What is the primary effect of negative externalities on society?

Negative externalities occur when the actions of individuals or businesses have adverse effects on third parties that are not accounted for in the market price of goods or services. These external costs can lead to a situation where the social cost of a good or service exceeds its private cost, resulting in a misallocation of resources.

For example, pollution from a factory not only affects the immediate environment but also impacts public health, damages ecosystems, and reduces the quality of life for surrounding communities. Since these costs are not reflected in the price of the product being produced, consumers and producers are not aware of the full impact of their economic activities.

This mispricing leads to overproduction of goods that generate negative externalities because the market fails to incorporate the societal costs associated with them. As a result, society as a whole ends up worse off, experiencing more pollution and its associated negative effects than would occur if these external costs were internalized in the market price. Therefore, the primary effect of negative externalities on society is the imposition of costs that are not captured in market transactions, leading to a reduction in overall economic welfare.