Negative Externalities and Market Failure

Theory defines externalities as the benefits or harms ignored when the value of goods or commodities is being evaluated. So, considering the fact that market activities are coordinated through price structures, this implies that goods will either be under produced or those activities will cause harm to innocent.  Most externalities are fueled by government failure to protect and define property rights properly (Demir, Huang, Scholts & Van , 2015). This property entails rivers, lakes and ocean which are polluted as a result of economic activities or outright which pollute other people’s lands and which should be treated as crimes. Whether negative or positive, externalities usually hinder the market from attaining equilibrium prices and quantities which are socially optimal. This paper scrutinizes the market failure associated with negative externalities from the brick manufacturing industry in Nepal.

Considering the case of negative externalities, mainly characterized by cases of pollution, the damages which are created in the production and consumption of commodities are not fully internalized in a way that prices are too low and the quantities are too high in consideration to what would be its socially optimal (Wood & Sullivan, 2015). When scrutinizing the case of positive externalities like the learning effects of education and which are invisible, benefits from services and goods are not fully internalized, meaning that consumers rarely experience those benefits. The prices are too high while the quantities are too low in relation to what would be socially optimal.

In the two cases, market failure is realized because the market cannot attain its social optimal outcome because the damages/benefits are not fully internalized and replicated in the prices. Market failure refers to any situation where free resources allocated by the free market are not efficient. In other words it makes allocation of free resources less efficient. But because free markets are hardly perfect, when externalities come into play calls for government intervention (Khan, Huo, Li & Kanich, 2015).

According to my definition of market failure earlier on in this paper “ it occurs when free markets are ineffective in allocating resources” , allocative efficiency is a point when marginal social benefits  equals the marginal social costs. Marginal refers to either the costs or benefits of any additional production unit or units (Mazzucato & Penna, 2016).

Efficiency Evaluation of Brick Manufacturing Industry

(P is the price and Q is the quantity of output).

This graph denotes allocative efficiency since MSC and MSB curves converge where supply and demand is equal (market equilibrium) (Krueger, 2018).

However, when an externality comes into play, the MSB no longer equals to the MSC meaning that the allocative efficiency cannot be achieved.

(MPB is the Marginal Private Benefits, benefits that are reaped by producers without taking into account the impacts on society)

This graph is a clear depiction of a smoking scenario which I used as an example earlier on. Negative externalities have downward shift effects on the marginal benefits; social benefits falling below the private benefits level because of the side-effects of smoking. In the graph, black triangle between MSB and MPB is the welfare loss. Anytime MSB =/= MSC, that is a market failure and because negative externalities leads to shifts in MSB and MSC curves, they cause market failure. To minimize welfare loss triangles, governments employ the principles of legislation, taxation and regulation (Mazzucato, 2016).

Manufacturing of Bricks has been ranked among the fastest expanding industrial sectors of Nepal which has been facilitated by the spread out of brick kilns across the three valleys of Kathmandu district; Kathmandu, Lalitpur and Bhaktapur. Since 2000, statistics have indicated that brick kilns have increased by approximately 200% to hit the point of roughly 500 brick kilns which are operational during the country’s dry season and which is evident between December and May (Maity, 2011). The increasing number and capacity of brick kilns has led to an influx of workers around the place who come seeking job opportunities. The workforce also comprises of women and young children who assist in production of clay, formation of green bricks and transportation. The four operations which are involved in brick manufacturing in Nepal are: mixing the clay, molding them into necessary shapes, drying then on the sun, and baking.

However, despite of the fact that this industry has opened more opportunities in Kathmandu Valley, it has turned out to be a top contributor as far as air pollution and other related health problems of the workers and population around the area is concerned. Coupled with the areas topography that restricts free air movement, the operations taking place in this area have made the area vulnerable to air pollutant (Sanjel, Khanal, Thygerson, Carter, Johnston  & Joshi, 2017). In addition to vehicle emissions and other re-suspended road dust, the dust particles from this  industry have reduced the quality of air substantially hence leading to increased cases of bronchitis, chronic obstructive pulmonary diseases, silicosis, asthma and pulmonary complications in both workers and the population around the valley. The main threat of brick dust inhalation has been the exposure of crystalline silica. Basically, silica is found quartz rocks and minerals and when it is cut, ground and crushed, small particles which can be easily inhaled are released into the air. Prolonged inhalation of these small particles destroys the respiratory system (Sanjel, Khanal, Thygerson, Carter, Johnston & Joshi, 2018).

Market Structure of Brick Manufacturing Industry in Nepal

There are many other hazards which are associated with this industry other than the brick dust exposure although the main risks as a result of its operation have been classified into three categories; chemical, physical, and physiological. Silica exposure and brick dust are under “chemical” category in addition to other chemicals which are present in brick kilns such as nitrogen oxides, carbon monoxide, sulfur dioxide and fluoride compounds. In consideration to the physical hazards associated with brick manufacturing based on the working conditions and the working hours in the firm is the heat stress (Thygerson, Sanjel & Johnson, 2016). The physiological hazards are evident mainly on young children working in this industry and include ergonomic concerns.

From the above scrutiny of the brick industry in Nepal, there are two clear facts that come out very clearly. First, it’s beyond any reasonable doubt that the rapid development of this industry in Kathmandu area has become a noble job opportunities for many people who initially were jobless and may be could find it hard to meet their basic needs. Through that approach, the emergency and rapid growth of this industry can be considered as beneficial to the economy of Nepal. This is because it has created job opportunities for a large percentage of the country’s population (Sanjel et al, 2018).

However, when we uncover the other side of the industry’s operational trends; there are a lot of concerns which arises. First of all, the scrutiny on its operational impacts on the environment has it all that the industry is greatly causing harm to the surrounding environment through air pollution (Sanjel et al, 2018). From what has been presented in the current statistics, it has turned out to be a top contributor of air pollution and other related health problems perceived in the population around the area is concerned.

Also, coupled with the areas topography that restricts free air movement, the operations taking place in this area have made the area vulnerable to air pollutant. In addition to vehicle emissions and other re-suspended road dust, the dust particles from this  industry have reduced the quality of air substantially hence leading to increased cases of bronchitis, chronic obstructive pulmonary diseases, silicosis, asthma and pulmonary complications in both workers and the population around the valley (Sanjel et al, 2018). The main threat of brick dust inhalation has been the exposure of crystalline silica. Basically, silica is found quartz rocks and minerals and when it is cut, ground and crushed, small particles which can be easily inhaled are released into the air. Prolonged inhalation of these small particles destroys the respiratory system. Besides all the risks associated with the exposure, both the workers and society around Kathmandu Valley are exposed without any protection to brick dust containing silica and other pollutants which are capable of causing health problems (Joshi & Joshi, 2018).

Government Intervention to Address Negative Externalities

So, the industry’s trend in causing respiratory diseases in the surrounding population comfortably fits under the category of negative externalities of the industry since this population does not have any direct link to the industry operations yet suffering as a result of its operations. In addition to mere diseases which are caused by the air pollution resulting from this industry, there are other negative externalities which can be perceived in the entire country rather than the surrounding community as a result of its operation (Bisht & Neupane, 2015). For instance, as a result of increased demand for treatment of respiratory problems which are facilitated by the operations of this industry; the cost of treatment has also gone higher in the entire country. This has affected even those who don’t have any hint on the existence of this industry but have respiratory problems.

Again, as a result of respiratory problems becoming rampant across the country, the cost of medical insurance cover especially for those with respiratory problems has escalated at an alarming rate. This has affected both those who suffer from respiratory problems as a result of air pollution from the industry as well as those who don’t have any hint on the existence of this industry (Sanjel et al, 2016).

Because it’s the role of any government to ensure that its citizens get quality health care, the increasing number of respiratory problems associated with air pollution from this industry have forced the government to divert resources which could have been used to create more opportunities within the country to get the necessary machinery which would ensure that its citizens access quality treatment in regard to respiratory problems (Akinshipe & Kornelius, 2018).). This has led to market failure because it has slowed down the economic growth of the country.

People also spend a lot in treatments, bearing in mind that the cost of treating respiratory problems within the country have increased due to its increased demand and the cost of acquiring health insurance cover has also escalated following the increased number of respiratory problems (Bhandari et al, 2016). A lot of money which would have been spent in sectors like business expansion and initiating new startups within the country is therefore directed to treatments hence leading to market failure.

In Nepal, control policies regarding emissions begun after Earth Summit of 1992 when “Vehicle emission Control in Kathmandu Valley 1993” was introduced and Constitution of Nepal 2015 was implemented to guarantee people on their rights to live in both clean and healthy environments. However, past experiences of Nepal have suggested a major concern on the implementation.

The government of Nepal has been empowering its local bodies in charge of ensuring protection of the environment and encouraging academic institutions specializing in environmental conservations to be able to come up with effective strategies which can be used to combat the escalating air pollution in the country (Tibrewal, Maithel & Venkataraman, 2017). Also, the government of Nepal has made its monitoring and implementation team more effective to ensure that the laws and policies which concern environmental protection are respected and that the polluters must pay for their damage to both the human health and environmental damage as a result of their operations.

As a signatory country committed to a Sustainable Development Agenda, Nepal has established close connections with its stakeholders to address the issue of air pollution. Nepal Health Research Council and the recent National Health Policy of Nepal have both included the issue of air pollution as one of their priority research and public health agenda guaranteeing its citizens of Constitution protection in regard to negative externalities (Hoffmann, 2017). Also, the country has started its urgent agenda of organizing future policies and actions that ensure commitments in reducing air pollution in the country.

To address the issue of market failure which is associated with negative externalities, I would suggest taxes to be imposed on the polluters and then those taxes to be narrowed down to deal with the negative impacts which are caused by the pollution (Bhandari,  Pokhrel & Lamichhane, 2016). For instance, in my case of brick industry in Nepal, the market failure has been linked with the government spending money which could otherwise be used in economic development to acquire machinery for the treatment of respiratory problems. Instead of government using its resources, the tax imposed on the industry should be used to take care of treatments of those respiratory problems.

Again, because it has also been observed that business people are spending money which could have been used to expand their businesses or launching new startups to take care of respiratory problems whose cost of treatment has escalated due to increased demands and the increased cost of health insurance schemes, the tax imposed on the polluter can be used to subsidize the treatment to avoid spending a lot of money on treatments (Goel & Kalamdhad, 2017).

From its operation point of view, Brick industry in Nepal belongs to monopolistic competition market structure. The four major types of market structures are: perfect competition, monopolistic competition, oligopoly, and monopoly and each has its distinct characteristics as well as assumptions which affect the decision making process of a firm (Sadavarte et al, 2016).

Perfect competition is a market structure with large number of firms and that compete against each other. Any single firm in this scenario does not have significant power to control the market. Because of that, the whole industry produces outputs of socially optimal level because no any firm can influence market prices. This market structure builds on four assumptions: (1) that all firms maximize their profits (2) all firms sell identical products (3) there is no consumer preferences and (4) there is free entry and exit into the market (Kalleberg, 2018).

Monopolistic competition on the other hand refers to market structures with large number of firms competing against each other although unlike in the case of perfect competition these firms sell slightly differential goods. This accords them some degree of market control power and which can allow them charge slightly different prices. This market structure also builds on four basic assumptions:  (1) that all firms maximize their profits (2) firms can freely enter and exit the market, (3) firms deal with differential products (4) consumers may have preference on products (Price, 2017).

In an oligopoly market structure, the market is dominated by small number of firms. This limits competition among the few firms resulting to either weak competition or collaboration of the few firms. If they adopt the latter, they can use their collective market power to control prices and earn more profits. The assumptions made in this market are also four: (1) that all the firms maximize their profits, (2) oligopolies can determine their prices, (3) entry and exit is accompanied by several barriers, (4) they deal with products which are either homogenous or differentiated, and (5) the market is dominated by very few firms (Weller, Kleer & Piller, 2015).

Finally, a monopoly market structure refers to a market which is controlled entirely by a single firm. Because of that, the firm has all the market powers and consumers do not have any alternatives. Due to that, monopolists can reduce output and increase prices when they decide to have more profits. Some of the assumptions in this market structure are: (1) monopolists maximize profits, (2) the monopolists is in charge of setting prices, (3) barriers to entrance and exit into the market are high and (4) a single firm dominates the whole market (Weller, Kleer & Piller, 2015).

The brick manufacturing industry in Nepal is comprised of large number of companies which includes: Champi Mai Dhunga Roda Udhyog Pvt. Ltd, MataChimney Udhyog, Saraswati Shakti Etta Udhyog, H. T. Brick Factory, K. P. Etta Udhyog, Bajrabarahi Roda Dhunga Udhyog, Him Shikhar Roda Dhunga Udhyog Pvt. Ltd., Bhairab Roda Dhunga Udhyog, Kantipur Brick Factory, etc. Also, these firms produce significant unique bricks in terms of their shapes and sizes (Dymski, 2016). For that matter, the prices may differ from one firm to another in consideration to those factors. Therefore, from these characteristics of the brick industry in Nepal, it can be concluded that the industry operates in a monopolistic market structure.

Conclusion:

Comparing the brick industry in Nepal with a perfect competitive market structure, the industry is beyond doubt inefficient. First of all, a perfect competitive market states that no any single firm has a significant power to control the market and that the products within the whole industry are identical which cannot apply on the case of this industry because the firms produce significant products which may vary in terms of quality and quantity and therefore each firm is forced to sell its products at the price which will enable it meet its production cost and make profits. Also, because the products are different, consumers are free to make choice on the products which satisfies and meets their expectations and which is against what perfect competition market structure advocates for, absence of consumer preferences.

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