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2000-06-11

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The costs to society caused by the consumption or production of goods that are not incorporated into the price of the goods, such as those of pollution or shortage of resources are called external diseconomies. The Pigovian tax internalizes this externality inside the market. For example, if producers do not bear the cost of garbage disposal, they will produce more than socially necessary. If the cost is included in the price of products beforehand, it will reduce the supply to a socially desirable amount. Thus, the Pigovian tax can achieve Pareto optimum, the most efficient allocation of resources whose utility cannot increase without decreasing anyone's utility. 1. Why is the Pigovian Tax necessary? Those influenced by Hayek assert that environmental pollution is not market failure but Government failure, because, if individuals persist in their private properties and do not depend on the irresponsible Government, they endeavor to protect their environments of themselves without Gov ...