Social Cost – in Neoclassical Economics

In neoclassical economics, the social cost is the sum of the transaction’s private costs and the costs imposed on consumers as a result of being exposed to the transaction for which they are not compensated or charged. It is a cost associated with the operation of the firm that is not explicitly borne by the firm; rather, it is a cost borne by society as a result of the production of a commodity. The social cost is used in the social cost-benefit analysis of the overall impact of the business’s operations on society as a whole, but it does not normally factor into business decisions.

In other words, it is the total of internal and external costs. It takes into account both the private and the external costs. This could be applied to a variety of economic problems, such as the social cost of carbon, which has been investigated in order to better understand the costs of carbon emissions for proposed economic solutions such as a carbon tax. External costs are those that are directly related to the commodity’s production and consumption but are not paid for directly by the producer. These are the costs borne by society, and thus are referred to as the social cost.

Private costs are the direct costs incurred by the producer in the production of the good or service. These private costs are included in the social cost, as are any additional costs (or external costs) associated with the production of the good that are not accounted for by the free market. In short, when the consequences of an action cannot be borne by the initiator, there will be external societal costs. When the initiator can accept responsibility for the agent’s actions, we will incur private costs.

Typically, factories and mills located within cities pollute both the air and the water. For example, the Mathura Oil Refinery discharges its wastes into the Yamuna River, contaminating the water and contributing to water pollution.

Thus, the social costs include:

  • The cost of natural resources that firms are not required to pay for, such as a river, a lake, the atmosphere, and so on.
  • Using public utility services such as roads, drainage systems, and so on.
  • The cost of ‘disutility’ caused by pollution (air, water, noise, environment).

The term “social costs” refers to both private costs and any other external costs to society incurred as a result of the production or consumption of a good or service. Social costs differ from private costs, for example, if a producer can avoid the cost of air pollution control equipment, allowing the firm’s production to impose costs (health or environmental degradation) on other parties who are harmed by air pollution.