Environmental Problems And Issues Economics Essay

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The circular flow model is the basis for modeling the link between economic activity and nature. The real flow (i.e., the nonmonetary flow) runs counterclockwise. Running clockwise is the money flow.

The materials balance model illustrated the relationship between economic activity and the natural environment.

Flow of resources: Natural Resource Economics

-from nature to economic activity

Flow of residuals: Environmental Economics

-eventually released back to nature as by-products or residuals

-residuals arise from both consumption and production activity

-delay: back to the factor market through recovery, recycling and reuse (short-term


The first law of thermodynamics asserts that matter and energy can be neither created nor destroyed. The second law of thermodynamics states that the conversion capacity of nature is limited. These two laws may help to understand the Materials Balance.

Environmental economics implies is that finding solutions to environmental damage depends critically on identifying the causes, sources, and scope of the damage, which will be discussed below.


Natural pollutants e.g. pollen, salt spray from the oceans

Anthropogenic pollutants: human induced and include all residuals associated with consumption and production, e.g. gases from combustion, chemical waste

Sources of pollution are sometimes grouped into mobile (e.g.trucks) and stationary sources (e.g. power plants). Another common classification is to distinguish point sources (e.g. ship, factory smokestack) from nonpoint sources (e.g. urban runoff).

Nonpoint sources: degrades the environment in a diffuse, indirect way over a relatively broad area.


Local pollution (e.g. urban smog, solid waste pollution) problems are those whose effects do not extend far from the polluting source. There is a positive relationship between waste generation and industrialization. Regional pollution (e.g. acid rain) has effects that extend well beyond the source of the pollution. Global pollution (e.g. global warming, ozone depletion) problems are those whose effects are so extensive that the entire earth is affected. These climate disruptions may affect agricultural productivity, weather conditions, etc.

L02 Market Process and Economic Efficiency

A market refers to the interaction between consumers and producers for the purpose of exchange a well-defined commodity. A large number of independent buyers and sellers with no control over price, a homogeneous product, the absence of entry barriers, and perfect information comprised a competitive market model.

Demand is a relationship between quantity demanded (Qd) and price (P), holding constant all other factors that may influence this decision, such as wealth, income, price of related goods, preferences, and price expectations. According to the Law of Demand, there is an inverse relationship between Qd and P, c.p. Market demand for a private good is found by horizontally summing individual demands. Supply is a relationship between Qs and P, c.p. such as technology, taxes, etc. According to Law of Supply, it states that there is a direct relationship between Qs and P, c.p. Marketing supply for a private good is found by horizontally summing individual supplies.

Pe: Qd= Qs, it reaches the equilibrium, or market-clearing. If the price is above its equilibrium level, there is a surplus of the commodity, which puts pressures on the prevailing price to fall toward the equilibrium, vice versa.

Allocative efficiency requires that the additional value society places on another unit of a good is precisely equivalent to what society must give up in resources to produce it. All profit-maximizing firms expand output as long as the MR > MC. Profit-maximizing outputs occurs where MR=MC, marginal profit MÏ€= 0. Competitive firms are price takers. P= MR =MC, which signifies allocative efficiency; Technical efficiency arises when the maxium output is produced from some fixed stock of resources, or, equivalently, when minimal resources are used to produce a given output level.

Consumer surplus measures the net benefit to buyers, measured as the excess of what consumers are willing to pay (MB) over what they must actually pay (P), aggregated over all units purchased. Producer surplus measures the net gain to sellers, estimated as the excess P over MC, aggregated over all units sold.

Society's welfare= consumer surplus+ producer surplus. Max when allocative efficiency is achieved. The deadweight loss to society measures the net change in consumer and producer surplus caused by an allocatively inefficient market event.

L03 Market Failure and Environmental Problems

Environmental quality is a public good, and pollution-generating products are associated with externalities, are two basic explanations for the economic assessment of environmental problems as market failures.

A pure public good is one that is both non-rival and non-excludable in consumption. Market demand for a public good is found by vertically summing individual demand curves.

The market failure of public goods exists because demand is not readily identified. The market failure arises because of non-revelation of preferences, which in turn is due to free-ridership. Even if consumers revealed their willingness to pay, the resulting price likely would underestimate the good's true value because of imperfect information.

Governments respond to the public goods problem through direct provision of public goods or through political procedures and voting rules.

An externality is a third-party effect associated with production or consumption. If this effect generates costs, it is a negative externality; if it yields benefits, it is positive externality. In the presence of a negative (positive) externality, the competitive equilibrium is characterized by an over-allocation (under-allocation) of resources such that too much (too little) of the good is produced. In a negative externality model, the competitive price is too low because the marginal external cost (MEC) is not captured by the market transaction. To identify the efficient equilibrium, the MEC is added to the marginal private cost (MPC) to derive the marginal social cost (MSC), which must be set equal to the marginal social benefit (MSB).

The source of the public goods problem and of externalities in private markets is that property rights are not defined. The Coase Theorem argues that under certain conditions the assignment of property rights will lead to bargaining between the affected parties such that an efficient solution can be obtained. If property rights exist but are ill defined, such as in the case of common property resources, the market solution is inefficient because of externalities. Solutions to market failures typically involve gov intervention, which may include regulation, tax policy or market-based solutions.

L04 Local Environmental Problem e.g. Air Quality

Market failure is the result of an inefficient market condition. We can use either the theory or goods or the theory of externalities to describe it in environmental problems.

Defined as "environmental quality'': public good; "generate environmental damage": externality.

As what we have learnt in this lesson, externality is a spillover effect associated with production or consumption that extends to a third party outside the market.

We discussed about the big sluice crab, an example of negative externality. Yang Cheng Lake pollution makes an external effect that generates cost to fairy crab (the third party). However, producers have no incentive to consider the extenality and consumers pay too little as they did not take the marginal external cost into account. Positive externality is an external effect that generates benefits to a third party.

Public good have two characteristics which are non-rivalness and non-excludability. The first one means one person's consumption does not preclude that of another, it is an indivisible benefits of consumption. Non-excludability means that we cannot prevent others from sharing in the benefits of consumption. Because no one is willing to pay and tell their willingness to pay the cost (non-revelation of preferences), it causes free-ridership. The imperfect information exacerbates the problems. So, allocative efficiency cannot be achieved.

Competitive solution which set MPB=MPC then solve it, but it ignores external costs. Allocative efficiency requires P to equal all MC. So, the marginal social costs should equal to MPC+ MEC. So, efficient firm produces where MPB-MPC=MÏ€=MEC.

Ambient standard, technology-based standard and performance-based standard are the types of environmental policy standard. There are two key implications which are allocative efficiency and cost-effective. The first one does not work because there are legislative constraints, imperfect information, non-uniformity of pollutants and regional differences. So, we can use cost-effectiveness to evaluate how standards are implemented. The two approaches are Command-and-control (using standards or rules to control pollution) and Market (using incentives and market forces to motivate or encourage abatement and conservation).