Chapter 4. Chapter 4: Environmental Economics and Consumption

What are externalities and internalities...

Why You Should Care

The costs that businesses bear in getting a product to a store to be purchased—the costs of making the product, selling it, and running the store—are all classified as “internalities.” However, there are other costs that come into play, and these costs (externalities) are not part of the price on the tag. Imagine the cost of a new smartphone as $200. This represents the price of the materials, the manufacturing, and the shipping but it does not include the environmental costs of cleaning up any air and water pollution, health effects on the workers, toxic waste accumulation, or climate change from greenhouse gases being released to ship the phone.

These environmental costs are paid by everyone since these changes to common resources like air, water, and climate affect all of us equally, even if we are not part of the phone purchase. If we want to increase awareness of sustainability, then we need to be able to add in these externalities to the price at the store. Consumers need this kind of information to be able to make better decisions about the “true cost” of a product (internalities plus the externalities).

It is time to go car-shopping and you have narrowed your choices down to two models—the larger sedan Zippy EX and the smaller compact car Vroomagain. The compact car has lower external costs because it gets better gas mileage and releases fewer pollutants that create smog, increase greenhouse gases, and impact human health. The sedan is not as efficient and so releases more pollutants, but it is less expensive to buy (internal costs).

You also have the choice of purchasing used versions of the same cars. Six years ago, the technology was not as advanced, so those models use more gasoline and release more pollutants. Therefore, the older models have higher external costs compared to their newer models. Below is a table that lists the costs for each model.