Three controversial bills were recently introduced in the Montana legislature to prohibit restaurants from providing single-use straws unless requested by the customer, tax use of disposable bags in retail stores, and phase out Styrofoam cups in food-related businesses. Some contend that the proposed legislation would reduce plastic waste discarded into landfills or the ocean, where it causes environmental harm for many years. Others contend that these bills would place too great a burden on food and retail businesses. More specifically, some have suggested that Montana should allow the free market to resolve the problem (the text did not clarify what problem would be resolved). I will offer an economist’s perspective on the role of the free market when there are indirect environmental impacts from consuming a product and why taxing goods like disposable plastic bags might lead to a more efficient outcome.
Many are familiar with Adam Smith’s theory of the “invisible hand”: the market forces of supply and demand in a free market, where individuals are making decisions in their own self-interest, reach an efficient equilibrium without government intervention. However, there are several necessary conditions for the free market to reach an efficient equilibrium on its own. One of these conditions is that one individual’s consumption of a good cannot impact another’s wellbeing. When my consumption of a good negatively (or positively) affects your wellbeing, we say that there are negative (positive) externalities. In the case of disposable plastic, there is a negative externality on the environment when someone consumes and disposes of plastic in a landfill (or the ocean) where it takes years to decompose. This outcome is inefficient because the consumer does not pay for the “social cost” of his or her purchase on the environment. This cost is born by the entire population, and more of the good is consumed than is socially optimal. If consumers had to pay for the full cost of the good, including the cost of the externality, they would purchase less of the good seek out lower-cost alternatives.
Economist Arthur Pigou suggested a solution: tax the good by the cost of the externality. The tax raises the price of the good to its true “social cost” and quantity demanded decreases, leading to an economically efficient outcome.
Practically, Pigouvian taxes may not always work as seamlessly as they appear they should. How do we measure the cost of the externality created by disposal of plastic straws, bags, and Styrofoam? Is there an additional transaction cost in collecting taxes? If so, how is the transaction cost distributed? These are the kinds of questions lawmakers should consider when contemplating a Pigouvian tax. Nevertheless, the question of how to reduce plastic waste is becoming more acute as China, formerly the largest importer of recycled waste, made a policy to quit buying recycled plastic scrap a little over a year ago. Properly implemented, Pigouvian taxes could be part of the solution.