Chapter 3

Question 1

What are the 2 fundamental ways that economy rely on ego logical systems?

Answer 1

1. Human production and consumption rely on the environment as a source of raw materials.
2. It exploits the environment as a sink for waste materials.

Question 2

What is natural capital?

Answer 2

Sources and sinks form natural capital.

It is the input that nature proudest for our production and consumption processes.

Question 3

How do we define pollution?

Answer 3

A negative externality: a cost of transaction not borne by the buyer or seller.

Pollution is an externality because it imposes costs on people who are external to the producer and consumer of the polluting product.

Question 4

Why do market systems generate pollution from an economist’s POV?

Answer 4

Many natural inputs into the production of goods and services are underpriced.

No one owns the resource, so in the absence of governmental regulation of strict legal protection for pollution victims, business will use them freely negel ting the external costs imposed on others.

Question 5

What is internalizing an externality?

Answer 5

Forcing the source of the externality to bear the external costs imposed on others.

Example, providing compensation to victims.

Question 6

What happens to a supply and demand curve when the externalities are internalized?

Answer 6

If the pollution costs are internalized, the supply curve shifts upwards.

Leads to an increase in price P.The market price will be higher and the quantity sold will be lower.

Question 7

What is the trade off principle of a supply and demand curve that accounts for the externality?

Answer 7

It is difficult to reduce pollution without also raising the price of polluting products and reducing the quantity supplied to the market.

Question 8

What is the open access problem?

Answer 8

If people weigh private benefits against private costs - as opposed to private plus external or social costs - they will over exploit the common resource when given open access.

Arises when natural capital is commonly held.

There is a connection between common ownership of resources and their ultimate exhaustion.

Question 9

What are the 2 reasons that free-market systems generate too much pollution?

Answer 9

1. Open-access problem.
2. Public goods problem.

Question 10

Explain the issues with the fisheries and it being an open access resource.

Answer 10

1. The open access resource has decline the fish population - the resource is being overfished (externality).
2. Boats continue to go out event when the total catch, and total revenue in the industry declines. Fish continues to be overfished.

Private boats will go out as long as the average revenue covers costs, even though the total profits earned in the industry are declining.

Question 11

What is resource rents?

Answer 11

When natural capital is used efficiently, long-run economic profits will be earned by those who retain access to the resource.

Long-term profits that are generated by restricted access to natural capital.

Government-imposed restraints on access to common property will generate resource rent.

Question 12

What is the efficient level of the fishing industry?

Answer 12

Marginal revenue equals marginal costs.

A substantial resource rent is earned in this case.

Question 13

How can we collect resource rent?

Answer 13

Can be collected through taxes or fees and be used to reimburse those who lose out in the process of regulating the commons and reducing access.

Question 14

What is a public good?

Answer 14

Goods enjoyed in common and non-excludable.

Question 15

What are the 2 problems associate with the provision of public good for the free market?

Answer 15

1. Transaction costs.
2. Free riding.

Question 16

What are transaction costs?

Answer 16

The costs of undertaking an action.

Question 17

What will happen if government intervention in the form of pollution regulation does not take place?

Answer 17

The tragedy of the commons will continue and the public good of a safe environment will be under supplied.

Question 18

Describe the demand curve for a private vs public good.

Answer 18

Private: the demande curve is the horizontal sum of the individuals demand curves.

Public: the total WTP (their demand) for any given amount of preservation is the vertical sum of the individuals demand curves.
- all consumers face a given public quantity and must decide how much to pay - they must share whatever is purchased.

Question 19

Why is the true total demand for public goods rarely expressed in the market?

Answer 19

1. A third party must organize the collection of funds to pay for the public good or to initiate a lawsuit against polluters.
   - large costs associated to this
   - the need to support the environmental cleanup efforts raise transaction costs for public goods.
2. Individuals have an incense to free ride on the efforts of others.
   - people may be unwilling to reveal their true preferences to a private agency pr government collecting revenues to pay for the public good.

Question 20

What are the 3 levels of cost-savings associated with a sustainable business movement?

Answer 20

1. Risk reduction: firms that proactively reduce pollution reduce risk - risk of regulations, legal liability, and consumer backlash.
2. Resource savings: firms that use water, energy, and raw materials more efficiently also reduce emissions and will often save money.
3. Culture of innovation: firms that see it as a part of their business to profitably solve their environmental problems create cultures that breed innovation.

Question 21

How does the open access problem explain why individuals knowingly damage a resource they depend on?

Answer 21

The benefits of exploitation are private, while the costs are largely externalized.

Question 22

How does the public goods problems explain why people can’t get together and “buy” a clean environment (by suing polluters or purchasing wilderness)?

Answer 22

Transaction costs are high, and people tend to free ride on the efforts of others.

Question 23

What are the three levels of cost savings?

Answer 23

1. Risk reduction: firms that pro-actively reduce pollution risk of regulation, legal liability, and consumer backlash.
2. Resource savings: firms that use water, energy and raw material more efficiently also reduce emissions and will often save money.
3. Culture of innovation: firms that see it as a part of their business profitability to solve their environmental problems - this creates cultures that breed innovation.

Question 24

What are challenges for the sustainable business solution?

Answer 24

Majority of firms are not focused on sustainable innovation. They can and do still raise profits by over exploiting the commons and externalizing costs.

This leads back to government policy to internalize externalities.