Evaluating Policies to Correct Positive Externalities

Opportunity Costs for Governments

Policies such as direct provision by governments and subsidies require government funding. These therefore must be funded by Taxation and other forms of government revenue. As these funds are limited to the government budget, governments must chose which goods or services they will subsidies or directly provide and also by how much. This may mean governments are not able to subsidise enough to meet achieve the social optimum level of output. 

Political v Economic influence 

Policies such as subsidies are often influenced by political factors. Therefore, despite the social benefits of some goods being greater, governments may chose to subsidise goods and industries for political benefits. (Read more here about how the US government subsidises Tobacco Farmers) 

Measuring the amount needed to reach the Social Optimum

In reality, it is difficult for Governments to know fully the amount of a subsidy or direct provision is needed in order to shift the MPC and MPB closer to the social optimum level of output. Therefore, governments may not subsidise enough or provide too little.

Limitations to Increasing Demand

Legislation, Regulation or educational awareness may not always increase the MPB closer to the social optimum or not enough to reach the social optimum. As we have seen these policies alone may increase the price of the good if supply remains constant (cetrius paribus). There are also the additional costs of enforcing legislation or running advertisement campaigns to educate individuals. Therefore, most Legislation or educational awareness campaigns are often coupled with direct government provision or subsidies. An example is education, where governments impose minimum age to leave schools, along with direct provision by governments of schools).

Additional Advantages of Government Policies to Correct Positive Externalities:

Efficient Resource Allocation: One of the primary advantages of government policies designed to address positive externalities is the efficient allocation of resources. Market failures can lead to the underprovision of goods and services with positive externalities, such as education and healthcare. Government intervention, through subsidies or incentives, can rectify this by encouraging the production of these goods and services, ensuring society benefits from their broader positive effects.

Improved Social Welfare: These policies contribute to improved social welfare by capturing the positive spillover effects of various activities and distributing benefits more equitably. For example, clean energy initiatives can reduce pollution, enhancing overall well-being by improving air quality and reducing health problems.

Encouraging Innovation: Positive externalities often result from knowledge spillovers, and government policies, such as grants and tax incentives for research and development, can stimulate innovation. This innovation has far-reaching impacts, benefiting society as a whole through technological progress and economic growth.

Health and Safety: Government interventions can promote public health and safety by ensuring the safety and efficacy of products like pharmaceuticals or food. These regulations protect the health of the entire population, addressing positive externalities in these areas.

Long-term Sustainability: Policies that promote long-term sustainability, such as those encouraging clean energy sources, contribute to environmental preservation and reduced carbon emissions. By subsidizing the use of clean energy, governments help combat climate change and protect the environment for future generations.

Additional Disadvantages of Government Policies to Correct Positive Externalities:

Government Inefficiency: Government inefficiencies, bureaucracy, and resource misallocation can lead to less-than-optimal outcomes. For example, government-run healthcare systems in some countries may experience inefficiencies and long wait times, impacting access to healthcare services.

Market Distortion: Government policies aimed at correcting positive externalities can distort market forces. Subsidies or incentives may result in overproduction of the favored activity or create new negative externalities. For instance, agricultural subsidies may lead to overproduction of certain crops, potentially causing market imbalances.

Information and Implementation Challenges: Measuring the extent of positive externalities accurately and determining the appropriate level of policy intervention can be complex. Subjective assessments, such as estimating the social benefits of an art program in a community, pose challenges in the implementation of these policies.

Rent-Seeking Behaviour: Interest groups and individuals may seek to influence government policies to their advantage, potentially leading to rent-seeking behaviour and corruption. Special interest groups may lobby for subsidies or tax breaks that primarily benefit their industry, rather than the broader society.

Unintended Consequences: Government policies designed to address positive externalities may lead to unintended consequences. Excessive government regulation or subsidies may stifle entrepreneurship and innovation in sectors where they are implemented, potentially hindering economic growth and societal progress.

Economic Costs: Implementing policies to correct positive externalities often comes with economic costs. The funds allocated to these policies might be redirected from other valuable government programs or necessitate higher taxes, which can be burdensome for citizens and businesses.

Dependence on Political Will: The success of these policies is often dependent on the political will of the government in power. Changes in political leadership can lead to policy reversals, creating uncertainty for businesses and individuals. For example, a change in government leadership could result in the repeal of environmental regulations or the discontinuation of clean energy incentives, impacting long-term planning and investments.