Spillover Effect

Publication Date :

24 May, 2025

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Table of Contents

Spillover Effect Meaning

The spillover effect in the context of economics refers to economic events occurring as a result of another event unrelated to the context. The modern world is interdependent on various aspects, and one country's actions could positively and negatively impact another country.

They are otherwise termed "externalities and often refer to the costs or benefits involved between the parties (without compensation). It is a result of economic transactions and could take many forms, such as inducing economic growth within a short period and the monetary benefits arising from it. It could eventually result in the welfare of society.

Key Takeaways

The spillover effect in the context of economics refers to economic events occurring as a result of another event unrelated to the context.
The modern world is interdependent in various aspects, and one country's actions could positively or negatively impact another country.
It is termed a spillover because countries are connected through trade and other geopolitical factors, etc., and one action on one can easily affect the other.
Negative and positive effects can happen at the same time.
The effects can be generally segregated into social interaction spillover effects, externalities, specific equilibrium effects, and general equilibrium effects.

Spillover Effect Explained

Spillover is defined as the impact of an intervention on corresponding behaviors not targeted by the intervention. It is termed a spillover because countries are connected through trade and other geopolitical factors, etc., and one action on one can easily affect the other. For instance, a political decision to stop corruption in the U.S. will affect the country's stock markets. When people withdraw their funds from investments, it may trigger a chain of events worldwide where all the other stock markets also face a downturn. It may not always be a cross-border issue; sometimes, an action can also trigger effects within the borders. In addition to that, the impact could be both positive and negative.

Negative and positive effects can happen at the same time. For instance, banning plastics can have negative effects on the plastic industry but have a positive effect on the surrounding environment, and at the same time, it can encourage recycling. Recycling can be exploited further to find economic opportunities. There is an indicator that tracks positive and negative environmental-social spillovers that are embodied in trade, financial, and economic spillovers. They are also concerned with spillover effects regarding security. The spillover index for each UN member state looks into these factors.

Types

The effects can be generally segregated into the following:

Social interaction spillover effect: This effect refers to a person or group benefiting indirectly from an event. This could be a result of interaction with a target event.
Externalities: They are concerned with external or third parties who did not deliberately choose to be part of the event or the benefits or costs.
Specific equilibrium effect: They stem from iterations that affect social norms or behaviors within a specific context. This could be a geographic, economic, or political event.
General equilibrium effect: This type of effect stems from events that affect equilibrium prices. This may be due to shifts in supply and demand for the products.

Examples

Check out the following examples for a better idea:

Example #1

Foreign direct investments(FDIs) are cross-border investments. They are a key element in economic integration internationally as they create long-lasting links between economies. While FDI in a company can boost its business and growth prospects, there is an unexpected spillover effect. It also promotes growth in that country, apart from the company's investment. When FDI is done in a company, other domestic firms already competing with this firm will have to innovate ways to withstand the newly strengthened competition. To make that happen, these firms either design new products or employ new marketing strategies to boost their earnings. They will work on research and development, and when they grow, technological advancements also happen, which otherwise may not happen.

Example #2

Another example of a positive spillover effect is the implementation of fecal sludge management in Dumaguete City, Philippines. Sludge management is used to move fecal waste from residential settings, enhance wastewater systems, and lessen the spread of diseases and organic matter from the waste. The direct benefits of the program include cost savings in collecting, treating, and disposing of fecal sludge. The shorter distances helped save transportation costs, resulting in high efficiency. Fewer trucks and human resources were needed, making management easier, apart from consuming less fuel, consumables, and carbon footprints. The effects of the spillover, the efficient systems improved property values and tax revenues (through tourism and livelihood opportunities). And most importantly, people's health improved, contributing to overall welfare.

Positive Spillover Effect vs. Negative Spillover Effect

Here are the key differences between the three:

Key points	Positive Spillover effect	Negative Spillover effect
1. Concept	Positive spillover is an effect that is positive and arises as a result of intervening events that have happened.	Negative spillovers, on the other hand, are effects that are not positive as a result of intervening events that have happened.
2. Repetition	Positive spillovers are highly likely to have consistent positive repetition or engagement of such events.	Negative spillover results in events that result in decreased chances of adoption or engagement in another event.
3. Example	A positive event could be a trade agreement between two countries; this could increase revenue for the countries, provide employment opportunities, improve the metrics of development, etc.	A negative event could be another trade agreement where trade routes are agreed to be operational between two countries. However, the routes have been later transferred into industrial hubs, where, despite the heavy activity, the place has transformed into a health hazard zone, polluting natural resources and affecting people's health. They turned out to be negative when the positives outweighed the negatives.