This is “End-of-Chapter Material”, section 13.4 from the book Theory and Applications of Microeconomics (v. 1.0). For details on it (including licensing), click here.

For more information on the source of this book, or why it is available for free, please see the project's home page. You can browse or download additional books there. To download a .zip file containing this book to use offline, simply click here.

Has this book helped you? Consider passing it on:
Creative Commons supports free culture from music to education. Their licenses helped make this book available to you. helps people like you help teachers fund their classroom projects, from art supplies to books to calculators.

13.4 End-of-Chapter Material

In Conclusion

Economists and environmentalists sometimes do not see eye to eye. Economists think environmentalists often focus on the wrong problems, and environmentalists think economists place too much faith in markets. Yet economics is the science that helps us understand why some environmental problems are among the most important and difficult that we face.

When economists look at excludable resources, for which property rights are well defined, they tend to be less concerned. It is certainly possible that we will run out of oil and other nonrenewable resources. But that in itself does not signal a problem. What matters is whether we are using our resources efficiently or inefficiently. Perhaps the best thing for us as a society to do is to use up our resources quickly. More important, as oil becomes scarce, we know that market prices will force users to economize on oil and look for substitutes instead.

We are assuredly not saying that an economy is better off with fewer resources. We would always like to have more of an exhaustible resource. The most important question, though, is how to best use the resources we have. Markets can sometimes provide a good answer to this question. If markets work properly, sending the correct signals to producers and consumers, then market allocation will be efficient.

Economists worry a great deal more about environmental problems where resources are nonexcludable. Pollution of the air, pollution of rivers and oceans, biodiversity loss, overfishing, and climate change are all examples of environmental problems for which we cannot rely on markets. To an economist, it is not surprising that markets fail in these cases. All of these resources are nonexcludable. When resources are nonexcludable, market allocations will not typically be efficient, and there may be a role for government to try to solve these problems.

Key Link


  1. In the example about second-hand smoking in the office discussed in Section 13.1.1 "Smokers, Nonsmokers, and the Coase Theorem", how would you use the Coase theorem to determine how much smoking should occur if there are many people in the office? What difficulties do you see in trying to apply this theorem?
  2. (Advanced) Consider Table 13.1 "The Payoffs in a Social Dilemma Game". Suppose your payoff from taking public transportation when everyone else is taking public transportation is $3 rather than $1. Why is it harder to predict what will happen in this situation? See the toolkit. [Hint: Look at what decision you make when others take public transportation and when they don’t.]
  3. Consider some situations that might arise in your college or university. Which of the following is an example of an externality?

    1. In a class that is graded on a curve, you study harder and get a better grade, so others get a worse grade.
    2. At examination time, lots of people want to study, so it is difficult to find space in the library.
    3. You find it difficult to understand your professor’s accent.
    4. Your favorite television show is on the night before you have a big test, and you can’t decide whether to watch or study.
    5. Other people ask good questions in class, which makes the class more interesting for you.
    6. Everyone is selling his or her used chemistry textbook, so you can buy one at a cheap price.
    7. Late-night parties in neighboring dorm rooms are preventing you from sleeping.
  4. Give three reasons why the marginal social cost of driving is greater than the marginal private cost of driving.
  5. There are many endangered species in the world, such as the white tiger and the sea otter. Why are these species endangered whereas cows and sheep are not?
  6. Suppose you meet some friends at a pizza restaurant. You are all very hungry, and you know the wait for the pizza may be long. At the next table, you see some people who have just finished one pizza, and another is about to be delivered to their table. Explain how you could conceivably create a market that would make both your table and the other table better off. What is the nature of the transaction costs that prevent such trades from happening in restaurants in real life?
  7. One reason people choose to buy large vehicles, such as SUVs, is because they are safer if you are involved in an accident. Explain how this could give rise to a social dilemma game.
  8. Copy Figure 13.4 "A Divergence between Marginal Private Benefit and Marginal Social Benefit". Indicate on that diagram how large a subsidy would be required to induce the socially optimal quantity.
  9. If you were to graph a measure of pollution on one axis and a level of economic activity (such as the real gross domestic product per person) on the other, what type of relationship do you think you would find? How would you explain this relationship?
  10. Think of an externality that arises in a college dorm. What market can you think of that would (or could) eliminate any inefficiencies from that externality?
  11. Using Table 13.1 "The Payoffs in a Social Dilemma Game", think of another example of a social dilemma game. What are the choices of the people, the payoffs, and the outcomes?
  12. Explain why tradable permits for the right to dump garbage into a river would be more efficient than telling producers how much they are allowed to dump in the river. How is the total quantity of tradable permits determined?
  13. Suppose you had a system of tradable permits that allocated permits to those who needed them (that is, the firms that polluted a lot). Would that be a good system to provide an incentive for firms to undertake investment in clean technologies?

Economics Detective

  1. In recent years, the European Union has discussed requiring airlines to obtain permits to emit pollution in order to operate. What is the status of this proposal? How might it work?
  2. Pick a nonrenewable resource and try to find out what has happened to its price over the last few decades. Do you see any evidence of the Hotelling rule? If not, try to find out what have been the main factors affecting the price of this resource.
  3. If you live in the United States, try to find the Superfund site nearest to where you live. What kind of pollution is at the site? (If you live somewhere else, pick a US city of your choice.)
  4. What is a “carbon tax”? What is the economic rationale for such a tax?