Why does the government have to regulate the pollution that

Why does the government have to regulate the pollution that is put into the environment? What type of externality is pollution and why is society not able to bring about equilibrium in markets? Simple responses please.

Solution

Externality can be defined as the effect of an activity of one entity(person or a firm) which directly affects the welfare of another in a way that is outside the market mechanism.

Pollution is a kind of production externality which affects the society in a negative way. The firms generating pollution whether air or water pollution during the production process are imposing cost on the society in terms of affecting their environment in which they live and hence adversely affecting their health.

The firms or individuals generating the pollution donot bear the full cost of negative externalities they generate for the society, they\'ll engage in excessive amounts of such activities. Moreover, no one in the society neither the pollution generator entity nor the rest of the society have the property rights defined over the water and air which results in inefficent allocation of resources and the society donot reach to the market equilibrium.

Hence, Government intervention is the only way to reduce the amount of externality caused to the society by the pollution.The Goverment can reduce the amount of externality in a number of ways:

1) By creating a market for pollution: The Government can sell permits to spew some fixed amount of pollutants into the environment. The entities can bid for the right to buy the permit to pollute and permission will go to the firm with highest bid.

2) Taxes: Government can levy tax on each unit of output in an amount equal to the marginal damage it imposed on society. Pigouvian tax is one such example.

3) Subsides: Government can also pay to the polluter for each unit of output that it doesnot produce.

4) Regulation: Government announces that each polluter must reduce pollution by a certain amount or else face legal sanctions.