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Meier and Rauch 10.1 and 10.5

Development Economics-II (University of Delhi)

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Meier and Rauch

10.1: Development and the Environment

There is a two way relationship between development and environment. Better environmental
quality (in terms of clean water and air, among other things) leads to improvement in welfare
through its impact on the quality of life enjoyed by citizens of a country. Better environmental
quality is an objective goal in any development process. Development embraces wider concerns
of quality of life – educational attainment, nutritional status, access to basic freedom and spiritual
welfare. Moreover, deterioration in environmental quality has implications for economic growth
that can be sustained in the long run. It should also be noted that there can be policies targeting
the dual goals of economic growth and improved environmental quality. Examples of such
policies include those aimed at reducing poverty, eliminating subsidies for use of fossil fuels,
making heavily polluting state owned companies competitive, investing in better sanitation and
water, among others. These policies have been seen to lead to improvements in both economic
efficiency (i.e. higher economic growth and incomes) and the environment. Nevertheless, strong
public institutions and policies for environmental protection are essential to achieve these goals.
Policies have to be framed keeping in mind the administrative constraints and using economic
incentives to invoke socially optimal behavior (or production). Strong environmental policies
have redistributional benefits and complement and reinforce development. The stringency of the
policies depends on nature of the pollutant being controlled and the magnitude of the long term
and short term damages from increased concentration of the pollutant.

Both developed and developing countries differ in terms of their economic potential to formulate
the policies. Developed countries are expected to share a greater share of the burden of global
negative externalities (such as climate change) owing to higher production of emission intensive
goods. Developing countries need to learn from the successes and failures of environmental
policies implemented in industrialized nations. Empirical evidence indicates that programs aimed
at reducing poverty and population growth may also contribute significantly in attaining
environmental goals.

Commonly observed environmental problems across countries include problems related to access
of clean water and good sanitation, clean air, soil, water and agricultural productivity and loss of
natural habitats and biodiversity.

 Lack of access to clean water and sanitation increases morbidity and is the root cause for
many diseases such as cholera and typhoid, among others. Costs of lack of access to
clean water and sanitation are also high in terms of time allocation, for example, women
spend more than two hours a day fetching water in Africa.

 Emissions from industry, transport and domestic energy consumption poses serious costs
for health and productivity. Higher concentration of suspended particulate matter in the

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air increases the likelihood of respiratory disorders and cancer. Exposure to lead is seen
to result in higher blood pressure and higher risks of heart attacks and hypertension.
Indoor air pollution (through increased use of wood, straw and dung) is a major source of
respiratory diseases in rural areas in particular.

 Soil erosion is the main cause of declining agricultural yields in many countries, and can
damage economic infrastructure (for eg. dams). Soil erosion depletes the soil of major
nutrients required for better crop growth. With the rapidly changing patterns of rainfall
and temperature (due to climate change), agricultural productivity is expected to be
severely affected, with a growing need for use of extensive irrigation techniques in most
regions of the world to support agricultural production.

 Natural disasters have a bearing on area under forested land, in addition to its effects on
soil and land productivity. Fig. 2 indicates that in 1980s tropical deforestation occurred at
a rate of 0.9% per annum, with Asia‟s rate at 1.2% and Sub Saharan Africa at 0.8%. Loss
of forest area has serious ecological and economic costs – lost watershed protection, lost
coastal protection and fishing grounds, among others.

 One of the major contentious issues is Greenhouse Warming. The Intergovernmental

Panel on Climate Change (IPCC) predicts a 3oC increase in average world temperature by
end of the next century under the business as usual1 scenario. One of the major issues in
environmental economics is to formulate policies to preserve those resources for which
markets do not exist (aka „market failure‟), and one cannot use the price mechanism to
reflect the scarcity value of the resources.

Figure 3 illustrates the relation between various environmental indicators at different levels of
income. It can be seen that population without safe water and urban population without adequate
sanitation decline with increases in per capita income. On the other hand municipal wastes (per
capita) and CO2 emissions (per capita) increase with increases in per capita income. This is
because of the non availability of cheaper abatement options in controlling both municipal
wastes and CO2 emissions.

An inverted U shaped relation is observed for concentration of particulate matter and sulfur
dioxide, which is also known as “Environmental Kuznets Curve (EKC)”. As a country
progresses, increased output per capita generates more emissions. At higher levels of per capita
income, demand for improved environmental quality increases2 resulting in enforcement of
stringent regulations and use of technologically advanced abatement options. Another strand of
literature focuses on the distribution of production between developed and developing countries.
With increases in per capita income, industrialized (or richer) countries specialize in “cleaner”

1
Business as usual refers to a scenario where there are no economic policies to combat global warming.
2
Cross country empirical evidence suggests that income elasticity of demand for environmental goods is positive.

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industries and import most of the goods produced in “dirty” industries from the developing (or
poorer) countries. This seems to indicate a mere redistribution of environmental degradation to
poorer countries. It is possible that because of stringent regulations imposed in industrialized
countries, dirty industries have relocated from richer to poorer countries. However, empirical
evidence on whether increases in per capita income result in reduction in environmental quality
or a mere redistribution of emissions from richer to poorer countries is an empirical question
with mixed evidence regarding the same.

The following considerations need to be kept in mind while formulating policies for
development and environment.

 Building on the positive links: Need to implement policies which attain the twin goals of
economic efficiency and the environment.

 Removing distortions: Policies that are harmful for the environment should not be
implemented / revoked. For example, removal of energy subsidies (for eg. coal in
industrial countries), subsidies in input prices, pesticide subsidies and irrigation charges.
Most of the heavy polluters in an economy are state owned enterprises, making it
imperative to increase their accountability and expose these enterprises to more
competition as is the private sector.

 Clarifying property rights: is essential for controlling open access natural resources.
There are numerous examples of resources in Thailand, Indonesia and New Zealand
where clear assignment of property rights has played a major role in resource
conservation.

 Realistic and enforceable standards need to be enforced. Unrealistic (or non attainable)
standards facilitate corruption undermining the credibility of all environmental policies.

 Controls must be consistent with the overall policy framework: Most commonly a
combination of various economic and environmental policies is required to attain
environmental goals. Care needs to be taken while implementing these policies as these
policies should not be conflicting.

 Reviewing public expenditures: While designing projects for attaining improvements in

environmental quality, countries and aid agencies need to incorporate environmental
assessment procedures. There is greater need for transparency in implementation and
design of these projects. It has been observed that involving local inhabitants into project
design results in major gains in efficiency and greater impact of these programs.

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There are many other impediments to successful implementation of these programs,

which are listed below:

 Counteracting political pressures: Undertaking stringent action to curb environmental

damages is often biased against the poor and weak. It‟s the role of the government to see
that any regulation is not in favor of particular interest groups. Due to the complexity of
the existing federal structure, which is mainly a multi tier system involving a wide range
of state and central bodies, governments are unable to regulate themselves. There is a
tendency to focus less on chronic problems. Governments are pressed to address
problems which affect the richer sections of the society disproportionately.

 Improving information: Prior to formulating any policy for regulating environmental

problems, knowledge of the same is a pre requisite. International initiatives are needed to
overcome this grave lack of knowledge in issues related to soil erosion, land productivity
around tropical forests, among others. This has been achieved through formulation of
independent commissions in many developing countries like Hungary, Nigeria and
Thailand.

 Involving local people: Local participation has been observed to yield high economic and
environmental returns in implementing programs such as afforestation, soil management,
sanitation, among others. This is because governments are not equipped to make
judgments about how local people value their environment. On the other hand, involving
people can paralyze decision making and reinforce local power structures. Thus, whether
and to what extent local people should be involved in programs aimed at improving
environmental quality is subjective and context specific.

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10.5: Sustainable Development: Ecology and Economic Progress

Development can be understood to be a vector of attributes which the society seeks to

achieve or maximize, namely,
 Increases in real income per capita
 Improvements in health and nutritional status
 Educational achievement
 Access to resources
 A “fairer” distribution of income
 Increases in basic freedom

Development is considered sustainable if the development vector D does not decrease

over time. Based on the aggregate capital stock in an economy, development could be
weakly or strongly sustainable. Aggregate capital stock is the total value of man made
physical, human and natural capital stock. Natural capital stock refers to the stock of all
environmental and natural resource assets. Strong sustainability requires a non decreasing
natural capital stock. Weak sustainability requires that the total value of aggregate capital
does not decrease, i.e. decrease in the stock of natural capital can be compensated by
increase in any of the other stocks of capital. Weak sustainability is alternatively
understood as requiring the present discounted value of development benefits to be
positive. This is because higher economic growth and development in the current period
results in degradation of natural capital and an increase in all other forms of capital
(stocks of physical and human capital increase). This has implications for net welfare of
the current as well as future generations as both - reduction in natural capital and build up
of other forms of capital has implications for quality of life enjoyed by both current and
future generations. The costs of any development program are incurred in the current
period, benefits of which accrue to the future generations as well. Strong sustainability,
on the other hand requires constancy of the natural capital stock, i.e. productive base of
the economy should not shrink over time. Conserving natural capital is essential because
of mutual interdependence between development and conservation of natural resources
and as a moral obligation to preserve the stock of natural resources mankind was
endowed with.

Sustainable development as a goal rejects policies and practices that support current
living standards by depleting the productive base, including natural resources, and that
leaves future generations with poorer prospects and greater risks than our own.

Economists would argue that environmental degradation should take place as long as the
gains from increased economic activity exceed benefits of preserving the natural
resources in their original form. This cost benefit analysis can be used to yield the

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optimal stock of a natural resource. Consider the example of land use change. There are
gains from the use to which land has been put and cost in terms of the land not being
available for other alternative uses, which are perhaps environmental friendly. Costs
associated with environmental destruction (aka total economic value of the resource)
include losses in terms of direct use value of the resource (for ex, reduced firewood from
the land) and non use value (for eg, the land can no longer be used for recreation – as a
park).

Fig 1 illustrates the costs and benefits from increasing stock of natural capital. Costs are
to be understood as the opportunity cost of increasing natural assets, in terms of reduced
economic growth. Benefits of increasing natural assets are the benefits from use and non
use value of environmental resources. The optimal capital stock is referred to as KN*3.

Note that:

For most developing countries, K < KN*.

While estimating the benefits of natural capital, multifunctionality of natural resources

needs to be accounted for, including the role of environmental resources as a life support
system (for eg., trees provide oxygen which is necessary for survival of all living
species), which is hard to measure. Moreover, many of the losses of natural resources are
irreversible (for ex, loss of glaciers) and uncertain in nature. Some of the existing stocks
of natural resources are non substitutable. These reasons provide support for conserving
the existing stock of resources.

Till now the benefit and cost functions are assumed to be continuous, i.e. willingness to
pay (WTP) for increases in natural capital (K) is assumed to be equal to willingness to
accept (WTA) compensation for one unit reduction in K. Willingness to pay for a unit
increase in K equals slope of benefit function to the right of KN*. Similarly, willingness
to accept compensation for a unit reduction in K equals slope of benefit function to the
left of KN* (this is because KN* is a stable equilibrium, thus one has to consider the
amount individuals are willing to pay for a unit increase in K to the right of KN*, vice
versa for K < KN*).

However, it has been empirically observed that WTA > WTP. This is because WTP is
bounded by income, where as WTA is not. It has been observed that individuals demand
much higher compensation amounts for unit reduction in K vis-a-vis their own
contributions for improvements in K. This results in a kinked benefit function, with a
kink at the point where existing and optimal capital stocks coincide, as shown in Fig. 2.
Slope of the benefit function is thus higher for all K < KN* vis-a-vis K > KN*. Given
incomplete information about the benefits of conservation, uncertainty and irreversibility

3
For all K > KN*, MC > MB, it‟s beneficial to reduce K and vice versa. At K N*, MC = MB.

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of natural resources, conserving the existing capital stock seems desirable from an
efficiency point of view. It thus needs to be understood carefully as to what constancy of
capital stock means for sustainable development, which is discussed below. Alternative
interpretations of sustainable development are presented below:

 Constant physical stock of natural capital: applies to renewable resources but not
for exhaustible resources since any positive rate of use reduces the stock
permanently.

 Constant economic value of stock: If price of the resource is understood to mean

all economic values obtained from all multifunctional uses of the resource, a
declining physical stock along with a rising price would imply a constant
economic value.

 Price of stock to remain constant over time: applicable for exhaustible resources,
where prices reflect the scarcity value of the resource. For renewable resources
such as fuel wood, because of resource abundance price of stock is unaffected.

 Total value of all capital stocks is constant (weak sustainability as defined

previously).

There is no easy interpretation of the idea of constant capital stock. Some combination of
an equal value rule with indicators of physical stocks to allow for critical minimum
stocks appears appropriate.

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