Miljöekonomi Flashcards
MPC
Marginal private cost (MPC) = marginal cost to decision makers
MEC
Marginal external cost (MEC) = costs imposed by decision-makers on the society
MSC
Marginal social cost (MSC) = MPC + MEC (full cost to society)
Externalities - example
Example from chapter 12
The profits from banana production increase by using pesticides.
The pollution effect of the pesticide affects the fishermen’s catch
Assume (for time being) that there are no alternatives to the specific pesticide
Banana production at P = MPC.
The Pareto-efficient level is where P = MSC.
Negative externalities result in overproduction (overuse of pesticides).
The outcome is not Pareto efficient at point A, fishermen could pay plantation owners up to $270 to reduce production by one unit, etc.
Solutions to the inefficient outcome
(Private) bargaining (Coasean bargaining) (after Ronald Coase)
Legally assign property rights to the externality (for example the right
to pollute or the right to clean air)
Private bargaining between the parties involved will result in a
Pareto-efficient allocation regardless of which party has the property
rights if there are no transaction costs (for example costs of acquiring
information, enforcing the contract, or collective action)
Coase: ”questions of equity aside”
Government interventions
Regulations - a cap at the socially optimal amount
Pigouvian tax (subsidy) on agents generating negative (positive)
externalities to correct an inefficient market outcome.
Compensation for affected parties.
Information about the consequences of different output levels
Bargaining may be more effective than government intervention
because private parties have more of the necessary information. In
reality, transaction costs can be a major obstacle.
Bargaining - Example
There is a net social gain that parties could share by reducing
production
Plantation owners’ minimum acceptable offer (minimum
compensation) = lost profits.
Fishermen’s reservation option (maximum compensation) = the sum
of yellow and blue areas.
Pareto-efficient allocation independent of whether the initial rights
were given to the plantations (that is the right to pollute) or to the
fishermen (that has the right to unpolluted water)
How the right is given will dramatically affect the distribution of the
benefits of the bargaining
Actual compensation depends on the relative bargaining power
Practical limits of bargaining
Impediments to collective action – finding a representative and
agreeing on how to split the gains within each party
Missing information – calculating the exact costs imposed on each
fisherman and each plantation’s contribution to pollution.
Enforcement – it may be difficult for a court to determine whether or for
example plantations have complied or not.
Limited funds – for example fishermen may not have enough money
to pay plantations the compensation required.
Regulation - Example
The government caps total banana output at 38,000 tonnes (the
Pareto-efficient amount).
In reality, it may be difficult to determine and enforce the right quota
for each plantation, since they differ in size and output.
Regulation reduces the costs of pollution for the fishermen, but it
would lower the plantations’ profits. They would lose their surplus on
each tonne of bananas between 38,000 and 80,000.
Tax - Example
Government sets a per-unit tax on output, equal to the MEC.
Profit-maximizing producer chooses output where MPC = after-tax
price, which is the socially optimal output.
The tax forces producers to face the full cost of their decisions.
The distributional effects are different from regulation
The costs of pollution for fishermen are reduced by the same amount
The profit of the plantations is lower since they pay taxes and reduced
output
The government receives tax revenue.
Compensation - Example
The government requires plantation owners to pay fishermen
compensation for each tonne produced.
Required compensation is equal to the difference between the MSC
and the MPC (grey area).
Fishermen are fully compensated, and producers choose the socially optimal level of output.
A similar effect on profits compared to a tax, but fishermen are better
off (receive payment instead of the government).
Reasons for external costs and benefits
Incomplete contracts - contracts do not specify all aspects of exchange on all agents in an enforceable way
Missing markets - a market does not exist (e.g., for clean water)
In reality, it is very difficult to use contracts or property rights so that all social costs and benefits are included in the decision-making process
Practical limits of government policies
The government may not know the exact harm to each agent and thus difficult to determine compensation needed to correct for externalities (missing information).
Marginal social costs are difficult to measure.
The government may favor the more powerful group (for example lobbying), in which case it could impose a Pareto-efficient outcome and that is unfair.
Policy considerations and implications - example
The Pareto-efficient level of output was 38,000 tonnes of bananas and
it was assumed that growing bananas inevitably involves Weevokil pollution
Policies for reducing the production of bananas were considered
If there are alternatives to Weevokil, then it is inefficient to restrict output to 38,000 tonnes, because the plantations could choose a different production method and the corresponding profit-maximizing output
The problem was caused by the use of chlordecone, not the production of bananas.
The market failure occurred because the price of chlordecone did not
incorporate the externalities on the fishermen
Regulation or tax on the sale or the use of chlordecone can
motivate plantations to find the best alternative to intensive
chlordecone use.
In theory, if the tax on a unit of chlordecone was equal to its marginal
external cost, then the price of chlordecone for the plantations would be
equal to MSC.
Plantations could then choose the best production method taking
into account the high cost of chlordecone or switching to a different
pesticide.
The profits of the plantations and the pollution costs for the
fishermen would fall (same as the tax on bananas).
Economic growth and natural resource management
Economic growth is a challenge to natural resource management
The Grand Banks cod fishery, in the north of the Atlantic Ocean,
collapsed after having sustained the livelihoods of the US and
Canadian fishing communities for 300 years - ecosystem collapse.
Changes (e.g. overfishing, deforestation) may become self-reinforcing
due to positive feedback processes (that is a process whereby some
initial change sets in motion a process that magnifies the initial
change).
In the Amazon, deforestation has passed a certain level resulting in a
self-sustaining even without further activities by humans (e.g.,
expansion of farming).
Climate change
Capping emissions is not enough (stock of CO2 matters, not only the
flow)
May be irreversible
Requires global cooperation
Conflicts of interest both between and within countries as well as
between generations
Worst-case scenario is catastrophic
Abatement cost curve
Abatement policies can address climate change (that is policies
designed to abate (reduce) pollution and environmental damages).
The amount of reduction in emissions by these policies is referred to
as the quantity of abatement.
Abatement policies include
discovery and adaptation of less polluting technologies choice to consume fewer or less environmentally damaging goods
ban or regulation on the use of environmentally harmful substances or
activities
Note that the economic costs of immediately eliminating all CO
emissions would for sure exceed the environmental benefits.
There is a trade-off between the benefits of producing and consuming
more goods, and the enjoyment of the environment
The abatement cost curve shows the per-unit cost of abating CO
emissions using abatement policies (ranked among the most
cost-effective to the least - the marginal cost curve).
The figure only includes policies that have a cost, but there are
other policies that are win-win (both reduce carbon emissions and
save money - for example, fitting insulation in older houses)
Technology is developing, for example, rapid reductions in costs of
solar power
Least-cost abatement curve
This curve shows all the combinations of environmental quality (E) and cost of abatement when the abatement technologies are adopted in ascending order of cost.
Feasible set
The feasible set shows the trade-off between consumption and environmental quality.
Effect of technological improvement
Technological improvement increases the marginal productivity of
abatement expenditure (MRT of consumption into abatement) and
this results in a steeper feasible frontier
The figure shows the effect of a technological improvement
Technological improvements can enlarge the feasible set by making
abatement more efficiently or reducing the environmental costs of
consumption.
Win-win policies
All of the actions to the left of the vertical axis in Figure include both abatement and private benefits, that is they improve the environment and save money.
Replacement of incandescent bulbs with LEDs
There is not always a trade-off between consumption and environmental quality, for example, fuel-efficient vehicles and insulation in houses
This abatement potential means that part of the feasible frontier has a positive slope.
Value of a statistical life
In cost-benefit analyses resulting in lives saved, a monetary value of
life is needed,
Stated preferences studies have often been used
General comments
Unethical to have a price tag on life
Most decisions in our lives involve accepting or avoiding small risks.
How to set a price?
The value of a statistical life is based on the measurement of the marginal
substitution between money and a small risk reduction.
Willingness to pay to avoid a certain (and immediate) death - give up
almost everything.
Willingness to accept a certain (and immediate) death – no money
(besides bequest, money is of no use) (extra).
Identified versus statistical life
In most cases, the risk is known, but the victims are unidentified.
In general, there is an emotional response to rescuing identified people.
Contingent valuation survey - the value of statistical life
A device (ideally more details) has been invented that can avoid some
car accidents and save your life.
How much are your maximum willingness to pay for the device that would
reduce the risk of dying in a car accident from 1:1 000 000 to 1: 1
100 000?
Problems with risk assessments
Respondents may not understand the concept of risk
Respondents may not comprehend the change in risk
Respondents may lack experience in trading money for risk reduction
Value of a statistical life
In cost-benefit analyses resulting in lives saved, a monetary value of life is needed,
Stated preferences studies have often been used
General comments
Unethical to have a price tag on life
Most decisions in our lives involve accepting or avoiding small risks.
How to set a price?
The value of a statistical life is based on the measurement of the marginal
substitution between money and a small risk reduction.
Willingness to pay to avoid a certain (and immediate) death - give up
almost everything.
Willingness to accept a certain (and immediate) death – no money
(besides bequest, money is of no use) (extra).
A device (ideally more details) has been invented that can avoid some car accidents and save your life.
How much is your maximum willingness to pay for the device that would reduce the risk of dying in a car accident from 1:1 000 000 to 1: 100 000?
