credible economic arguments that it ought to be smaller. The credible arguments are between bigger and a lot lot bigger.

I don’t know if what you propose actually would be a synthesis of capitalism and communism. When most people talk about communism they blur the line into socialism as well. That is to say they support the notion that everyone should contribute to their ability and received according to their need. If all your talking about is some sort of Flat Equal externality tax, I’m not sure that it necessarily qualifies as communistic. Assuming the gov’t doesn’t control the means of production, just the means of production-clean up then that is more of a Socialist State then a Communal/communist one.

My other problem is this, just how would you stop me from breathing your air? Rather, if I wanted to breathe and I had no money, what do you propose to do? Have me die from lack of oxygen?

Another problem is that it can be really hard, in practice, to accurately measure externalities and tax them to the right people. This is for both practical and political reasons.

For example, it is said by many economists that cigarettes are over-taxed from the point of view of externalities. And yet nobody would be surprised if some legislature raised cigarette taxes, citing rising health care costs, harm from second-hand smoke etc.

From a practical point of view, it is often very difficult to measure externalities. For example, given that the relationship between CO2 and global warming is still not totally understood, how can one put a dollar value on a unit of CO2 emission?

A: You make an estimate. It’s been done multiple times. You get a range of estimates.

(Many of the estimates, BTW, are sensitive to what sort of interest rate you apply to the calculation: the higher the interest rate, the less you weigh environmental damages in the future. This is a bit of a theoretical puzzle: applying an after-tax market rate of about 12% means basically you don’t care at all about those living 100 years from now. There are a number of ways of handling this “social discount rate” issue, though.)

But your point is well-taken. At the same time, I must note that policy makers do such a calculation implicitly all the time. (Only their calculation is more complicated, since they consider not only preferences for the environment, but also preferences for material goods when setting pollution equipment standards.)

The best case for taxing externalities -that is using a price system, rather than a command-control system- is that is automatically minimizes the cost of meeting any arbitrary emissions target.

(There are other methods though, among them tradable emissions permits. And there are hybrids as well.)

And I would think that conservatives might have some sympathy for taxing pollution. After all, higher taxes on pollution emissions could in practice be linked with lower taxes on wages.

Finally, characterizing pollution taxes as a variant of communism seems odd to me. :shrug:

More links:
Green Tax Shift : it’s a movement; alas it sounds that way. Nice links though.
Calmer discussion
Techie paper on distributional issues of green taxes (Abstract)

How does an equal sharing of the proceeds of such taxes and of fees on the taking of natural resources sound?

Inequity and Terrorism Related?http://user.intersatx.net/jc/synthesis.html