InputsEnvironmentalEC 145EEnvironmental EconomicsUCLADr. BresnockLecture 1 Economics – is a social science concerned with the efficient use of limited, or scarce,resources to achieve maximum satisfaction of human material wants. It is concernedwith decision making by institutions that include consumers, firms, government agencies,and non-profit organizations such as environmental groups. Environmental Economics -- is the application of the principles of economics to thestudy of how environmental resources are developed and managed. Decision makingincludes analysis of the environmental consequences of alternative courses of action sothat environmental quality goals are met along with other societal goals. Focus is air,water, hazardous and toxic waste management issues.Resource Economics – is the application of the principles of economics to the study ofextraction and utilization of natural resources. Focus is on mineral, forest, marine, land,energy, water, agricultural, and biodiversity management issues.Figure 1 Circular Flow with Environmental and Resource DimensionsHouseholds Firms Outputs InputsIncomesExpendituresEnvironmental EndowmentResidualsExtractionEnvironmental Economics Dr. BresnockLecture 1Note: The environmental is viewed as a composite asset, or endowment, that provides asteam of services to the economy, i.e. life support, air, water, energy, wildlife, forests,fisheries, biodiversity, minerals, etc.Figure 1 illustrates that the Earth is a closed system to which the laws of thermo-dynamics apply:(1) 1 st Law of Thermodynamics – “Neither energy nor matter can be created ordestroyed”. This law captures what environmental and resource economics referto as the “materials balance” perspective. That is:Mass of Material Inputs = Mass of Material Outputs + Mass of Waste, orResidualsIf Mass of Waste > “Assimilative Capacity” or Pollution Damages or “Carrying Capacity” of EnvironmentNote: Some portion of the waste, or residuals, will be recycled prior to dischargeinto environment. The “assimilative capacity”, or “carrying capacity” ofthe environment refers to natural processes that dilute, remove, orotherwise reduce the amount of discharged residuals. Not all waste, or residuals, becomes pollution, but all pollution is waste, orresiduals. Pollution occurs when a substance, form of energy, or actiondegrades the quality of the “ambient”, or surrounding, environment.Damages are the negative impacts resulting from pollution.The essence of the 1st Law of Thermodynamics is captured in the equations below.In the long run:M = Rpd + Rcd where M = Mass of Material InputsRpd = Residuals Discharged by Producers Rcd = Residuals Discharged by ConsumersM = G + Rp - Rpr - Rcr where G = Mass of Material Outputs Rp = Residuals from Production Rpr = Residuals Recycled by Producers Rcr = Residuals Recycled by Consumers(Note: G = Rc -- everything that flows into the consumption sector as a goodeventually ends up as a residual from that sector.)2Environmental Economics Dr. BresnockLecture 1Figure 2 Circular Flow Revisited Recycled (Rpr) Residuals (Rp) Discharges (Rpd)Raw Materials (M) Goods (G) Residuals (Rc) Discharges (Rcd)Recycled (Rcr) Natural EnvironmentThus, to ↓ Residuals in the Long Run:(1) ↓ G -- reduce output; ZPG, but may use more of the environment/person;impacts may be cumulative;(2) ↓ Rp + Rc -- via ↓ residuals intensity – source reduction , or pollutionprevention , shift output composition toward less residuals – sectoral shift;(3) ↑ Rpr + ↑ Rcr -- reduce usage of virgin materials(2) 2 nd Law of Thermodynamics -- aka the “entropy law” where “entropy” is theamount of energy that is not available for work. This law states that entropyincreases over time. The implication of this law is that no energy conversion iscompletely efficient. In addition, if the VERY long run, a closed system will runout of energy. The Earth becomes an “open system” via interaction with the solar system, i.e. solarenergy. This “openness” enables the growth processes of the planet to be extended, butstill limited, to the availability of solar energy usage.ProducersConsumers3Environmental Economics Dr. BresnockLecture 1The creation of waste, or residuals, is an inevitable consequence of consumption andproduction activities. Given the fundamental laws of thermodynamics, the generation ofwaste leads to 3 fundamental questions that are addressed in environmental economics:(1) What is environmental degradation and why do we have it?(2) What level of environmental quality should we strive for?(3) How do we design institutions to improve and/or protect environmentalquality?(1) Environmental degradation results from:(a) Immoral or unethical behavior(b) Profit motive – but consumers, government agencies, and non-profitorganizations also pollute; also communist systems(c) Lack of informationNote: The role of “incentives” to address these three causes of environmentaldegradation is an important element in designing appropriateenvironmental policies. Such designs would attract, repel, or lead peopleto modify their behavior in some way that would reduce environmentaldegradation. Policies that create “perverse incentives” should be avoided.(2) Determining the “optimal, or efficient” level of pollution” depends on the type ofpollution, location of pollution and those affected by it, the “assimilativecapacity” of the environment, and many other factors. Chapters 4 and 5 examinestatic optimality – when emissions in occur in one time period and areindependent of those in other time periods. Chapters 6 – 8 explain dynamicoptimality – when emissions occur over time.(3) The design of institutions and policies to improve and/or protect the environmentare taken up in Chapters 9 – 13. The key criteria used by economists to evaluatethese policies are:(a) Efficiency – maximizing the net benefits to society (total socialbenefits minus total social costs) from the environmental policy.(b) Cost-Effectiveness – reaching an environmental objective at least cost,or