2. Environment
The Environment is our basic life support system and is composed of living beings, physical surroundings, and climatic
conditions.
It is derived from a French word, “Environner”, which means “to surround”.
The term environment includes all biotic and abiotic entities around us.
Biotic refers to the world of living organisms, whereas Abiotic refers to the world of non-living elements.
The Environment provides us with the essential elements – air, water, food, and land which are essential for life to
flourish on the Earth
Our Environment comprises three components
Natural components (air, water, land & living things),
Human components (individual, family, community), and
Human-made components (roads, monuments, industries), and is a combination of natural and human-made phenomena
3. Environment
Natural components (air, water,
land & living things),
Includes
means “to surround”.
French word, “Environner
Derived from
climatic conditions
Physical surroundings
composed of living beings
Basic life support system
Environment comprises
three components
Abiotic
Biotic
Human components (individual,
family, community)
Human-made components (roads,
monuments, industries
4. Environment
The Natural Environment could be further classified into four domains- lithosphere, Hydrosphere, Biosphere, and
Atmosphere.
These are also called the domains of the environment. The solid crust is called the lithosphere.
It is covered by a thin layer of soil and is formed of rocks and minerals. It supports life on Earth and provides forests, and
grasslands for grazing has various landforms – plains, valleys, and mountains, and also makes available land for
agriculture and human settlements.
The hydrosphere is referred to as the domain of water. It includes different types of water bodies – lakes, rivers, seas,
oceans, etc., along with various sources of water.
The thin layer of air surrounding the Earth is the atmosphere, it consists of water vapor, gases, and dust particles.
5. Environment
Environment classified
Lithosphere
Hydrosphere
Biosphere
Atmosphere
The solid crust
It is covered by a thin layer of soil and is formed of rocks and
minerals. It supports life on Earth and provides forests, and
grasslands for grazing has various landforms
It referred to as the domain of water. It includes different types
of water bodies
The thin layer of air surrounding the Earth is the atmosphere, it
consists of water vapor, gases, and dust particles
The biosphere is also called the living world, the plant and the
animal kingdom together constitute the biosphere.
Role of human
As the human needs grew and became varied,
the pressure on the environment also spiked
Emphasis was given on judiciously using our
environmental resources
To safeguard biodiversity and to protect life on
Earth.
Early humans used to adapt to the natural
surroundings
6. Environment
The upper layer of the atmosphere has the ozone layer. It protects life on Earth from the sun's ultraviolet (UV) radiation.
The Earth’s gravitational force holds the atmosphere around it, this is an essential process for life to thrive on the planet.
The biosphere is also called the living world, the plant and the animal kingdom together constitute the biosphere.
The interaction between land, water, and air takes place in this narrow zone of the Earth to support life.
Humans form an integral part of the environment. They interact with the environment and modify it as per their needs and
requirements, thus forming a human-made environment.
With time, as humans evolved, their interaction with the environment also revolutionized, resulting in global environmental
impact.
Early humans used to adapt to the natural surroundings, however, contemporarily, as the human needs grew and became varied,
the pressure on the environment also spiked, and more emphasis was given on judiciously using our environmental resources for
meeting the needs of both present and future generations, to safeguard biodiversity and to protect life on Earth.
Our Environmental resources are finite, living in harmony, and maintaining a perfect balance between the natural and human
environment is of utmost importance and is the only way forward to a sustainable future.
7. Environmental Economics
Environmental economics is a discipline of economics that studies the economic effects of environmental policies around
the world. Its main focus is on the efficient allocation of environmental and natural resources and how alternative
environmental policies deal with environmental damage, such as air pollution, water quality, toxic substances, solid waste,
and global warming.
Origin
The origins of environmental economics date back to the 1960s, when industrialization was experiencing a boom,
particularly in the western world, and pollution from industrial activity became an increasing concern. Environmental
activism also started to increase due to the perceived negative consequences of environmental degradation. The world
became aware of rapid economic growth and its consequences to the environment
Environmental economists see the environment as a form of natural capital that provides amenities and life support
functions to the earth’s inhabitants. Environmental economics was premised on the neoclassical approach dealing with
issues such as inefficient natural resource allocation, market failure, negative externalities, and management of public
goods.
As the movement developed over time, other intricate details on the relationship between the environment and the
economy became apparent. The study brought about powerful environmental arguments and propositions, which gave rise
to contemporary environmental policies and regulations around the world. It led to the establishment of new
environmental bodies – chief among them, the United Nations Environment Programme (UNEP) in 1972.
8. Environmental Economics
It is discipline of economics that studies the economic effects
of environmental policies around the world
The origins of environmental
economics date back to the
1960s
Main focus is on the efficient allocation of environmental and
natural resources
How environmental policies deal with environmental damage,
such as air pollution, water quality, toxic substances, solid waste,
and global warming.
Environmental bodies - chief among them, the United Nations
Environment Programme (UNEP) in 1972.
The world became aware of
rapid economic growth and its
consequences to the
environment
Environmental economists see
the environment as a form of
natural capital
powerful environmental arguments
and propositions, led to
contemporary environmental
policies and regulations around the
world
9. Environmental economics encompasses the following concepts
1. Sustainable Development
Sustainable development is defined by UNEP as “development that meets the needs of the present without compromising the
ability of future generations to meet their own needs.” The concept analyzes the role of economic development in supporting
sustainable development.
The four basic components of sustainable development are economic growth, environmental protection, social equity, and
institutional capacity.
2. Market Failure
Market failure occurs if, the functioning of a perfect market is compromised; hence, it is unable to efficiently allocate scarce
resources at a given price as conditions for laws of demand and supply are not met.
An example can be an environmental good such as clean oceans. It is difficult to price the value of clean seas and oceans,
and there exist no markets for clean water bodies where it is traded depending on the degree of cleanliness. It is a standard
case of market failure.
10. 3. Externalities
Externalities are inadvertent consequences of economic activity that affect people over and above those directly involved in it.
Externalities are also another form of market failure. They can either be negative or positive.
A negative externality creates unplanned outcomes that are harmful to the environment or directly to the general public. An
example can be pollution through industrial production, which results in unclean air and water and other health risks. The
polluting entities may not incur any costs to address the pollution, even though their activities harm the environment and
negatively affect the surrounding community.
A positive externality is a benefit to other people not directly involved in its generation. A community nature park can benefit
people outside the community who visit family and friends in the area and would not have contributed to its development.
People who benefit from an economic resource without contributing to its establishment are called “free riders.”
4. Valuation
Valuation is an important aspect of environmental economics, as it helps to evaluate a variety of options in managing
challenges with the use of environmental and natural resources. The valuation of ecological resources is a complex process, as
it is difficult to assign value to intangible benefits, such as clean air and an unpolluted environment.
Resources that offer multiple benefits are difficult to value – for example, mountains may prevent flooding, provide scenic
beauty, direct river flow patterns, and provide fertile soils for agriculture.
Environmental resources can be assigned values depending on use and non-use methods. It’s easier to assign value to a product
in use by observing what consumers are willing to pay.
Opportunity cost pricing, replacement cost, and hedonic pricing techniques can be employed in the “use” method. The
contingent valuation technique is used for the “non-use” method by measuring what consumers are willing to pay for a product
they do not use or enjoy.
11. 5. Cost-Benefit Analysis
Cost-benefit analysis (CBA) involves weighing the benefits arising from a policy against the perceived benefits. Hence, the
best policy is one in which there is the greatest surplus of benefits over costs.
CBA starts with a base policy where no changes are made to the status quo. A time horizon is selected where the perceived
costs and benefits are expected to be realized. Benefits are instances where human well-being is improved, and costs
decrease human well-being.
Costs and benefits to be realized in the future are discounted using a discount factor to cater to the time value of money.
Benefits include extra income, improved quality of life, clean water, and beaches, and costs include opportunity costs,
internal and external costs, and externalities.
12. Environmental economics encompasses the following concepts
2. Market Failure
Market failure is the economic situation defined by an
inefficient distribution of goods and services in the free
market.
4. Valuation
it helps to evaluate a variety of options in managing
challenges with the use of environmental and natural
resources.
1. Sustainable Development
Development that meets the needs of the present without
compromising the ability of future generations to meet their
own needs.”
3. Externalities
Externalities refers to situations when the effect of
production or consumption of goods and services imposes
costs or benefits on others which are not reflected in the
prices charged for the goods and services being provided.
5. Cost-Benefit Analysis
Cost-benefit analysis is a way to compare the costs and
benefits of an intervention, where both are expressed in
monetary units.
13. Ecological economics
Ecological economics is a trans-disciplinary field. It's not trying to be a sub discipline of economics or a sub discipline of
ecology, but really it's a bridge across not only ecology and economics but also psychology, anthropology, archaeology,
and history.
That's what’s necessary to get a more integrated picture of how humans have interacted with their environment in the past
and how they might interact in the future.
It’s an attempt to look at humans embedded in their ecological life-support system, not separate from the environment. It
also has some design elements, in the sense of how do we design a sustainable future.? It’s not just analysis of the past but
applies that analysis to create something new and better.
Environmental economics is a subdiscipline of economics, so it's applying standard economic thinking to the
environment. Mainstream economics, I think, is focused largely on markets and while it recognizes that there are
externalities, they are external—they're out there. Ecological economics tries to study everything outside the market as
well as everything inside the market and bring the two together
14. Conventional economics doesn't really recognize the importance of scale—the fact that we live on a finite planet, or that
the economy, as a subsystem, cannot grow indefinitely into this larger, containing system. There are some biophysical
limits there. The mainstream view doesn’t recognize those limits or thinks that technology can solve any resource
constraint problems. It’s not that we can't continue to improve the human situation. But we have to recognize that the
environment creates certain limits and constraints on that, and we can define a safe operating space within which we can
do the best we can.
Ecological economics recognises local to global environmental limits. It ranges from research for short-term policy and
local challenges through to long-term visions of sustainable societies. Ecological economists also consider global issues
such as carbon emissions, deforestation, overfishing and species extinctions.
15. Ecological economics
Ecological economics is a trans-disciplinary field. It's not
trying to be a sub discipline of economics or a sub discipline of
ecology, but really it's a bridge across not only ecology and
economics but also psychology, anthropology, archaeology,
and history.
It’s an attempt to look at humans embedded in their
ecological life-support system, not separate from the
environment
Ecological economics tries to study everything outside the
market as well as everything inside the market and bring the
two together
16. Environment
Natural and
environmental resources
have three economic
roles : 1.waste disposal
services
2. Natural resource
inputs into production.
3. Directly consumed
life support services
The productivity of an
economic system
depends in part on the
supply and quality of
natural and
environmental
resources.
All economic activities
either affect or are
affected by natural and
environmental resources
Environmental
degradation imposes
costs on the economy
which results in output
and human capital
losses.
economic management
impacts on the
environment and the
environmental quality
impacts on the efficient
working of the economy.
The natural and
environmental resource
input function is central
to understanding the
relationship between
economic growth and
environment.
Environment - Economy Linkages
17. Need for Sustainable
Development
Sustainable
development attempts
to maintain a balance
between the demands of
the economic
development and the
need for protection of
the environment.
Economic development
without environmental
considerations can
cause serious
environmental damage
in turn impairing the
quality of life of present
and future generations
Sustainable development,
therefore, attempts to
accelerate development in
an environmentally
responsible manner keeping
in mind the intergenerational
equity requirements.
Defined as the meeting
of “the needs of the
present without
compromising the
ability of future
generations to meet
their own needs.”
Sustainable
development was
developed by the 1987
Brundtland
Commission
It seeks to combine the
elements of economic
efficiency,
intergenerational equity,
social concerns and
environmental
protection.
18. The Material Balance Model
The functions of an economy are related to production, consumption and distribution activities.
These activities have a direct relation with nature.
Nature provides raw materials to the economy for its production and consumption activities.
Residuals from both the production and consumption processes usually remain and they usually render disservices like
killing fish, reducing public health, soiling and deteriorating buildings due to industrial pollution.
Some wastes (residuals) from production and consumption activities are ultimately returned to nature.
Remaining wastages are recycled.
Further, all emission of residuals do not cause pollution damage because of assimilative capacity of the environment.
Further, energy that is taken out of the environment must reappear somewhere else in the economic system. Its form may,
however, be changed so that it appears as waste products and gases. Moreover, waste energy cannot be recycled but waste
materials can be used up to a point.
It means that economic activity always affects environment in a direct or indirect manner.
19. Thus the law of conservation of matter and energy holds that
matter can be transformed to other matter or into energy but can
never vanish.
All inputs (fuels, raw materials, water and so forth) used in the
economy’s production processes will ultimately result in an
equivalent residual or waste.
The material flow diagram implies that mass inputs must equal
mass outputs for every process. Moreover, all resources
extracted from the environment must eventually become
unwanted wastes and pollutants. This means, among other
things, externalities (market failures) associated with
production and consumption of materials are actually pervasive
and they tend to grow in importance as the economy itself
grows. Materials recycled can help but recycling is energy
intensive and imperfect, so it cannot fully compensate.
The Material Balance Model
Economics of the environment may be defined as
a study which concerns allocation of resources
among alternative uses in such a way that there is
an efficient reduction of the waste or residuals in
the environment, which lead to an increase in
social welfare.
21. These activities
have a direct
relation with
nature
Residuals from
both the
production and
consumption
processes usually
remain and they
usually creates
environmental
problems
The Material
Balance
Model
Functions of an
economy Related
to
production,
consumption
distribution
activities.
Nature provides
raw materials to the
economy for its
production and
consumption
activities.
Some wastes
(residuals) from
production and
consumption
activities are
ultimately returned
to nature.
All emission of
residuals do not
cause pollution
damage because of
assimilative
capacity of the
environment.
It means that
economic
activity always
affects
environment in a
direct or indirect
manner
22. Private Vs Social Cost
Private costs are the those costs that are incurred by the individuals and firms who are directly involved in some economic
activity.
When goods and services are produced, then certain direct and indirect costs are borne by the producing agents.
Examples of private costs are the factors payments made and expenditure on raw materials incurred by the producing agent
concerned.
Social costs:
The social costs are the costs incurred by the society as a whole. These are the private costs plus any costs borne by the rest
of the society.
So social costs are higher than private costs when firms are able to escape some of the economic costs of production. Such a
situation is called negative externalities.
For example, a firm releasing untreated waste into air imposes a cost on the society in the form of, say, breathing ailments
or higher cleaning bills in respect of the third parties that is not reflected in the cost of the firm itself. Similarly, noise
pollution, water pollution etc. are examples of social costs. Private costs can be made equal to social costs by public
regulation that requires the firm to install anti-pollution equipment.
23. Types of Social Costs: Positive and Negative Externalities
There are two types of externalities: positive and negative.
You are probably more familiar with the negative ones.
Things like noise disturbance and pollution are negative externalities because they have a negative external impact on
other people.
Positive externalities occur when our actions bring a positive impact on other people.
For example, when we get the flu vaccine, it also gives partial protection to those around us, so that's a positive
externality of us getting the vaccine
24. Market Failure
Market failure occurs when the market outcome does not maximize netbenefits of an economic activity.
Due to the nature of environmental resources, the market often fail in dealing with environmental resources.
There are three main environmental market failures.
• a. Externality
• b. Public Goods
• C. Tragedy of the Commons
25. Coase`s Theorem
Ronald Harry Coase was a British economist and author.
Coase received a bachelor of commerce degree and a PhD from the
London School of Economics, where he was a member of the
faculty until 1951.
Born: 29 December 1910, Willesden, London, United Kingdom
Died: 2 September 2013, Chicago, Illinois, United States
Awards: Nobel Memorial Prize in Economic Sciences
Ronald Coase received the Nobel Prize in 1991 “for his discovery
and clarification of the significance of transaction costs and
property rights for the institutional structure and functioning
of the economy.”
Ronald Coase
British economist
26. Property rights (Coase`s Theorem)
Prof. R. Coase points out that, if property rights are clearly defined, the affected parties will adopt policies to internalise
the externality.
In other words, if property rights and liability are properly defined and there are no transaction costs, then people can be
held responsible for any negative externalities they impose on others and market transactions will produce an efficient
outcome.
27. Property rights (Coase`s Theorem)
Coase explains property rights in two theorems:
First Theorem:
Assumptions
The first theorem is based on the following
assumptions:
1. It assumes that the number of contracting
parties is very small.
2. The cost of negotiating by the interested
parties is also small.
3. There are no transaction costs.
4. There are no income or wealth effects.
5. There is no government interference.
Let us take Coase’s famous example of only two parties—
a cattle raiser and a wheat producing farmer.
They are operating on neighbourhood properties without
any fencing.
The externality is the damage done by cattle roaming on
the unfenced land of the farmer.
As the cattle raiser increases the size of the herd, the
damage to the farmer’s crop increases
28. Property rights (Coase`s Theorem)
According to Coase, property rights should be properly defined
and enforced.
First, the farmer has the right that his wheat be not
destroyed.
Therefore, the cattle raiser will then be forced to pay
damages to the farmer for the crop destroyed.
These will be added to the marginal costs of the cattle- raiser
who will reduce the number of cattle to be raised to a
manageable level.
Second, if the law is that the cattle raiser has no liability for
damage done by his herd to the farmer’s crop, it will now be
advisable for the farmer to bribe the cattle raiser to keep his
herd to a minimum level.
According to Coase, market failure due to
property rights can be eliminated through
private bargaining among the affected
parties.
He points out that if property rights are clearly
defined and marketable and transaction costs
are zero, a perfectly competitive economy will
allocate resources optimally even under
conditions of externalities.
By transaction costs he means costs of
negotiating or enforcing a contract.
The existence of differential transaction costs
creates opportunities for one person’s choice
to impact on others.
It is property rights that direct and control
these choices.
29. Second Theorem
On the other hand, if bargaining becomes costly, then property rights matter significantly.
In the words of Coase, “If bargaining is costly and information is imperfect, then liability rules help to achieve optimality
and the party that has the least costly way of dealing with the harmful effects of an externality should be made responsible
for paying the costs associated with the externality.”
Thus the second theorem of Coase provides a natural link between economics and law, offering an efficiency rationale for
deciding externality liability rules.
Coase has related his second theorem to the problems caused by the sparks emitted by coal and wood-power steam engines.
The problem is that fires sometimes caused by the sparks damage nearby agriculture fields.
In the absence of rules governing compensation for firm’s damages, it creates negative externalities since rail
companies have little incentive to prevent sparks.
On the other hand, rail companies may pay full compensation that may leave property owners with little or no
incentive to protect themselves. Is it better for rail companies to take defensive measures or for farmers to take defensive
measures? Which is done, depends on whether farmers can sue for damages?
30. The problem of sparks can be solved
in the following ways:
(a) Limit the amount of train traffic;
(b) Rail companies should install some
type of spark- inhibiting device; or
(c) Farmers should plant their crops
several yards further away from the
railway tracks
31. Pigouvian Taxes
A Pigouvian tax is a government cost on any activity that creates socially harmful externalities.
An externality is an activity that creates a negative effect on others in a society but not necessarily
the person who does that activity.
Pollution is an externality, for example. Drivers of non-compliant vehicles don't suffer
immediately from their exhaust, but everyone behind them does. Their exhaust also increases
pollution for everyone in the community.
The government imposes Pigouvian taxes on non-compliant vehicles to impose a higher cost on
the drivers to compensate for the suffering they cause.
The revenue from the tax is often used to ameliorate the external cost.
32. Pigouvian Taxes
Ideally, a Pigouvian tax will cost the producer the amount equivalent to the harm it causes
others.
British economist Arthur Pigou developed the concept of externalities.
He argued that the government should intervene to correct them by taxing activities that harm the
economy as a whole and subsidizing activities that help society as a whole.
• A Pigouvian tax is placed on any activity that creates socially harmful externalities.
• Pigouvian taxes shift the costs from society to the producers of these externalities.
• Gas, carbon, and noise taxes are examples of Pigouvian taxes.
33. Pigouvian Tax Pros and Cons
Pros
• Reduces negative externalities
• Promotes social welfare
• Can generate tax revenue
Cons
• Pigouvian taxes are difficult to calculate properly
• Imposing the wrong tax would be inefficient and costly
• Can unequally impose higher costs on lower-income
areas
Find the difference between Pigouvian tax and Sin Tax
