Tradable permits (cap-and-trade)
Permits to pollute that can be bought and sold in a market system
How do tradable permits reduce costs?
Firms with low reduction costs cut more and sell permits; high-cost firms buy permits
Result of tradable permits
Same pollution reduction achieved at lowest total cost to society
Why are market-based solutions efficient?
They allow flexibility and let markets find the lowest-cost solution
Coase Theorem
If property rights are clearly defined and transaction costs are zero, private bargaining leads to efficient outcomes regardless of who holds rights
Example of Coase Theorem
Fisherman vs. factory negotiate over pollution rights depending on ownership
Main limitation of Coase Theorem
High transaction costs, especially with many parties
Positive externality
Benefit to third parties not directly involved in a transaction
Social benefit equation
Social benefit = Private benefit + External benefit
Why markets underproduce positive externalities
Individuals don’t capture full benefits
Example of positive externality
Innovation and R&D spillovers
Why government supports R&D
Large portion of benefits spill over to society
Private return to education
Higher wages (about 10–15%)
Social benefits of education
Lower crime, better health, innovation, civic engagement
Public good
A good that is non-excludable and non-rivalrous
Non-excludable
Cannot prevent others from using it
Non-rivalrous
One person’s use does not reduce availability for others
Examples of public goods
National defense, street lighting, public parks
Free rider problem
People benefit without paying, leading to underproduction
Why government provides public goods
Private markets fail due to free riders
What determines income in labor markets
Quantity of resources and their value in society
Most important resource for individuals
Labor
Why college wage premium persists
Demand for skilled labor grows faster than supply
Cause of rising demand for skilled labor
Technology and globalization
