ECC 0

Basic Concepts of Environmental Economics

Definition of Terms

• Sources: Origins of raw materials.

• Sinks: Receivers of pollutants.

• Emissions: Flow of pollutants into the environment over a period.

• Immissions: Stock of pollutants in the environment at a specific time.

• Kuznets Curve: An inverted U-shaped curve showing environmental degradation increasing with economic development up to a point, then improving.

• Sustainability: The ability to maintain environmental quality at a certain level.

Environmental Terms

• Closest Version: Condition of air, water, animals, and plants.

• Restricted Version: Narrowest version plus geographical location.

• Broad Version: Limited version plus sociological dimension.

• Environmental functions in the restricted version: Raw material supplier, location, pollutant receiver, supplier of public goods, competition.

Emissions and Immissions

• Emission: Pollutant flow into the environment in a given period.

• Immission: Pollutant stock in certain parts of the environment at a specific time.

• Relationship: $Immissions \le \sum Emissions$. The stock of pollutants is less than or equal to the sum of emissions.

• Market Failure in the Environmental Sector:

  • Static View: Public goods lead to free-rider behavior and external effects.

  • Dynamic View: Sustainability concerns.

Public Goods

Goods are categorized by excludability and rivalry. Public goods are nonexcludable and nonrival.

Samuelson Condition

• Optimum: The sum of marginal rates of substitution (MRS) between private and public goods equals the marginal rate of transformation (MRT) in production ($\sum MRS = MRT$).

• Simplification: If the private good is on a perfect market, it simplifies to the sum of marginal willingness to pay (MWTP) for the public good equaling its marginal cost (MC): $\sum MWTP = MC$ .

Strategic Behavior in Public Goods Provision

• Provision of public goods often faces a Prisoner's Dilemma, where individual self-interest leads to suboptimal collective outcomes.

External Effects

• Definition: Uncompensated impact of economic action on an uninvolved third-party's welfare.

• Internalization: Changing incentives so actors minimize external effects.

Types of External Effects

• Unilateral, Bilateral, Multilateral.

• Between consumers, producers, or both.

• Positive, Negative.

• Example: Stray cattle from a breeder reducing a farmer's harvest (negative external effect).

Negative External Effects

Socially optimal quantity ($X^{*<em>}$) is less than the market quantity ($X^{</em>}$) due to divergence between private and social marginal costs.

Market Failure

Market failures occur due to non-rivalry in consumption, non-excludability from consumption, external effects, and insufficient sovereignty of demand.

Assessment of Intervention Instruments

• Economic criteria: Pareto efficiency, cost efficiency, dynamic incentive effects, information requirements.

• Ecological criteria: Accuracy.

• Political criteria: Political and social enforceability.

Internalization Strategies

• Government: Requirements, bans, Pigou taxes, subsidies, certificates.

• Private: Negotiations (Coase theorem), liability law, morality.

Internalization Strategies Illustrated

A Pigouvian tax ($t$) shifts private marginal costs to align with social marginal costs, reducing output from $X^{<em>}$ to $X^{*</em>}$. Regulatory vs. incentive policies result in different abatement levels.

Coase Theorem

Negotiation between parties can lead to an efficient outcome regardless of initial property rights allocation; however, transaction costs are a factor.

External Effects - True or False

• An external effect is not fully internalized when marginal abatement costs are zero.

• The individual optimum of the injuring party is not defined by the zero point of the marginal abatement cost curve.

• Efficiency can not only be achieved through a subsidy if minimum marginal damage is greater than maximum marginal willingness to pay.

• Even with externalities, government intervention is generally necessary to achieve a Pareto-optimal allocation.

Coase Theorem Questions

• According to the Coase theorem, the government's task is not limited only to defining property rights; other environmental policy instruments are required.

• According to the Coase theorem, transaction costs do play a role.