[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

at cost and benefit, encouraging government to undertake regulations only when
benefits exceed costs, and to focus on those areas where environmental risks are
greatest. These principles, supported by most economists, would seem to be unexceptionable,
and are in fact reflected in presidential Executive Orders issued to
guide the implementation of regulations. But some environmentalists take a “purist”
stand. They argue that a child’s health should not be submitted to the cold calculus
of costs and benefits. And they worry about “paralysis by analysis”—that the process
of doing the cost-benefit analyses will effectively bring environmental regulation to
a halt.
TAXES AND SUBSIDIES
Most economists believe that taxes and subsidies provide a better way than regulation
to encourage the behavior desired by society. Taxes are the stick, while subsidies are
the carrot. Both share the aim of adjusting private costs to account for social costs.
Panel A of Figure 18.3 shows the supply and demand curves for steel. If the production
of steel generates a negative externality in the form of pollution, then the
social marginal cost of producing steel is higher than the private marginal cost. The
market equilibrium leads to a production level of Q p , which exceeds the socially optimal
quantity Q s . Panel B illustrates how a tax on the production of steel can lead to
PRICE OF STEEL (p )
A
B
Social marginal
cost of producing
Market supply
steel
with tax
p tax (t )
s
Private marginal
Market supply
cost of producing
p p
without tax
steel (market supply) p s – t
Marginal benefit
Market demand
of consuming steel
(market demand)
Q s Q p
PRICE OF STEEL (p )
Q s
Q p
p p
QUANTITY OF STEEL (Q )
Figure 18.3
USING A TAX IN THE PRESENCE
OF A NEGATIVE EXTERNALITY
When production leads to a negative externality, such as pollution in the case of steel
production, the firm’s costs do not reflect the total social cost of production. The market
equilibrium, before a tax is imposed, is at a price p p and quantity Q p (see panel A). The
efficient level is at quantity Q s . Panel B depicts the effects of imposing a tax on steel
producers. The tax increases their costs, and the market supply curve shifts up. The new
equilibrium price is p s and the equilibrium quantity is Q s .
412 ∂ CHAPTER 18 ENVIRONMENTAL ECONOMICS