Understanding Markets with Socially Responsible Consumers


Many consumers care about climate change and other externalities associated with their purchases. We analyze the market behavior of such “socially responsible consumers,” derive properties of the resulting competitive equilibria, and assess the effectiveness of different policies. In violation of price taking, a vanishingly small consumer cares about her impact on the market equilibrium to a non-vanishing extent. Specifically, other participants dampen the consumer’s direct effect on the externality, undermining responsible behavior. Dampening implies that even if all consumers value the externality akin to the social planner, they mitigate too little in any equilibrium, and may coordinate on the worst of multiple equilibria. To motivate consumers to lower the externality in a closed economy, a unit tax is superior to a cap-and-trade system, but there are policies that are better than a tax. Furthermore, under trade with a large or very polluting partner, a cap is better than a tax. When there are two products that are perfect substitutes in consumption but generate different externalities, there is always a “selfish equilibrium,” in which the products have the same price and consumers are indifferent between them. Under conditions we identify, the selfish equilibrium is the unique equilibrium. In a selfish equilibrium, a cap and a unit tax on the dirty product achieve the same outcomes. In non-selfish equilibria, a proportional subsidy on the clean product dominates both a unit tax and a cap.