… is from pages 32-33 of my late colleague Jim Buchanan ‘s 1971 paper “The Bases for Collective Action,” as this paper is reprinted in James M. Buchanan, Externalities and Public Expenditure Theory  (2001), which is volume 15 of The Collected Works of James M. Buchanan; (a classic example of a ‘large-number negative externality’ is thousands or millions of drivers spilling emissions from their automobiles into the air space that supplies the breathable air for thousands or millions of residents – that is, many individuals each making private decisions that interfere with the property rights of other individuals none of whom has a veto power to block the impact on his or her property):
The “failure” of markets to produce efficient results in the face of large-number externalities does not, in and of itself, justify explicit collective action. Since collective action also involves externalities of a similar sort, the problem becomes one of comparing two second-best organizational arrangements….
The transfer of activities that exhibit externalities in the private or market sector to the collective or public sector changes the form of the externality relationship. It does not eliminate externalities.
DBx: Although obvious when stated – and although not one in 100 economists would deny the truth of this claim when it is directly stated – it remains true that this claim is largely ignored. The ‘logic’ of nearly all public-policy advocacy is as follow: “I see a problem that plagues the public (and, by the way, I am uniquely gifted at the task of identifying problems that plague the public). I therefore recommend that government correct the problem with taxes or subsidies or regulatory restrictions or some other restraint on, or modification of, the market. Q.E.D.” The externalities that plague political decision-making are simply ignored. Because this public-policy analyst can imagine the government behaving as if its agents consider all costs and all benefits accurately, the public-policy analyst regards his or her job as done, and worthy of applause, when he or she presents the formula for how such an ideally acting government can improve matters.
But one problem with this method of public-policy analysis is that someone else can respond by saying “Wait! I too have a vivid imagination! I can imagine all market actors taking appropriate account of all costs and benefits. Therefore, given that I can imagine such a state of affairs, I proclaim that there is never any need for government interference in the economy.”
No one would take this second person seriously. And rightly not. But the same sober analyst who would rightly dismiss the second person as hopelessly unrealistic accepts the counsel of the equally unrealistic first person.
It makes no sense.