Economics 350
Environmental Economics
EPA
Water pollution
Abatement costs
Air pollution
Solid municipal waste
Hazardous wastes
Global warming
Endangered species
Optimal pollution
Cost-benefit analysis
Tradable discharge permits
Command and control
Emission taxes
Why do people behave in ways that
harm the environment?


Moral Approach
Economic Approach
Appeals to
moral behavior
Recognizes that people
respond to incentives
Households: “give a hoot,
don’t pollute”
Firms: emission standards


Households: “pay as you throw”
garbage systems
Firms: CO2 taxes and tradable
SO2 permits
Economic Way of Thinking





Rationality
Scarcity
Marginal analysis
Equilibrium
Positive vs. normative analysis
Environmental Policy

Objectives
 Environmental quality
 Sustainable development
 Biodiversity

Types of Policies
 Command and Control
 Market Approaches

Effectiveness
 Cost/Benefit Analysis
Environmental Policy

Politics
 Special interests
 Fairness issues

Outlook
 Pessimists
 Thomas Malthus
Bootleggers & Baptists ?
Malthusian Model
Population
Food production
Thomas Malthus
time
Environmental Policy

Politics
 Special interests
 Fairness issues

Outlook
 Pessimists
Neo-Malthusians
“Limits to Growth”
 Optimists
“cornucopians”
Technology and markets
Julian Simon
Economy and Environment
Nature
resources
Natural Resource Economics
Economy
residuals
Environmental Economics
Economy and Environment: PPC
Production Possibilities Curve
Environmental
Quality
B
ΔEQ


A
PPC
PPC shows all combinations
of two goods that can be
produced from given
resources and technology
Illustrates tradeoff
between the two goods
Market Goods
ΔG
Note: Environmental degradation may shift PPC inward over time.
Assume a concave production possibility curve. Suppose that society
decides to increase the production of market goods by 10,000 units,
and that as a result environmental quality falls by 10 units. If a
further increase of 10,000 units of market goods is sought, we can
expect that environmental quality will:
fall by 10 units.
fall by less than 10 units.
fall by more than 10 units.
increase by less than 10 units.
d)
a)
0%
1
2
3
4
5
0%
0%
0%
d)
c)
c)
b)
b)
a)
Fundamental Balance
Recycled: rRp
Raw Materials
M
Residuals: Rp
Discharged: dRp
Producers
Goods: G
Consumers
Residuals: Rc
Discharged: dRc
Recycled: rRc
M = dRp + dRc
M = G + Rp – (rRp + rRc)
Fundamental Balance
M = G + Rp – (rRp + rRc)

3 Ways of Reducing M
 Reduce G
Reduce “consumerism”
Zero population growth?
 Reduce Rp
Reduce residual intensity of production
Sectoral shift
 Increase (rRp + rRc)
Mandatory content requirements
Types of Pollutants











Cumulative
Noncumulative
Local
Regional
Global
Radioactive waste, plastics, many chemicals
Noise
Noise, visual
SO2
CO2, CFCs
Point Source
Non-Point Source
Smoke stacks, waste treatment plants
Agricultural runoff
Stationary Source
Mobile Source
Continuous Emissions
Episodic Emissions
Factories
Cars, planes, boats
Power plants, factories, waste treatment plants
Oil and chemical spills
US Pollution Control Expenditures: 2005
Abatement Expenditures (billions $)
Capital
Operating
Total
% of Total
Air
$3.88
$ 8.63
$12.51
47
Water
$1.35
$ 6.73
$8.08
30
Solid Waste
$0.68
$ 5.32
$6.00
23
Total
$5.91
$20.68
$26.59
U.S. Census Bureau, Pollution Abatement Costs and Expenditures: 2005, MA200(05), U.S. Government
Printing Office, Washington, DC, 2008. Online: http://www.census.gov/prod/2008pubs/ma200-05.pdf
Review of Microeconomic Theory

Rational man model
 An individual seeks to maximize his or her utility.
Taking action until the marginal private cost
of further action equals the marginal private
benefit of that action.
 For social optimality the rule is:
Taking action until the marginal social cost of
further action equals the marginal social
benefit of that action
Market Model
Price
Supply
P*
Demand
Q*


What Q is produced?
What Q should be produced?
quantity
Positive
Normative
Market Model: Demand Side
Price
Buyer’s Marginal Benefit or WTP
$50
Market price
$25
Consumer Surplus
Total Expenditure
1


Demand
5
quantity
Consumer Surplus = ∑(WTP – Price)
Total Expenditure = P*Q
Market Model: Supply Side
Price
Market price
$25
Supply
Producer Surplus
Seller’s Marginal Cost
$10
Total Cost
3

quantity
Producer Surplus = ∑(Price – Marginal Cost)
Market Model
Price
Deadweight Loss
Supply
CS
P*
PS
Demand
Q

Q*
quantity
Free Market Outcome: P*, Q*
 Maximizes social welfare: SW = CS + PS
Market Model


Problem Set 1, #8
Problem Set 1, #9
__________________ Principle
Equimarginal
Total Costs of Production
Output
Plant A
0
20
5
15
1
25
13
22
2
37
30
32
3
50
60
47
4
80
105
77
5
115
155
117
Define: MC =
Plant B Plant C
ΔTC
ΔQ
Suppose you wanted to produce
Q = 11. How would you allocate
output among the three plants
if you wanted to minimize the
costs of production?
Plant A: Q = 4
Plant B: Q = 3
Plant C: Q = 4
MC = $30 in all plants
TC = 80 + 60 + 77 = $217
Allocate output such that MCA = MCB = MCC
Market Failures




Imperfect competition
Imperfect information
Externalities
Public goods/Common Resources
Externalities


Occur when decision makers do not consider
all costs (or benefits) of their actions
Two views
A. C. Pigou
Ronald Coase
Cashmere Externalities
Externalities: Pigou
Social Cost = Private Cost + External Cost
Ssocial
$


Free Market: P1, Q1
Optimal Outcome: P2, Q2
Sprivate
P2
P1
Free market overproduces goods
that generate a negative externality
Marginal external cost
D1
Q2 Q1
cashmere
How can society achieve social optimum?
 Impose tax = marginal external cost
Internalize the externality!
M&M Experiment
Public Goods & Common Resources

Excludability: can you be excluded from consuming the
good?

Rivalry: does my consumption hinder your consumption?
Rival in
consumption
Excludable
Non-Excludable
Private Goods
Common
Resources
Non-rival in
consumption
Artificially Scarce
Goods
Public Goods
Tragedy of the Commons

Commonly-owned resources
tend to be over-exploited
 Conflict between self-interest and the
common good

Examples
Am I in
danger of
being overharvested?
Garrett Hardin
Sample Problems


Problem Set 1: #20 (Externality)
Problem Set 1: #18 (Public Goods)
140
ΣMB
120
$
100
$
80
MBH
60
MBA MB
S
MC
40
20
0
0
200
400
600
800
3)3
SO2/m
SO2 (μg/m
1000
1200
Dirtier air 
Social Optimum occurs where ΣMB = MC
1400
1600
70
dH dA dS
60
50
40
30
20
D = Σd
10
0
0
500
1000
1500
2000
2500
Orange Juice
3000
3500
4000
4500
There are essentially three ways of reducing M (raw material
usage) and, therefore, residuals discharged into the natural
environment. These include all of the following except
reducing G (output of goods)
increasing Rp (production
residuals)
increasing rRp + rRc (recycled
production and consumption
residuals)
all of the above.
d)
a)
0%
1
2
3
4
5
0%
0%
0%
d)
c)
c)
b)
b)
a)
All of the following are examples of point-source pollutants
except one. Which one is not an example of a point-source
pollutant?
municipal waste treatment
plants
agricultural chemical
runoff
electric power plants
Eramet Metals
manufacturing plant
d)
a)
0%
1
2
3
4
5
0%
0%
0%
d)
c)
c)
b)
b)
a)
Public goods are distinguished by two primary
characteristics. These are:
market failure; high prices
government intervention;
high prices
nonrivalry; nonexclusivity
rivalry; exclusivity
d)
a)
0%
1
2
3
4
5
0%
0%
0%
d)
c)
c)
b)
b)
a)
The efficient output will be less than the free market
output when:
Marginal social cost and marginal
private cost are equal
Marginal social cost is greater
than marginal private cost
Marginal social benefit and
marginal private benefit are equal
Marginal social benefit is greater
than marginal private benefit
d)
a)
0%
1
2
3
4
5
0%
0%
0%
d)
c)
c)
b)
b)
a)
The table below shows the marginal benefit from water quality for
the only two citizens of a town. Water quality is a public good. If the
marginal cost of water quality is $75 per quality unit, what is the
efficient quantity of water quality?
Fanting
1
2
3
4
5
6
a)
b)
c)
d)
e)
f)
1
2
3
4
5
Gary
Marginal benefit
of water quality
Water
Quality
Marginal benefit
of water quality
80
1
100
70
2
85
60
3
60
45
4
35
25
5
15
0
6
0
0%
0%
0%
0%
0%
0%
1
2
3
4
5
6