Externalities

An externality is a cost or benefit of an economic activity that falls on a third party who did not choose to bear it, rather than being fully reflected in the price paid by the buyer and seller who made the transaction. A factory that pollutes a river imposes a negative externality on downstream users, while a beekeeper's hives can create a positive externality for a neighboring orchard's pollination. Because externalities are not priced into private decisions, economists since Arthur Cecil Pigou have argued that markets left alone will produce too much of an activity with negative externalities and too little of one with positive externalities, a central justification for taxes, subsidies, and regulation aimed at correcting the difference between private and social cost.