How do negative externalities contribute to market failure in the context of environmental impact?

Negative externalities occur when a company or individual produces a good or service that has harmful effects on others who are not involved in the transaction. For example, if a factory pollutes the air while making products, nearby residents suffer from poor air quality, even though they are not part of the factory's business. This leads to market failure because the true cost of production is not reflected in the price of the goods; the factory does not pay for the damage it causes to the environment or people's health. As a result, the market produces more of the harmful goods than is socially optimal, leading to overproduction and environmental degradation. To fix this, governments might step in with regulations or taxes to make sure that the costs of pollution are considered in the pricing of products.