environmental economics lecture 2 hendrik wolff hgwolff@u.washington.edu

Environmental EconomicsLecture 2

Hendrik Wolff

hgwolff@u.washington.edu

Should I eat fish? (Snickers)

Let’s eat Fish (Snickers)

• Rules: – Each harvested fish is potentially one

‘participation point’ towards final grade– No Communication– No winks or nods– No violence– 10 Second to harvest the ocean – What ever is left on the table after 10 seconds, I

will double in second round of fishing.

Introduction

• What is Environmental Econ (EE)? • Def. Kolstad, Chapter. 1:

– EE is concerned with • the impact of the economy on the environment• the significance of the environment to the economy• The appropriate way of regulating the economic

activity so that balance is achieved among environmental, economic and other social goals.

Def. of EE (continued)• “Economics not about profit max. or ‘capitalism’, but

‘how to make best of things’!

• ‘Things’ includes – Environment (Air, Water, landscape, forests) as well as – ‘capital’– ‘human capital’ – ‘time’– ‘music in the pedestrian zone’

• Max Welfare s.t. constraints. (virtually all econ models have this set-up)

Def. EE (cont.)EE Problem? Environment Econ

No Air Scarce ?

Def. EE (cont.)EE Problem? Environment Econ

No Air Scarce ?

Yes Clean Air Scarce! Clean Air has $ value

Def. EE (cont.)EE Problem? Environment Econ

No Air Scarce ?

Yes Clean Air Scarce! Clean Air has $ valueYes Scenic Rhine

Valley or a DomScarce value of Cologne

Def. EE “Externality”

• Definition of non-pecuniary externality:– Action by one agent effect utility or production

function of another agent without that others agent appropriate compensation

– If u2’ (u1) < 0 negative externality (smoker)

– If u2’ (u1) > 0 positive externality (beekeeper)

Def. EE “Externality”

• Definition of non-pecuniary externality:– Action by one agent effect utility or production

function of another agent without that others agent appropriate compensation

– If u2’ (u1) < 0 negative externality (smoker)

– If u2’ (u1) > 0 positive externality (beekeeper)

• EE not concerned with pecuniary externality

Difference between EE and Resource Econ?

Difference between EE and Resource Econ?

• M = Material• P = Producer• C = Consumer• R = Residual (not pollution!)• d = discharge • r = recycling

Fundamental Material Balance Equations

• (Rdi ) = M

• First (FMBE) and Second Law (Entropy increases) of Thermodynamics govern the closed system– See Nick Hanley et al. Chapter 1 for discussion on ‘limits of growth’

• 4 Approaches to manage Environment• M = (Rd

i ) = G + RP - (Rri )

– Traditional Approach: (Rdi )

– Moral Approach / Zero Population Growth: G– Technology Innovation: RP

– Recycling (Rri )

Fundamental Material Balance Equations

• (Rdi ) = M

• First (FMBE) and Second Law (Entropy increases) of Thermodynamics govern the closed system– See Nick Hanley et al. Chapter 1 for discussion on ‘limits of growth’

• 4 Approaches to manage EnvironmentM = (Rd

i ) = G + RP - (Rri )

– Traditional Approach: (Rdi )

– Moral Approach / Zero Population Growth: G– Technology Innovation: RP

– Recycling (Rri )

Definitions

• 4 Categorisations of Types of Pollutants

Categorization Dimension Same Pollutant?

Global vs. Local Space No

Definitions

• 4 Categorisations of Types of Pollutants

Categorization Dimension Same Pollutant?

Global vs. Local Space No

Point source vs. nonpoint source Space Yes

Definitions

• 4 Categorisations of Types of Pollutants

Categorization Dimension Same Pollutant?

Global vs. Local Space No

Point source vs. nonpoint source Space Yes

Cumulative vs. noncumulative Time No

Definitions

• 4 Categorisations of Types of Pollutants

Categorization Dimension Same Pollutant?

Global vs. Local Space No

Point source vs. nonpoint source Space Yes

Cumulative vs. noncumulative Time No

Continuous vs. Sporadic Time Yes

Definitions

• 4 Categorisations of Types of PollutantsCategorization Dimension Same

Pollutant?Free Riding on...

Global vs. Local Space No State, country

Point source vs. nonpoint source

Space Yes Neighbor, community, society

Cumulative vs. noncumulative

Time No Future generation

Continuous vs. Sporadic Time Yes Limited liability

Chapter 3 of Kolstad

Social Choice: How Much Environmental Protection? • There are two basic questions in Environmental

Policy (a) What is the right Balance between Environmental Protection and Environmental Use?(b) Given we determined optimal level of Environmental Protection of question (a): how do we achieve this level?

• Chapter 3 concerned with question (a) • Social Choice: What should be the thresholds? More

generally, where should we end up on PPC?

Figure: Where should we end up on Production Possibility Frontier (PPC) in GDP – E-Quality space

Individual Preferences Regarding Environmental Protection

• Biocentrism

• Anthropocentrism

Individual Preferences Regarding Environmental Protection

• Biocentrism- Pure Biocentrist has Utility function that does NOT allow to substitute x for existing e

• Anthropocentrism- Pure Anthropocentrist has Utility function that does NOT allow to substitute e for potential x

Individual Preferences Regarding Environmental Protection

• Biocentrism- Pure Biocentrist has Utility function that does NOT allow to substitute x for existing e- Values ‘intrinsic’ value of nature• Anthropocentrism- Pure Anthropocentrist has Utility function that

does NOT allow to substitute e for potential x- Values ‘instrumental’ value of nature

Sustainability

• Strict/Strong Def.: Mj = ∑Rij

d for all elements of j • Following this FMBE short term has the

advantage: – guarantees that future generation enjoys same

environmental amenities & resources as we have today

– no extinction of species– little extraction of oil

Sustainability

• Strict/Strong Def.: Mj = ∑Rij

d for all elements of j • Following this FMBE short term has the

advantage: – guarantees that future generation enjoys same

environmental amenities & resources as we have today

– no extinction of species– little extraction of oil

Solow / Weak Sustainability

• Definition by Brundtland Commission 1987: • “Development that meets the needs of present

generation without compromising the ability of future generations to meet their own needs”

• Figure of Solow model using PPC

Solow / Weak Sustainability

– Allows for Substitutions between Capital Types• Material/Infrastructure Capital• Human Capital• Natural Capital

– Non-renewable resources are allowed to become depleted if sufficient HC & RD develops such that future generation can make use of renewable resources.

Quotes from Solow Article! “UNESCO Def. of Sustainability ‘sounds good’ but is impractical and ‘fundamentally wrong’

“We do not owe the future any particular ‘thing’”, but well being.

“I doubt that I would feel myself better off if I had found the world exactly as the Iroquois left it.”

Instead what we should do:Invest the harvest of non-renewables in education, infrastructure

Read Solow Article! “UNESCO Def. of Sustainability ‘sounds good’ but is impractical and ‘fundamentally wrong’

“We do not owe the future any particular ‘thing’”, but well being.

“I doubt that I would feel myself better off if I had found the world exactly as the Iroquois left it.”

Instead what we should do:Invest the harvest of non-renewables in education, infrastructure

How to implement Solow Sustainability Growth?

• Government serves as trustee (representative of future interests) – Pollution Taxes, Subsidies for R&D etc.

• Hartwick Rule– Norway versus UK in using profits from North Sea Oil Field

• Green National Accounting

• We have to solve the “Sustainability Paradox”: – What weights more ?

• Concern about future vs. concern about present poor? • If concerned about current poor, then we should consume (pollute) more

today (instead of investing more today)

Social Choice from Individual Values

Three Social Choice Mechanisms

• Pareto Criterion

• Compensation Principle (Kaldor Hicks)

• Voting

Social Welfare Functions

Benthamite

Rawlsian

Egalitarian

i 1 2 3 4 SWFB SWFE SWFR

10 10 10 10

1 10 10 19

10 10 10 1

Arrows Impossibility Theorem

6 Axiom: Completeness UnanomityNondictatorshipUniversality TransivityIndependence of Irrelevant Alternatives

Arrows Impossibility Theorem: There is no rule satisfying the 6 Axioms for converting individual preferences into a social preference ordering

This is troubling: No “optimal” SWF can be constructed. No nice neat theory of social decision making, yet decisions must be made.