Chapter 3

The Environment

1

The Problem of Pollution

• Pollution
• Waste that is not recycled
• Air pollution
• Carbon monoxide, sulfur oxides, nitrogen oxides (motor vehicles, industrial plants)
• Global warming
• Carbon dioxide (burning of fossil fuels)
• Damage to the ozone layer
• Chlorofluorocarbons (CFCs)
• Water pollution
• Contaminate aquifers; water supply
• Industrial wastes, leaking septic tanks and landfills, pesticides
• Environmental damage
• Harmful by-product of economic activity

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The Problem of Pollution

• Externality
• The cost or benefit of an economic activity that spills over onto the rest of society
• Spillover cost (a negative externality)
• The cost that is shifted from the private market onto society
• Examples: Congestion, pollution, noise, litter, solid waste
• Spillover benefits (a positive externality)
• The benefit that is shifted from the private market onto society
• Examples: Education, immunization of children against common childhood diseases

The Problem of Pollution

1. Inequity
• Negative externalities - shift costs to groups that did not incur them
• Positive externalities - shift benefits to groups that did not earn them
2. Inefficient resource allocation
• Negative externalities
• We produce and consume too much of a product
• We overallocate resources to its production
• Positive externalities
• We produce and consume too little of a product
• We underallocate resources to its production

Effects of Pollution in a Single Market

• Supply curve, S^P
• Reflects private costs of production
• Does not reflect the full social costs of production
• Social costs of production
• The total costs of production, including private costs and spillover costs (external costs)
• Hypothetical social supply curve, S^S
• Reflects both private and external costs of production
• Higher price and lower quantity

Effects of Pollution in a Single Market

Effects of Pollution from One Market (Paper) �onto Another Market (Beer)

• Externality in the paper market
• Shifts the pollution costs onto society at large
• Causes a distortion of resource allocation in other markets
• Underallocation of resources in the beer market
• Because of the pollution, society consumes more paper and less beer than it would if not for the pollution

Figure 3-2: Effects of water pollution in the hypothetical markets for paper and beer

8

Pollution causes over-allocation of resources to the polluting industry (here, the paper industry). As a result, resources are under-allocated to other industries (here, the beer industry).

U.S. Environmental Policies and Politics

• Environmental concern started in 1960s
• Confined mainly to the United States and other economically advanced countries
• Chicago and Cincinnati enacted air pollution laws in the 1880s
• Why did it occur so late? Why was it localized in these countries?
1. Population growth -> more pollutants
2. Pollutants are more dangerous now
3. Affluence produces a desire for the luxury good of environmental quality

Environmental Legislation

• Air Pollution Act of 1955
• Clean Air Act of 1963
• Clean Air Act of 1970
• Amended and strengthened in 1977 and 1990
• Environmental Protection Agency (EPA), 1970
• Federal Water Pollution Act of 1972
• Comprehensive Environmental Response, Compensation, and Liability Act of 1980
• States - larger role in environmental regulation

Recent U.S. Policies and Programs

• 2012: rules to double fuel economy by 2025
• 2013: executive order for more climate change protections:
• Regulate power plant CO₂ emissions
• Promote renewable energy
• Promote energy efficiency
• Develop contingency plans for natural disasters caused by climate change
• Recent rollbacks

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11

Environmental Legislation

• Pollution control
• Needs to be addressed at an appropriate geographical level
• Incorporate the full extent of the pollution
• Government regulation to limit adverse environmental effects:
1. Standards
2. Pollution fees/taxes
3. Marketable pollution permits

The Standards Approach

• Standards
• Maximum levels of pollutants that are acceptable by law
• Firms that exceed these levels are punished
• The agency
• Must first set the standards, then enforce them
• It should continually explore new technical possibilities and evaluate its programs
• Performance standard vs. design standard

The Standards Approach

Suppose the goal is to reduce automobile carbon emissions

• Performance standard
• Specifies the required level of performance
• But not the means of compliance
• Encourages research into new technologies
• Design standard
• Specifies the required level of performance
• And the means of compliance
• Force firms to use specific pollution control technologies
• e.g., catalytic converters
• Problem: techniques that could control pollution more cheaply are not being encouraged, developed, or used

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Pollution Fees

• Effluent fees
• Taxes on production causing water pollution
• Emissions fees
• Taxes on production causing air pollution
• Effects
• Decrease the supply
• Consumers pay a higher price & consume less
• Firms have an incentive to look for least-cost techniques to cut pollution and fees

Marketable Pollution Permits

• Cap and trade
• A form of marketable pollution permits
• Total amount of permits is “capped” (total amount of pollution allowed)
• Polluters purchase “pollution credits” (permits)
• Equal to the amount of their pollution
• Could be bought and sold in the marketplace
• Pollution would be reduced in the most efficient and costless manner

16

Marketable Permits

S = Supply of pollution rights

(lake’s

capacity)

D ₂₀₁₂

Methods of Regulation

• Incentive-based regulation schemes
• Encouraged by economists
• Pollution permits and pollution fees
• Use the efficiencies of the marketplace
• They work, are less expensive than standards regulation, and do not stifle technological change
• Encourage research and the development of new pollution control technologies

Global Warming (or Climate Change)

• Serious phenomenon
• 2001-2010: hottest decade in recorded history
• 2012: hottest year on record in the US
• Caused by human activity (greenhouse gases)
• Efforts are now made to address global warming
• Too late to reverse future catastrophic results
• Can prevent additional catastrophes from occurring

19

U.N. Global Warming Report Puts Humans On The Hot Seat

• Global warming is "unequivocal" and it is "extremely likely" that humans are the primary contributors to this warming, according to a report released in September, 2013 in Stockholm by the U.N.-created Intergovernmental Panel on Climate Change (IPCC), the world's top climate research group.
• "Human influence has been detected in warming of the atmosphere and the ocean, in changes in the global water cycle, in reductions in snow and ice, in global mean sea level rise, and in changes in some climate extremes," the report says.

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Greenhouse Gases

Table 3-1: Carbon dioxide emissions,^a top 10 emitting countries, million metric tons per year, 2011

Emissions per capita (2007)

China: 4.7 tons

U.S.: 19.7 tons

Table 3-2: United States carbon dioxide emissions,^a selected years 1980 to 2012

Global Warming

• Kyoto Accord
• Japan, 1997 - treaty designed to reduce global warming
• Requires industrial countries to substantially reduce industry-generated heat-trapping gases that cause global warming
• President Bill Clinton
• Voiced his support for the Kyoto Accord
• President George W. Bush
• 2002, acknowledged that human activity is indeed causing global warming
• Opposed the Kyoto treaty, refused to sign it
• Support voluntary restraint among U.S. companies

Economic Consequences of Kyoto Accord �(if it were implemented)

• The United States is 25% above its Kyoto target for Greenhouse gasses.
• Estimates vary of how much energy prices would have to rise in order to reduce US GHG production to the Kyoto targets.
• Low-end estimates: 25%
• High-end estimates:67%

Global Warming

• 2003, Environmental Protection Agency (EPA)
• Carbon dioxide was not even a pollutant
• 2006, Supreme Court
• Greenhouse gases are indeed forms of pollution
• Charged the EPA to:
• Determine whether greenhouse gases endanger public health and welfare
• If so, to regulate them

Global Warming

• President Obama
• Call for legislation to limit carbon dioxide emissions
• 2009 Climate Control Act
• First to use “cap and trade”
• Requirements for emission cuts
• Mandating renewable energy
• Eventually rejected by the Senate
• Economists believe a carbon tax is preferable to cap and trade.

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Global Warming

Should we worry?

• By the end of the 21^st century global temperatures could rise by at least 2 degrees F above today’s average
• Over the last 150 years global temperatures have risen about 1.5 degrees F
• This increase in temperature has been beneficial to humans
• Mortality, agriculture, and energy costs
• However, as warming increases, the net benefits will turn into net costs and it will stay that way for a long time

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Global Warming

What can we do?

• We can try to mitigate the problem or we can find ways to adapt to the changes

Mitigation

• Piecemeal regulation (e.g., fuel economy, green energy)
• Cap and Trade
• Carbon tax
• Problem: unequal sharing of costs and benefits

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Green Energy

Great goals but not much science or economics

• Wind and solar power
• High upfront cost
• Visual pollution
• Intermittency (need backup)
• Use many times more resources than natural gas turbines (subsidization) and they are not renewable
• Electric cars
• Expensive
• Create just as much carbon as standard cars for at least their first 80k miles
• Forty percent of the electricity used to power the cars comes from coal burning power plants) generates far more carbon emissions and pollutants than does gasoline

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Global Warming

Adaptation

• Advantage of adaptation is that benefits accrue to those persons and entities that incur the costs
• Individuals, firms and local governments all have the appropriate incentives to adapt promptly and correctly to a changing climate
• Eventually, international cooperation may produce significant mitigation, but until (and even after) then, adaptation is a powerful, immediate tool

World Energy and Petroleum

• Petroleum
• Finite resource
• United States
• Largest user of petroleum
• Petroleum consumption has largely increased over time

Table 3-3: World petroleum consumption, top 10 using countries in descending order, 2012

Consumption per capita (2007)

China: 1 million

U.S.: 7 million

Table 3-4: United States petroleum consumption,�selected years 1980 to 2012

World Energy and Petroleum

• Factors that affect the price of oil
• Shift in supply
• Shift in demand
• Shift in supply
• U.S. government - maintains stocks of petroleum that it releases to the market when oil prices rise to high levels
• Temporary shutting down oil fields
• Natural disasters or wars

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World Energy and Petroleum

• Organization of Petroleum Exporting Countries (OPEC)
• 13 oil-exporting countries
• Currently 12 members: Algeria, Angola, Ecuador, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, UAE, and Venezuela
• Has the ability to influence the market price
• Setting quotas on the oil exports of each member country
• Impacts the supply of petroleum

Figure 3-3: A decrease in the world supply of petroleum by OPEC

When OPEC decreases the international supply of oil, quantity falls to Q’ and price rises to P’.

World Energy and Petroleum

• Increase in demand
• Higher population levels
• Higher standards of living
• Can be offset by deliberate measures to conserve the use of petroleum

Table 3-5: Crude Oil prices^a (U.S. dollars per barrel), selected years 1970 to 2012

2013: $97.57

2014: $91.56

2015: $49.19

Sept. 24th:

Brent ≈ $56.86

WTI ≈ $50.66

Table 3-6: U.S. retail motor gasoline prices (nominal U.S. dollars per gallon), regular unleaded, 1995 to 2012

Price of gas in U.S. compared to Europe?

Evaluation of Environmental Policies

• Cost-benefit analysis
• Compares costs and benefits of a policy or program
• Costs of environmental protection
• Can be incurred by
• The government (agencies and programs)
• Business firms (controlling/reducing pollution)
• Consumers (more energy efficient appliances)

Evaluation of Environmental Policies

• Benefits of environmental protection
• Quantifiable
• Personal benefits of improved health & longevity, lower medical costs
• Reduced pollution clean-up costs
• Unquantifiable
• Biodiversity of our rain forests—expected to yield yet undiscovered products to benefit humankind
• Enjoy a lake for fishing or swimming
• Consider the benefits to future as well as current generations

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Economics of Conservation

• The market
• Can act as a mechanism to encourage conservation
• The government
• Can influence the market
• Taxes
• Subsidies
• Payments to producers or consumers of the product

Economics of Conservation

• Gas prices
• Lower in the United States
• Higher in the rest of the industrialized world
• Countries impose gasoline taxes higher than those in the United States
• Gasoline tax
• Lowers the quantity
• Increase the price
• Incentive for conservation of oil and gasoline

Figure 3-3: Effects of hypothetical gasoline taxes on the price and sale of gasoline

The higher ($2.00 per gallon) gasoline tax results in the consumption of only 2 million gallons of gas and thus encourages greater conservation than the lower ($1.00 per gallon) tax.

Economics of Conservation

• Issues with a gasoline tax
• Lower-income consumers
• Spend a higher portion of budget on gasoline
• Drive older cars with poorer gas mileage
• Commutes are often longer
• Alternative: Tax credits for the poor
• Other issues and options?
• New York vs. Montana

Economics of Recycling

• Recycling programs
• Aluminum, newspapers, cardboard, magazines
• Tin cans, glass, plastics, scrap metal
• Used oil, used printer ink cartridges
• Old landfills
• Environmental hazards, pollute land & water
• Modern, state-of-the-art landfills
• Environmentally safe
• If located & monitored properly

Economics of Recycling

• Problems faced by recycling programs
• Motivating consumers & businesses to recycle
• Developing markets for recyclable goods
• Motivation to recycle
• Curbside recycling
• Numerous neighborhood drop-off points
• Charge per bag of garbage
• Recycling credit for producers
• Beverage container deposit (http://yadayadayadaecon.com/clip/76/ )

Economics of Recycling

• Markets for recyclable goods
• Old newspapers
• Used to make paper or cardboard
• Shredded for animal bedding
• Glass
• Used as an additive for asphalt paving
• Uncertain demand
• Sometimes go to landfills because there is no use for them
• People
• Averse to buying products made with recycled materials

Innovative Policies

• London’s congestion fee
• Norway
• Automobile ownership is expensive
• Mass transit is cheap(er)
• Los Angeles
• Banned plastic bags

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Effects of Environmental Policy on US Economy

• Increased the costs of American business
• Contributed to inflation
• Reduced national output
• Increased unemployment
• New jobs
• Solar, wind, geothermal, and other renewable energy companies
• Slowed down economic growth
• U.S. firms - less competitive than their international counterparts
• Stricter environmental regulations

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Effects of Environmental Policy on US Economy

• Higher employment
• Decrease in jobs in polluting firms
• Offset by an increase in jobs at firms formerly harmed by pollution
• New jobs
• Pollution control
• New technology development

International Aspects of Pollution Control

• Global Issues
• Ozone depletion (success story)
• Deforestation
• Loss of biodiversity
• Desertification
• Industrial pollution
• Bhopal, 1984
• Chernobyl, 1986
• Fukushima, 2011

Conservative versus Liberal

Liberal economists

• Government – active role in protecting the environment
• Standards regulation
• Policies drafted at the national and international levels
• We should do whatever it takes to get the job done
• Not worry about government’s expanding role in the economy

Conservative economists

• Limit the role of government in economy
• Pollution fees
• Marketable pollution permits
• State and local solutions
• Voluntary compliance of industry