Wednesday, November 27, 2013

The producers of Sriracha Hot Sauce are in some Hot Water. The sauce produces a foul odor. No, it is not what you think...

Apparently the production of Sriracha Hot Sauce is imposing a non-monetary cost on the residents of the nearby factory:

Sriracha hot sauce factory production partially halted (From BBC)

""A California judge has temporarily curbed production of the popular Sriracha Asian-style hot sauce after residents of a Los Angeles suburb complained of the factory's odour.
The fumes emitted from Huy Fong Foods' factory in Irwindale are "extremely annoying, irritating and offensive to the senses", Judge Robert O'Brien said.""
In the Social Welfare unit of Microeconomics we learn how some costs, whether they be monetary or non-monetary, are imposed on parties not directly involved in a transaction between sellers (producers) and buyers.  These costs are external to the actual production of the good and are not captured in the cost of producing the good. If the producer was absorbing, or "internalizing" the cost of the nuisance, then the cost of producing Sriracha sauce would be higher.  The producer would either have to pass on the cost to the consumer with a higher price or reduce the quantity supplied at the market price.

The producer could be forced to internalize the smelly cost imposed on nearby residents:
(1) by installing scrubbing or filtering equipment to clean the refuse before it leaves the factory
(1) with a lump sum fine by the government.
(2) with a per unit tax levied by the government on each unit of production of the sauce.
(3) by paying the residents of the neighborhood a fair market value for their willingness to put up with the bad smell.

The trick is to make sure the method of internalizing the cost is equal to the cost of the externality itself.  If not then there is some social welfare lost to society.
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