A policy maker argues that congestion on the roads is an example of which type of externality?

• A. A negative externality, because individual drivers impose costs on others by increasing travel time and pollution.
• B. A positive externality, because more drivers lead to greater economic activity.
• C. No externality, because all costs are borne by the drivers themselves.
• D. A pecuniary externality, because congestion only affects prices and not welfare.

Answer: (A)

Verified step by step guidance

1. Step 1: Understand the concept of an externality. An externality occurs when a decision causes costs or benefits to third parties who are not involved in the decision-making process.
2. Step 2: Identify the nature of congestion on roads. When a driver chooses to use a congested road, they increase travel time and pollution for other drivers, which are costs imposed on others.
3. Step 3: Recognize that these costs are not reflected in the individual driver's private cost, meaning the driver does not bear the full social cost of their action.
4. Step 4: Determine the type of externality. Since the additional drivers impose costs on others (increased travel time and pollution), this is a negative externality.
5. Step 5: Differentiate from other options: it is not a positive externality because the costs outweigh benefits to others; it is not pecuniary because the effect is on welfare, not just prices; and it is not 'no externality' because costs are imposed on others beyond the drivers themselves.