Thursday, August 21, 2008

How Can Economics Help the Environment

Economics is concerned with the optimal distribution of scarce resources. Since the environment is by definition a scarce resources, in theory, economics should be able to play an important role in protecting the environment and overcoming the market failure that is often the cause of environmental problems.

The difficulty is in incorporating environmental values into traditional economic models. Before concepts of global warming, species extinction and pollution were common, it was generally assumed that increasing economic welfare meant increasing economic output. Economists only disagreed about the best way to increase growth. Those on the 'left' would argue for government intervention, those on the 'right' for free markets. However, both shared an aspiration to produce and consume more. The main economic models are still based on this assumption.

The environment complicates economic models because it brings into the equation externalities and the potential drawbacks of higher consumption. In fact the negative externalities of growth may be so high, some may argue economic growth could decrease social efficiency.

How Economics Can Help The Environment.

Evaluate Social Cost.

If we can make people pay the social cost of production and consumption, we can achieve socially efficient levels of output and pollution. If people just pay the private cost of driving, there will be too much driving and too much pollution. If people are forced to pay all the social costs of driving, they have incentives to find more environmentally friendly methods of transport.

Equate Environmentalism to Economic Welfare.

The problem is that people equate environmentalism to making sacrifices. - "Yes, we would like to go green, but, we just can't afford to." This has been a frequent refrain of George Bush in explaining why America (the richest country in the world) can't afford to reduce carbon emissions. However, this is the wrong attitude. Environmentalism should be promoted as a way to improve our long term economic welfare. If depletion of the environment causes problems such as: loss of wildlife, water shortages, freak weather, then the economic cost is very high. By making small sacrifices now, we can improve our future economic welfare significantly.

Discounted Future Costs and Benefits.

Environmental costs are often in the future. But, the taxes we need to pay are now. In the political system, it is difficult to justify costs now (e.g. higher petrol tax) for future benefits.
  • Rather than taking a static approach to economic welfare, economics can give a greater weighting to future consequences. This will help justify painful decisions now.
You can't leave it to individual altruism.

Often green groups say we need to encourage people to change their lifestyle. A minority (usually a relatively well off minority) may change their lifestyle e.g. buy recycled paper, cycle to work, but most people don't. It is the traditional tragedy of the commons, - if we reduce our consumption, it doesn't make any difference if everybody else keeps consuming. Economic welfare is too important to be left to individual choices.

Separating myth and Fact

The environment creates an emotive appeal. It is often assumed some behaviour must be 'good' for the environment and some behaviour 'bad'. But, these assumptions are often false. Good intentions is not enough. An economist never takes anything for granted.

e.g Airmiles and environmental cost

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