I’d be hesitant to conclude from prices -naturally- skyrocketing that welfare is lower. “Reasoning from a price change” as Scott Sumner would say. If you have a shortage due to supply constraints, and innovation eases the supply constraint and unlocks complementarity value in other products, that’ll be reflected in their prices and does not necessarily mean people are worse off.
I like your positioning of Braess’s paradox as an externality. It’s a special case in that it isn’t the participation in the system that exerts a social cost but the particular pathway of participation that does. I suppose because the traditional economic analysis assumes homogeneity in lots of dimensions of the problem (for the most obvious example, there aren’t multiple pathways to participate in the market, just one—a non-descript exchange at a strike price) that it would be challenging to characterize a multi-path system like this as a typical economic market.
Perhaps as you mention with innovation, we could approach this from one step up from the market at resource-based and production-function-based generation of supply. Although we might say there is one non-descript type of “exchange” that is participating in the market, before you get to that node, there are other nodes you could take, which facilitates modeling this as having multiple pathways. Consider the decision to use greenhouse gas scrubbers in production or not (assume no regulations). For most companies, “not” is the dominant option to maximize profit, which constitutes the vast majority of their utility. For other companies choosing to maximize their own slightly different utility function, using scrubbers is desirable. Then one introduces a new scrubber that is way cheaper and becomes adopted by some marginal firms (reducing the total externality, reduction on net) who then can increase their production to get their total emissions back to the previous aggregate level they were comfortable with but at their lower emission/unit level (increasing the total externality, no change on net), becomes adopted by prior “green” firms (reducing the total externality, reduction on net) who can increase their production to profit a bit more while keeping some of the environmental gain intact (increasing the total externality, slight reduction on net), and prompts entry by marginal would-be firms (increasing the total externality, the net depends on the sizes of all the margins). What if the short-term net effect is helpful, but if down the line this leads to the old scrubber producer exiting, demand overwhelming the new scrubber producer, price increases leading to insufficient adoption or even to disadoption, and ultimately the total externality sneaking back up and over where it was originally?
As with most paradoxes, they are largely a function of an ill-defined problem, an analysis at a “different level” than needed, or neglecting relevant complexities. In this case, it’s specifically failure to consider all the margins.
Another example could be in the supply chain itself, which is great for the overloading aspect. Your firm promises 30 day delivery because your models say your company could do 28 days at the current level of demand. You innovate that down to 25 days and start promising 28 day delivery (you even net a day of safety, right?!), but new demand overloads your node (or even one specific upstream node that is now part of your innovative process), and you can’t even deliver in 30 days now (maybe this is really, thanks Wikipedia for the name to it, Jevons paradox, and perhaps so is my emissions example, but I think either way the point is that there is a “missing margin” that planners didn’t see, leading to overload from an “improvement”).
I’d be hesitant to conclude from prices -naturally- skyrocketing that welfare is lower. “Reasoning from a price change” as Scott Sumner would say. If you have a shortage due to supply constraints, and innovation eases the supply constraint and unlocks complementarity value in other products, that’ll be reflected in their prices and does not necessarily mean people are worse off.
I like your positioning of Braess’s paradox as an externality. It’s a special case in that it isn’t the participation in the system that exerts a social cost but the particular pathway of participation that does. I suppose because the traditional economic analysis assumes homogeneity in lots of dimensions of the problem (for the most obvious example, there aren’t multiple pathways to participate in the market, just one—a non-descript exchange at a strike price) that it would be challenging to characterize a multi-path system like this as a typical economic market.
Perhaps as you mention with innovation, we could approach this from one step up from the market at resource-based and production-function-based generation of supply. Although we might say there is one non-descript type of “exchange” that is participating in the market, before you get to that node, there are other nodes you could take, which facilitates modeling this as having multiple pathways. Consider the decision to use greenhouse gas scrubbers in production or not (assume no regulations). For most companies, “not” is the dominant option to maximize profit, which constitutes the vast majority of their utility. For other companies choosing to maximize their own slightly different utility function, using scrubbers is desirable. Then one introduces a new scrubber that is way cheaper and becomes adopted by some marginal firms (reducing the total externality, reduction on net) who then can increase their production to get their total emissions back to the previous aggregate level they were comfortable with but at their lower emission/unit level (increasing the total externality, no change on net), becomes adopted by prior “green” firms (reducing the total externality, reduction on net) who can increase their production to profit a bit more while keeping some of the environmental gain intact (increasing the total externality, slight reduction on net), and prompts entry by marginal would-be firms (increasing the total externality, the net depends on the sizes of all the margins). What if the short-term net effect is helpful, but if down the line this leads to the old scrubber producer exiting, demand overwhelming the new scrubber producer, price increases leading to insufficient adoption or even to disadoption, and ultimately the total externality sneaking back up and over where it was originally?
As with most paradoxes, they are largely a function of an ill-defined problem, an analysis at a “different level” than needed, or neglecting relevant complexities. In this case, it’s specifically failure to consider all the margins.
Another example could be in the supply chain itself, which is great for the overloading aspect. Your firm promises 30 day delivery because your models say your company could do 28 days at the current level of demand. You innovate that down to 25 days and start promising 28 day delivery (you even net a day of safety, right?!), but new demand overloads your node (or even one specific upstream node that is now part of your innovative process), and you can’t even deliver in 30 days now (maybe this is really, thanks Wikipedia for the name to it, Jevons paradox, and perhaps so is my emissions example, but I think either way the point is that there is a “missing margin” that planners didn’t see, leading to overload from an “improvement”).