Externalities, pigouvian corrections, and risk attitudes

We examine the influence of risk attitudes on the provision of an externality and on the proper size of Pigouvian correction when the externality is a random variable whose distribution is affected by an observable externality-generating activity. An intervening technology relates changes in this observable activity to the probability distribution of the relevant externality. Unlike the now-standard result in the theory of the firm involving the influence of risk attitudes on output levels, we cannot conclude that increases in risk aversion will lead necessarily to a reduction in the level of the externality. Our results are applied to a wide range of market failures.