Environmental Economics


Three Main Parts within the topic

Economic Modelling- Interaction between economics and the environment

Economic Valuation- How economists work out the benefits of a environmental resource

Economic Tools- Simulating Sustainable Tools, Cost Benefit Analysis, Discounting

1 of 42

Economics (Social Science)

  • Production and Consumption
  • Analysis of Commercial Activities
  • Production
    • How?
    • What?
    • Why?

Traditional Economics is criticised by Environmental Economics

Scarcity = The Basic Economic Problem

Resources are scarce when they are not freely available = soon as the price exceeds zero

2 of 42

Environmental Problems from traditional economics

Market Failure Environmental Economists localise and analyse market failure

Traditional economics does not account for

  • 1/Toxins
  • 2/The loss of Finite Resources
  • 3/Reduction in natural capital stock 
  • 5/Loss in Biodiversity
  • 6/Loss in Soil Quality
  • 7/Loss in Water Quality
3 of 42

What Environmental Economists do?

  • Localise and Analyse Market Failure
  • Consider the environmental indecisions
  • Environmental Costs and Benefits
  • Case by Case project development
  • National Policy
4 of 42

Neo-Classical Economics

  • Goods, Outputs, Income Distribution

Neo-Classical economics 8 laws

1/ Rational Preference = associated with values

2/ Individuals maximise utility and firms maximise profit

3/Individuals are independent and informed when making purchasing decisions

4/ Individuals focus on themselves

5/ Pursuit of Personal well being

6/ Freedom to choose

7/ Self Interested

8/ Individuals make Utilitarian and rational decisions

5 of 42

Adam Smith 1723-1790

Three Laws

1/ The law of self interest

2/ The law of competition

3/ The law of supply and demand

Market determines the use of resources

Adam Smith The Wealth of Nations 1776-the consumers want to find a cheap price. This is an 'invisible hand'-the 'invisible hand' effieciently allocates resources to where they are needed. Markets use prices to communicate the wants and limits of society so as to bring about co-ordinated economic decisions in the most efficient manner.

Therefore resources will be allocated where they are needed. This maximises satisfaction and profit.Markets use prices to communicate the wants and limits of society, so as to bring about cordinated decisions

6 of 42

The value in use paradox

Water vs Diamonds

Water= No Market

Not relatively scarce, but useful

No competition for its uses


Increase in marginal use

Scace in supply

Few uses, marginal utility changes according to availability

7 of 42

Alfred Marshall 1842-1924-Equilibrium Scissor Poin

"Equilibrium Point" at the "Scissor Point "of supply and demand

Discusses how economics relates too: Biology, Welfare Economics, Scarcity and Price

8 of 42

Private Goods

1/ Not unlimited= there's a cost

2/ Requires inputs and technologies

3/ Investment-expectation of demand

4/Costs of production= not greater that the price of the consumers willing to pay

5/ A market exsists

6/ Production=Costs Consumer=needs income

7/Goods and costs = internal to the market

8/ Private goods don't often deal with the positive or negative consequences

9/ External Costs and benefits should equal social costs and benefits

10/ To achieve social welfare= minimum social cost and maximum social benefits

9 of 42


Externalities are when costs and benefits fall on those not involved in production

This could be a high social or private cost= market failure

Pollution is the classic negative externality

10 of 42


Private Costs

  • Are incurred by the consumer and are faced directly by them
  • Internalised cost of production and consumption

Social costs

  • Private costs + externality
  • Negative externalities add to social costs
  • Take the producer and consumer into account
11 of 42

Gokianluv et al, Harvard Review,2014

A Cost-Benefit Analysis

GHG Emissions

1st generational biofuels, primarily ethanol, have GHG emissions

Secondary Effects

1st generation impacts on biodiversity , air, destruction of habitats, water diversion, pollution exhaustion of arable land

Impact on Food Security

International food policy research, 2008

Biofuels responsible for 30% of weighted food price increase

Threat to food security cannot be solved by the second generation

12 of 42


Markets consist of Buyers and Demanders and Suppliers and Producers

  • Production and exchange
  • Items for Sale
  • Consumers


Each consumer is seeking to maximise

1/ satisfaction

2/ welfare


Firms have a goal of profit maximisation

13 of 42

The role of the market

The market is a place where decisions are made about

  • households about consumption issues
  • firms about production

workers about how much and for whom to work

These decisions=individual plans =adjustment of prices. The market will allocate resources in an optimal way to achieve the greatest possible satisfaction.

14 of 42

Power of the Markets

Market Prices

Laws of nature

Laws of Man

Some social scientists believe that the markets are the most efficient tool humans have discovered to organise and coordinate the diffuse set of information spread through society

15 of 42

Supply and Demand

Demand-The amount consumers desire to purchase at various alternative prices, reflects the degree of value customers place on items. Price and satisfaction gained from purchase

Supply-The amount prducers are willing to offer for sale at various prices, reflects the cost of the resources used in production and the returns/profits required

16 of 42

The Free Market economy

  • The system that operates the most in the world
  • A system where individuals and firms (as distinct from the central authorities) exert major influence over the allocation of resources
  • The alternative is the command economy
  • Most economies are mixed
17 of 42

Property Rights

Property Rights are simply legal control or ownership of a good

A well-defined property rights system represents a set of entitlements that define the owner's privaleges and obligations for the use of the resource

Comprehensive- all resources are privatly or collectively owned

Exclusive- all benefits and costs from use of a resource should accrue to the owner, and only to the owner

Transferable-rights should be transferable from one owner to the other, giving the owner the incentive to conserve the source

Secure- From involuntary seisure or restriction by other people, firms or the government

Unclearly defined property rights=market failure because producers and consumers may not be held to account, for example since noone owns clean air it is difficult to settle accountability

18 of 42

Profit Maximisation

as long as marginal revenue> marginal cost total profits will be increasing or losses decreasing. The profit maximisation output occurs when marginal revenue =marginal cost  

As price per unit declines, so demand expands

Initially total revenue rises but at a decreasing rate

Once the firm moves into profit the profit increases because the marginal revenue from selling units is greater than the marginal cost of producing them

19 of 42


Most economic choices made at the margin

Is it profitable to produce the next car?

How income is spent one decision at a time

Marginal Cost=The Cost of Producting the next unit

Prodution increases=MC starts high, falls then rises again

Low output=low cost becuase of simple production techniques

Output rises=more sophisticated techniques can be used

20 of 42

Marginal Revenue and Marginal Cost

Marginal Revenue= The Revenue recieved from that Unit

As MR falls throughout there is an increase in output

It takes into account the revenue lost by selling all output  at a lower price as output increases, as the demand curve as out put increases the price falls

If MR> MC, an increase in output will increase profits

IF MR<MC a decrease in output will increase profits

So, profits are maximised when MR=MC, at the point where supply and demand cross as long as the firm covers viable costs

21 of 42

The Law of Diminishing Marginal Utility

The more of a commodity that an individual has already consumed to satisfy a want. The less is the extra gain in utility generated from consuming one more unit.

22 of 42

Indifference Curve

This is a representation of a consumers preference ordering. Includes all the consumption bundles that are indifferent to each other. Indifference curves representing distinct levels of preference can not cross (such as clothes and food)

23 of 42

Subsitutions Effect and Income Effect

Subsitutions Effect

The rise in the price of clothes makes the consumer buy more food as this is cheaper

Income Effect

If income is reduced. Consumers will spend less on both goods

24 of 42

The Production Decision

  • For any output level, a firm attempts to minimise costs
  • Assumption that the firm aims to maximise profits
  • Profits depend on both the COSTS and the REVENUE, each, of which varies with the level of output
  • As long as MC exceeds MR the firms should increase its profit
  • Selling one more unit needs to add more to the MR than MC
25 of 42

Production-Possibility Boundary

The production-possibility boundary separates the attainable combinations from unattainable combinations

Depends on efficient use of society's resources

Due to the scarcity of resources, the economy can only provide certain combinations of goods

If we divide the economy into Private and Public goods- there is a maximum of either we can produce shown by the Production Possibility Boundary

26 of 42

Market Failure

Market Failure=any market performance that is less than the most efficicient possible

Climate Change is the worst possible market failure

1/ Economists of different political philosophies argue about the extent to which governments need to intervene in the workings of the free market

2/Free market economists argue that government intervention should be kept to a minimum, socialist economists argue for greater state control

3/ For environmental protection the free market fails

4/ A condition in which a market does not efficiently allocate resources to achieve the greatest possible consumer satisfaction

5/4 main market failures: Public good, Market Control, Externality and Imperfect Information

6/ A market acting without any government imposed direction does not direct an efficient amount of our resources into the production, distribution or consumption of the good

27 of 42

Market Failure-Public Goods

  • National Defence, Climate, Open Spaces, Oceans
  • Use by one person does not prevent others
  • It is not possible to exclude others
  • Not within the free market
  • Can lead to the problem of "Free Riding"
28 of 42

Market Failure Externalities and Social Costs

  • Most important for the environmental economics example -eg. pollution
  • present when individual's utility and production include real variables, whose values are chosen by others without paticular attention to the effects on the individual's welfare
  • Pollution could spoil sport recreation or threaten food security

Market Failure Social Costs

  • MPC= marginal product cost (cost to firm)

  • MSC= marginal social cost (cost to society)

  • MSB= marginal social benefit

  • Os= output of society (level society wants to produce at)

  • Op= output for firm (level firm wants to produce at)

29 of 42

Possible Ways to Correct Market Failure

  • Force the firm to produce at Os (output of society)
  • Tax firm on either: unit of output or each unit of pollution.
  • If there's a one to one relationship it is better to tax pollution, if not then pollution could be taxed
30 of 42

External Costs

  • Private costs of production vs Social Cost
  • Cost of production does not always take into account pollution and social costs
  • Thus it may be better for society to produce less, but prices would rise
31 of 42

Case Study The Great Bear Rainforest

Greenpeace- When campaigning started half the rainforest had been lost to clearcut logging in the 1990's the other half was licenced to logging companies

Renamed the Great Bear Rainforest

Made contact with indigenous communities

campained with international customers

2001 reached agreements-to diversify economy away from logging

32 of 42

Great Bear Rainforest -Greiss et al,2017

renamed  the Great Bear Rainforest(GBR) previously known as the timber supply area

GBR is a temperate rain forest extending over 6.4 million hectares of land along British Columbia's Pacific North and Central Coast

largest coastal tempare rainforest in the world

2 million hectares are protected-commericial logging and hydro development are excluded, but mining and development of toursm may be permitted. Outside the protected area ecosystem based management is used

Janauary 2016 a new land use objective order was legally established designed to support ecosystem based management in the GBR-comanaged by BC's provincial government, first nations and coalitions- First Nations Cultural Heritage Values, Freshwater Ecosystems, Landscape and Stand Level Biodiversity and Wildlife considerations

33 of 42

GBR Greiss et al 2017

Challenges for sustainable timber supply

survey 1619 people employed in harvesting and silverculture

3408 working in the primary processing industry

Provincial Timber Supply Review indicates a mid term shortage in the timber suple due to the given age class structure in relation to the nature of the requirements for ecosystem based management, due to underharvesting as the trees are relatively old they have to be retained and cannot be harvested

Carbon Credits

offers an economic alternative

gives individuals the opportunity to offset their emission

The GBR order could gives opportunities to sell carbon credits through a carbon project

34 of 42

Case Study, Greiss et al 2017

Two of the objectives of the GBR order are to develop employment opportunities and allow ecosystem integrity

Finiding a compromise between revenues from timber sales and those from carbon credits may translate into a balance between employment opportunities and ecosystem integrity. This trade off depends on various markets (timber and carbon).

Greiss et al use a computer based system DSS to evaluate consequences of policy

Carbon market- long term values and market stability remain uncertain

returns from carbon credit may lead to higher returns than timber sales

35 of 42

Nordon and Tansey, 2011, University of British Col

Many governments efforts to "Command and Control" the protection of ecosystems have met with limited success at best

Carbon offsets have been generated by the GBR

More traditional market based instruments are also exsistent: Ecotourism, hunting, logging and fishing

The price of the liscences appears to be far below true value. the proliferation of public land and provincial economic policies supress market activity for such liscences, and appear to be the driving force behind market imperfection.

36 of 42


The Coal Question

Exhausting a non-renewable resource as a threat to growth

37 of 42

John Stuart Mill 1806-1873

  • Stationary State-Physical Limits of Economic Growth reached would reproduce wealth by replacing worn-out goods, maintain capital stock, husband non-renewable resources
  • Originally stated that only " things" with non-market value have value. Air does not count
  • However if atmosphere became too scanty or could be monopolized, air might acquire high market value
38 of 42

Malthus and Ricardo

Thomas Malthus 1766-1834

Population increase geometically but food production only arithmetically

David Ricardo 1722-1823

Diminshing returns and comparitive advantage

39 of 42


Karl Marx 1818-1883

Labour Theory of Value

Emphasis on Social Relationships

Capitalism causes extreme social separation of human producers from conditions of production

Resource Depletion as an inevitable problem of capitalism

40 of 42

Ostrom's Principles

Ostrom identifies eight "design priciples" of a stable local common pool reosurce management

1. Clearly defined boundaries (effective exclusion of external unentitled parties)

2. Rules regarding the appropiation and provision of common resources are adapted to local conditions

3. Collective-choice arrangements allow most resource appropriators to participate in the decision making process in the form of multiple layers of nested enerprises, with small local CPRs at the base level.

Used case studies from around the world to look at how people shared Common Pool Resources to address the Tragedy of the Commons  Governing the Commons The Evolution of of Institutions for Collective Action, 1990

41 of 42

Ostroms Principles 2

4.Effective monitoring by monitors who are part of or accountable to the appropiators

5. There is a scale of graduated sanctions for resource appropiators who violate community rules

6. Mechanisms of conflict resolution are cheap and easy of access

7. The self-determination of the community is recognised by higher level authorities

8. In the case of larger common-pool resources: organisation

42 of 42


No comments have yet been made

Similar Economics resources:

See all Economics resources »See all Environmental Economics resources »