If transaction costs exceed the potential gains from an agreement between affected parties to an externality, there will be no private solution to the externality.

Question

Quizplus · Accepted Answer

If the transaction costs (i.e. the costs of negotiating and enforcing a private agreement) are higher than the potential gains from solving the externality, then parties will not be willing to invest in finding a solution. This means that there will be no private solution to the externality and government intervention may be necessary.

If Transaction Costs Exceed the Potential Gains from an Agreement