>> Everybody knows that textbook economics has no way to deal with problems like climate change or pollution, right? Well, the people who say that have obviously never opened an actual economics textbook. If they had, they would have found that every economics textbook, even at the introductory level, teaches a framework for thinking about pollution and the environment. That framework is called externalities. Think about electricity. People buy electricity from utilities because it benefits them. Those consumers are part of society. So we find the additional benefit to society of one more watt of power, and we call it the Marginal Social Benefit. It's basically the same thing as demand. Utilities generate electric power by burning coal. They have costs like salaries for their workers, and buying all that coal. Those utilities are also part of society. So we find their cost of producing one more watt of power, and call it the Marginal Private Cost. It's basically the same thing as supply. The thing is, there are other costs of producing that electricity. Burning coal dumps pollution into the atmosphere. Everyone who is affected by that pollution is also part of society. So, to produce one more watt of power, we add together the private costs of the utilities and the extra cost to those affected by the pollution. And we call it Marginal Social Cost. The electricity consumers weigh their private benefit of having the lights on against the price of electricity, which reflects the cost of the utilities of the coal and the salaries. We say that those production costs are internal to the buyer-seller transaction, because they're included in the price. The costs of pollution are a part of society's cost of producing that extra watt of electricity. But they're not included in the price, and that's why we call them Externalities. The problem is that producers decide how much electricity to produce, and consumers decide how many devices to plug in, based on the private costs and benefits. Neither of the electricity producers, nor the electricity consumers, take those pollution costs into account. They might not even know they exist. So, from the point of view of society as a whole, we produce and consume too much electricity. The costs exceed the benefits. This makes pollution a tricky problem to solve. Each consumer would be worse off if they cut their own consumption, but they would be better off if somebody else cut theirs. So the default is for everyone to enjoy their own consumption and wait for everyone else to cut theirs. So, pollution. And that's why, in the case of externalities, economists favour government regulation to align private prices with social costs.