Environmental Economics Flashcards
Is the invisible hand enough?
- Market failure - when market allocates resources in a Pareto-inefficient way
- externality effects - an effect of an economic decision that isn’t specified as a benefit or liability in the contract
eg. negative externality - passives smoking
positive externality - getting vaccinated
Marginal private cost (MPC)
marginal cost to decision maker
Marginal external cost (MEC)
costs imposed by decision maker on society
Marginal social cost (MSC)
MPC + MEC
negative external effect when MSC>MPC
in this case market outcome leads to overproduction (market failure)
Possible solutions to market failures
- Coasen bargaining - legally assign property rights
e. g right to pollute, to clean air
issues include transaction costs, enforcement, missing info
- Regulation - ban or cap production
- Compensation - polluter may pay principle
Fair? poor people may or developing countries may pollute more (subsidising clean solutions might be better)
- Pigouvian tax/subsidy
- tax/subsidy on firms generating negative/positive external effects in order to correct an inefficient market outcome
issues include missing info, measure MC, lobbying
Pigouvian tax example
govt puts a per unit tax on output
tax is the difference between MSC and MPC
profit maximising producer chooses output where MPC = after tax price which is the socially optimal output
tax forces producers to face the full cost pf their decision
Are markets good enough?
world commodity prices, inflation adjusted, have not changed much in the long run due growing demand pushing prices up but cheaper extraction technology pushing prices down
NO:
- absence of prices for some natural resources (clean air)
- changes (overfishing, deforestation) may become self-reinforcing due to positive feedback processes
e. g Farming reduces forest area
deforestation reduces rainfall
drought conditions increases fire likelihood
fires reduce forest area and so process continues
Environmental dynamics
measure of sea ice now and in a year:
line of unchanging environment is 45 degree line
- system moves towards an equilibrium
- high stable equilibrium with extensive summer sea ice
- tipping point is unstable equilibrium (middle)
- low stable equilibrium with no summer ice
at high stable equilibrium
lower temps leads to extensive summer ice, so solar radiation is reflected rather than absorbed
a virtuous cycle
at low stable equilibrium
higher temps leads to no summer ice so solar radiation is absorbed rather than reflected
vicious cycle
adding climate change to environmental dynamics curve
EDC shifts down as climate change reduces winter ice
the last tipping point disappears ( tipping point where EDC touches 45 degree line) and environmental collapse to the equilibrium without summer sea ice occurs
for the first time since records began, the Lapter sea has yet to start freezing by late October 2020
Abatement policies
policies designed to reduce environmental damage
- consuming less damaging good e.g cars
- ban harmful substances
Abatement cost curve
shows the per-unit cost of abating greenhouse gas emissions abatement policies, ranked from the most cost-effect to the least - an MC curve
least-cost abatement curve
curve shows all the combinations of environmental quality and cost of abatement, when the abatement technologies are adopted in ascending order of cost
feasible set of abatement curves
shows the trade-off between consumption and environmental quality
ideal policymakers indifference curves: slope = MRS
feasible frontier slope = MRT
MRT = marginal productivity of abatement expenditures
MRS = opportunity cost of abatement expenditure
want MRS = MRT
optimal choice of point on abatement curve depends on
- citizens value for the environment - affects MRS
- cost of abatement - affects MRT
can the optimal abatement level change?
with technological progress:
- can enlarge the feasible set by making abatement more efficient or reducing environmental costs of consumption
- shifts feasible frontier up and indifference curves have higher utility
technological improvement increases the marginal productivity of abatement expenditure making the feasible frontier steeper
solar energy example
subsidies to firms that produce solar panels has helped fund R&D in alternative energy sources
growing demand for solar panels led to a sharp decrease in their price, thanks to learning by doing in the production process
- subsidies by gov
- higher demand
- more firms enter the market
- more competition
- innovation
- decrease in solar panel cost
- cheaper than coal
- attraction for profit investment firms
Win-Win policies
not always a tradeoff between consumption and environmental quality: some technologies are cost saving : e.g LED lights
Unrealised potential
this abatement potential means that part of the feasible frontier has a positive slope. These unexploited mutual gains suggest more is needed than market incentives
How can we implement the optimal abatement level?
- Price based policies
- uses taxes and subsidies to affect prices
- aim to internalise the external effects of individual choices - Quantity based policies - use bans, caps and regulations
Taxing consumers
- taxes can create lifestyle changes (e.g tax on air travel)
new fuel tax will rotate budget constraint down and make the feasible frontier between air travel per year and free time steeper
reduces the feasible set - income effect
and encourages greater consumption of free time - substitution effect
e.g banning harmful substances
- ozone levels stabilised in the 1990s after Montreal Protocol
- innovators pushing for bans to get innovation rents
- regulation can spur innovation
Cap and Trade policy
cap and trade creates a market for emissions:
- gov sets a limit on pollution and creates enough permits to meet this cap
- gov allows permits (e.g via auction) and firms buy/sell permits amongst themselves
- cap and trade is a combined quantity-and-price-based policy
firms that have higher marginal private abatement costs (MPAC) will end up abating less after trading of permits
Cap and trade pros
- success: SO2 cap and trade scheme in the US in the 1990s to reduce acid rain
- advantage: more flexible (cap, allocation, trade) and popular than tax on fossil fuels
- expectations matter: firms may start cutting emissions if they expect lower caps in future
Cap and trade cons
- policymakers need to set the correct total level of abatement which isn’t easy to determine
- putting a price on pollution may send the wrong signal to firms - e.g making pollution profitable if price is too low
(a price floor on permits can mitigate the issue) - determining marginal private costs of abatement
e.g EU emissions trading scheme
- set too large a cap
the price fell dramatically after the 2008 crisis, providing little incentive to abate
cap since been lowered and prices have increased
Value of abatement - measuring environmental costs and benefits
- Contingent valuation
- use surveys to asses the value of nonmarket resources
- a stated preference approach assumes respondents indicate their true preferences
- Hedonic pricing
- uses prices of market goods to infer the economic value of unpriced attributes
- a revealed preference approach uses behaviour as an indication of preferences
- issue with using willingness to pay is that the rich can pay more, so have a higher WTP
policies improving environmental conditions affecting the poor valued less than policies affecting the rich
an alternative could be that a safe environment as a merit good - available to everybody, as primary education
why is abatement so difficult?
- gaps in scientific understanding
- conflicts of interest - winners and losers , lobbying
- need of international agreements
- future generations don’t vote
