for michael smith

ECO 436

Environmental Economics

Spring 2017

BRIEFING-FIRST EXAM BACKGROUND: NOT NOISE!!!

MARKETS AND ORGANIZATIONS

Economists make much of markets.

Markets—like households and firms and governments and money and machines -- are human constructs —tool, institutions—invented by humans to enable us to enhance our wellbeing. Markets enable us to alter our initial endowments; the motivation to trade appears to be a uniquely human urge: Adam Smith identified our ‘propensity to truck, barter and exchange” as unique among animals. In short, markets were innovated—like all human institutions—to solve problems.

Humans have traded since prehistoric times, but our first transactions probably took place in bazaars.

In a bazaar , people exchange commodities: buyers and sellers swap goods, services and assets (g, s, a) for other g, s, a. But when the dust settles and everyone goes home, no future behaviors are meaningfully altered because of what happened at a bazaar. In a market , by contrast, the day’s trading informs subsequent decisions: what is produced and what is consumed in the near and far future.

Markets have quite a reputation for conveying accurate information, and they are applauded for guiding resources—‘as if by an invisible hand’-- to their best uses. But the more important point is that market outcomes, unlike those of the bazaar, inform future decisions. Markets are links, over space and time. A market is appreciated for being ‘so economical,’ for incorporating so much information into such an ‘itty bitty’ container: price. (Recall Robin Williams’ genie in Aladdin.) (Julian) Simon spoke for (virtually) all economists when he said: “the only meaningful economic measure of scarcity is some variant of cost or price.” [S: 33]

Markets appear prevalent, but In truth, according to the economist Herb Simon, it is organizations—not markets—that are pervasive. Most economic activity takes place, not in market settings, but ‘inside the skins’ of organizations—households, firms and governments. How these entities motivate employees to purse the organization’s goals is the central challenge of organization theory and invites contributions from the natural sciences (especially biology/ecology) and the social sciences (anthropology and psychology).

Whether markets or organizations dominate, the economic predicament is the same . Economists—far from assuming natural capital to be infinite and irreducible—assume scarcity to be the economic condition , the plight of humanity. As Aristotelian ‘managers of our household’, we must ‘make do’—do the best we can with what we have.

The term economics used by Aristotle is derived from the Greek term οἰκονομία ‎(oikonomía, meaning ‘management of the household’ from οἶκος ‎(oîkos, “house”) + νόμος ‎(nómos, “law”).

Whether decision-making is centralized or decentralized, planned or unplanned, all economic systems have the same task: allocating resources and distributing goods and service so as to maximize some objective, ideally human welfare. As it happens, improvements in efficiency (producing the same output with less input) and productivity (achieving more output with the same input) enhance the likelihood of ‘greater weal, wellness or wealth,’ again ideally for all inhabitants. Despite the dispute between Ehrlich and Simon on the nature and extent of environmental disruption , on this both economists and ecologists should be able, if not willing, to agree: Enhancing productivity and efficiency can be conducive to human welfare, if not the planet’s well-being .

Let’s assume that economists are not the enemy. (Or if they are, those concerned about the environment would be wise to keep them close!) Economics offers a toolkit that can be used—to good effect—to ensure sustainability. And much of the rest of the course will be examining this toolkit—its strengths and weaknesses, especially in the environmental context.

It is not a new kit. Benefit-cost analysis has been deployed (informally if not formally) for centuries by households, firms and government entities to compare alternative ways of accomplishing the same objective—to increase efficiency-- and to compare alternative objectives can be achieved with the same resources—to enhance productivity. But B/C analysis can also be employed at the societal level, to inform environmental policy.

A key element of B/C analysis is accurately identifying and measuring the relevant benefits and costs .

According to Nowak, accurate information—and a reputation for providing it—is critical to success in games of indirect reciprocity. Furthermore, he argues that by playing games of indirect reciprocity, humans emerged as supercooperators. Using language to attach names to one another enabled us to hold each other accountable, sponsoring a rapid cultural evolution, a change central to our adaptability as a species.

Recall Ehrlich’s comment: “The underlying problem is that the rate of cultural evolution of social systems far exceeds the rate of genetic evolution in ecosystems.” (EI-11]

For Ehrlich, this is a problem because humans may well innovate methodologies and regimes that compromise nature’s ability to deliver environmental services but not realize the full impacts for a considerable amount of time. (At the first least, this time lapse makes appreciating the relationship between cause and effect problematic!)

But you could construe this human adaptability—to change our ‘culture’-- as an asset, not as a liability. Nowak suggests our species’ success is owed largely to our success at playing a particular game, indirect reciprocity, even crediting it for the triumph of Homo sapiens sapiens’ over competing hominids (e.g. Hs neanderthanlensis).

Indirect reciprocity could be regarded as enlightened self-interest: realizing that if you assist someone now, they--and others you have not helped but are aware of your behavior—may come to your aid in the future. It is, if you like, the first hint that we are not as selfish and short-sighted as Wilson intimates.

Wilson argues (in The Bottleneck) that

“The relative indifference (of humans) to the environment springs…from deep within human nature. The human brain evidently evolved to commit itself emotionally only to a small piece of geography, a limited band of kinsmen, and two or three generations into the future. To look neither far ahead nor far afield is elemental in a Darwinian sense. We are innately inclined oi ignore any distant possibility not yet requiring examination.”

For Wilson, “the reason is simple: it is a hardwired part of our Paleolithic heritage. For hundreds of millennia, those who worked for short-term gain within a small circle of relatives and friends lived longer and left more offspring—even when their collective striving caused their chiefdoms and empires to crumble around them. The long view that might have saved their distant descendants required a vision and extended altruism instinctively difficulty marshall.” [W-91]

In the process, Wilson submits, “Hs has become a geophysical force, the first species in the history of the planet to attain that dubious distinction. We have driven atmospheric carbon dioxide to the highest levels in at least 200,000 years [keeping in mind we didn’t have to survive that episode], imbalanced the nitrogen cycle, and contributed to a global warming that will ultimately be bad news everywhere.” [W: 84]

Marean is challenging Wilson’s description of what is endemic to humans. He argues that our species has “a genetically encoded penchant for cooperation with unrelated individuals.” [M: 34] (Wilson alleged that we evolved to commit ourselves emotionally to only a limited band of kinsmen.) And the great human diaspora—our migration out of Africa to all continents—suggests that any commitment we had to “a small piece of geography” was quickly trumped by an awareness of greener pastures, if not exactly a constructive appreciation of a larger world out there.

But Marean also advances the argument that our hyperprosociality did not kick in until we came into conflict. [We know now that some genetic traits have to be ‘triggered’ before they manifest.] Marean says, “such behavior spreads best when it begins in a subpopulation and competition between groups is intense and when overall population sizes are small , like the original population of Hs in Africa from which all modern-day people are descended.” [M36] (Recall that Wilson, Ehrlich and even Simon speak of scarcity in the context of increasing human numbers, if not overpopulation.) Marean argues that it ‘pays to fight’ when resources are economically defensible (a notion advanced by Jerram Brown in 1964). Specifically, when a resource is “dense and predictable” and “crucial to the organism” —e.g. oil, water and productive agricultural land—territoriality emerges: humans begin to “invest time and energy in defending boundaries.” [M: 36] From an evolutionary standpoint, this happened 160,000 years ago on the southern shores of Africa: “There, for the first time in the history of humankind, people started targeting a dense, predictable and highly valued resources00a development that would lead to major social change.” The Clamshell Alliance was born! [Side note: the Clamshell Alliance was a group that opposed the Seabrook, NH nuclear power plant in the 1970s; but in Marean’s case, I am referring to the human commitment to a diet of shellfish after global cooling phase reduced human numbers (between 195,000 and 125,000 years ago) and the subsequent organization by human groups to defend that critical food group. Additive technologies---stabbing sticks to hand-cast spears to leverage to assisted casting spears (atlatls) to bows and arrows (any of which could be augmented with poison) and now our modern array of deadly weapons—enabled the competition to become increasingly lethal. [The break-through innovation in spear tips was heating silcrete to make sharp points; today we use silicon to make electronic appliances—cellphones, laptops—still to make points, sometimes deadly!]

The larger point is that humans became a lethal weapon. The ability to kill, cooperatively, enabled the human population to survive and thrive, not only at the expense of the ‘food groups’ (ranging from shellfish to large mammals) but also, eventually, to the detriment of other human groups. Marean identifies the Neanderthals as “the first (human) victims of human ingenuity and cooperation” but submits that “horrific acts of genocide (within species) and xenocide (between species) crop up in the world… When resources and land get sparse, we designate those who do not look or speak like us as “the others,” and then we use those differences to justify exterminating or expelling them to eliminate competition.” {N: 39].

But Marean argues that we are not locked into this response to scarcity—real or imagined. “Culture can override every the strongest biological instincts” He hopes that “recognition of why we instinctively turn on one another in lean times will allow us to rise above our malevolent urges and heed one of our most important cultural directives: Never again.”

Wilson also suggests that we can change our evil ways (BJ’s words): that we can create a universal environmental ethic to guide humanity and the rest of life can safely conduct us through the bottleneck (the immediate future).

But, to return to Ehrlich’s identification of rapid cultural change as a problem: Aa rapid response—this time to protect the most essential resource, the natural asset that is planet Earth—can be a solution! Simon, however ‘naively,’ argues this: “People are often willing and able to deal with worrisome, impending problems, and their efforts to do so frequently leave us better off than we were before the problem arose.” [S-38]

Whether Simon’s confidence in science and technology is warranted, whether humans can cooperate sufficiently to counter ontological environmental threats depends—according to Nowak—on our species’ success at ‘winning’ “certain cooperative dilemmas”: public goods games. In public goods games, “everyone in the group benefits from my cooperation, but all else being equal, I increase my payoff by switching from cooperation to defection.” [N: 39] The challenge is to find ways to motivate people to be good stewards. The evidence suggests that people will be more altruistic—more likely ‘not to defect’ in this setting—if the information received is authoritative, and if their contribution/compliance is made publicly, not anonymously.

The bigger game—the mother of all public goods games—is the war to save the planet, and our species in the process (or v.v.)

If you imagine Earth as a rival but non-exclusive good—a commons —two things would be the case. One entity’s use, enjoyment, of its environmental services diminishes the availability to other entities, but at the same time it is not feasible to prevent others from reaping those services. The tragedy of the commons is the degradation of a resource—in this case the ‘bundle of resources we call planet Earth. Open access ensures that degradation will ensue; it is precisely because there are no constraints (nonexclusivity) that the resource is rival!

But, as we will come to understand later, tragedy (of the commons) can be averted if the commons is converted into a club—if an ethic, rules, regulations, traditions can be brought to bear to render the resource exclusive. Strangely, by introducing exclusivity we can be restore nonrivalry!

Of course, any limitations infringe on ‘rights’ to use resources; but in the absence of enforcement, the resource is arguably not long for this world. In a way, one person’s right stops where another person’s right starts. Your right not to be vaccinated against polio, the flu, etc. stops where the rights of society (to be protected from free riders, defectors, refusers) stops. Your right to use the earth as a SOURCE (of M--materials: solid, liquid and gaseous)--and a SINK (for R—residuals—solid waste, effluents, emissions) stops where another person’s starts. But where do rights start and stop? It is in the playing of games that property rights are allocated: some people, possess of private property, are privy to the resource (they can use, earn income (usufruct) and transfer); those not possessed of the relevant property rights are deprived of the good and its services. Human have erected various institutions--markets and governments and a myriad of human conventions (habitual ways of doing things) to allocate property rights. A great game is afoot.

HISTORICAL ASIDE: courtesy of Wikipedia

"The Great Game" is a term used by historians to describe a political and diplomatic confrontation that existed for most of the nineteenth century between Britain and Russia over Afghanistan and neighbouring territories in Central and Southern Asia.

BJ’s BOTTOM LINE: the greatest game of all is for the planet

Nowak warns of the tragedy of the commons, in this case, the danger that we will not ‘manage’ (succeed) ‘to manage’ (to be good custodians of) our communal assets, the greater commons. The greatest game of all requires that we minimize defection (free riding) and maximize cooperation…all the better to compete (in the sense of achieving environmental sustainability.

Simon’s assault on Ehrlich’s alleged rhetorical hyperbole could be viewed in this light. If people are to respond constructively (to a situation of environmental disruption), it is critical that the explanation (information) be accurate and the source reliable (reputable). An adequate theory should be able to explain and predict with accuracy; a ‘loss of faith’ (in Cassandra’s warnings) can exacerbate the rate of defection, reducing the likelihood that we will be successful at responding to the challenge in time. Simon’s point is that Ehrlich’s rhetoric risks undermining the credibility of the threat (to the extent that he acknowledges there is one). But the other risk is the danger of minimizing Ehrlich’s warnings with respect to environmental disruption: too much competition and too little cooperation between scientists—social and natural—distracts from the task and diverts resources that would be better ‘tithed’ or committed to solving serious problems. Ehrlich plea for greater cooperation was sincere. Simon can be accused of being intentionally perverse, going out of his way to miss the Ehrlich’s point. But then, competition is fierce in academe!

Perhaps both should have behaved better. But as Wilson emphasizes: “Humanity did not descend as angelic beings into this world. Nor are we aliens who colonized Earth. We evolved here, one among many species, across millions of years, and exist as one organic miracle linked to others. The natural environment we treat with such unnecessary ignorance and recklessness was our cradle and nursery, out school, and remains our one and only home. To its special conditions we are intimately adapted in every one of the bodily fibers and biochemical transactions that give us life.” [W-91]

Sustainability, at its core, is intergenerational equity. Just as saving (sacrifice, delaying current consumption) enables investment (and its objective, greater future consumption), preserving our habitat suggests some short term ‘sacrifice.’ In a way, Wilson’s environmental ethic implies a re-specification of utility functions.

Utility is first approached by economists as being a function of one person’s endowment of material goods and services, construed as private (rival and exclusive). This specification invites exploitation: using resources with abandon, because others-across space and tie—do not ‘enter’ a person’s utility function. However, as soon as another person’s material needs are incorporated, or another person’s utility (satisfaction, happiness) informs ones utility, enlightened self-interest and even altruism becomes rational. If someone else’s utility is an argument in your utility function, you have internalized what was an externality (another person’s endowment or utility): It is possible to feel better, knowing that one has left a legacy our heirs. Sustainable production and consumption is an extension of Bentham’s ‘greatest good for the greatest number’: flora and fauna—not human—alive and yet to be born. The result of such calculus would be —in Jeremy Bentham’s words—felicific for future generations, presumably a constituency we care for.

Symmetrically, if a good is a negative bad, then this enlightened felicific calculus requires us to internalize negative externalities. The Pigouvian tax is born, arguably a ‘piecemeal’ approach to preserving environmental services, but a tool well within our grasp, and our graphs!

The viability of Pigouvian remedies is all about correctly assessing the monetary values of externalities and deploying the right device to internalize them, in order to make markets efficient at the social level: socially optimal. But who identifies the benefits and the cost, and who assigns values to events beneficial and detrimental?

Excitement in store:

As important is the identification of the appropriate rate of discount. Projects that involve future cost outlays or delayed benefit streams always require ‘discounting’—humanity’s way of imposing its preference for the present by reducing (discounting) the value of future events ‘back to the present.’ In the case of –arguably--the most important project of all—ensuring the sustainability of our planet and our species—the selection of the proper social rate of discount is critical.

The question (to be addressed later) is whether ‘capitalism’--that strange system that combines private property and profit motives—can contribute the tools to enable us to make the ‘right’ decisions—decisions that ensure the survival of our species. There is a toolkit on offer; but arguably, that toolkit may have to be amended in particular ways to alter the human destiny.

In particular, if we are to ‘correct’ for our shortsightedness, we may have to ‘lower’ our rate of time preference to incorporate the idea that we care more, not just or necessarily for others elsewhere ‘in space’ (other places on the planet), but more critically, to incorporate a concern for others that do not yet exist, future generations. Practically, this is accomplished by deploying low, zero and even negative rates of discount to projects that would be rejected at higher positive rates of discount. [Now you just can’t wait to do project appraisal!] But who selects the rate of discount?

Sustainability, at its core, is intergenerational equity. Just as saving (sacrifice, delaying current consumption) enables investment (greater future consumption), so preserving our habitat for the future requires some short term ‘sacrifice.’ Sustainability involves a re-specification of utility functions not only to include ‘others’ in space but others in time: it is possible to feel better, knowing that one has left a legacy ones heirs. ‘Sustainable production and consumption’ is an extension of Bentham’s ‘greatest good for the greatest number.’ The result of such calculus would be —in Jeremy Bentham’s words—felicific for future generations, presumably a constituency we care for.