Externalities

Externalities are uncompensated costs or benefits, also known as interdependencies, central to environmental economics. Arthur Pigou, a British economist, is credited with initiating discussions about the theory of costs and benefits in the early 20th century. As such, the benefits of production and profit are weighed with the costs of production (assuming perfect knowledge).

A lack of perfect information means that there are outcomes outside the production and market environment that remain uncalculated. Pigovian economists suggest that indirect taxation should be used to correct for losses associated with these uncalculated outcomes, thereby enabling competitive allocation of resources in a market economy. This tax, levied on the externality producer, is then passed on to the consumer but not necessarily or typically distributed to those affected most directly by detrimental externalities. Environmental externalities, generally considered at the societal rather than the individual level of analysis, occur when natural resources are affected by nonnatural occurrences such as emissions from vehicles or industrial waste. Such emissions are considered external to the polluter's pricing and production decisions.

Detrimental Externalities

Most often considered when studying the impact of environmental externalities are negative, or detrimental, effects. Scarce natural and public resources, such as air and water as well as public and private lands, may be negatively impacted by the by-product pollutants of industrialization. For example, logging not only extracts wood for profit to produce salable products such as furniture and building lumber but also may create loss of habitat for wildlife, soil erosion, and an increase in pollutants from logging machinery, including air pollution from exhaust emissions, ground and water pollution from cast-off oil and gasoline, and noise pollution from the engines of logging equipment.

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While logging produces products with economic value such as furniture and lumber, the uncompensated losses from techniques such as clear-cutting can include a loss of habitat for wildlife, soil erosion, and an increase in pollutants from logging machinery. Environmental externalities such as these, according to Pigovian economics, are generally considered at the societal rather than individual level of analysis. Indirect taxation on the externality producer is a suggested method of correcting for losses associated with these uncalculated outcomes.

Similarly, while increased retail development brings new jobs and purchasing power, detrimental externalities often emerge. From the increase in consumerism comes increased consumer traffic, bringing noise and light pollution, increased carbon dioxide output, increased crime, and decreased property values. There may, however, be beneficial or positive externalities that occur as a result of increased industrialization.