The social cost is the sum of Private costs (internal costs) and External costs of an economic activity. It represents the total cost to society of an activity or decision, accounting for both the costs borne directly by the economic actor conducting the activity and the costs imposed on others who are not compensated through market transactions.
Private costs, also known as internal costs, are those directly paid by the economic actor to produce or obtain a specified amount of a product. These costs are reflected in conventional business accounting and include expenses such as raw materials, labour, energy, and capital. They represent the financial burden that appears on the balance sheet of the organisation conducting the activity.
External costs arise when an activity generates negative impacts on other economic actors or society at large without these costs being reflected in the price of the goods or services supplied. These are negative externalities that represent losses in human wellbeing. Examples include air pollution affecting public health, noise disturbing neighbouring communities, or greenhouse gas emissions contributing to climate change. Because external costs are not captured in market prices, they remain invisible to conventional economic accounting yet represent real costs to society.
Understanding social cost is essential for comprehensive sustainability assessment and informed decision-making. Whilst private costs guide business decisions under current market conditions, social costs reveal the true burden that activities place on society. When social costs exceed private costs by a significant margin, this indicates market failure where prices do not reflect the full consequences of production and consumption.
In Life Cycle Assessment and Cost-Benefit Assessment, calculating social costs enables practitioners to evaluate the full economic implications of product systems and activities. This broader perspective supports policies and strategies aimed at internalising external costs through mechanisms such as taxes, regulations, or emissions trading schemes, thereby aligning private incentives with social welfare.
