structural:reformatting, linguistic:paraphrasing
Externalities

A good or service could also have significant externalities, where gains or losses associated with the product, production or consumption of a product, differ from the private cost. These gains or losses are imposed on a third-party that did not take part in the original market transaction. These externalities can be innate to the methods of production or other conditions important to the market.

“The Problem of Social Cost” illuminates a different path towards social optimum showing the Pigouvian tax is not the only way towards solving externalities. It is hard to say who discovered externalities first since many classical economists saw the importance of education or a lighthouse, but it was Alfred Marshall who wanted to explore this more. He wondered why long-run supply curve under perfect competition could be decreasing so he founded “external economies” (). Externalities can be positive or negative depending on how a good/service is produced or what the good/service provides to the public. Positive externalities tend to be goods like vaccines, schools, or advancement of technology. They usually provide the public with a positive gain. Negative externalities would be like noise or air pollution. Coase shows this with his example of the case Sturges v. Bridgman it involved a confectioner and doctor. The confectioner had lived there many years and soon the doctor several years into residency decides to build a consulting room; it is right by the confectioner’s kitchen which releases vibrations from his grinding of pestle and mortar (). The doctor wins the case by a claim of nuisance so the confectioner would have to cease from using his machine. Coase argues there could have been bargains instead the confectioner could have paid the doctor to continue the source of income from using the machine hopefully it is more than what the Doctor is losing (). Vice versa the doctor could have paid the confectioner to cease production since he is prohibiting a source of income from the confectioner. Coase used a few more examples similar in scope dealing with social cost of an externality and the possible resolutions.

Traffic congestion is an example of market failure that incorporates both non-excludability and externality. Public roads are common resources that are available for the entire population's use (non-excludable), and act as a complement to cars (the more roads there are, the more useful cars become). Because there is very low cost but high benefit to individual drivers in using the roads, the roads become congested, decreasing their usefulness to society. Furthermore, driving can impose hidden costs on society through pollution (externality). Solutions for this include public transportation, congestion pricing, tolls, and other ways of making the driver include the social cost in the decision to drive.

Perhaps the best example of the inefficiency associated with common/public goods and externalities is the environmental harm caused by pollution and overexploitation of natural resources.