Chapter 10

Chapter 10
The Environment
and Development
Copyright © 2009 Pearson Addison-Wesley. All rights reserved.

Economics and the Environment
• Environmental issues affect, and are

affected by, economic development
• Poverty and ignorance may lead to non-

sustainable use of environmental resources
• Environmental decay and global warming

are serious issues we face today
Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-2

National Income Accounting
• GDP (or GNI) is the market value of final

goods and services
• GDP (or GNI) excludes the externalities of

production and consumption
– Negative externalities: costs imposed on the
environment and third parties; e.g., air pollution,
land contamination

Reasons for Environmental Decay
• The common property right over the

environment
– No one has private property rights over the

environment being polluted (e.g., air, ocean
water)
• The collectively consumed nature of the
environment
– Benefits received by all users
– No one can be excluded from using it

Adjustment for Environmental Decay
• To adjust for the negative externalities find

the “sustainable” Net National Income as
NNI* = GNI – Dm – Dn – R – A where
– Dm = depreciation of physical capital

– Dn = depreciation of environmental capital
– R = expenditures required to restore environmental
capital
– A = expenditures required to avert destruction of
environmental capital

Causes of Environmental
Decay
• Poverty
• Rapid population growth
• Rapid urbanization
• Affluence & excess consumption
• Industrial production
• Use of chemical inputs
• Relaxed environmental laws and weak law
enforcements

Poverty and Environment
• Poverty and lack of development policies

would force the people to overuse natural
resources:
– Cultivate the land without fertilization

– Cut the trees for fuel
– Contaminate the water
– Pollute the air

Population Growth and
Environment
• Rapid population growth put pressure on
natural resources:
– Clean air
– Arable land
– Safe drinking water
– Forests
– Mineral deposits

Urbanization and Environment
• Rapid urbanization and relaxed

environmental laws result in environmental
degradation:
– Air pollution from fossil fuel consumption

– Congestion and noise pollution
– Water contamination
– Relaxed emission control policies

The Global Environment
• Consumption patterns of the very poor and very rich
• Global warming and rising sea level
• Rapid population growth, poverty, and income

inequality in LDCs
• Rapid deforestation due to pollution and commercial

development
• Rapid desertification due to lack of rural development

Private Property Rights
Perfect private property rights require:
• Universality: all resources are privately owned
• Exclusivity: owner prevents others from using

resources
• Transferability: owner can sell resources when

desired
• Enforceability: owner receives all benefits

Environment and Development:
The Basic Issues
• Sustainable development and
environmental accounting
• Population, resources, and the environment

• Poverty and the environment
• Growth versus the environment
• Rural development and the environment

Private Property Rights
Perfect private property rights require:
• Universality: all resources are privately owned
• Exclusivity: owner prevents others from using

resources
• Transferability: owner can sell resources when

desired
• Enforceability: owner receives all benefits

Economics of the Environment
Free market transactions achieve stable

equilibrium, benefiting
• Consumer through the creation of a

consumer surplus
• Producers through the creation of a

producer surplus

Economics of the Environment
Price Supply
Consumer Surplus
P Marginal Cost
Producer Surplus or Scarcity Rent
Demand
Q Quantity

Optimal Resource Use
Resource conservation results in a
• Higher future price
• Greater producer surplus

Optimal Resource Use
Price
By reducing consumption from 75 to 50, price goes
up to PS and producer surplus increases by PSPab
Ps a
P MC
b
Demand
50 75 Quantity

Common Property Rights
• When a scarce resource (e.g., land) is

publicly owned and thus freely available to
all users (e.g., farming or grazing animals)
• Any potential benefit (i.e., producer surplus

or scarcity rent) will be competed away as
more people use the resource

Common Property Rights
Return to labor Initial employment is L*, where MPL = W and PS = AP*CDW.
As more workers use the land, MPL < W and PS declines.

At LC, MPL is very small, AP = W, and PS = 0
AP* C
W D E Wage
Marginal Product of Labor
Average Product of Labor
L* Lc No. of Workers

Public Goods and Environment
Public or collectively consumed good

• Provides benefits to all users
• Its availability won’t diminish as others use it

simultaneously
• Is produced by the government
• Is subject to the “free-rider” problem
The human environment is collectively consumed.

Hence, it is subject to decay.

Demand for Public Goods
• Aggregate demand is the “vertical”

summation of individual user demands
• Cost of providing the good to the society is

greater than the individual users’ costs

Demand for Public Goods
A+B
Price
Q* = Qa + Qb; Pa < Pm; Pb < Pm
B
A Aggregate Demand
c MC
Pm b
Pb Aggregate Supply
Pa a
Qa Qb Q* Quantity

Negative Externalities
• When consumption or production inflicts

damages on third parties (e.g., air pollution
generated by using private automobiles)
• The good whose production pollutes the

environment is over-produced, but under-
priced if producers do not pay for the
cleaning cost

Negative Externalities
Price MCS
MCP
a Supply
P*
PM b Dead-Weight Loss = abc
PC
c
Demand
Q* QM Quantity
MCS>MCP: QM > Q* and PM < P* where Q* and P* = “socially optimum”

price and quantity; QM and PM = “market” price and quantity
Environmental Decay
• As the demand for the good increases due

to
– Economic growth
– Population growth
• The “market” price and quantity will further

diverge from the “socially optimum” price
and quantity
Environmental Decay
Price MCS
P2 MCP
P*
P1
D2
D1
Quantity
Q* Q1 QM

Environmental Policies, LDCs
LDCs must improve the environment:
• Proper resource pricing to include externalities:

impose pollution taxes and standards
• Community involvement: education, recycling
• Private property rights and resource ownership

Environmental Policies, LDCs
LDCs must improve the environment:

• Programs to improve alternatives to the
poor
• Improve the economic status of women
• Establish industrial emission abetment

policies
Environmental Policies
MDCs must help LDCs improve the environment:
• Trade policies, reducing trade barriers
• Debt relief to reduce the financial burden
• Development assistance to improve the

environment

Environmental Policies
MDCs must help improve the global environment:
• Emission control
• Research and development
• Import restrictions

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Chapter 10

Copyright © 2009 Pearson Addison-Wesley. All rights reserved.

• Environmental issues affect, and are

• Poverty and ignorance may lead to non-

• Environmental decay and global warming

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-2

• GDP (or GNI) is the market value of final

• GDP (or GNI) excludes the externalities of

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-3

• The common property right over the

– No one has private property rights over the

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-4

• To adjust for the negative externalities find

NNI* = GNI – Dm – Dn – R – A where

– Dm = depreciation of physical capital

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-5

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-6

• Poverty and lack of development policies

– Cultivate the land without fertilization

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-7

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-8

• Rapid urbanization and relaxed

– Air pollution from fossil fuel consumption

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-9

• Consumption patterns of the very poor and very rich

• Global warming and rising sea level

• Rapid population growth, poverty, and income

• Rapid deforestation due to pollution and commercial

• Rapid desertification due to lack of rural development

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-10

Perfect private property rights require:

• Universality: all resources are privately owned

• Exclusivity: owner prevents others from using

• Transferability: owner can sell resources when

• Enforceability: owner receives all benefits

• Population, resources, and the environment

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-12

Perfect private property rights require:

• Universality: all resources are privately owned

• Exclusivity: owner prevents others from using

• Transferability: owner can sell resources when

• Enforceability: owner receives all benefits

Free market transactions achieve stable

• Consumer through the creation of a

• Producers through the creation of a

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-14

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-15

Resource conservation results in a

• Higher future price

• Greater producer surplus

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-16

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-17

• When a scarce resource (e.g., land) is

• Any potential benefit (i.e., producer surplus

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-18

Return to labor Initial employment is L*, where MPL = W and PS = AP*CDW.

As more workers use the land, MPL < W and PS declines.

Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 10-19

Public or collectively consumed good

Return to labor Initial employment is L, where MPL = W and PS = APCDW.