Introduction to environmental economics

 After studying this chapter you should be able to:  Explain the basic functioning of the traditional economic system & its limitations as far as the environment is concerned  Explain

Introduction to Environmental Economics

 After studying this chapter you should be able to:

 Explain the basic functioning of the traditional

economic system & its limitations as far as the

environment is concerned

 Explain the relationships between the economic &

environmental systems

 Explain the laws of thermodynamics & their

implications for the economic-environment system

environmental concerns into economic models

 Explain how intervention can take account of the

negative externalities in production

 Comprises 2 types of resources:

1 Renewable Resources (RR)

2 Non-Renewable Resources (NRR)

• Biological resources that have the capacity for regeneration

• Examples incl forests, animals

• Finite in supply

• 3 sub-classes

• Exhaustible Resources – coal, oil

• Recyclable Resources – tin, copper, gold

• NRR with renewable service flows – land, sea, rivers

Introduction Contd…

the environment

relationship between the economy and the environment

Ecological Economics

and the environment

 NATURAL RESOURCE ECONOMICS only concerned with optimal extraction & therefore depletion of RR & NRR

 ENVIRONMENTAL ECONOMICS concerned with the environment, pollution & ways to minimise the negative impact of economic activity on economy

as social & ethical issues

 To explain the main difference between

Ecological Economics & Natural Resource

Economics:

 Assume we start with a FOREST

 Natural Resource Eco’s looks at the optimal rate of extraction of the trees (the Maximum Sustainable Yield) given a range of

factors (interest rates, stumpage, tree growth rates)

 Ecological Eco’s looks at how this exploitation will affect the

rights of future generations & other forms of life in the

ecosystem, such as birds, insects, wildlife, etc…

 How else does Ecological Eco’s differ from

traditional economics?

• Rational economic behaviour of cost minimisation or profit

maximisation

• Views environmental problems as an externality problem

• Takes social & ethical issues into account

• Views environment as integral part of the economic system

 EVOLUTION

of organisms belonging to the same species

selective replacement of weaker individuals

 SPACESHIP EARTH

are dependent on it for sustenance

Economic-Environment Systems

 What is a system?

and time

 ISOLATED SYSTEM: Neither energy nor matter is exchanged with surrounding environment

 CLOSED SYSTEM: energy is exchanged with surrounding environment, but not matter

 OPEN SYSTEM: both energy & matter is exchanged with surrounding system

TRADITIONAL ECONOMIC SYSTEMS

the market

firmsCan add government as participant

consider the flows of materials & energy

have no place in this system

• Flow of low-entropy energy from the sun

• Organisms use this low-entropy energy & convert it into energy, but

not efficiently

• Get release of high-entropy energy or waste back in the ecosystem

interact & achieve equilibrium

 Get positive and negative feedback

• Positive: response of species in same direction as stimuli

• Negative: response in opposite direction

An Economy-Environment System

environment used as inputs into production, waste

released into environment

environment’s assimilative capacity is exceeded

 Some amount of pollution is OKAY!

such…

Solar Energy

recycling

waste

recycling

Thermodynamics & the Environment

thermodynamics & how it relates to the

First Law of Thermodynamics

 Law of Conservation of Mass & Energy

crosses the boundaries

amount remains constant

 E.g

• Consider burning wood in an insulated room

• As the wood is burnt, the temperature goes up

• The air temperature goes up by the same amount as the

decline in the energy content of the firewood

extraction from the environment

Second Law of Thermodynamics

converted into heat completely

or remains constant

Implications of the Laws…

 First Law:

consumption will eventually return to the environment as waste

Implications of the Laws…

products cannot be fully converted into useful energy

economy

equal the growth rate of resources

Let’s look at this from the other side

Benefit = Marginal Cost, they fail to take account of any external costs or benefits

So what’s next?

entropic: they neither create nor consume matter &

energy, but convert low-entropy energy into high-entropy energy

to increase

We’ve already said some amount of pollution is acceptable,

so how do we determine that amount?

Competitive Markets

ignoring costs to third parties

decisions, we seek to maximise social welfare where

marginal social benefit = marginal social cost

Private & Social Cost

& entrepreneurship

costs

 Hence firm only considers private costs

polluting good because not accounting for social costs

Competitive market inefficiency when

externalities exist

lower price & greater quantity that is socially efficient

production (lowest cost)

squeezed out the industry (no room for firms that do not cost minimise)

(with higher production costs)

 We recognise a need for government intervention

 Efficient outcome is where Ps=Qs (with lower levels of pollution)

to reduce emissions

 Eg

 2 Firms produce lawnmowers

 One is a green firm (accounts for social costs)

 Green mower uses 5L petrol

 Other uses 10L petrol

 You would be willing to pay more for 5l than 10L because you get to keep the monetary benefit

 0 pollution would require 0 use of lawnmowers, not realistic

efficient output level

but costs too high

Achieving Environmental Efficiency

output level

correct market failures related to the government

achieve this goal

IB versus CAC

 IB:

 Allowing for advantages of market system

 Efficiency gains in Short Run & Long Run

 CAC:

 similar to command economic system

 does not encourage technological innovation (IB does)

 eg Catalytic converters which decreases pollution from cars

• can be a barrier to entry

Incentive Based Regulations (IB)

 impose tax on pollutant

 taxes approximate external cost & can achieve efficiency

 better to tax producer (force them to tax external cost into account)

 Firms buying & selling the right to pollute

 there are real-life markets for air pollution rights

 most active market in sulfur emissions

 firms will actively trade is trading is better than any alternative

 Environmentalists can achieve pollution reduction by outbidding

companies & then refusing to sell the permits, forcing companies to decrease pollution

 Move towards sustainable development

 Firms must be held accountable for

pollution due to production