ENVIR &RESOURC ECON
ENVIR &RESOURC ECON ECON 380
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Date Created: 09/26/15
Econ 380 Instructor Env and Res Econ Dr Jinhua Zhao Chapter 1 Introduction I Go over the syllabus rst two pages 11 Structure of the course and tentative lecture schedule later two pages 1 The human society is concerned with sustainability ie whether the current economic growth or even the current level of economic well being can be sustained forever If not what can we do about it To ensure sustainability the best we can do can be decomposed into two parts 1 Do our best in the current generation That is we should be ef cient in utilizing resources and environment in achieving the objectives of the current generation 2 Balance the welfare of different generations What is the best for our generation may not be the best for later generations That is ef ciency in our generation is not enough to achieve sustainability 3 Economics has traditionally focused on the current generation ef ciency This is also our focus in the course Economic principles and analytical methods are the main tools that we will use in the course 1 Thus we will review some basic economic principles mainly ef ciency measures including static and dynamic ef ciency 2 However general economic principles ignore many characteristics that are speci c to resource and environmental problems These are market failures including propeity rights externalities public goods discounting etc We will review how economic principles are used to deal with these issues 3 Government policy is always the major issue in dealing with environment and resource We will review the major tool that is used in policy evaluation and formulation that is the costbene t analysis and how these tools can be applied to resource and environmental problems 4 Then we deal with ef ciency in resource extraction and utilization 1 Again we rst deal with economic principles that are special for resource use 2 We then talk about speci c resources including nonrenewable and renewable resources such as minerals water forests wildlife 5 Then we deal with ef ciency in environmental protection 1 First we talk about the economic principles in pollution control 2 Then we talk about speci c pollution problems including water and air pollution 6 Finally we talk about intergenerational ef ciency 111 On the issue of sustainability two views 1 Pessimistic View 3 1 2 3 Dates back to Thomas Malthus 1798 Population grows exponentially Even if new technology is invented more people will die Dismal science Resource will be used up as population grows continuously Ie technological innovation cannot keep up with population growth Or pollution becomes too heavy and the environment cannot be cleaned up Laws of Thermodynamics low entropy gt high entropy Earth will be lled with goods of high entropy which cannot be consumed We have to cut back growth even cut trade Some argue that we should reduce the standard of living Story the long lived monk Optimistic view 1 Population growth will slow down as economy grows German and some North European countries have negative population growth S shaped logistic curve 2 Technology growth is faster they push back or away the limits 3 Growth can be sustained Which is right What can we do about it if the current way of living cannot be sustained 4 Class objective To provide an understanding of the role of economics in analyzing resource and environmental issues and policies To grasp a set of use ll economic tools To learn how to approach a resource and environmental problem Don39t want you to memorize economic models or solutions Rather given a problem you should learn how to analyze it what kind of methods may be useful and what incentives you should consider Same thing for policy analysis Why need a separate course of resource and environmental economics DiiTerent from natural sciences they ignore people and incentives of society Example shery in Western US biologists can work out the best way of breeding shes But economic incentives are crucial in determining whether there is water in river DiiTerent from economics there are many things special about resenv econ 1 market failure 2 dynamics and irreversibility 3 interdisciplinary needs natural sciences 4 valuation of the environment market price is not available for many resources such as Yellow Stone national park They are not exchanged through the market There does not exist even the shadow value Measurement is a big issue in resource and environmental economics Resource and env econ enables us 1 To better understand why problems exist i Acid Rain ii Global warming the Greenhouse ElTect Toxic Waste iii 4 V 2 3 To better understand why problems persist i There have been a large number of legislative and judicial policies put into place to deal with environmental and resource problems Numerous Clean Air Acts LA pollution and the Superfund legislation ii Why have past policies failed to resolve existing problems Are the policies too lenient In fact we will find that in many cases the policies were too strict To better evaluate lture policy directions i Should the US join the treaty on global warming Kyoto conference in 1997 ii Should the Crop Retirement Program CRP be based on environmental characteristics of the soil What characteristics iii Should the government subsidize water markets to reduce water use and water pollution In particular for many envres problems we will i ii i ii 1 identify the problem 2 analyze the problem why have they arisen whether the market can solve the problem by itself 3 analyze current government policies and suggest appropriate policies 4 Note Economic considerations are not the only or even necessarily the most important factor in making natural resource or environmental decisions Economics is a tool to be used in guiding policy making but not an end in itself What is economics Since we will be using economic tools a lot we need to know what is economics and why it is a use ll tool for envres issues and policy Economics is the study of allocation of scarce resources It is not business or profit maximization l 2 CHAPTER 12 GLOBAL POLLUTANTS I Introduction A In turning to global pollutants the problems inherent in local pollutants are just exacerbated B With local pollutants we were dealing with problems of externalities within a country or state C We now have to consider externalities crossing national boundaries D In the case of global pollutants we have even more trouble understanding the consequences of our actions and the potential solutions 1 Transfer coefficients are hard to determine a Especially true for trace gases ie gases that are a minor component in the atmosphere 2 In the short term trends are difficult to determine 3 Cannot force other nations to abate their emissions as in the domestic case free riding among nations E Major issue ozone depletion and global warming 1 Concentration levels of GHGs and ODCs have been increasing Table 45 Sandler II Chloro ourocarbons and depletion of the Ozone A Ozone in the troposphere ie that portion of the atmosphere nearest to the earth is a criteria pollutant It causes agricultural damage and respiratory problems for humans in addition to corroding metals and damaging paints B In the stratosphere just above the troposphere ozone is crucial to the quality of life on the earth 1 Ozone absorbs ultraviolet wavelengths shielding people plants and animals from harmful radiation 2 It also absorbs infrared radiation thus playing an important role in determining the earth39s climate 121 ci Stratosphere 1 quot L Tropopause 139 I Sl dLTmposphere Ozune1s being depleted 1 Smcelate 195115 dzdnemmnmg averaged 5 vmrldWAde z Ozune dep1eddn uva Antarmca Oznne Deple nn Over Amamica Omne Cnnmmralmn Dnhsan ms 79 1952 1955 1955 1991 as Effects uf uzune dep1edun 1 1 reducuun 1n uzune 1eads 1d 21ncrease1n harmful UVradAatmn Expusure 2 UV radmuun may eause a 5km cancer 1 suppressmn uf1mmunulugcal sysLEmS e eye cancer m cattle d plant damage CFC s have been 1mpl1cated mthe madman uzune dep1edun 1272 Spen cally CFO and CFCelZ Mam uzune depledng charmcals Table 204 Field CFC s was wanted m the IBKEI s by DuFunt CFC39sarellsedin l aemsul pmp allants z cushmnmg fnam 3 paekagmg and msdladdn fuam 4 mdusmal cleana39s e g used m degeasmg cumputa39 unrult buards 5 fund deems a mdusmal stenllzauun e g used m medeal stenllzanun 7 an edndddmng and refnga39anun Freun ls based un CFC s a Dry cleanmg 9 Fhutucupla s ODC39s cuncmtxanun level has been mtreasmg Almnsphenc Cuneenlmlmn nl Selected OznneeD epleling Chemiczb u 1 79 952 1985 1988 1991 as crc 1 crolz cHaccla ch l Us ls me majur player m uzune prudu lun and ednsumpddn Cumulative us Impact nn me cznne Layer IUmted States DRest aHheWmM Pmdudmn m mn mememns n 1955 1955 972 me was 1993 some Usmevmnmzmdetmmgm ems mam z In1978the U s banned the use ufm CFC s m semsnl prupeuants a Th5 reduced the U s ennmbuunnm wnndvnde ch ermssmns 39nm abuut 5 m zruund 33 b Huwever glubal ch ermssmns cuntlnuetu Increase m use 3 Majur Ermtmrs quFC Table 47 Sandler Casts ufcuntxullmg nunaa usul appheaunn nf CFCs m US the RAND study 1 Mandatury cuntxuls z A cunstant ermssmns charge 3 A p amt systan Nuts CFC s are a stuck penuan 5 that me p m s wanna have m be nut Bu 2 p year basis but raLhEr un atutal quantity basis Table 172 Each me wd anhxeved appmxlmately the same gual 4 xnefsneney uf a cunstant ermssmns charge a The charge shuuld nse uverumE as the stuck uf alluwed ch cuncentxanun nses depletes b Penmtpnce can seneveuns Internanunal ef urts the Muntxeal Fmtucul 124 1 Now there are about 140 countries in the Protocol a There were 24 signatory countries initially in 1988 2 The Montreal Protocols called for a Till 7193 reduce annual consumption and production ACP of CFCs to 1986 levels b From 7193 to 7 198 ACP cannot exceed 80 of 1986 levels c After 7198 ACP cannot exceed 50 of 1986 levels d Emission transfer between Protocol parties are permitted e Import ban of controlled substances from nonparties starting 1990 f Export ban of substances from parties to nonparties starting 1993 g Developing countries with consumption lt 03 kgcapita has 10 years delay in compliance h Multilateral fund 240million to aid developing countries to phaseout old technology and technology transfer Table 20 1 Field 111 Global Warming A One class of global pollutants quotgreenhouse gasesquot absorb infrared radiation as it is re ected from the earth s surface trapping heat that would otherwise escape into space Greenhouse gases include 1 carbon dioxide 2 CFC s 3 Nitrogen Oxides 4 methane 5 tropospheric ozone 125 m Manmarle Cuntrihlltinns tn the Gmth Effect Cuncentxatmn ufGHGs has bemxncreasmg rapidly 1 Smcexndusmalrevuluuun CQ3U Methane Huma Nmus made 15 Historical and Projected Future CO2 Concentrations 2m 2m um mm mm mm mm mm nmumwmquotmummummmmmmmmmmmmw z GHG cuncentxatmn mama m reach duublepredndusmal level by abuut zu u Table 45 Sandler Contributing countries Regional Contributions to Greenhouse Gases Rest 3 600 India 400 Braz Us A 21 0o Farmer 14 USSR 14 1 Major polluters of industrialbased C02 Table 43 Sandler 2 Methane Table 44 Sandler 3 Share of developing countries is expected to increase 127 Total C02 Emissions Projections IPCC IS92a Scenan39o Risanan Sm wtl uwz 4 InLheUS a censmemquHG Total US Greenhouse Gas Emissions by Gas 1995 MMTCE nmn 7 mm MZMTCE swim mdmkd mm box mm b Utilities and tranwunauun arernaiur pulluters US Carbon Dioxide Emissions from Fossil Fuel Combustion 1995 Cnmluu cm 5 39riniispunniluu 3 I quot11 Ullliliei 33 Rusidmlini 7 quot Industrial 21 l39uui LuhnnEquh39ulcm The exaet irnplieauuns ufan inerease in yemhuuse gases is nut well understuud l There are avanety ufunknuwns in tlie yemhuuse effeets Uncmamty is sigiideant z A duulsling uftlie coi level muld in and ufltself lead tu an inerease in tlie glulsal airternperatureufl 2 C 2 2 17 3 There are surne nut su well understuud feedb ack effects a lnereasing tlie lieat Will inerease water vzp ur wliieli is itself a greenhouse gas leading tu rnure temperature inereases b lnereasing tlie ternp eature Will deerease tlie arnuunt uf sum and iee wlueli are eereeuve energy reaeeturs again further increasing tlielieat e lnereased eluud euver rnay inerease ur deerease the initial effeet d The lieat alssuipuve eapaety quhe ueean in unknown air at least nut well udeled 4 Overall the EPA estimates that a duulsling uf C02 gases vmuld increase the glulsal air tenperature by 4 0 ur 7 F As a basts uf eumpansuh it is esumatedthat thetast tee age eumeded wth a tehperature 7 F tess thahthe Currant gtuhat temperature Local Temperature Change and CD2 Concentrations Over the Pasl 160mm Years z a a e e N may unnuhruuo melanoma Lad manna Vernvemwv mumss 1mm mraem kmplululuwcl m m mmslnal m m an All mmst ans Edam pmseun wiwa m Murrur u we Du we knuwtfthe gemhuuse effeet has startedv 1 Its hard tu say 2 The tehperature reeurds fur the tast emtury suggest that the surface au temp erature has mereased hy 5 c Dr t F m the past cantury 3 Heweyer therets uheetamty regardmg the reltabtltty tu these measurements a Large puruuhs quhe gtuhe were puurly sampted h Areemt study fuuhdthat part quhe pruhteh is due tn the tueauuh uf many weather stauuhs m urban areas t The heat generated by these eues tsputennally substantial u cemeeuhg fur Lhts pruhteh the study fuuhd he stausueatty armuat tehp eature stm cant mdmce uf ah uyeratt merease m ur changem annuat preclplta un urtheeuhuguuus u s 189 1987 4 cemputer Mudets are attehpuhgtu eapture mteraeuuhs ufpeuple md nature that are 5 staggermgty cumplEX that they can t he dupheated aeeuratety uh erl eemputers We are musdy twrddhhghhehs at rahdem ws MID89 accurdmg e the fermer dreeter quhe Naheha1 Cehter fur Atmusphenc Researeh Thrs dees het mean that the prehlerh dees het edhst hut Just that we may het yet he ah1ete measure the change The lmp aets efterhp erature mereases are net wen uhdersteed ether 1 Wrdespread rmpaets ether pusmve Dr hegahve Potential Climate Change Impacts quotmm lmpnd vmm terrrddmur Yn mwmm v rotatueretm a 4 gt C anur Resume 1hrqu Wmhntmtm hr39t ilit39k wetmamquot Farm Immm earrtrmrm amp m 39 mlan m msm Adm Drfferert lmp aets eh drfferert parts quhe vmrld a The presxdmt quhe Republe ufMaldues has tedd the u N Gana39al Assembly that the glubal mug ccde eempletely mundate hrs rslahd haheh Seme areaseeuhmes vmuld banis L meludmg the fermer Semet them and Canada Wm majur seurees uf C02 Ermssmns Fur the u s the results vmuld hermxed gven the see quhe eeuhtry seme uf Lhexmp aets huwever vmuld rhdude a Agimltural x Shd s m agimltural states 12711 Forests 0 Minnesota would bene t to some extent by the shortening of the Winter 0 The Great Plains in general a marginal agricultural region in the U 3 would partially be abandoned in terms of agriculture Increased dryness would increase reliance on irrigation increasing the pressures on groundwater supplies particularly in the southwest Crops would bene t to some extent by the increased C02 in the atmosphere The pests farmers would have to deal with in a given region would change An EPA study concluded that while US food supply would continue to be adequate it would substantially decrease Substantial northern migration in trees would occur endangering wildlife etc Sea Levels Global warming would raise sea levels by melting mountain glaciers and causing ice sheets in Greenland etc to slip into the sea This would inundate wetlands and lowlands exacerbating coastal ooding and soil erosion problems 0 A 50 cm rise in the sea level would drown gtgt 13 of coastal wetlands o A 1 meter rise would eliminate as much as 70 of coastal wetlands A 1 meter rise would inundate 7000 to 8000 sq miles of dryland an area the size of Mass Electricity Demand would substantially increase New power plant needs would increase by 14 to 23 This would increase further the problems of global warming and acid rain 1212 e Increased global rainfall but not necessarily evenly dispersed i Water distribution systems currently in place may no longer be ef cient ii Some may become inundated f Wildlife habitats would be destroyed in some cases g Warmer oceans and seas would spawn stronger hurricanes and typhoons h Nordhause study Table 63 Kahn G What can or has been done 1 A number of simple minded solutions have been suggested a A Soviet scientist suggested spreading tons of dust into atmosphere to re ect solar heat b A Virginia utility suggested that it would plant trees to offset its emissions But a forest the size of Ethiopia would be required to reduce greenhouse emissions by 10 2 A solution to the greenhouse effect will come only with international cooperation and organizations that can survive changes in governments 3 Earth Summit in Rio de Janeiro 1992 a Virtually all of the countries signed the Framework Convention on Climate Change FCCC Industrialized countries Annex I nations are to stabilize emissions at 1990 levels in the year 2000 i US did not commit to the stabilization period Global Environment Facility GEF also has the responsibility to implement these goals Joint implementation i cooperation between two or more countries to decrease the sum total of their emissions ii experience to date has been small projects 1213 iii essentially a developed country purchases the righ to continue its current emission through ensuring decreased emission from developing countries 4 Kyoto Protocol extension of the Summit a Annex I countries to reduce emission to 5 below 1990 levels by 2012 Emission limit for Annex I countries b Emission trading is explicitly allowed i how to allocate the permits c No speci c schedule for developing countries caused problems in the US In general it is more dif cult to form international cooperation in controlling GHGs than ODCs Reason 1 Less scienti c uncertainty in the impacts of ozone depletion 2 Consumption and production of CFCs are concentrated in a smaller group of countries a the free riding problem is less severe 3 Substitutes for CFCs are available HFC This is not true for GHGs 4 Leadership of the largest polluter the US 1214 CHAPTER 12 FISHERIES 1 Major issues A Ef cient management based on biological growth function B Common property problem domestic and international dimensions 1 Whale hunting disputes 2 The tunadolphin case between US and Mexico leading to the debate on trade and the environment 11 The Biological models Schaefer 1957 developed a simple biological model of the natural population grth of sh A Notation St denote the stock of sh at time t and grth is G12 St1 39 St B A compensated growth function is depicted as GS S s l The growth rate in this case ie GS is monotonically decreasing as a function of the stock 2 The implications of this model can be seen in a graph of S over time 121 6 V Su denotes the quotenvironmental carrying capacityquot of the shery Tietenberg also refers the S as the quotnatural equilibriumquot This is because from any initial stock except S 0 the shery will naturally grow to S and stay there DEFINITION An eguilibrium refers to a state at which there are no forces for change S0 is also an equilibrium stock level A depensated growth function is depicted as GS S s Notice that in this case the grth rate is at first increasing and then decreasing 122 2 The implications of this model are similar to those for the purely compensatory model except for a change in the initial curvature of GS There are still only two equilibrium stock levels Su and 0 The time path for St is similar only now the speed of convergence is somewhat different D A critically depensated growth function GS sl su S l The implications of this model for how the stock changes over time can be seen in the following graph S K su x Sl t 2 There are now three equilibria a S S which is still stable 123 b S 0 which is now stable c S S1 which is unstable i This stock level is known as the minimum viable population 3 Example The Blue Whale a The blue whale is the largest of the whales and heavily prized as a result b During the peak of whaling for this creature 1928 to 1938 approximately 26000 of this creature were caught each year c By 1960 only about 1600 blue whales were estimated to still exist i It was not known if this was below the S1 for this species ie below the minimum sustainable population ii In 1964 a moratorium was placed on the hunting of blue whales d A problem still exists in that blue whales may be quotpoachedquot or caught during the hunting for other whales III Harvesting from the Fish Stock A Assume Y harvest is a constant over time B DEFINITION The maximum sustainable yield MSY refers to the maximum harvest in a year that can be sustained forever YGS SMSY Sui S C DEFINITION 39 SMSY refers to the stock consistent with MSY 124 D DEFINITION Biological overzishing refers to shing that results in a stock below SMsy E Consider three harvesting conditions 1 Y lt MSY a In this case there are two stable equilibria 32 and 0 b There is one unstable equilibrium S1 YGs MSY Y e 4 a k SI SMSY Sz Sui S 2 Y gt MSY a In this case there is only one equilibrium stock S 0 YGs Y e 4 MSY SMSY Sui S 3 Y MSY 125 a In this case there is one stable equilibrium S 0 b There is one unstable equilibrium S SMSY YGS YMSY 4i SMSY Sui S F YMSY has been suggested as one target for policy purposes Question What is wrong with MSY as a policy target 1 Y MSY is an unstable solution It may be dif cult to detect errors in estimating MSY MSY may change over time YGS YMSY GS G S SMSY Sui S 126 3 The MSY objective does not make sense when there is interactions among species A related species may be killed off in the process of focussing in MSY for a given species 4 The objective ignores social and economic considerations IV Static Ef cient Sustainable Management the Gordon Model A Historically the problem was delineated by H S Gordon in the early 195039 1 Gordon was asked by the Canadian government to provide an economic analysis of the Canadian Fishing Industry with an objective of explaining why sherman had persistently low wages 2 Gordon explained the problem in terms of the common property nature of sheries B Gordon s model starts with two assumptions 1 Yield is proportional to a The amount of effort put into shing eg number of boats and b The level of the sh stock That is Y qSE 2 The shing yield must be sustainable a DEFINITION A catch level is said to represent a sustainable yield whenever it equals the rate of grth of the population C These two assumptions imply a relationship between the sustainable yield and effort which can be derived graphically as follows 127 YA qE4S qE3S qEZS Y3 Y2Y4 qus Y1 S 4 S3 52 s1 7 S Y A Y3 Y2Y4 Y1 E1 E2 E3 E4 r E D Static efficiency or dynamic ef ciency with zero discount rate 1 Let pro ts be given by p PY cE 2 Maximizing current pro ts MRMC 128 3 A TCcE TRpY Ee 3c 7 E C MR AR E DEFINITION The staticef cient sustainable yield is that catch level which if maintained perpetually would produce the largest net bene ts Y MSY is statically efficient only if c 0 ie effort is costless Otherwise YltMSY EltEMSY and SgtSMSY Question What would happen if p is increased 129 V a E increases b Y increases c The sustainable stock level Sy decreases E Problem with this approach discounting is not accounted for Dynamic Ef cient Sustainable Management 1 2 The dynamically ef cient allocation incorporates discounting With discounting one cares less about the future than without discounting As a result one might depart from Ee because it would be too costly in the shortrun to get there 1210 ll 0 t Y A 0 t S 39 A t0 t 3 In general this will lead to a Ec gt E gt Ee b S lt S lt Se VI The Common Property Problem continuation of Gordon model A Because of the common property nature of the resource competitors will enter the market until pro t 0 so that the scarcity rent disappears B Graphically this result is depicted as 1211 C D A a TCcE TRpY Ee c E C MR AR E The market will end up at BC Question What is wrong with this solution 1 It focuses only on current generations and ignores the impact on future generations of lowering the stock of sh The high effort level corresponds to a low level of stock Recall how the relationship YE was drawn Ahigh E corresponds to a low S It represents an overcomrnitment of resources even for the present The same level of yield can be obtained with less effort and a greater sustainable stock level 1212 YA YC E A TCcE TRpY EC EC E E Example The North Paci c Fur Seal 1 This seal has two harvesting phases a During the mating season the seals are on land governed by the U S and Canadian governments ie private ownership b During the migration season they travel along the west coast of North America in open waters and are not governed by U S or Canadian governments 2 During the migratory season the seals were almost shed to extinction 3 An international ban was eventually placed upon pelagic open water harvesting VII What has or can be done to optimally manage sheries A Aquaculture 1 DEFINITION Agriculture refers to the controlled raising and harvesting of fish 1213 Question Why would this be a solution a Aquaculture converts sheries from common property resources to private property resources b Fish farming has worked well for shell sh c Japan uses sh farming extensively d Fish ranching is also used for sh with strong homing instincts eg paci c salmon and ocean trout Raising costs of shing by limiting shing methods 1 Quotas How to catch a Barricades are banned in the case of river salmon b Up until the 1950 s engine propelled boats were banned in Bristol Bay for gillnetters Which sh to catch size age etc When to catch mating season etc Where to catch Problems of these limits a They arti cially and inef ciently raise the cost of shing These are often referred to as TAC s total annual catch Question What would you do if you were a salmon sherman and were told that only 100 tons of salmon could be caught by all sherman per year Buy the biggest boat and the best equipment to make sure that you were the person to catch the sh If the goal is to help the sherman this will actually make matters worse Example New England Council a Annual limits were placed on sh catches for speci c species i The limits were quickly reached ii Fisherman were done for the year and unhappy 1214 Taxes b Semiannual limits were put in place and again were quickly reached c Quarterly catch limits were reached with the same problem d Quotas were placed on the basis of shing effort boat size Bigger boats were bought e Quotas were placed on the basis of crew size Crew sizes suddenly increased Taxes can be assessed on a The level of effort b The total catch c Startup or license fee While these methods can work the problem is that they are politically unpopular taxing an industry already suffering 1215 YA Y2cYe YC v E A Xquot TCcE TRpY TRptY Ee Ec EZC Tradeable Quotas Expand the national limits 200 mile limit This privatizes an impoItant portion of coastal sheries 1216 CHAPTER 3 RIGHTS RENT S AND REMEDIES I Introduction A The last section provided a number of criteria for judging when environmental or resource problems exist 1 When resource allocations are inef cient or 2 When resource allocations expect to leave future generations worse off than current generations B In this section we will consider why these problems exist ie why individual or group interests diverge from societal interests 1 Property rights play a key role in answering this questions a Explains in many cases why the market andor government policies fail b Provides a useful guide to setting environmental and natural resource policies 2 Imperfect Market Structures a Monopoly b Oligopoly e g OPEC 3 Divergence of Social and Private Discount Rates 11 Property Rights A Introduction 1 DEFINITION In economics groger rights refers to the bundle of entitlements de ning owner39s right privileges and limitations for the use of resource 2 Property rights can be vested with individuals a group or the state 3 The source of many environmental problems lies in there being illdefmed property rights An example illustrates why this is the case EXAMPLE Suppose there were no property rights with regards to automobiles as currently is the case with air In fact assume that it is illegal to interfere in any way with a person39s use of any automobile a One would simply get into the nearest car drive to the desired location and abandon the car b Initially this would work well enough There are a lot of cars around Question What is going to happen in the long run c Pretty soon people would stop putting gas in the cars or at most enough to get them to the nearest gas station Those cars with a lot of gas would be taken by others d The demand for gas cans would skyrocket e Cars would not be repaired i Why should I pay to x up a car when someone else could easily drive it away and I would never see it again ii If you got into an accident you could just get out and hop into the nearest available alternative car f No new cars would be bought 4 While this is a fanciful example it illustrates many of the underlying problems in resources and the environment B An Efficient Property Rights Structure in a wellfunctioning economy 1 Four characteristics a DEFINITION Universali requires that all resources are privately owned and all entitlements completely specified Ownership is an essential precondition to trade upon which our economic system is based b DEFINITION Exclusivity requires that all benefits and costs accrued as the result of owning and using the resources should accrue to the owner and only the owner either directly or indirectly by sale to others Automobile example illustrates why problems might arise when exclusivity is not guaranteed Who would buy something if they could use it for free or only pay part of the costs This characteristic is also a key to the pollution problem Typically pollution costs are not exclusively borne by the polluter DEFINITION T ransZerabil i requires that all property rights should be transferable from one owner to another in a voluntary exchange i This allows a resource to gravitate to its highest valued use ii The fundamental characteristic of trade is the property rights rather than the physical transfer of things When you buy land you purchase the right to use that land You do not carry the land away with you iii This characteristic underlies some of the more recent revisions to air pollution policy enabling firms to trade their rights to pollute the air DEFINITION Enforceability requires that property rights should be secure from seizure or encroachment by others i An unenforced right is effectively no right at all ii If not apprehended it is cheaper to steal than to purchase a good so one would be better off to steal iii Similarly pollution is an inexpensive method of waste disposal if the polluter is assured that the rights of others will not be enforce The owner of a resource with a welldefmed property right structure has a powerful incentive to use that resource efficiently since a decline in the value of the resource represents a personal loss a Example With property rights in place one has an incentive to keep their car in shape because of its resale value Similarly farmers have an incentive to fertilize an irrigate their land as well as to rotate their crops if that raises the productivity and hence value of the land Consumer Surplus Producer Surplus and the Efficient Solution a The property rights defined above facilitate the efficient exchange of goods De ne Graphically CS Price Consumer Surplus 77777777777777 739 P0 MB Q0 Quantity Error Switch argument not speci ed De ne Graphically PS Price quot P0 Producer Surplus Q0 Quantity b Consumers and producers naturally move to the optimal point Qquot c Efficiency results not because individuals are pursuing ef ciency Each is simply trying to maximize their surplus 4 Long run producer surplus is known as scarcity rent a Example Very Fertile land will be put into production first and in the long run will receive a rent for its scarce quality attribute P Mcguad Mcm qgood q qpoor q P MCPW W Mcgm D qgood qpoor q b The marginal User39s Cost is one form of scarcity rent Price A Scarcity Rent MEcMUC 39 39 39 39 39 39 39 39 39 quot MEC MB Qd Q5 Q c If there is no property right over the future resource then both rents dissipate and there is no incentive to use the resource efficiently in this periodError Switch argument not speci ed III Improperly De ned Property Rights A Externalities 1 Introduction a DEFINITION An externali exists whenever the welfare of some agent either a firm or a household depends directly not only on his or her activities but also on activities under the control of some other agent as well i Question What Property Right characteristic does this violate ExclusiVity b There are two types of externalities i DEFINITION An external economy exists when the activities of one agent make another agent better off Question What are some examples 0 Bee keeperapple orchard 0 ask questions in class ii DEFINITION External diseconomies exist when the activity of one agent makes another agent worse off Question What are some examples 0 noise pollution 0 air pollution 0 steel mill polluting river with a shery downstream Consequences Steel Mill example Price MCfMCpmd MCpoll Mcproduc on 13 P0 MB Qquot Q0 Quantity Conclusions a The output is too large b Too much pollution is produced c The price of the product responsible for the pollution is too low d No incentives for less pollution exist 37 e Recycling and reuse of the polluting substances are discouraged since their release into the environment is cheap Chip Game Common Property Resources 1 DEFINITION Common Proger Resources are those that are not exclusively controlled by one agent or source Access to these resources is not restricted and therefore the resource can be exploited on a rstcome firstserve basis 2 Examples a Hot shower39s Question Do you take into account the amount of water available to other residents when you take a shower Question Does this situation change in the setting ofyour home where there are fewer players b air c water d sheries e wildlife Books Bison Example i Historically many animals including the bison have been treated as a common property resource Price A MCAC l l l l l l i l l l i MB AB i Q Qm Quantity ii Question What are the incentives for the individual hunter Answer To hunt to the level Qm OPTIONAL MATHEMATICAL DISCUSSION Consider the situation of a new hunter entering the region where currently Q0 buffalo are hunted Let PQ denote the price received for buffaloes given Q sold 2 Revenues QPQ 3 Revenues PQ1Q1 PQoQo PQ1Q1 Qo t PQ1 PQoQo The rst term indicates the bene ts to the new hunter while the second term measures the costs to the second hunter 3 There are two characteristics of the commonproperty allocation a In the presence of sufficient demand common property resources are overexploited Public Goods 1 2 3 a b c 4 The scarcity rent is dissipated no one appropriates the rent so that it is lost Unlimited access destroys the incentive to conserve DEFINITION A public good is a good whose consumption is indivisible and nonexcludable fully accessible to all DEFINITION Consumption is said to be indivisible when on person 39s consumption does not diminish the amount available to others Examples of public goods Clean air Clean water biological diversity i genetic diversity ie diversity within species 0 different strains of wheat or barley ii ecological diversity ie number of species 0 Approximately 20 of the species existing today are expected to be lost in our lifetime 0 The destruction of tropical rain forests are a major source of this problem Underprovision of public goods the Public Television example a Let lO 2q OSqSS MB l 0 qgt5 MB lO q OSqSIO V 0 qgt10 and MC 8 Graphically we have 310 MC Question What would individual a do Set MBa MC 3 10 2q 8 3 q 1 Question What would individual b do Set MBb MC 3 10 q 8 3 q 2 But since individual a has already purchased 1 unit individual b will freeride and we end up with 2 units total of public television Social optimality requires that Mbs MC but 20 3g 0 S q S 5 MBSMBH MBb lO q 5ltqSlO 0 qgt10 IV V Other Problems 203q8 3 14 Vertical summation of individual demand curves gives the market demand curve There is a free rider problem Ef ciency would require charging different people different prices i But there would be no incentive for the individual to reveal their true market demand curve ii Hard to implement A Imperfect Market Structures B Divergent Private and Social Discount Rates 1 discount rate risk free cost of capital risk premium 2 risk premium may be different for private and social decisions C Government Failure 1 Special interest groups quotrent seekingquot 2 Political institutions by interfering with the market can create inef ciencies through improper incentives 3 Education on political issues is a public good subject to free riding Possible Remedies for Externalities A Negotiation using for example bribes 1 This approach works well when there are few players 2 Example Stereo Owner and the Noise Externality Price of Loudness ll Courts Quantity of L oudness 3 a The stereo owner sets volume at Q5 0 which is inefficient b Neighbor can offer to pay the bribe Pquot per unit to bring loudness to Q Both gains c Two things worth noting i The bribe simply internalizes the externality decision for the stereo owner ii The problem starts with the stereo owner essentially owning the property rights of noise or quite 1 Question Would the problem change if the neighbor owned the rights to quiet i Start with Qn and bribe to Q e This solution will not work well if there are many individuals Question What would happen if there were two stereo owners The court system can respond to environmental con icts by imposing either property rules or liability rules C DEFINITION Proger rules speci the initial allocation of the entitlement a In the noise example the entitlements are the right to peace and quite and the right to play the stereo loudly b DEFINITION According to the Coase Theorem as long as negotiation costs are negligible and a ected consumers can negotiate freely with each other the courts can allocate the entitlement to either party and an e icient allocation will result c These rules provide the basis for negotiation but not the solution itself Negotiation is still required DEFINITION Liabili rules award monetary damages after the fact to the injured party a In the stereo example the court may award the neighbor hisher total costs resulting from the stereo playing IN GRAPH AREA QnBQs o b This award does not change the past but creates incentives for the future Question Assuming the stereo owner expects to be hit with the same type ofdamages in the future how high will heshe turn up hisher stereo Answer Qquot c Question What are some potential limitations of this approach i Transactions costs ii Difficulty of obtaining cost estimates 0 Notice that this problem does not exist for the negotiation solution if it is feasible Legislative and Executive Regulation 1 Example No one can play their stereo above a speci ed level X decibels Question What are the potential problems here a Regulatory costs b Establishing the proper level may be difficult VI The Role of Government Question Does the existence of market inefficiencies imply that government should intervene to correct the problem A No The costs of government intervention may exceed the possible bene ts B Pollution in the old west example
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