Markets and the Environment (Introduction)

Introduction

At the launch of the Centre for Enterprise, Markets and Ethics, our founding chairman Lord Griffiths of Fforestfach remarked that:

[W]hile a market economy is superior to other economic systems which have been tried, it is far from flawless. Financial stability, environmental sustainability and inequality in income and wealth are three critical challenges to the global economy in which we live. Free market economies left to themselves cannot be relied on to provide solutions to these problems.[1]

In the years since, environmental sustainability has continued to prove a critical challenge not just to the functioning of the global economy as we withstand increased climate challenges, but also to the attitudes towards markets that have in part enabled material progress. The Centre for Enterprise, Markets and Ethics engages in research across the overlapping and nested spheres of philosophy, faith, economics and policy. Rigorous thinking about environmental protection and the economics of environmental problems requires a broader context that considers the dynamics of markets and the realistic political economy of state action. This publication sets out the basic economics that underlie environmental policy discussions, situating them not just within narrow environmental economics but also within the context of thinking about markets and society. In doing so, it builds up from the standard content of an introductory economics course and adds aspects of economic theory and later economic policy crafted considering these developments.

Many students and professionals come away from their introduction to basic economic theory with an appreciation for the market system of allocating and generating resources. Within this theory there are situations where markets are deemed to fail. Over its course this publication will investigate the nature of environmental problems that limits the ability of free markets to result in solutions citizens find appealing, but will also show the problems with an impoverished dichotomy that assumes regulatory alternatives can be relied on to provide the best solutions.

Chapter 1, after restating the foundational conceptions of markets, looks at two core pieces of market failure theory: public goods and externalities. These are the foundational concepts on which much abstract thinking about the economics of the environment and the need for corrective action rely.The chapter shows the abstract solutions to these problems within welfare economics and relates these idealised solutions to those implemented by governments in the real world.

Chapter 2 takes this simplified idea about market failure and corrective policy back to the theoretical roots of the issue. The work of Ronald Coase lies at the core of this chapter, together with related ideas that stress the institutional context of both the problem and any potential solution, whether generated by the market, the state or individuals acting in groups somewhere in between. Coase, as opposed to market failure theorists, would stress that the inherent nature of the problem is one of property rights and transaction costs. This means that causality and harm aren’t as clear-cut as we might think and that much can be gleaned from empirical studies of attempts by actors to deal with these issues. Related are ideas about commons and the institutions that govern collective goods. For instance, Garrett Hardin’s famous notion of the ‘tragedy of the commons’ has guided half a century of thinking despite its short length, shallow depth and odious topic (forced population control).

Chapter 3 considers the rise of American national environmental policy, which began in the 1960s in response to the perceived failures of legal and state policy efforts to respond to the various environmental harms that seemed to be raging out of control. The chapter contextualises this social and legislative history in the earlier post-war resource economicsand politics of resource abundance, which transformed into the economics of the environment. This transition was the result of themes still present in environmental discourse, including material limits, the unaccounted-for costs of environmental harm and the optimal response to environmental problems that would navigate trade-offs between that harm and economic growth. Despite the rise of this thinking, the first generation of policy was largely disconnected from and even opposed to it. It was over the following decades that the analytics and language of economics became central to the discussion of environmental policy. As budgets became tighter and the optimistic goals of early regulation were not achieved, policymakers turned to market-based mechanisms. Within economics this represented a turn from optimal theory to pragmatic policy proposals. Two core examples are realistic pollution taxes and emissions trading (cap-and-trade). In spite of agreement about the inefficiency of the mid-century regulatory framework among economists and evidence from empirical examples of narrow reforms, much of the regulatory framework remains in place. The chapter shows some potential policy reforms organised according to the level of transaction costs involved in establishing markets, and argues that establishing property rights in low transaction-cost settings can simply require the removal of government policy, while in higher transaction-cost settings, markets must be created. Clever policy design allows improvement on the status quo; optimal responses are more difficult to discern. Finally ‘the greatest market failure ever known’ – climate change – is discussed; it is related to many smaller environmental issues but suffers from the worst features of global public goods.

Notes to Introduction

[1] ‘Extracts from a Speech by Lord Griffiths of Fforestfach at the Launch of the Centre for Enterprise, Markets and Ethics’, n.d., https://theceme.org/wp-content/uploads/2015/05/ Chairmans-speech-extract.pdf.