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Chapter 23 / Externalities

23.1 Public Economics

In our analysis thus far, we have analyzed transactions from the perspective of the outcomes for individual agents. That is, we have been considering how each agent’s actions affect their own individual payoffs: for example, we think about how an individual consumer trades goods, from their perspective, by comparing their utility from their consumption bundle before the transaction with the utility from their consumption bundle after the transaction.

There is another way of analyzing more general economic phenomena, though, which is to think about how all agents’ actions affect all agents’ payoffs. The branch of economics called game theory is a general framework for analyzing these kinds of situations. In this part, we will motivate the need for game theory by analyzing some common applications of this kind of situation:

We’ll also analyze public choice, which is the study of how societies choose how many or what sort of public goods to provide.

Together, the study of these kinds of economic phenomena are often grouped in the subfield of economics called “Public Economics.” Of all the topics we study, these are in many ways the most broadly applicable to the most pressing problems facing us today, from climate change to political polarization to arguments over the appropriate size and role of government.

Next: Market Externalities in the Supply and Demand Model
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