Many options are available for measuring externalities and including them in the project’s economic cash flow.
Internalize the externality via project redesign:
- In case where projects produce negative externality like environmental degradation, it will often be optimal to redesign the project to reduce such negative impacts or prevent them all together.
- For example a project generates air or water pollution, the project could be registered to include anti-pollution devices to prevent the release of these pollutants into the atmosphere or waterways.
- In the case of private property where property government intervenes to force the project to externalities.
Internalizing the externality via compensation:
- In the industries, the technology to control pollution may not exist or may be so expensive that it far exceeds the economic cost of the pollution prevented. In
- this case, the only possible solution may be either not to produce at all or to compensate those suffering from the pollution.
- Those receiving the compensation could include local farmers whose crops have been destroyed or local residents who have lost their environmental amenity, the utility may they receive from living in a clean environment.
Internalization by taxation and subsidies:
- Taxing of consumer goods whose contribution cause larger negative externalities. For example, high exercise taxes on cigarette and alcohol are designed to discourage and internalize the high public costs of individuals consuming these products.
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