This chapter examines the economic decisions as well as the political and social decisions we make about the environment. Some analysts have suggested that, ideally, these should be the same - that every environmental problem should be understood as an economic one. William Baxter, for example, writes, "All our environmental problems are, in essence, specific instances of a problem of great familiarity: How can we arrange our society so as to make the most effective use of our resources?"10 In spite of this statement, Baxter does not refer to the performance of the macroeconomy - for example, jobs and inflation. Rather, he is concerned with a different matter, that is, WTP as a measure of "human satisfaction." He writes that to assert that there is a pollution problem or an environmental problem is to assert, at least implicitly, that one or more resources is not being used so as to maximize human satisfactions. In this respect at least environmental problems are economics problems, and better insight can be gained by the application of economic analysis.11
On this view, there is really only one objective: to maximize "welfare" defined in terms of preference or willingness to pay.12 Any contradiction in public opinion - whether old-growth forest should be preserved, for example - is construed as a conflict of preference. Environmental problems exist, then, only if environmental resources could be reallocated to those who are willing to pay more for them. "To the economist," Arthur Okun writes, "efficiency means getting the most out of a given input." According to Okun, "more" translates into "better." He explains: "This concept of efficiency implies that more is better, insofar as the 'more' consists of items people want to buy."13
Environmental economists generally define "efficiency" as the "maximum consumption of goods and services given the available amount of resources."14 In this approach to environmental policy, "the benefit of any good or service is simply its value to a consumer."15 This "value" or "benefit" is measured or defined in terms of the most the individual is willing to pay for the good in question. According to this view, "total willingness to pay... represents the total value or total benefit associated," for example, with environmental improvements.16 "In principle, the ultimate measure of environmental quality," one text assures us, "is the value people place on these services... or their willingness to pay."17
Willingness to pay. What is wrong with that? There are at least two problems. First, no meaningful connection holds between WTP and any normative concept - any concept of the good - not trivially defined in terms of it. I shall return to this thought in later chapters. Why is something valuable or good from a societal point of view because or insofar as an individual is willing to pay for it? Having a preference may give that individual a reason to try to satisfy it - but not necessarily society. Individuals may pursue their own interests on their own; they should be free to do so. It does not follow, however, that the preferences of individuals taken in the aggregate provide the appropriate basis for social policies, values, or judgments.
Why would anyone believe that whatever a person happens to want -anything for which he or she is willing to pay - is to that extent valuable from a societal perspective? A social welfare function - a method to aggregate the preferences of all individuals into a "social" preference -even if it were possible, expresses the moral theory of a two-year-old: "I want it; therefore, it is good." Who believes this? If you contribute to the Ku Klux Klan, does that make the KKK better? It only makes you worse.
Economists may argue that they have no means to distinguish better from worse, right from wrong; accordingly, their scientific approach compels them to use WTP as a neutral measure of the social importance of any preference. That economists are limited in this way, however, does not show that society should be neutral among moral or aesthetic judgments - that it cannot distinguish better from worse. Indeed, to act as a citizen is to act within and on behalf of institutions to make collective moral, social, and political decisions. The insistence of welfare-economic science that it remain "neutral" among preferences is in itself enough to make it irrelevant to the normative questions that seize, inform, and justify social policy.
Second, not all of us think of ourselves primarily as consumers. Many of us regard ourselves as citizens as well. As consumers, we act to acquire what we want for ourselves individually; each of us follows his or her conception of the good life. As citizens, however, we act through and on behalf of social institutions. We may deliberate over and then seek to achieve together a conception of the good society. Our beliefs, moral convictions, and goals as citizens - indeed, as moral beings - may have and probably should have little relationship to what we believe benefits us personally. This cuts any actual link that might erroneously be thought to exist between WTP and benefit.
Those who believe that endangered species ought to be protected, wilderness preserved, pollution reduced, "greenhouse" gases controlled, open areas maintained, workplaces made safer, and so on present views about public policy that possibly contradict the idea that goods should be allocated according to maximum WTP or to the highest bidders. It seems that environmental economists regard these reasoned, principled, and morally based views about policy as if they expressed an individual's preferences based on expectations of personal benefit. These policy "preferences," then, would be only as good as the individual's WTP for them. No one asks environmental economists how much they are willing to pay for their views or beliefs about social policy. Why should economists refer to WTP to assess the beliefs of others?
WHAT IS COST-BENEFIT ANALYSIS?
Cost-benefit analysis originated in the United States in the context of major water projects the Corps of Engineers undertook early in the last century. The River and Harbor Act created a Board of Engineers which it required to weigh the commercial benefits of a water project - such as irrigation and hydroelectric power - against its costs. Cost-benefit analysis in this sense depends on the same intuitive and pre-theoretical knowledge as would characterize a child's lemonade stand. Will the product sell at a profit in view of the cost of labor and materials? In this sense, cost-benefit analysis envisions the government as if it were a firm engaged in profit-making activity. This kind of cost-benefit analysis, which can be useful and appropriate, served as "an administrative device owing nothing to economic theory."18
After the 1970s, economic theory completely transformed cost-benefit analysis so that it had less to do with price and profit and more with preference and willingness to pay. The highly theorized cost-benefit analysis that emerged in the 1970s was developed to attribute economic value to aesthetic and moral judgments, such as the beliefs many people share that a more natural, less polluted environment is one that is better than the burning rivers and dying wildlife they saw or read about at the time. Economists sought to measure scientifically what these moral and political convictions were "worth" by finding WTP equivalents for them. Economists thus put themselves in the business of characterizing political beliefs and judgments (other than their own) as "non-use" or "existence" values they claimed the expertise to measure. This made their services attractive not only to public agencies and officials but also to foundations that supported environmental causes and funded economists to "green" their science.
The theory behind today's conception of cost-benefit analysis starts with the concept of an ideal market. As Allen Kneese explains this notion, an ideal or perfect market meets certain conditions. "All participants in the market" first "are fully informed as to the quantitative and qualitative characteristics of goods and services and the terms of exchange among them."19 All valuable assets in the economic system are fully owned, managed, and exchanged in competitive circumstances, which is to say, no individual or firm "can influence any market price significantly by decreasing or increasing the supply of goods and services" it offers.20 For environmental policy, two corollary conditions are especially important. First, "individual ownership of all assets plus competition implies that all costs of production and consumption are borne by the producers and consumers directly involved in economic exchanges." Second, "a closely related requirement is that there must be markets for all possible claims."21
As Kneese notes, the "connection between such a market exchange and the real working economy has always been tenuous at best." As Kneese and other environmental economists see the situation, "the main source of our environmental problems is the inability of market exchange as it is presently structured to allocate environmental resources efficiently."22 Because the actual economy is seen or perceived as not like the ideal market, economists argue that they must direct resources scientifically. The measurement of WTP or WTA provides welfare economists a method both to identify and to correct "market failure." Since markets ubiquitously and pervasively "fail" to meet the ideal model, environmental economists empower themselves by offering their services in developing methodologies to assign "valuations" based on WTP for what they identify as given or available resources.23 In fact, a free market has many attractive characteristics or advantages, even if any outcome it reaches can be construed as "failing" to meet one ideal condition or another. First, the consensual aspect of market outcomes is important. If a person regrets a choice - an investment goes south, for example - the person does not blame the government. This supports social stability. Second, in an actual market, entrepreneurs who have good ideas can increase the resource base by improving technology. In other words, the actual market is dynamic, not static. Rather than allocating a "given" bundle of resources, the market through innovation leads to the creation of many new bundles of resources - such as the Internet - often unlike any of those known before.
Third, a competitive market generates and follows fluctuating price signals that coordinate an incredible amount of information. The competitive behavior of individuals by influencing and responding to price adjustments generates new resources as entrepreneurs apply knowledge to knowledge in creative ways. An economy that provides "gd jbs w hi pa," increases productivity and trade, and keeps prices stable is a well-functioning economy. It is then up to society to use its wealth to pursue aesthetic, moral, cultural, or spiritual goals, such as the protection of the natural environment.
Cost-benefit analysis - or the economic theory that now supports it -abandons the virtues of a free and competitive market. It supposes a zero-sum game in which resources are fixed and thus takes the problem to be not innovation but "allocation" or "distribution." It abandons the notion of consent, as I shall explain in a later chapter, by imposing a "hypothetical compensation" test. It disposes of the idea of competitive market prices by defining maximum WTP (a.k.a. "consumer surplus," "benefit," or "the area under the demand curve") as a kind of intrinsic value. Once one defines economic value as an intrinsic quantity (whether in terms of the surplus labor theory of Marxist economics or in terms of the consumer surplus theory of welfare economics) one gets to direct the economy. What becomes important is maximum WTP, the demand curve, and other constructs that welfare economists posit as indicators of value and not coincidentally that they are paid to measure. Economists empower themselves by defining aggregate WTP as good - as "benefit" - and they hope with sufficient funding to develop methodologies to measure it, at least someday, in experimentally replicable and therefore respectable ways.
Market prices do not appear to matter much, if at all, in the contemporary theory of environmental economics or in its way of doing cost-benefit analysis. The model of price competition has the spectral aspect of a deus absconditus in environmental economics - or perhaps the aspect of the Garden of Eden from which we are forever excluded because of innate market failure. The extensive indexes of leading textbooks in environmental economics - such as those by Charles Kolstad and by Eban Goodstein - do not have any entries for the term "price" or "prices."24 Nor do they mention criteria used to assess the performance of the economy. Nor does their static concept of allocation or distribution recognize that innovation constantly increases available resources and determines what counts as a resource. Textbooks in environmental economics teach experts how to "value" environmental assets - to measure
"benefit" defined as maximum WTP - which is not what market prices reflect. The idea of competitive or equilibrium pricing has disappeared; the concept of the market, like the Cheshire cat, has vanished, leaving WTP as its disembodied smile.
As an example of a "market failure," environmental economists often invoke the concept of an "externality," which is to say, a cost (or benefit) involved in producing or consuming a good which the price of that good does not fully reflect. The concept of a cost "externalized" to those who do not consent to bear it can be used in either a narrow or an expanded sense. When economists speak of an "externality" in the narrow sense, they use the concept to refer only to physical side effects, such as pollution, that cause actual damage - the sort defined, for example, by the common law of tort - to person or property. These analysts may then measure the cost of pollution in terms of the health damage it causes to people and the economic losses it inflicts on them. This approach makes sense and can be useful because it refers to kinds of damages that can be physically measured. Courts and legislatures may then identify and try to remedy or control the causes of that damage.
Resource and environmental economists during the 1950s and 1960s generally defined economic efficiency in a narrow sense, that is to say, in terms of a conception that tied externalities to the physical side effects of market transactions. These economists did not try to estimate on a WTP basis the "worth" of moral, aesthetic, political, or cultural concerns and convictions. Many of the economists who first developed the techniques of cost-benefit analysis - E. J. Mishan would be an example - recognized, at least implicitly, the intractability of quantifying "benefits" associated with the ethical and aesthetic concerns expressed in public laws such as the Endangered Species Act or the Clean Water Act that intended to preserve the integrity of nature.25 These economists urged analysts to list these "qualitative" benefits separately to bring them to the attention of public officials. They did not try to "price" ethical judgments and aesthetic values but saw them as the appropriate subject of political deliberation within a legislative process.
During the 1960s and 1970s, however, owing in part to the work of Ronald Coase, which I shall not pause to describe here, economists began to argue that externalities result not so much from spillover damage to nonconsenting third parties - for example, damage caused by pollution - as from the inability of these third parties, because of the costs of bargaining, to organize themselves to enter into and thus influence the transactions that affect them. Accordingly, economists began to replace the notion of a physical spillover with that of a transaction or bargaining cost as the paradigm of a market failure. In evaluating the overall efficiency of a project or a policy, analysts began to ask not "What is a cause of what?" but "What is a cost of what?"26 They widened the idea of an externality, then, to include any unpriced benefit or cost, which is to say, any WTP (or WTA) that was not reflected in the prices set by markets.
An efficient policy was understood, at first, to be one that would result from the functioning of markets free of externalities, where externalities were conceived in the old, narrow sense, that is, in terms of physical damage or economic loss to nonconsenting third parties who would, as a result, have standing to sue in courts of common law. When the notion of an externality expanded to cover any unpriced benefit or cost, however, the ideas of an efficient market and an efficient policy widened as well. A value of any kind - religious, aesthetic, political, whatever -would be considered a personal preference which WTP (or WTA) could measure. An efficient market then had to "internalize" or "value" not only the kinds of injuries or losses that are cognizable in common law but every belief, argument, or reason anyone might give for or against an outcome, as long as he or she were willing to back up those opinions with money.
Theorists who defend cost-benefit analysis as a tool for policy making face a dilemma. In identifying the costs and benefits of an action, they must construe externalities in either the narrow or the broad sense, that is, narrowly as damage to person or property of the sort recoverable under common law or broadly as any belief, sentiment, or desire -economic, moral, aesthetic, or political - that markets leave unpriced. If analysts construe externalities narrowly, they must concede that many policies that appall them and almost all the rest of us for cultural, aesthetic, and ethical reasons might be perfectly efficient. The conversion of the little-used wilderness at Mineral King into a Disney resort in the heart of Sequoia National Park would not injure anyone's person or property. We can suppose, moreover, that no one may suffer any injury or loss even remotely recognizable under common law as a result of the commercial development of the habitats of endangered species. If they use concept externality in a narrow sense, economists could leave spiritual, ethical, cultural, and aesthetic judgments to others. Before the
1960s, in fact, economists generally left these kinds of judgments - along with "equity" concerns - to the courts, to deliberative political processes, and to the voluntary actions of individuals.
After the 1960s, analysts introduced a wider notion of an externality, which includes not simply injury or damage of the sort that might give third parties standing to sue in common law but also any attitude, opinion, argument, or belief that a person might conceivably be willing to back up with money. When analysts expand the notion of an externality in this way to embrace the opinions and beliefs of everyone but themselves - when they accept their own assumptions about value as correct and "measure" the views of others on the basis of WTP - they do more than second-guess the results of actual markets by referring to their ideal market. They make a bald attempt to replace the political process as well, an attempt they may not acknowledge. It is for the political process - not for economic analysis - to gather and judge beliefs and opinions.
Cost-benefit analysis does not, because it cannot, assess opinions and beliefs on their merits but asks instead how much might be paid for them, as if a difference of view could be settled in the same way as a conflict of interest. Analysts who take this approach, of course, confuse views with interests. They give political, ethical, and cultural convictions technical names - "bequest," "existence," "intangible," "soft," and "fragile" values - and thus transform judgments that have carried the day before legislatures into data for cost-benefit analysis.
I recognize the importance of economic analysis when it is used narrowly to inform the public and its officials about the actual market costs associated, for example, with reclaiming mined lands or increasing highway safety. To make a wise decision, society must know these costs and recognize the law of diminishing returns. Economic analysis, moreover, can be useful by suggesting less expensive ways society may reach its cultural and ethical goals, such as by supplementing "command and control" bureaucratic approaches with regulatory systems that introduce market incentives for controlling pollution, for example, or preserving beautiful places.
When cost-benefit analysis attempts to do the work of ethical and political judgment, it loses whatever objectivity it might have had and becomes a tool of partisan politics. Economic analysis expands to play the role of moral philosophy, political deliberation, and aesthetic judgment. Any group who has an interest to advance or a view to vindicate can appeal to economic "valuation" to buttress its position. The other side must then hire economists to get different estimates. When the concept of an "externality" extends beyond losses and injuries of kinds cognizable in common law, economic analysis deteriorates into storytelling likely to convince only those who agree with and possibly have been paid for its results.
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