Rediscovering Sustainability

Economics of the Finite Earth

A.R.G. Heesterman

• Publisher: Routledge
• Year: 2016
• Print ISBN:
  9781409444565
• eBook ISBN:
  9781317069843
• Topic: Economics
• Subtopic: Business General
• Index: Economics

Drawing on historical and current data, this thought-provoking book summarises the pathways to the present predicament and maps out strategies to develop financial and economic systems for a sustainable world. The content is arranged in three parts addressing 'Stylised Market Equilibrium', 'The Real Market Economy', and 'Present Affluence Versus the Future'. In Rediscovering Sustainability the authors help bridge the gap in understanding between scientists and the green movement on the one side and many economists on the other. Greens worry about catastrophic climate change and anthropocene mass extinction. Economists express reservations about spending substantial amounts of money on preventing environmental degradation. Aart and Wiebina Heesterman argue that there are inherent limitations in standard economics which cause blind spots in its environmental economics sub-field, as well as issues to do with simple lack of knowledge. In this timely book, the limitations of the neoclassical economics framework are examined. The authors explore the relationship between Keynesian aggregate economics and financial sustainability, as well as that between scale economies, locational economics and the understated cost of fuel for transport. The impact of economic theory on practice is examined. Conventional economic theory and political compromise bear unhelpfully on an energy market constrained by emissions targets. Rediscovering Sustainability is an invaluable aid to understanding for those teaching, studying, campaigning, policy-making, or involved with the science or politics of environmental and sustainability issues. It is also a book for those concerned with the application of economic theory in any context.

PART I
Stylized Market Equilibrium

Overview

Chapters 1 and 2 review the argument that the market economy forms an efficient social system, based on the assumption that the world behaves in accordance with conventional economic theory. If the Law of Supply and Demand were valid and operative for all important resources, total world income would amount to the financial equivalent of the total value of sustainable world consumption, with its composition controlled by market clearing prices. The third chapter goes into greater detail of the data representing the financial aspects of the allocation of resources. It summarizes the principles of national income accounting, including the meaning of terms such as income, savings and investment. We maintain that the allocation of resources has to be sustainable to be truly efficient. As this is clearly not in conformity with reality, Chapter 3 also reviews the role of questionable market processes, such as speculation and the associated web of financial transactions. Although it should be clear from the presentation of these first chapters that economic equilibrium analysis does not provide a complete and true picture of the real world, we leave a systematic discussion of potential alternative views until Part II.

1
Restricting Demand for Scarce Resources

Introduction and Summary

Economics is the discipline which analyses the efficient use of scarce resources and the social incentives employed to further this aim. In practice, it is routinely assumed to be linked to the market mechanism. This is plausible in the case of resources defrayed out of a limited budget. The standard assumption of economics is that useful resources, which are only available in limited amounts, always carry a price. Higher costs of end products are then supposed to reflect the price of resources available in short supply. In the case of a natural resource such as land, this price is called a rent.

If demand exceeds supply, the implication is that the price (or the rent) is too low. Conversely, if it falls short, the price needs to be reduced, resulting in the proper balance between the two. On the premise that equality between supply and demand is always attainable, the market economy is a social structure capable of promoting the efficient use of financially valued resources. However, we have now come to realize that human activities exert an unacceptable pressure on a range of natural resources, such as the integrity of the atmosphere, the oceans, underground aquifers and supply of fresh water in specific regions. As a result entire ecosystems are under threat, including the survival of animal and plant species. These are precious assets vital to human well-being, yet do not command a price and are therefore not subject to market constraints. When important scarce natural resources are unpriced, the very enhancement of efficiency of marketable resources may well result in a threat to many irreplaceable natural assets, which do not command a price. Hence, if the market economy is not to encourage wasteful misuse of natural resources, their value needs to be acknowledged in financial terms with the consequent implications for production costs as well as those of end products.

Efficiency

The term ‘efficiency’ tends to be defined as avoidance of either unnecessary effort or unnecessary employment of resources. As an economic concept with a precise meaning, the term efficiency is defined as cost-effectiveness with regard to a specific price structure, generally understood to be the prevailing one. It is a relative concept which indicates that, as far as possible under the circumstances, a product is produced as cheaply as possible. In the economist’s vocabulary, the term ‘efficient’ is normally understood as equivalent to ‘cost-effective’. If mechanical power is expensive but a host of labourers are prepared to offer work for little cost, moving materials by wheelbarrow is efficient. On the other hand, under the economic conditions prevalent in the developed part of the world, the use of mechanical power is more efficient.

COST EFFECTIVENESS IS HELD TO LEAD TO INCREASED PRODUCTION

In the stylized world of market equilibrium and competition, producing the same product at a lower cost than before immediately opens the possibility to make more for the same financial outlay. By implication, producing more cost-effectively, under the incentive of the profit motive, allows society to enjoy a higher standard of living, while using the same amounts of available real resources. However, the reality is that more cost-effective use of the same amount of marketable resources may provide greater material affluence but also implies increasing demands on unpriced common resources.

When humans first began to use fire, this allowed a more efficient use of natural resources. Cooking made a much wider range of nutrients available. Yet, even at that stage, smoke from cooking fires affected the environment, reducing the capacity of the atmosphere to act as a carbon sink by an infinitesimally small amount. At that time the capacity of the environment to absorb the resulting increase in CO2 and other harmful substances in smoke could still be considered boundless.

A second example concerns the marine environment. Fishing by the ancient methods of spearing or trapping only caught fish fit for consumption. By and large this still applied to the early twentieth century fishing industry, characterized by manual methods, even though the use of nets included throwing unwanted catch back into the water. A completely different situation arises with the use of modern ‘efficient’ factory ships, which drag mile-long seine nets over the sea floor, catching and destroying large numbers of marine creatures unfit for human consumption, the so-called ‘by-catch’. What is more, the largest nets also lead to the destruction of habitats, stirring up sediments which suffocate everything below when settling again (Lees 2002: 52–62). The use of this ‘efficient’ technique unintentionally kills large numbers of warmblooded mammals such as dolphins in the process. In the case of dolphins the officially reported by-catch is probably an underestimate, because fishermen often cut dead dolphins into pieces to ensure that the bodies go down (Greenpeace 2004). In addition, nets are lost at sea on numerous occasions, snaring and killing untargeted species, such as turtles. The need to replace lost nets is counted as a cost, the wanton destruction of the marine ecology is not.

At this point it is appropriate to comment on the 30-year update of the Limits to Growth as published by Meadows et al. (2005). The authors rightly draw attention to the fact that, even back in 1972, the depletion of mineral resources was not the only limit mentioned in their publication. They emphasized even then that pollution might also come to inhibit further growth although convinced that restrictions on mineral resources would constitute the real bottleneck.

These seemingly unconnected constraints, on resources as well as the capacity of the environment to absorb the detritus from their unrestricted use, are in reality two sides of the same coin. We have now reached a stage at which the pressure on unpriced common resources is being aggravated by the scarcity of marketable resources. As the end of cheap oil is in sight, because many of the more easily exploitable oil fields are running out, a race has begun to come up with other sources. As a result, fossil fuels which are more difficult to extract are becoming commercially attractive, even though their carbon footprint is more substantial per unit of usable energy. Examples are the exploitation of the Canadian tar sands and the increasing use of ‘fracking’ to extract gas from oil shales.

The 30-year update of the Limits to Growth puts a considerable emphasis on what the authors call ‘overshoot’, in particular in relation to environmental degradation. In their view, the earth’s carrying capacity has already been exceeded during the 1980s. Chapter 5 of their book contains a discussion on ‘getting back from the limits’, referring to the ozone hole. Even so, the subsequent chapter seriously questions the possibility to manage further sustainable growth or even to maintain the current standards of living of the affluent world.

We cannot sure who is right: Meadows et al. calling for managed contraction in a fairer world or those who trust that a modest level of growth may still be possible, once the proper support to develop the necessary technologies is in place. What is, however, all too clear is that the incentives to make a more efficient use of currently unpriced common resources are woefully inadequate. As long as the market rewards cost-effective use of marketable resources at the expense of further encroachment on unpriced common resources, there can be no sustainability. In addition, there is little evidence as yet of the political will to create conditions conducive towards a rapid transition to sustainability.

Primary demand for end products and secondary demand for basic resources

Demand for various products may come direct from their ultimate users, for example, consumers purchase manufactured consumer goods, while firms commission investment goods, such as offices. Alternatively, demand can be indirect, for instance a farmer buys fertilizer in order to grow wheat for the bakery trade, whilst the bakery in its turn produces bread. According to the assumptions of equilibrium economics, the combined costs of the individual materials and components work through into the price charged to the consumer. This ensures that the demand for particular resources, whether manpower or raw materials, such as scarce minerals, is indirectly restricted by the demand for the end product. For example, if the price of oil were to increase by a factor of ten, the cost of air travel and car use would rise dramatically, inducing many people to cease flying and driving or to use more fuel efficient means of transport, thereby reducing the implied demand for oil. Equilibrium in the market for other resources may require a compensating reduction in the price of certain related materials. For example, an increase in the price of oil with a concomitant decline of air traffic might lead to a reduction in the demand for metals needed for the production and maintenance of aircraft. This might result in a price reduction of the metals in question. The basic assumption is that there always is a combination of prices of the various products and resources that will ensure that demand and supply correspond for each product and for each resource. The proposition ‘… equilibrium is the normal state, … towards which things spontaneously tend under a regime of free competition in exchange and in production’ (Walras 1926/1954: 224) is known as the Law of Supply and Demand. The, by assumption, exceptional situation where this law does not hold, is referred to by saying that the market does not clear. We shall leave a discussion of the arguments raised for the validly of this ‘Law’ and why it needs qualifying till later in this chapter.

It is also assumed that each subsequent purchaser of an article for which a resource is used charges its cost to the next one, so that this is paid by the end user. That being the case, the price of the end product provides the end user with the correct information about the cost of the resources which went into its manufacture. The market demand for every resource, be it land, equipment of a certain specification, mineral reserves or the number of workers with specific skills, is limited by the income of potential buyers. This relation between income and the demand at equilibrium prices is therefore assumed to keep the demand for all resources within the limits of the amounts available, thus ensuring their efficient use. There are several major exceptions to this proposition in the real world. Of these, two, relating to the failure to assign any cost to natural resources or to harm inflicted on third parties, are discussed below. However, there are also other reasons why the price of the end product does not provide adequate information concerning the implied demand for resources as assumed by neoclassical economic theory. In fact, the proposition is only applicable if two further propositions of neoclassical economics, the Law of One Price and the No Profit Condition hold. The precise meaning of these terms is explained in Chapter 2, while one major reason why the conclusions resting on them may be invalid in the real world is covered in Chapter 4 on scale economies.

The price of a natural resource: rent

The assumption that the price contains demand, ensuring that it does not exceed the available amount, may also apply to natural resources, provided there is an identifiable owner able to restrict their use by demanding payment. It has been assumed from an early stage that this applies to specific resource types, such as land and mineral deposits. On the other hand, there has always been the implicit assumption that other, more generally available, resources will remain forever at mankind’s disposal, in, to all practical purposes, unlimited quantities. To quote Ricardo, writing in the early nineteenth century:

With a given quantity of materials, and with the assistance of the pressure of the atmosphere, and the elasticity of steam, engines may perform work, and abridge human labour to a very great extent; but no charge is made for the use of these natural aids, because they are inexhaustible, and at every man’s disposal. … as the supply is boundless, they bear no price (Ricardo 1817/1969: 34–35).

Ricardo’s examples of ‘free goods’, which could not be used in exchange for anything else, although recognized as indispensable, included water and air (ibid.: 5). Sadly, these same commodities are, by the twenty-first century, in short supply in many densely populated areas, as the heritage of classical economists, such as Ricardo, has acted as an apparent justification for the plunder of natural resources. The fact is that, in Ricardo’s wake, economic analysis assumes that anything that has not been subjected to a pricing exercise is therefore available in unlimited amounts for anyone to use. Indeed, in Ricardo’s time it was broadly true that resources other than material and tangible items, which could be handed on or traded from one person to the next, were available in quantities which could not possibly be exceeded by humanity’s demand.

A coherent explanation of what price goods will command under such circumstances is best demonstrated by starting with the price of land. Ricardo’s theory of rent, and by implication of prices, was developed in relation to land. It is assumed, as was realistic at the time, that only the better, more fertile and better accessible plots of land were under cultivation. Land of poorer quality, or further removed from habitation, could be freely accessed to become private property as soon as someone registered a claim for its cultivation. Not until land started to be scarcer with increasing density of population would land less fertile or harder to work begin to command a price, making it imperative to work the next best grade (Ricardo 1817/1969: 35).

The underlying assumption is that there would always be less productive or more unfavourably located plots of land that did not command any rent. The productivity of this ‘poorest’ land determines the price of the produce it is able to sustain. Anyone (with the proper political clout) would be able to appropriate a piece of land, fence it and begin to cultivate it without causing harm to anybody else.1 Once no more land of borderline quality is vacant, then it may become imperative to start using the next, even poorer grade of land. Ownership claims on land already in cultivation have been established in the meantime. As the next poorer grade of land needs to be brought in use, land of better quality, including land considered until now of borderline grade, begins to command a higher rent. Assuming the quality of the land is reflected only in the effort needed in tilling, rather than the quality of the produce, it will result in the same price for produce grown on whichever grade of land, even though the better grades of land command higher rents.

Two comments with regard to land as a ‘gift of nature’ rather than the result of human economic effort are in order. Firstly, there are countries, notably our native Netherlands, where land is ‘produced’ by methods not fundamentally different from creating other manmade structures by enclosing a section of shallow sea with the view of draining it. Secondly, whereas Ricardo (1817/1969: 33) referred to the ‘original and indestructible powers of the soil’, it is now unfortunately clear that land can be degraded by over-exploitation and misuse. For that reason, M. Jacobs (1991: 87ff) uses the term ‘renewable resources’ for land and other naturally occurring assets capable of regeneration, whereas others, such as mineral resources, are exhaustible. Under market economic conditions, rational exploitation of land, the most obvious example of a naturally occurring asset, involves a lease, whereby an owner limits its use by charging rent, possibly also associated with maintenance conditions.

Some of the more extreme examples of mis-development, such as the construction of gigantic dams on tribal land, reflect the fact that a formally registered title to property is the only recognized form of ownership. If a specific virgin forest has been traditionally utilized by a certain tribe from times immemorial, it ought to be regarded as the collective property of the tribe. In the event of a decision to build a dam that will lead to flooding part of this land, compensation to the tribe ought to be included in the cost of the project. Such a course of action is in no way different from the situation arising in a developed country, when a road is to be built which requires the expropriation of private property. In the latter case the action is recognized as confiscation in the public interest. Exactly the same ought to apply to traditional collective tribal ownership with, in both cases, the cost of compensation treated as part of the cost of the project. A second question which needs asking is whether the construction of dams or motorways (with in both cases compensation included as a cost of the project) is always in the public interest.

Ricardo’s theory of rent generalizes with little adaptation to mineral deposits (Ricardo 1817/1969: 46ff). Generally governments claiming ownership of mineral reserves in their country charge royalties per tonne or barrel mined or extracted rather than annual rent when granting mining concessions, in order to avoid incentives to exhaust the deposit rapidly. Something regarded as useful is likely to command a price, in particular when only available in limited amounts. The reverse relationship between scarcity and economic value, that is, that something which does not command a price is therefore available in abundance, may have seemed true in Ricardo’s time, but is definitely no longer so in the twenty-first century. Clearly, this assessment of fact, made almost 200 years ago by Ricardo and since repeated ad infinitem, explicitly or implicitly, by generations of economists, such as Stonier and Hague (1953: 3) is now utterly misleading.

The report The Limits to Growth (Meadows et al. 1972) by the Club of Rome pointed out, with some justification, that the earth itself and its global physical resources pose essential restrictions, both on the numbers of people and affordable living standards. There no longer is any virgin land to be appropriated without harming others, if that ever was the case (which we call into question). It is now recognized that there are also other less tangible and less visible resources, crucial to the well-being of humanity, which have a finite limit that cannot be exceeded without incurring serious adverse effects. Whether, and on what timescale, this implies that economic growth is altogether unaffordable, is debatable. Much of the analysis in this book is based on the assumption that a...

Table of contents

• Cover Page
• Title Page
• Copyright Page
• Contents
• List of Figures
• List of Tables
• Abbreviations
• Acknowledgements
• About the Authors
• Foreword
• Introduction
• PART I STYLIZED MARKET EQUILIBRIUM
• PART II THE REAL MARKET ECONOMY
• PART III PRESENT AFFLUENCE VERSUS THE FUTURE
• Bibliography
• Subject Index
• Author Index