Jan 10 2008

Can YOU think of a good example of a positive externality of production?

Published by at 9:16 pm under Externalities,Market failure

Environmental Economics: The buzz about defining externalities

Economics professor Tim Haab of the Environmental Economics blog teaches a principles of Microeconomics course a lot like the AP course we’re in now. Now in our final Micro unit “Market Failure and the Role of Government”, we are studying the concept of externalities, which exist whenever economic transactions create spillover benefits or costs that weren’t intended consequences of the initial transaction.

Professor Haab has struggled to think of good examples of economic transactions involving positive externalities of production. We can think of countless examples of transactions where positive externalities of consumption exist, such as the market for higher education, vaccinations, hybrid cars, and so on… basically any situation where one person’s consumption of a good or service creates benefits for others in society (more productive workforce, less likelihood of an epidemic, and cleaner air, if we’re talking about the examples above). But when it comes to positive externalities of production, examples aren’t so easily come upon. As Dr. Haab explains:

The problems usually come in defining a positive production externality. A benefit to someone that is not fully captured by the producers–usually difficult because producers are usually pretty funny about finding ways to recover the full benefits of their production.

He has an interesting point; why would any producers want the benefits of their production to spill over to anyone in society beyond themselves and their paying customers? The goal of all producers should be to capture those benefits, and make customers pay for them!

For example, a satellite cable television provider is not happy to see a bunch of jury rigged, homemade satellite dishes on the roofs of houses, since it is not earning any revenue from people who enjoy satellite TV for free. So satellite providers do everything they can to make sure that households have to buy their own special dishes and pay their own high fees in order to enjoy satellite television, essentially eliminating the existence of any positive externalities of satellite TV broadcasting by capturing potential spillover benefits and charging consumers for them.

What interests me most about Professor Haab’s post isn’t so much his own somewhat misled example of honey bee farmers and fruit orchardists, rather the comments that readers have posted offering other examples of positive externalities of production. Reader Dan Cole gives these examples.

More positive production externalities: when my neighbors plant and maintain beautiful unfenced gardens, which I get to enjoy at virtually zero cost; when a farmer imposes a conservation easement that prevents development for non-agricultural purposes (although would-be devleopers might consider the externality to be negative); owners of tree farms, which absorb carbon and produce oxygen (but when the trees are cut, they create negative externalities which offset the positive ones); the occasional inventor who does not obtain or enforce a patent or, in many cases, inventors whose inventions are so immensely valuable that the value obtained during the life of the patent comes nowhere close to capturing all of the social value created; creators of goods, such as dress designs, that are not (yet) subject to intellectual property rights, and so can be “knocked-off” by others and produced at lower cost; and the list goes on.

What do you think of these examples? Could we really call all of these positive externalities of production? Can you think of any that aren’t mentioned here?

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About the author:  Jason Welker teaches International Baccalaureate and Advanced Placement Economics at Zurich International School in Switzerland. In addition to publishing various online resources for economics students and teachers, Jason developed the online version of the Economics course for the IB and is has authored two Economics textbooks: Pearson Baccalaureate’s Economics for the IB Diploma and REA’s AP Macroeconomics Crash Course. Jason is a native of the Pacific Northwest of the United States, and is a passionate adventurer, who considers himself a skier / mountain biker who teaches Economics in his free time. He and his wife keep a ski chalet in the mountains of Northern Idaho, which now that they live in the Swiss Alps gets far too little use. Read more posts by this author

26 responses so far

26 Responses to “Can YOU think of a good example of a positive externality of production?”

  1. Delois Carreroon 30 Nov 1999 at 1:00 am

    Read was interesting, stay in touch……

  2. Helenon 13 Jan 2008 at 3:57 am

    The examples above are more positive externalities of consumption than of production. Dan doesn't benefit much from the PROCESS of his neighbors gardening, the "production" aspect; rather, he benefits when his neighbors are done, or when they are admiring, or "consuming", their own garden. Similarly, people don't benefit much from the act of the tree farm owners planting trees; their benefit comes AFTER the "products" (trees) are finished.

    One example I can think of is the fact that any firm hiring labor in its production process is a positive externality as it creates jobs for the society and reduces unemployment, however insignificant it may be. Whether its negative externalities such as pollution cancel out this positive one is another question.

  3. ElaineLungon 14 Jan 2008 at 7:34 pm

    The above examples might work if Dan is sadistic and likes watching neighbors labor to plant gardens, tree farm owners pay in sweat and blood to plant trees, etc. I doubt that's the case though.

    Helen, I'm not sure if what you've suggested really is an externality. Of course a hiring firm reduces unemployment, but the second party in this is the labor force, so any benefit to the larger labor force is still included in this second party and is hardly external to the transaction itself.

  4. Jason Welkeron 14 Jan 2008 at 8:08 pm

    Excellent point, Elaine, I think you're right…

  5. Angel Liuon 14 Jan 2008 at 9:25 pm

    I'm not exactly sure if this is a positive externalities of production: in Taiwan there are farms that allow people to visit during the weekends or holidays and get in touch with nature, such as milking cows, plant trees, observe rare insects…so while visitors are having fun, they are actually helping the farm do its chores. Both party benefits during the production stage of milking cow or organizing the vegie garden, the farm from free labor and families from a relaxed weekend.

  6. dinaon 29 Jul 2012 at 8:06 pm

    but then the price is paid from both side, isn't it?

  7. Christina Huon 15 Jan 2008 at 3:28 pm

    Production of swimming pools may create positive externalities, because the production of the pool provides aesthetic value to passerby. The production of plants creates positive externalities as well; the plants absorb CO2 and release oxygen, which benefits all living organisms.

    I'm not sure if this works, but the production of a movie may provide positive externalities as well because people get to see their favorite stars (like Tom Cruise in China).

  8. kevinchiuon 16 Jan 2008 at 1:10 pm

    Like said in class, professional sport teams are considered a positive externality, as they help attract people to the regions and build a positive bond and unity among the citizens of the region. For instance, Oklahoma City has been heavily seeking a NBA basketball team not only because it would provide entertainment, but that it would also bring in more people into the city and expand on the city's reputation.

  9. calebon 16 Jan 2008 at 1:26 pm

    wow elaine ….. y… g..

  10. Rebecca Sungon 16 Jan 2008 at 9:09 pm

    To expand on Christina's point about the positive externalities provided by the production of a movie, most DVDs have the "behind the scenes" or "actors' incites" into the movies; I guess this kind of extra footage can be considered spillover that many fans get to enjoy.

    When people watch orchestral concerts, some kids just are amazed at how the all the bows move together. So, the production of music (the sight of string instruments being played) creates a positive externality. This is a stretch and I'm not sure if this is a positive externality of production.

  11. Mondon 16 Jan 2008 at 11:52 pm

    Postive externalities of production depends on what is being produced. If trees were produced, the postive externatlity would be cleaner air and less pollution. But if something like clothing was produced, the positive externality could be more colorful and fashionable cool looking clothes? It all comes down to what is being produced.

  12. robertwangon 17 Jan 2008 at 7:50 pm

    Hmmm… How about the production of a newspaper? First of all, newspapers are produced from recycled paper, so the "new" (not-yet-recycled) paper can be used for other purposes. Secondly, some newspapers in the states are free in that anyone can pick it up from the newspaper outlet box things. Though I guess this is partial consumption, having someone read the newspaper benefits the producer in that he/she might continue to read their newspapers or for the goal of a free newspaper, to just inform society of information.

    Other examples I guess would involve producing goods from recycled materials, the positive externality to producing Starbucks coasters from recycled materials is seen in the fact that the "new" materials can be used to make other things in Starbucks, like the cups themselves.

  13. kevin maon 17 Jan 2008 at 11:02 pm

    Would the production of dams be a positive production externality? The purpose of it is to produce electricity and prevent water mitigration for the people that live downstream of the river. However, it also provides an area for people to play water activities since the water flow is weakened by the dam.

  14. Sharon Lion 20 Jan 2008 at 4:59 pm

    I'm not sure if this is right but I was thinking maybe bakeries make positive production externalities. When cakes and other baked goods are produced, they produce delicious-smelling aromas and they look pretty on display.

  15. James Tsaoon 20 Jan 2008 at 7:03 pm

    How about..people who plant trees to provide lumber for construction? What they are trying to sell is the lumber and their profit depends on it but in the process of obtaining that lumber… the growth of the trees remove certain amounts of greenhouse gases in the atmosphere

  16. Annie Sungon 21 Jan 2008 at 5:52 pm

    What about improving health care? Some countries provide free health care for their citizens (to an extent), and an improvement on this aspect would lead to a healthier population and a higher standard of living. I suppose this is where vaccinations come into play…less disease, better citizens.

  17. Michael Dailyon 21 Jan 2008 at 9:16 pm

    Basically it sounds like every public good is a positive externality of production. I don't know if this is truly the case, but based on the examples given it sure sounds like all the public goods people don't pay for can be considered positive externalities of production. The only problem with this I think is that it is not the production people are benefiting from with public goods, it's the end product of the production so that does not really count. It would only count in a situation where while it is being produced someone else is benefiting such as while as the example Sharon pointed out, where as a baker is baking the aroma from his or her food can be enjoyed. This also is only a rather minimal benefit, but I guess it could still be considered a positive externality.

  18. Hansen Guon 22 Jan 2008 at 12:11 am

    I'm with Kevin. I think that a sports team is able to bring about a sense of unity to a region. I think producers do try to capture this spillover in the forms of memorabilia or team products.

  19. Ben Ziegleron 11 May 2008 at 8:24 am

    Recreation centers like bowling alleys, arcades, pool halls, etc are in the business of producing fun. As they produce fun, and teenagers consume it, it creates a positive externality because teenagers who might otherwise be bored out on the street, getting into trouble now have something more entertaining to do. The recreation centers are compensated for the fun they provide, but they aren't compensated for the decreased strain on the police force or the peace of mind they provide for parents who know where their kids are and exactly what they're doing.

  20. […] to a beneficial spillover effect for the rest of society’s producers. I came across an older post by Jason Welker where he speaks of the difficulty in providing examples. In that post he quotes economics professor […]

  21. John Doeon 06 Sep 2011 at 8:56 am

    I think a large number of responses have failed to recognise that a positive externality in production refers to a positive benefit on a NON-CONSENTING THIRD PARTY (i.e. this cannot be the consumer or producer) that results from the ACT OF PRODUCING A GOOD by a supplier. As for which examples do not fufil this criteria I leave you to decide.

    And I don't think there is anything wrong (in an economic sense anyway) with the example of farmers who produce crops that reduce CO2 in the environment. This is an effect on third-parties (because it is a positive benefit to anyone who doesn't like greenhouse gases like CO2, not just the farmer or his customers, although whether CO2 is a significant cause of global warming is questionable), and also arises from the act of producing the good. (Whether his customers purchase his crops and consume them, the farmer's act of producing the goods in itself causes CO2 reduction.)

    Angela Liu's example, although possibly somewhat insignificant, is a novel one for me.

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