Implications
If there is a negative externality, then social costs will be greater than private costs. Environmental pollution is an example of a social cost that is seldom borne completely by the polluter, thereby creating a negative externality. If there is a positive externality, then one will have higher social benefits than private benefits. For example, when a supplier of educational services indirectly benefits society as a whole but only receives payment for the direct benefit received by the recipient of the education: the benefit to society of an educated populace is a positive externality. In either case, economists refer to this as market failure because resources will be allocated inefficiently. In the case of negative externalities, private agents will engage in too much of the activity; in the case of positive externalities, they will engage in too little. (The marginal rate of transformation in production will not be equal to the marginal rate of substitution in consumption due to the effect of the externality and as a result Pareto optimality will not occur—see welfare economics for an explanation.)
Read more about this topic: Social Cost
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