Introduction To Environmental Economics And Natural Resource Valuation PDF

INTRODUCTION TO ENVIRONMENTAL ECONOMICS AND NATURAL RESOURCE VALUATION Sherryl L. Paz and Julie Rose D. Apdohan Faculty, Environmental Science Department, CoFES Learning Objectives Define Economics and understand relevant concepts. Differentiate Micro and Macro Economics...

INTRODUCTION TO ENVIRONMENTAL ECONOMICS AND NATURAL RESOURCE VALUATION Sherryl L. Paz and Julie Rose D. Apdohan Faculty, Environmental Science Department, CoFES Learning Objectives Define Economics and understand relevant concepts. Differentiate Micro and Macro Economics Know the Factors of Production in Economics Understand the different Types of Economy Discuss the economic problem Learning Objectives Differentiate Positive and Normative Economics Compare Environmental Economics and Natural Resource Economics Appreciate the importance of Environmental Economics Familiarize the Key Questions of Environmental Economics Know the need to do Economic Valuation for Natural Resource Management What is Economics? Economics – is a social science concerned with the factors that determine the production, distribution and consumption of goods and services Study of allocation of scarce resources It is not business, or profit maximization  Just what is economic thinking?  Economics is a social science, human behaviour is at the core of the analysis, we focus on the study of “choices”, individual choices.  Choices are disclosed in the allocation of scarce resources (not just traditional commodities) to meet individual economic needs. 5 What is Economics? Note that the theories of economics can be applied to any scarce resource, not just traditional commodities. Economics is not simply about profits or money. It applies anywhere constraints are faced so that choices must be made. Economists study how incentives affect people’s behavior.  The Foundation of Economics The “Father” Adam Smith (1723 - 1790) – Author of the famous book "An Inquiry into the Nature and Causes of the Wealth of Nations" 7 The Foundation of Economics - Robbins Scarcity – Scarcity refers to our limited resources and our unlimited wants and needs. – For an individual, resources include time, money and skill. – For a country, limited resources include natural resources, capital, labour force and technology. 8  Needs - Wants. Human wants are unlimited. We live in a world of limited resources. The above leads to scarcity. People try to balance needs and wants. 9  ECONOMICS MICRO MACRO 10  Micro Economics Microeconomics studies how the individual parts of the economy make decisions to allocate limited resources Microeconomics studies: – how individuals use limited resources to meet unlimited needs – the consequences of their decisions – the behaviour of individual components like industries, firms, and households. – how individual prices are set – what determines the price of land, labour and capital – inquire into the strengths and weaknesses of the market mechanism. 11  Macro Economics Macroeconomics studies about the functioning of the economy as a whole It examines the economy through wide-lens. Macroeconomics studies about the total output of a nation the way the nation allocates its limited resources of land, labor, and capital the ways to maximize production levels the techniques to promote trade After observing the society as a whole, Adam Smith noted that there was an "invisible hand" turning the wheels of the economy: a market force that keeps the economy functioning. 12 The Factors of Production Labour Capital Organiza Land tion Product 13 14  ECONOMY MARKET COMMAND MIXED 15  Market Economies In a pure market economy there is no government involvement in economic decisions. 16 Contd… The Government lets the market answer the following three basic economic questions: 1. What ? Consumers decide what should be produced in a market economy through the purchases they make. 2. How ? Production is left entirely up to businesses. Businesses must be competitive in such an economy and produce quality products at lower prices than their competitors. 3. For whom ? In a market economy, the people who have more money are able to buy more goods and services. 17  Command Economies In a command economy the Government takes economic decisions. 18 Contd….  Command Economies In a command economy the Government answers the three basic economic questions. 1. What? A central planning committee decides what products are needed. 2. How? Since the Government owns all means of production in a command economy, it decides how goods and services will be produced. 3. For Whom ? The Government decides who will get what is produced in a command economy. 19  Mixed Economies In the Mixed economies the Government and the Market work together in decision making Contd… 20  The Economic Problem Unlimited Wants Scarce Resources – Land, Labour, Capital Many Uses of Resources Choices 21  The Economic Problem What goods and services should an economy produce? – should the emphasis be on agriculture, manufacturing or services, should it be on sport and leisure or housing? How should goods and services be produced? – labour intensive, capital intensive? Who should get the goods and services produced? – Even distribution? More for the rich? For those who work hard? 22  What is Utility? Satisfaction received from consuming a good or service Can not be measured – Marshall – Utility can be measured in Utils 23 What are kinds of Utility? Form Utility Place Utility Time Utility 24  Form Utility In what form is a product available – Whole chicken – Chicken parts – Cooked chicken Value at each step is different 25  Place Utility The place where is a product available Convenience 26  Time Utility When is a product available 27  Rational Behavior People know what they want Their behaviors are consistent with what they want Assume that the market information is given. 28 Opportunity Cost ▪ Definition – the cost expressed in terms of the next best alternative sacrificed ▪ The cost of anything in terms of other things given up or sacrificed. 29 Production Possibility Frontiers PPF Shows the different combinations of goods and services that can be produced with a given amount of resources No ‘ideal’ point on the curve Any point inside the curve – suggests resources are not being utilised efficiently Any point outside the curve – not attainable with the current level of resources Useful to demonstrate economic growth and opportunity cost 30  If it devotes all Production Possibility Frontiers resources to capital goods it Assume a could produce a country can maximum of Ym. Capital Goods produce two If it devotes all its types of goods resources to If it reallocates its Ym with its consumer goods it resources could produce a resources – (moving round maximum of Xm capital goods the PPF from A to B) it can produce Yo A and consumer goods If the country is more consumer at point A on the goods but only at PPF It can the expense of produce the fewer capital Y1 B combination of Yo goods. The capital goods and opportunity cost Xo consumer of producing an goods extra Xo – X1 consumer goods Xo X1 Xm Consumer Goods is Yo – Y1 capital goods. 31  Production Possibility Frontiers It can only Production produce at inside the Capital Goods points outside PPF – e.g. the PPF if it point B finds a way of means the Y1 C expanding its country is not resources or using all its A improves the. Yo resources productivity of those resources B it already has. This will push the PPF further outwards. Xo X1 Consumer Goods 32 Principles of Economics 33 HOW DO PEOPLE MAKE DECISIONS? 34  1. People face trade-off Every decision involves choices, and more of one good means less of another good. Trade-off applies to individuals, families, corporations and societies. Trade off between Efficiency and Equity — Efficiency means the society is getting maximum benefits from its scarce resources(Size of the economic pie) — Equity means the distribution of the benefits among the members of the society equally (How the pie is divided) 35 2. Cost of something is what you give up to get it When we make a decision we compare the costs and benefits of our choices. Opportunity cost is whatever must be given up to obtain something. People compare costs and benefits 36 3. Rational people think at the margin Basic economics assumes that people act rationally They try to act so as to gain the most benefit compared to the costs Microeconomics focuses on small or marginal changes Economists use the term marginal changes to describe small incremental adjustments to an existing plan of action Rational people often make decisions by comparing marginal benefits and marginal costs 37 4. People respond to incentives Ifrational people compare costs and benefits, then changes in either one may change decisions. An incentive is something that induces a person to act. An example of an incentive is that, people respond to changes in prices. In general, people are more likely to buy something if it is cheaper. If an action becomes more costly, then there is an incentive to switch to other choices. Note that all actions have substitutes. 38 HOW PEOPLE INTERACT? 39  Trade makes everyone better off Trade between two countries can make each country better off Trade allows each person to specialize in the activities he or she does best, whether it is farming or home building Trade with others enables people to buy a variety of goods at lower cost Countries as well as families benefit with the ability to trade with one another Trade allows countries to specialize in what they do best and to enjoy greater variety of goods 40  Markets are usually a good way to organize economic activity Firms decide whom to hire and what to make Households decides which firms to work for and what to buy with their incomes These firms and households interact in the market place, where prices and self interest guide their decisions 41 Two Types of Economic Analysis Positive Economics Normative Economics Two Types of Economic Analysis Positive economics – studies how the economy actually functions. It is purely descriptive. E.g.: how do people respond to higher energy prices? Two Types of Economic Analysis Normative economics – the study of whether or not the economy produces socially desirable results. Requires value judgments E.g.: What is the best way to reduce gasoline consumption (e.g. tax, fuel economy regulations, oil import tariff)? Even though we cannot prove scientifically which values are correct, we can have rational discussions about them, and can evaluate what goals are being met – leaving it to politics, etc. to decide which goals should be met. Environmental Economics vs Natural Resource Economics They are very close concepts the application of the principles of economics to the study of how environmental and natural resources are developed and managed. Environmental Economics vs Natural Resource Economics narrowly defined, they are distinct disciplines Basis: Natural resources – resources provided by nature that can be divided into increasingly smaller units and allocated at the margin. Environmental resources – resources provided by nature that are indivisible. Natural resources serve as inputs to the economic system. Environmental resources are affected by the system (e.g. pollution). Environmental Economics Concerned with two aspects : Regulation of pollution activities Valuation of environmental activities Concerned with brown issues in a narrow sense: * Welfare Economics * The Economics of Pollution * Valuation Theory *Environmental Policies Environmental Economics the study of agent’s decisions that have environmental consequences and how to affect these decisions to achieve environmental quality goals. Three fundamental issues: 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 environmental quality?  Environmental economics has carved out a niche within economics by pushing at the boundaries of anthropocentric economic utilitarianism is the study of the economics of ecological and environmental issues. It focuses on the monetary value of ecosystems and the costs and benefits of environmental policies. for example, by incorporating environmental values into the benefit cost accounts, and by extending market logic and market institutions as deeply as possible into the environmental domain. https://www.sciencedirect.com/science/article/pii/B9780123750679001443 https://www.nature.com/subjects/environmental-economics Why Study Environmental Economics Economic analysis is valued in the policy process and by NGOs or Need to be able to “speak the language” In general, prices reflect the relative scarcity of goods. However, in environmental economics, markets, and thus prices, often do not exist. Our goal is to apply economic tools to environmental problems. Key Questions of Environmental Economics What is the market failure? What type of intervention works best? How to evaluate environmental programs? Efficiency versus equity Key Questions of Environmental Economics 1. What is the market failure? Typically, externalities are a problem. However, we will also deal with other market failures. For example, imperfect competition leads to regulated utilities. Key Questions of Environmental Economics 2. What type of intervention works best? The problem in environmental economics is often that there is no market for environmental resources. Thus, one option is to create a market. However, economists realize that this is not always the best solution. After discussing market failures, we will discuss various types of remedies. Key Questions of Environmental Economics 3. How to evaluate environmental programs? Ideally, we need to know what level of environmental protection is desired. *Economists focus on decisions at the margin: equating marginal costs and marginal benefits. *The choice is not between clean air and dirty air, but rather between levels of pollution. Note that this requires placing a value on environmental protection. *However, this valuation is complicated by the lack of market prices for environmental goods. * We will discuss various techniques for valuation in the middle section of the course. Key Questions of Environmental Economics 4. Efficiency versus equity Finally, we need to remember that even when an efficient solution occurs, it might not be desirable. Recall that the fundamental theorem of welfare economics says nothing about the distribution of resources in an efficient solution. * Equity issues are also important. *Policymakers need to consider how various groups will be impacted. *This can be complicated in environmental economics. For example, how should the welfare of future generations be weighed when making global warming policy? Why do Economic Valuation? Economic invisibility of nature is a problem. Addressing losses requires knowledge from many disciplines (ecology, economics, policy) to be organized, integrated and acted upon. Different decision-making groups (policy-makers, local managers, business, citizens) need different types of information and guidance. Because successes need to be understood, replicated and scaled up. Natural Resource Economics Deals with the supply, demand, and allocation of the Earth’s natural resources Concerned with green issues (optimal utilization of natural resources) Main concern: Inter temporal allocation - allocation of resources in the present as well as in the future Distribution of outcomes of resource allocation decision Objective: To better understand the role of natural resources in the economy in order to develop more sustainable methods of managing those resources to ensure their availability to future generations What aspects of environmental and natural resource economics make it unique? 1. Market failures When market failures exist, government intervention may be appropriate. What aspects of environmental and natural resource economics make it unique? 2. Dynamics The decision to consume a good today typically does not affect the ability to consume it tomorrow. However, the decision to use natural resources today does affect what will be available tomorrow. Note that prices will influence this. Higher prices both provide incentives to conserve resources, encourage exploration for new sources, and the development of technologies to better obtain resources. What aspects of environmental and natural resource economics make it unique? 3. Irreversibility Damage to natural resources has long-term effects. For example, if the Grand Canyon were flooded, future generations would be unable to enjoy its beauty. This is not as large a problem for normal consumer goods. What aspects of environmental and natural resource economics make it unique? 4. Linkages between the economic and ecological system An interdisciplinary understanding of the environment, political science, etc. - necessary to be a good environmental economist. References https://docs.google.com/presentation/d/1iWaJvXQR4EsyYc5ooZESPV tUtLdaUmNCQ4dr1uCHTTk/edit#slide=id.p78 Lecture-Notes-part_One-10-3.pdf https://www.sfu.ca/~wainwrig/Econ400/documents/Lecture-Notes- part_One-10-3.pdf What is environmental economics? https://dcpopp.expressions.syr.edu/wp- content/uploads/777lect1.pdf