The Subjectivity of Externalities
Relaying a nugget of wisdom from Deirdre McCloskey.
Last week, I had the good fortunate of being present for a conversation Deirdre McCloskey hosted with Cato interns on July 3rd—the relevance of the date will quickly become clear.
The discussion was wide-ranging, but a particular assertion stood out to be me: (closely) paraphrasing, “externalities are not technological; they are social. What people like and want are essential to what we consider negative externalities.” Since this statement was made the evening of July 3rd—the day before Independence Day—an example immediately sprang to mind: fireworks. Ordinarily, people do not appreciate explosions above their homes while they are trying to go to sleep. In fact, people detest this so much that launching fireworks is regulated or outlawed, and taxes are coercively levied to afford the police required to internalize this negative externalitiy, i.e., stop/detain/imprison those villains disrupting our beauty sleep.
But on Independence Day, the reverse is true: taxes are extorted from the citizenry to increase the supply of fireworks—spectacular ones, to a great degree, and for many minutes. Ergo, on July 4th, fireworks are suddenly a positive externality, one which is non-rival, non-excludable, and, by neoclassical economic theory, justifies taxation and subsidization to provide the “socially optimal” supply thereof.
Unsurprisingly, the assertion of the brilliant Deirdre McCloskey was proven right in reality: the ultimate test of theory.
P.S. I am resuming weekly uploads to this blog. Lucky you. Hooray!