Unit 11 – environmental economics

Over the past few decades, we have become increasingly aware of environmental problems facing communities, nations and the world. The environment is a resource system that contributes to human welfare in a variety of ways. The source of the basic means of life support – clean air and clean water – the environment provides the means for growing food, and it is the source of minerals and other raw materials that go into the production of the goods and services that support modern society’s standard of living. The environment can be used for a variety of recreational activities such as hiking, fishing, and observing wildlife. It is also the source of amenities and esthetic pleasure¹.

The environment is the place where we deposit the wastes from the economic activities of production and consumption. It is this latter use and the conversion of natural environments to more intensively managed agricultural ecosystems and to residential and commercial development that give rise to today’s environmental problems. Environment is a scarce resource. This means that it cannot provide all the desired quantities of all its services at the same time. Economics is about how to manage the activities of people and the ways we use the environment to meet our material needs and wants in the face of scarcity².

Environmental economics³ is a subfield of economics concerned with environmental issues, and theoretical or empirical studies of the economic effects of national or local environmental policies around the world. Modern environmental economics addresses many problems ranging from overfishing to fossil fuel depletion⁴ and to parkland conservation. These national and global environmental issues are major challenges in the twenty-first century. Response to these challenges requires understanding the economics of the environment. Policies aimed at environmental protection have economic costs and benefits⁵, and this economic dimension is often crucial in determining which policies we adopt. Particular issues include the costs and benefits of alternative environmental policies to deal with air pollution, water quality, toxic substances, solid wastes and global warming. These policies are often measured – and sometimes rejected – in terms of their economic costs, because pollution control and environmental protection are costly activities.

Benefit-cost analysis and environmental policy

The basic premise underlying benefit-cost analysis is that the purpose of economic activity is to increase the well-being of the individuals who make up the society and that each individual is the best judge of how well off he or she is in a given situation. We should measure the values of what we gain (the benefits) and what we lose (the costs) in terms of the preferences of those who experience these gains and losses. Benefit-cost analysis is a set of analytical tools designed to measure the net contribution of any public policy to the economic well-being of the members of society. This is the underlying principle of the economic approach to environmental policy.

The central concept in economic analysis of the environment is that of externalities, or external costs and benefits⁶. The theory of externalities provides an economic framework for analyzing the costs of environmental damage caused by economic activities or the social benefits created by economic activity that improves. Economic activity is a process of speeding up the throughput of materials from the ecological cycle.

A Circular Flow Model

Points of contact between economic and ecological flows

In addition to the simple processes of extracting resources from the ecosystem and returning wastes to it, economic activities also affect broader natural systems in more subtle and pervasive ways⁷. Figure 1 although still quite simple, provides a broader framework for placing the economic system in its ecological context. As you can see, the ecological system has its own circular flow, determined by physical and biological rather than economic laws. This broader flow has only one net “input” – solar energy – and only one net “output” – waste heat. Everything else must somehow be recycled or contained within the planetary ecosystem. Understanding the relationships between economic systems, natural resources, and the environment begins with defining the different functions natural systems serve – the environment’s source function and the environment’s sink function⁸.

These relationships between human activity and the environment define the points of contact between the inner circle of economic flows and the outer circle of ecological flows. Natural resource and environmental economics analyzes the relationships between the two circular flows: the economic system and the ecosystem.

The economic and ecological approaches

Two different approaches address economic analysis of environmental issues. Specialists apply techniques of standard economic analysis and ecological analysis. The traditional economic approach to analysis of natural resource and waste flows uses the same kind of economic valuation applied to factors of production, goods, and services. Economic techniques can also be used to assess the money value of damages done by pollution and waste disposal. By placing a money value on natural resources and environmental functions, we can include them in the inner, or economic, circular flow. This is the goal of much standard resource and environmental analysis.

Ecological economists have often argued that standard economic pricing and valuation techniques must either be altered to reflect ecosystem realities, or must be supplemented by other forms of analysis focusing on energy flows, the carrying capacity of the environment, and the requirements of ecological balance. An ecological economics approach, by contrast, looks first at the physical requirements for a stable climate. Once the physical requirements for a stable climate are determined, the economic measures necessary to achieve this are analyzed.

The ecological economic approach views the economic system as a whole as a subset of a broader biophysical system. This approach emphasizes the need for economic activity that conforms to physical and biological limits. Environmental economics emphasizes the relationship between economic production and the major natural cycles of the planet (i.e. the economic system and ecosystem). A fundamental principle of ecological economics is that human economic activity must be limited by the environment’s carrying capacity⁹. Carrying capacity is defined as a population level and consumption activities, whether of humans or animals that the available natural resource base can sustain without depletion.

Balancing economic costs and benefits through some form of cost-benefit analysis, often involves a combination of values observable in the market, such as values of land or goods, and estimates of non-market values, such as natural beauty and maintenance of species diversity. Seeking a balance between economic growth and ecosystem health has given rise to the concept of sustainable development¹⁰. Forms of economic development that preserve rather than degrade the environment include renewable energy use, organic and low-input agricultural and resource-conserving technologies. A sustainable global economy also implies limits on population and material consumption.

A simple model of the relationship between population, industrial output, resources, and pollution indicates that unlimited economic growth will lead to exhaustion of resources, rising pollution, and eventual collapse of economic systems and ecosystems. Continuing population and economic growth will exert even greater demands on resources and the environment. The concept of sustainable development attempts to combine economic and environmental goals. In addition, the nature of economic growth itself must adapt to environmental and resource constraints.

Notes:

1. It is the source of amenities and esthetic pleasure 2. …to meet our material needs and wants in the face of scarcity 3. Environmental economics… 4. …ranging from overfishing to fossil fuel depletion… 5. …economic costs and benefits… 6. …externalities, or external costs and benefits 7. …in more subtle and pervasive ways 8. …the environment’s source function and the environment’s sink function 9. …the environment’s carrying capacity 10. …sustainable development

– Она (окружающая среда) – это красоты природы и источник эстетического наслаждения – удовлетворять наши материальные нужды и потребности с учетом ограниченности (дефицита) природных ресурсов – экономика природопользования – начиная от истощения рыбных запасов до истощения минеральных ресурсов – экономические издержки (затраты) и общий полезный результат – экстерналии или внешние (объективные) затраты и экономический эффект – более тонко и изощренно – функцией окружающей среды является источник жизни и поглощения (переработки продуктов распада) – потенциал окружающей среды – устойчивое развитие