How to decide whether the state should intervene in a market?

#112

Good morning from Berlin,

Today, a brief digression about a person who has contributed like no other in clarifying the question of when the state should intervene in market processes and when not.

His name is Arthur Cecil Pigou. He was an English economist who lived from 1877 to 1959 and built the School of Economics at the University of Cambridge. 

He is famous for introducing the concept of externality (in his book "The Economics of Welfare" in 1920). 

Pigou described externalities as an indirect cost or benefit to an uninvolved third party that arises as an effect of another party's activity. 

An externality can be both positive or negative and can stem from either the production or consumption of a good or service. 

Pollution is a well-known negative externality. For example, a corporation decides to cut costs and increase profits by implementing new operations that are more harmful to the environment. On the other hand, education is a positive externality since investment in education leads to a smarter and more intelligent workforce.

The idea of externalities is important to economic thinking because, as said above, it helps to decide whether state intervention in a market is necessary. Only externalities justify interventions. 

And how should this intervention take place?

In his book, Pigou argued that negative externalities should be offset by a tax, while positive externalities should be offset by a subsidy. For example, a carbon tax can address the problem of climate change.

Isn't it a great thing to know when the state is needed in the market and when it isn't? So cheers to Arthur Cecil Pigou (who, by the way, loved hiking and climbing and introduced climbing to many friends, such as Wilfrid Noyce, who was a member of the 1953 British Expedition that made the first ascent of Mount Everest)!

Strolling greetings from 

Johannes Eber