How do negative externalities affect property rights and economic efficiency?

Question

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Question restated: How do negative externalities affect property rights and economic efficiency?
Options:
 a. They lead to overuse of resources because costs are imposed on third parties
 b. They increase market efficiency by redistributing wealth among all participants.
 c. They always result in legal disputes and require state intervention.
 d. They eliminate the need for government intervention in property-related disputes.

Now, let's analyze each option in turn:

Option a: They lead to overuse of resources because costs are imposed on third parties. This is the core idea of negative externalities. When a producer or user imposes costs on others who are not compensated, the social cost of the activity exceeds the private cost, leading to overconsumption or overuse of resources relative to the efficient outcome. In terms of property rights, the external costs are not fully accounted for in the market, which distorts signals about resource use and reduces overall social welfare. This option correctly describes the mechanism by which negative externalities reduce economic efficiency.

Option b: They increase market efficiency by redistributing wealth among all participants. This is incorrect. Negative externalities generally create inefficiencies by mispricing costs, not by increasing overall market efficiency or promoting welfare through redistribution. Redistribution of wealth is not the defining effect of negative externalities, and market efficiency is not improved when third-party costs are ignored.

Option c: They always result in legal disputes and require state intervention. While negative externalities can lead to legal disputes and justify some form of government intervention (to internalize costs), saying they always result in legal disputes is an overstatement. Not all externalities are litigated, and intervention may take various forms (Pigouvian taxes, regulations, property-right allocations) rather than necessarily resulting in disputes. This statement is too absolute and not universally true.

Option d: They eliminate the need for government intervention in property-related disputes. This is incorrect. Negative externalities typically motivate government action to correct inefficiencies, not eliminate the need for intervention. In fact, externalities are a classic rationale for government policy to align private incentives with social welfare.

In summary, option a accurately captures the consequence of negative externalities on resource use and efficiency, while options b, c, and d misstate the effects or the typical policy implications of externalities.

25_4 ECN4010A Economics of Public Policy

How do negative externalities affect property rights and economic efficiency?

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