Natural Resources

Externalities and the “Tragedy of the Commons”

An externality is an effect (negative or positive) on someone uninvolved in the action that created it. In a neighborhood park, second-hand cigarette smoke is generally considered a negative externality by nonsmokers, while a neighbor who plants a garden that is casually enjoyed by others is an example of a positive externality. Hypothetically, “the commons” refers to those public goods that are not privately owned but that can be individually exploited, such as the neighborhood air in the above example. The concept that individual interests acting on a common resource will invariably lead to the degradation of those assets to the detriment of all is known as “the tragedy of the commons.”

In regard to natural resources, pollution of various sorts is often the result of the negative externalities of industrial production and disposal of goods and services. One strategy of addressing this class of externality is to force the producer to internalize the cost of the pollution through financial penalties. By employing so-called pigouvian taxes, the producer would make an optimal or efficient production decision while accounting for the externalities. Theoretically, the resultant taxes would be used to clean up any resulting pollution or compensate those affected by it. Ronald Coase noted that in certain situations, pigouvian taxes would not result in economically efficient outcomes and the so-called Coase theorem posits that externalities can be eliminated if property rights are well-defined, people act rationally, and transactions costs are minimal. In essence, if all affected parties are brought into the transaction at a low cost and clear property rights allow those parties to agree on prices, externalities cease to exist by definition. While perhaps applicable to some situations, others, such as air pollution, fail the Coase theorem's requisite assumptions, and so governmental regulations are often invoked in an attempt to manage the resulting natural resource use and degradation.

...