Definition – An external benefit occurs when producing or consuming a good causes a benefit to a third party.
The existence of external benefits (positive externalities) means that social benefit will be greater than private benefit.
Diagram showing external benefits
In a free market, goods with external benefits can often be under-consumed because the free market ignores the external benefit to others.
Example of External Benefit.
Cycling to work helps to reduce the level of pollution and congestion. Therefore other road users have quicker journey times and helps to reduce the level of pollution.
A bee keeper produces honey, but as an external benefit, his bees help to fertilise nearby fruit trees.