Economics Assignment Sample
Q1:
Answer :Introduction
Externalities are defined in economic literature as additional costs or benefits that influence a party without their direct engagement (Dahlman, 1979). The party did not choose to pay such costs, yet they are still influenced by them. Externalities are differences between private and social costs or benefits that might lead to market failure.
In New Zealand, the government is actively involved in dealing with such externalities in order to avoid unjustified injury or advantage for any party. Externalities are especially noticeable in the environmental sector, where the government is working hard to maintain a "clean, green" image in order to assure long-term development.
The definitions of externalities
Externalities are described as the difference between private and social expenses by Arthur Pigou in his book "Economic of Welfare" (Pigou and Aslanbeigui, 2017). According to Pigou, externalities are activities taken by one economic agent that have a direct impact on the well-being of another economic agent in a way that is not represented in market prices. For example, if a factory pollutes a river, the downstream villages may bear the cost of treating health concerns and reduced fishing yields, which the industry does not pay for.
Kenneth Arrow developed a broader definition of externalities, emphasizing the lack of market mechanisms. Externalities, according to Arrow, occur when "the market fails to allocate resources efficiently because the actions of one agent affect the well-being of another agent, but there is no market in which the effects of these actions are fully reflected" (Applied Economics, 2025). The term focused on the lack of a price signal to indicate externality in a market.
Two decades later, another economist proposed a more generalized and widely recognized definition of externalities. Baumol and Oates defined externalities as "whenever the activity of one agent affects the welfare of another agent in a way that is outside the market mechanism" (The Theory of Environmental Policy, 2025). The term encompassed a broader range of challenges, such as greenhouse gas emissions or biodiversity loss, whose consequences are not explicitly priced and exchanged.
Consistency and differences:
All three definitions are congruent in their central premise, depicting externalities as costs or benefits that are not reflected in market prices. All formulations identify the difference between private and social costs/benefits. The distinction is in the emphasis area of the definitions. Pigou's concept focuses on cost divergence, whereas Arrow emphasizes the absence of a market to remedy the problem. Baumol and Oates proposed a broader definition that encompasses a wider range of scenarios (Verhoef 1999). The latter definitions of Pigou broadened the initial term to include the lack of market mechanisms, as well as making the definition more comprehensive, providing a broader and progressive lens through which to assess the issue.
Existence of Externality as the Sufficient Justification for Policy Intervention:
The existence of an externality provides a strong economic case for state intervention because externalities generate market failures in which resources are not allocated efficiently.
If someone's actions injure others without paying for them, or benefit others without being rewarded, the market alone will not solve the problem; this is when state policy involvement is required, which must be done cautiously because it has both positive and negative implications.
Interventions can also improve overall social welfare by matching private incentives to social costs and gains (Kyle, 2020). However, before acting, authorities should perform a cost-benefit analysis to guarantee that the advantages of intervention outweigh the drawbacks.
There is also a possibility of "government failure," in which poorly constructed policies exacerbate the issue. In the end, externalities reveal a market failure in which private actions affect others without price signals, highlighting the necessity for government involvement. However, policy intervention must be carried out after a cost-benefit analysis and taking into account the risk of government failure, with the goal of aligning private incentives with social welfare for long-term outcomes.
Q1:
Answer :The issue of nitrate pollution in New Zealand has been identified as the chosen problem.
a) The issue of Nitrate pollution in groundwater in New Zealand:Nitrate pollution of groundwater refers to the contamination of underground water sources by elevated nitrate levels (Moloantoa et al., 2022). Nitrate is a nitrogen-based compound primarily found in agricultural fertilizers and animal wastes. The contamination arises from the leaching of nitrate into aquifers. In New Zealand, the issue is increasingly challenging the nation’s reputation for pristine environments, as it is a direct consequence of agricultural intensification in the country, especially the expansion of the dairy farming sector (Roxborough, 2020). Dairy is New Zealand’s largest goods exporter sector, generating more than 22 billion New Zealand Dollars today (Granwal, 2023). As the largest contributor to the New Zealand GDP, the dairy farming industry has directly led to a greater concentration of livestock and, consequently, increased the nitrogen deposition, especially between 1990 to 2019 when the number of dairy cows almost doubled in the country but the use of synthetic nitrogen fertilizer increased seven folds between the same periods (Chapman et al., 2024), (Gray, 2023).
Regions that have witnessed the most significant dairy farm conversions, such as Canterbury, Waikato, and Southland, also exhibit the highest levels of nitrate contamination in groundwater (Scarsbrook & Melland, 2015), (Foote et al., 2015).
The rise in agricultural activities and dairy farming poses significant threats to drinking water contamination and the health of the freshwater ecosystem. Extensive rise in dairy Research indicates that more than 800,000 New Zealanders could be exposed to the potentially hazardous levels of nitrate in their drinking water (Joy et al., 2022).
The current drinking water standard in New Zealand allows 11.3 mg of nitrate per liter of drinking water; however, studies prove that even nitrate levels of 1mg/L can cause serious health complications such as bowel cancer (Richards et al., 2022).
Increased concentration of Nitrate in drinking water also leads to methemoglobinemia (Blue baby syndrome), colorectal cancer, thyroid problems, and adverse pregnancy outcomes. Hence, there is an immediate need to combat the issue of nitrate pollution.
Proposed policy to mitigate nitrate pollution:
Objective of the policy: To reduce nitrate pollution in groundwater to safe levels.
b) To address the critical issue of nitrate pollution in New Zealand’s groundwater, the following policy is proposed: Staged Implementation of Farm-Level Nitrate Discharge Permits with Progressive Reduction Targets.
Aim: The policy aims to reduce the nitrate pollution in New Zealand’s groundwater to achieve safe drinking water standards and restore the health of freshwater ecosystem.
Implementation:
The implementation will be completed in four stages.
Stage 1: Permit allocation: An initial permit would be allocated to farms based on their current nitrate leaching levels, determined through regional council data and assessment of farmland. The initial permits would serve as a baseline for setting reduction targets in stage 2.
Stage 2: Progressive Reduction Targets: Reduction targets shall be determined based on hydrological modeling and by establishing a comprehensive baseline of current nitrate leaching levels across different regions and farm types. The study will identify the scientifically viable and region-specific reduction targets for a specific timeframe (for instance 5 years, 10 years, and 15 years) to identify the desired water quality outcomes.
Stage 3: Farm environmental plans: All the farms shall be required to develop and implement a comprehensive farm environment plan to include best management practices for managing nitrate contamination at farm level.
Stage 4: Monitoring and reporting: Regional councils would conduct Nitrate leaching monitoring annually or bi-annually. Progress will be analyzed towards the reduction targets. For exceptional reduction, the government can also provide financial incentives to the farmers.
The Next best policy: A national tax on Synthetic Nitrogen Fertilizers:
Aim: The policy aims to impose a nationwide tax on the sale of synthetic nitrogen fertilizers, increasing the cost of nitrogen fertilizers to the farmers.
Implementation:
The implementation will be conducted in four stages.
Stage 1: Tax Rate establishment: A national tax rate on synthetic nitrogen fertilizer will be established at a level that effectively discourages excessive fertilizer use while remaining economically viable for farmers.
Stage 2: Revenue allocation: Revenue generated will be allocated to environmental protection and sustainable agriculture to effectively reduce the nitrate concentration in groundwater.
Stage 3: Support and education: The government will provide educational training, workshops, online resources for soil testing and nutrient budgeting, use of organic farming practices, and precision agricultural technologies.
Stage 4: Monitoring and evaluation: The impact of the fertilizer tax on fertilizer sales, farm practices, and water quality will be monitored and evaluated. Policy changes will be introduced as per the identified results.
The farm-level permit system "best achieves" nitrate reduction because it directly controls leaching at the source. Unlike the national fertilizer taxes, which indirectly discourage farmers from reducing fertilizer use, the permit system establishes a clear system to limit nitrate discharge.
The permit system addresses the diverse hydrological landscapes of New Zealand and sets customized reduction targets. The granular approach makes tailored policy specific to the environmental conditions, maximizing the effectiveness of the policy.