Economics - Externalities

Topics: Externality, Tragedy of the commons, Market failure Pages: 8 (2379 words) Published: January 29, 2013
Name: Isabella Lorduy Ariza

ARTICLE 1: Economic arguments for and against a carbon tax

1. Why is the elasticity of a fossil fuel different from renewable energy?

Based on the world’s behavior related to the demand of energy (which is an essential good), and also founded on the article, we can affirm that the consumers of fossil fuel are unresponsive to price changes of it because of multiple financial and commercial reasons. This signifies that the elasticity of this good is inelastic as it is stated on the text: “But the highly inelastic demand assures that fossil fuel energy prices will rise, leading to greater interest from consumers in alternative energies”, we can highlight another important fraction of the text that reinforces this affirmation: “Notice that the tax does not lead to a significant decrease in the quantity of fossil fuel energy consumed in the short run”. In addition to this, if we apply this scenario into a real life situation and also taking into account the number of substitutes, we would direct ourselves to the US, in which: “A carbon tax, which increases the cost and decreases the supply of fossil fuel energy, will not significantly reduce the amount of fossil fuel energy consumed in the United States; at least not in the short run, during which there will be very few substitutes for fossil fuel energy available to consumers”. However, at the beginning of the reading, it is stated that the elasticity is elastic: “CO2 tax would, in fact, lead to significant decreases in the amount of energy demanded by the nation’s households and firms. In other words, it assumes a relatively elastic demand for electricity”. This is not a contradiction, in fact, it is the contrast of the long – run and short – run effects of the tax on this good. On the other hand, the elasticity of renewable energy is different, we can say this based on the long time effects that this situation might bring. The second diagram shown in the article clearly shows how the tax on the “competition” helps to a greater than proportionate change in the demand of renewable energy. “As we can see in the graph on the right above, greater demand for renewables will drive their prices up, which over time will increase the appeal of renewable energies to the country’s electricity producing giants”.

2. Bullet point the arguments for and against a carbon tax.

Arguments against a carbon tax:

Arguments for a carbon tax:

* The result is an ever growing percentage of America’s total energy production generated using wind, solar, or other renewable sources of power. * Tax creates a large chunk of tax revenue for the government.


1. What type of externality is this article referring to? Explain.

The article is directly referring to a negative externality of consumption, which eventually, will lead to a cost to society, which means, that negative effects will be presented over the society involved in the situation. As the text expresses: “The bullet market represents a market failure because too many harmful lead bullets are being consumed while not enough environmentally friendly “green” bullets are being consumed”. To support this affirmation we can refer to the harmful and damaging consequences of consuming this type of bullets. “Lead bullets cause harm to the environment and possibly to human health. The private consumption of these bullets exceeds what is socially optimal”. We can also denote the diagram presented in the reading showing the lead bullets behavior, in which the lead bullet market is located at Be and Qe and it is necessary to shift this curve from what is privately beneficial to what is socially efficient, in this case, being Bso and Qso.

2. Evaluate how governments could try and solve this externality

As we already know, “When markets fail, government action is sometimes necessary to achieve a more socially optimal allocation of resources”. The...
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