Externality
In economics, some decisions affect third parties. These parties can be affected by the decision positively or negatively, but this influence is involuntary. This is known as an externality, or an external effect. The problem with externalities is that no one pays for the cost of these effects. Usually, they are not part of the decision process. Externalities are often a form of market failure. In many cases, actors like states need to become active.
An example of an externality is pollution. One way to solve this is to introduce taxes on the goods that cause the pollution, for example carbon dioxide, which is the one of the causes of global warming. With concepts such as emissions trading, these externalities can again become part of the market system (and are no longer external).
Externality Media
Air pollution from motor vehicles is an example of a negative externality. The costs of the air pollution for the rest of society is not compensated for by either the producers or users of motorized transport.
Graph of Positive Externality in Production
Light pollution is an example of an externality because the consumption of street lighting has an effect on bystanders that is not compensated for by the consumers of the lighting.
Negative consumption externality
Positive consumption externality
Demand curve with external costs; if social costs are not accounted for price is too low to cover all costs and hence quantity produced is unnecessarily high (because the producers of the good and their customers are essentially underpaying the total, real factors of production.)
Supply curve with external benefits; when the market does not account for the additional social benefits of a good both the price for the good and the quantity produced are lower than the market could bear.
"Relative percentage price [∆] increases for broad categories [...] when externalities of greenhouse gas emissions are included in the producer's price."
