Market Imperfections: Internalizing the Externalities

This chapter introduces Part IV on Policy Implications of sustainability. It introduces the concept of market imperfections and externalities. It reviews the theoretical economic background and some empirical evidence on the concept of externalities which is key to understanding market imperfections related to sustainability issues (one entity pays while others get the benefit or bear the burden). It highlights the fact that market prices rarely factor in these externalities and that actors producing negative externalities do not always pay for them and that other actors bear the negative consequences (i.e., end up paying for them). The chapter highlights the trend that consumers, producers, and governments are starting to take production and market externalities much more seriously. Consumers more and more buy only products that are labeled organic, as they know that these products contain fewer pesticides that harm them and those that produce these products. Producers and investors understand that corporate social responsibility is not simply a buzzword that attracts consumers but that it does provide a value-added for the company. Employees are more motivated to work if they feel that they are needed and welcomed, and supply chains work more efficiently if every company down the chain gets a fair share. Products produced by motivated employees and manufactured with high-quality materials tend to last longer and are more appealing to consumers. Governments are understanding that they need to be careful in the way they introduce new policies, and they are starting to introduce these in a more subtle way. Some environmentally harmful industries, energy sources, technologies, or processes may become obsolete. The chapter concludes that although corporate social responsibility is the right way, it needs to be supplemented with more consumers who are less price-oriented, and it needs to be induced by governments that understand that maximizing the pie also requires dealing with these externalities.