What is the economic implication of negative externalities in the market?

The correct choice highlights that negative externalities lead to market failure. A negative externality occurs when a third party suffers costs as a result of an economic transaction they are not involved in. For instance, pollution from a factory negatively affects the health of nearby residents, who do not receive compensation for the harm caused.

In a perfectly functioning market, all costs and benefits associated with production and consumption are reflected in the prices. However, when negative externalities are present, these external costs are not accounted for in the decision-making of producers and consumers. This misalignment causes the market to operate inefficiently.

Due to these external costs being ignored, the quantity of goods produced is often higher than the socially optimal level. This can lead to excessive consumption and production of goods that create externalities, contributing to overall societal welfare being diminished. Therefore, the existence of negative externalities signifies a failure in the market's ability to allocate resources efficiently, resulting in the correct answer being market failure.

Other options refer to specific outcomes that could arise due to negative externalities but do not capture the broader concept of market failure itself. For example, while over-consumption or under-production may be consequences in specific scenarios, these situations cannot fully represent the overarching issue of market inefficiency that