Resource and Environmental Economics

• Economic: externalitites, public goods, monopolies
• Non-economic: illegal trade with restricted goods, undermining of governmental or state controls, ethical concerns

Change incentives such that individuals take account for externalities

• taxation of negative externalities
• subsidization of positive externalities
• Industrial policy (e.g. protection of patents)

Tax that targets the internalization of negative externalities by taxing them.

Supply curve shifts upwards, price for consumers increase, quantity supplied & demanded decreases, deadweight loss occurs

Gross benefit (avoided area) = grey+orange area ABCD
Cost = grey area ABD
Net benefit = gross benefit - cost = orange area BCD
Tax income (transfer, not cost) = yellow area

Possibility for externalities to be internalized without government intervention --> bargaining between generator of externalities and parties affected at no charge --> efficient

Assumptions:

• no transaction costs
• perfect information (about all utility functions)
• perfect communication

• Flow-damage pollution: damage results only from the flow of residuals and immediately drops to zero if emission flows stop (e.g. noise, light)
• Stock-damage pollution: damages only depend on the stock of the pollutant (e.g. heavy metals)
• Stock-flow pollution: mixe of both types (e.g. CO2, waste emissions)

Optimal level of pollution: marginal benefits = marginal cost --> \(\frac{dB(M)}{dM}=\frac{dD(M)}{dM}\)

• Campaign: influence behavior of individuals without creating mandatory rules
• Direct production of environmental quality. nature reserves, waste water treatment, aeration of lakes
• Prevention of pollution: support new technologies, cooperation of universities and private sector
• Command and control insturments: standards on input, technology, pollution etc., making excessive pollution illegal
• Economic incentives: set incentives to enhance individual optimization (tax, subsidies, tradable permits)

Advantages:

• cheaper if monitoring costs are high
• easier if optimal abatement level is zero or close to zero (very toxic substances)

Disadvantages:

• uncertainty about level of intended standards (e.g. efficiency: marginal costs = marginal damage)
• same standards applied everywhere or vary regionally
• regulations create little incentives for innovation ones standard is reached
• if abatement costs vary, command & control instruments do not minimize total social abatement costs

• Pigouvian tax sets pollution price, pollution quantity results from demand curve
  --> pollution targets might be missed, if demand curve is estimated falsly
• Pollution certificates set maximum pollution quantity, price for certificates results from demand curve
  --> pollution targets are met for sure

• Ambient pllution standards: regulate the quantity of matter in the ambient environment
  e.g. parts per million, ozone concentration
• Emission standards: regulate level of permitted emissions
  e.g. rate of emission, total amount of emitted pollutant
• Technology standards: require a certain technology, practice or production process
  e.g. catalytic converters in cars, lead-free gasoline, energy labelling (A,B,C,D,E,F)

• Elimination of technical and economic inefficiency (e.g. energy usage)
• Trigger for technological change
• Positive side-effects (e.g. reduction of GHG reduces environmental warming and as side-effect improving health
• Double dividend: tax revenue of emission tax can be used to reduce marginal tax rate of other taxes --> substitution of taxes; if other tax have a distortion effect, the reduction of this tax will increase efficiency
  this turned out to not work properly

Cobb-douglas output function:

\(Y=K^{\alpha}R^{1-\alpha}\)

\(K\): physical capital
\(R\): non-renewable resource use

Extracting and selling a resource and investing the resulting profit in bonds with interest rate r

\(\pi ^R\): rent, per unit resource profit --> \(\pi ^R=\text{price}-\text{per unit extraction cost}\)

Three possibilities:

• \({\pi _1^R \over \pi_0^R}>1+r\) --> keep resource stock fully in the ground
• \({\pi _1^R \over \pi_0^R}<1+r\) --> sell the whole resource stock
• \({\pi _1^R \over \pi_0^R}=1+r\) --> equilibrium (no arbitrage possible)

\({p_{t+1}^R - c_{t+1}^R \over p_t^R - c_t^R} = 1+r \to r = {{d(p^R - c^R) \over dt} \over p^R - c^R} = {{d\pi ^R \over dt} \over \pi^R}\) --> in order to have profit when leaving the resource in the stock, the rent must increase

Even with indefinitely high price, a positive indefinitely small quantity of resource is demanded --> R is essential

Dots with same color refer to a certain state of resource stock and price

• Demand
• Initial stock
• New discoveries
• Market form
• Backstop technology
• Information
• Interest rate

Price must decrease if stock is increased in order to be able to sell the whole stock as \(t \to \infty\)

new discoveries at t₁ and t₂

• no perfect foresight
• exact time, kind and price of backstop technology unknown
• in reality, extraction costs are variable
• variable in Hotelling rule is the net price of a resource, but net price cannot be measured (only market price)
• data shows that prices of iron, cupper or silver in fact have fallen over time (should raise according to Hotelling) due to decreasing extraction costs

\(F(V)={dV \over dt}=gV(1-{V \over V_{max}})\)

\(V\): stock of fish

\(CCH\): carrying capacity of the habitat

\(MSY\): maximal sustainable yield

Biological equilibrium: \(F(V)=0 \to V=0\ \text{or}\ V=\text{CCH}\)

\(Z=eEV\): amount of harvest
\(e\): harvesting productivity; \(E\): effort

\(Z>MSY\): extermination of the stock (\(Z_1\))
\(Z=MSY\): maximal sustainable yield/harvesting (\(Z_2\))
\(Z< MSY\): two equilibria
\(V_1\): unstable with given \(Z_3\) 
\(V_2\): stable with given \(Z_3\)

\(C=\omega \cdot E = \omega {Z \over eV}\)

\(\omega\): cost per unit of effort

people try to maximize their own utility instead of the social utility –> they ignore the externality they impose on others –> common resources are overexploited

Solution: taxation or assigning of private properties

\(F(V)=g(1-{V \over V_{max}})V-eEV\)

Biological equilibium: natural regeneration = harvesting
\(F(V)=0 \to g(1-{V \over V{max}})=eE\)

Economic equilibrium: zero profit
\(\text{profit} = \text{revenue}-\text{cost} = \pi = PZ-C=PeEV - \omega E = 0 \to V^* = {\omega \over eP}\)

With property rights (PP), equilibrium effort is smaller while equilibrium harvest is larger than under open access (OA)

If prospective gainers could compensate (any) prospective losers and leave no one worse off, a project/policy should be implemented --> NPV > 0

• how to measure costs & benefits
• how to choose discount rate r and observation period T
• how to deal with uncertainties
• consideration of distribution and fairness
• ethical consideration

• Avoidance cost approach: measure money spent in order to avoid negative environmental issues
  e.g. installation of air filters, construction of dams
  Problem: those goods also generate other benefits --> difficult to distinguish
• Travel cost approach: measure amount demanded at a certain price and fit demand curve
  e.g. to measure benefit of a clean beach, measure costs tourists are willing to pay
  Problem: accounting for substitutes (e.g. park near the beach), sample selection problem (over-representation of regular users)
• Hedonic prices: measure the correlation between environmental quality and house prices
  e.g. impact of aircraft noise on house prices near an airport
  Problem: models are extremely complex, missing important attributes can lead to considerable biases
• Contingent valuation method: measure willingness to pay for certain environmental goods
  e.g. by survey
  Problem: contradictory responses, influence of current events

• Fixed costs: construction costs, costs for change of processes etc.
• Variable costs: maintenance costs, operating costs etc.

• Stochastic risks: dependent on chance
• Systematic risks: dependent on circumstances (e.g. risk of getting cancer by smoking)

• Weakness of basic methods (travel cost, hedonic cost etc.)
• Consumer preferences are probably not the right benchmark for social decisions
• Maybe not only humans but also animals and plants should be considered

Stock based definitions:

• Weak sustainability: maintenance of aggregate productive capacity, substitution between natural & accumulated capital
• Strong sustainability: preserving the stock as it is, no substitution between natural & accumulated capital, but between natural resource types

Ecological thresholds:

• Keep safe minimal standards for all species --> natural capital stock is not allowed to fall below a certain secure threshold
• Meet conditions for ecosystem resilience

Flow based definitions:

• Obtaining constant yield of natural resources
• Nondeclining utility over time

Form of weak sustainability. Expands traditional saving definition by investment in other types of productive capital (human capital, R&D, social capital) and extraction of natural resources and pollution damages

Genuine savings = gross savings
+ educational savings
- depreciation of fixed capital
- depletion of natural resources
- pollution damages

Problem: no focus on future, monetary estimation of natural goods without market price

• Genuine savings
• Environmental Performance Index (EPI)
• Index of Sustainable Economic Welfare (ISEW)
• Ecological Footprint

Problems of those indicators:
- how to weight differnet aspects
- how to convert different indicators into a single unit of measurement