In his critique of environmental economics, Dr. Sagoff focuses on the discipline's approach to resource allocation. He argues that environmental economists, by basing this allocation on the theory of welfare economics, substitute preferences or hypothetical choices for actual choices, replace free markets with centralized planning, and indulge in paternalism. This leads Sagoff to question whether achieving allocative efficiency by correcting market failures is a more important goal than preserving the freedom of choice that markets afford us. He denies that preferences, as economists conceive them, constitute the basis for rational choice, and he doubts that the satisfaction of preferences contributes meaningfully to social welfare. Because environmental economists study the relation between preference satisfaction and resource use rather than macroeconomic matters such as employment, Sagoff contends that they have little to say about the relation of the economy to the environment. He concludes that the concepts of property rights, knee-of-the-curve thinking, and place (nature as it exists in community with human beings) are more useful than any concepts found in environmental economics for formulating environmental policy.
Candidate Clinton ran his successful 1992 campaign for the presidency of the United States on a platform of strengthening the U.S. economy. Given that platform, how should the Clinton administration approach environmental policy? In this essay, I propose that the new administration will find little that is helpful in the vocabulary of mainstream environmental economics (or resource economics). I shall argue that the concepts that define the approach of environmental economics—concepts such as allocative efficiency, social cost, market failure, and welfare—have outlived their usefulness as ways to understand or to evaluate environmental policy.
By "mainstream environmental economics," I refer to the discipline that applies the theory of welfare economics to natural resources and to the environment. Its goal is to allocate resources efficiently—that is, to deploy them on the basis of what individuals are willing to pay for them. Under certain ideal conditions, markets will achieve allocative efficiency. In other words, they will put resources into the hands of those willing to pay the most for them. Yet because these conditions generally fail to hold in respect to the environment, economists argue that the government may often succeed better than the market in allocating resources to the would-be highest bidders.
Four arguments
I shall offer four arguments to suggest that the theory of welfare economics as a basis for allocating resources should be given up as no longer useful. My first argument is that the theory abandons choice for preference. People make choices in markets; however, markets are thought to be the problem, since they pervasively fail to allocate resources to those who, under ideal conditions of exchange, would pay the most for them.
Markets fail—resulting in the need for government managers to allocate resources—for several reasons. One is that the costs of getting information and striking bargains keep people from making the exchanges they would make in the absence of those costs. Another is that no one can be charged a fee for the use of unowned goods, such as oceans and the atmosphere. Yet another is that each member of a group may try to exempt himself from paying his share for goods or services that every member of the group desires. This is known as the "free-rider" problem. For these reasons and many others, the story of "market failure" is the only story besides "I love you" that has no end.
Allocating resources on the basis of the theory of welfare economics entails substituting preferences (hypothetical choices) for actual choices; however, preferences, as economists understand them, are simply constructs of the theory itself and, outside of that theory, do not provide a foundation for "rational choice."
In view of the pervasiveness of market failure, environmental economists advise the government to hire experts such as themselves to identify the allocations people "would" choose under "ideal" conditions and substitute those allocations for the outcomes that result from the choices people actually make. Since ideal conditions are never found—one can so easily tell stories to "show" how and why they fail to exist—this strategy substitutes hypothetical choice for actual choice and replaces free markets with centralized planning.
My second argument against using the theory of welfare economics as a basis for allocating resources has to do with the nature of choice. We ordinarily explain the choices we make by referring to the reasons, beliefs, character traits, habits, hopes, fears, principles, promises, values, and many other factors that influence and justify our decisions. Occasionally, we may explain a choice in terms of a preference. In the ordinary or intuitive sense, "preference" refers to an inclination or an idiosyncratic desire as distinct from a principled or objective basis for a decision. Economists do not use the term "preference" in an ordinary or intuitive sense. Rather, they have in mind what they call "preference schedules" or "preference maps" that are supposed to obey formal rules or requirements and that explain every "rational" choice we make. Preferences (or hypothetical choices) of this sort should not be confused with inclinations in the ordinary sense; rather, they are simply artifacts or constructs of economic theory itself.
The priests at Delphi read the entrails of chickens to determine the preferences of the gods. To find out what mortals "prefer," economists interpret market and survey data. Preferences discerned by either priesthood are equally useful in making predictions, as the social science literature abundantly illustrates. This literature, which attempts to elicit preferences in experimental situations, has produced a long list of technical problems with names like "preference-reversal," "inconsistency," and "intransitivity," which attest to the intractable difficulties that beset efforts to make scientific sense of the shadowy world of preference maps.
My third argument against using the theory of welfare economics as a basis for allocating resources is that, even if preferences did exist as a foundation for "rational" choice, economists offer no plausible reason why environmental policy should seek to satisfy them. Economists use the term "social welfare" as a proxy for the "satisfaction of preferences," and then trivially and speciously argue that "the satisfaction of preferences" produces "social welfare." However, empirical evidence confirms what common wisdom suggests: not the satisfaction but the content and quality of desires correlates with what people mean by welfare or well-being.
My fourth argument against allocating resources on the basis of the theory of welfare economics is that the vast literature of environmental economics deals exclusively with microeconomic questions—that is, with problems of market failure or allocative efficiency—rather than with macroeconomic matters, such as employment, inflation, trade, interest rates, and savings. Economists generally understand that no clear relationship holds between microeconomic efficiency and macroeconomic performance or prosperity. The literature of environmental economics says little, then, about the relationship of the environment to the economy.
Once we discard environmental economics, we can make room for concepts that give us a better analytic purchase on environmental and natural resource issues. For example, freedom of choice is a more helpful concept than the satisfaction of preference, and the protection of property rights is a more meaningful norm than the pursuit of "optimal" levels of pollution. As I shall propose, anyone wishing to understand environmental policy will find ethics, aesthetics, cultural history, religion, and other fields to contain concepts far more useful than any discovered in environmental economics.
The libertarian critique of environmental economics
Environmental economists posit maps of preferences, which preferences they then develop methodologies to measure. They urge society to respond to those preference maps by overriding the outcomes—or, as they would say, "correcting the failures"—of legitimate institutions of social choice, including representative legislatures and free markets in which people may respond to suggestions, reasons, and arguments, not just preexisting preferences. The appeal to hypothetical choices (choices people would make under "ideal" conditions) to "correct" outcomes that result from choices people make under actual conditions is characteristic of collectivist planning. That is why libertarians see no reason to distinguish mainstream environmental economics from socialism.
Environmental economics deals with microeconomic rather than with macroeconomic matters; because economists understand that no clear relationship holds between microeconomic efficiency and macroeconomic performance, the literature of environmental economics says little about the relationship of the environment to the economy.
Environmental economists recommend that the government empower experts, presumably themselves, to second-guess the choices people actually make in order to install outcomes that satisfy their "true" preferences. This sort of paternalism—giving people what they "would" choose, not what they do choose—is also characteristic of collectivist planning. Marxists in the former Soviet Union empowered a politburo to allocate assets as the people themselves would choose to allocate them if they were able to overcome their corrupt bourgeois ideology. Environmental economists similarly allocate resources as the people themselves would if they could overcome bargaining costs. Whether Marxist or neoclassical, these economists develop methodologies that give them paternalistic power to determine the "true" preferences people "would" reveal under "ideal" conditions. To base policy not on actual but on hypothetical choice is to set out on the road to serfdom.
Markets, libertarians tell us, make choice possible; even if they are not efficient, markets enhance virtues such as freedom, responsibility, accountability, cooperation, self-reliance, and consent. Allocative efficiency through centralized planning, in theory, maximizes the satisfaction of preexisting preferences. Which is more important—freedom of choice or efficiency in allocation? To answer this question, we must know what preferences are and why it is important to satisfy them.
Are preferences real?
When we speak of preferences in an intuitive or ordinary sense, as I noted above, we refer to desires and inclinations, which—along with factors such as reasons, principles, and beliefs—help explain what people do. In contrast, economists use the term "preferences" to refer to mental entities or to dispositions that behave in a rule-governed way to determine all the "rational" choices we make. We would expect, then, that economists would be able to show that their preference maps predict and, in that sense, explain our decisions. However, the literature on public choice theory reports the results of a number of psychological experiments that show predictions based on hypotheses about preferences to be worthless. Take a simple example: you resolve after breakfast to diet but you pig out at night. How good is your morning preference as a predictor of your evening performance?
Since economists cannot observe preferences "in themselves," or directly, they have no way to test the inferences they draw from market, voting, survey, and other data. These data permit many competing interpretations. When a person gives to a worthy cause, for example, does he act selfishly and altruistically, or does he seek a benefit for himself, such as the "warm glow" of giving? Likely stories are so easy to tell that one assessment of a person's preferences is as good as another. Thus it is clear that preferences do not exist in the mind of the individual; rather, they exist in the eye of the beholder.
The problem with preferences, then, resides not so much in the failure of preferences to predict and therefore explain behavior as in the impossibility of falsifying hypotheses about what a person's preferences are. No matter what a person does, you can tell a story to reconcile the person's actions with any reading of his prior preferences. A trip to Atlantic City, for example, can "reveal" a preference for virtually anything; what a person does there might "reveal" any number of values, interests, or goals. Even the simplest choice might involve many complex motivations, or so psychoanalysts tell us. If they cannot explain what a person does, how can economists? Attempts to account for behavior on the basis of prior preference have produced a burgeoning literature about preference change, preferences concerning preferences (or "second-order" preferences), preferences that motivate and preferences that evaluate, "public citizen" and "private citizen" preferences, and so on. Every new conundrum produces a new distinction or some other ploy to maintain the faith that preference maps account for all we do.
The problem lies not so much in the failure of preferences to predict and therefore explain behavior as in the ease of telling stories to account for behavior and thus the impossibility of falsifying hypotheses about a person's initial preferences.
Centuries ago, social scientists posited demons that made you act as you do; they recommended ritual exorcisms to get rid of them. Today, they posit preferences and, like true scientists, obtain grants to develop methodologies to measure them. These methodologies, however, have succeeded only in creating anomalies and difficulties, and still more grants and methodologies to try to resolve them. Major academic disciplines have arisen to try to figure out how to figure out preferences. I can only hope that some day preferences, like demons, will be discarded as useless theoretical entities. This is what scientific progress now seems to demand.
Efficiency and welfare
Mainstream environmental economics, a branch of welfare economics, is normative insofar as it lays down in advance of the political process the principal goal that society should pursue in dealing with the environment—namely, social welfare. "Welfare" is defined as the satisfaction of preferences as measured by willingness to pay and as determined independently of the process of satisfying them.
By allocating resources to satisfy the preferences of those who are willing to pay the most for those resources, society will, of course, maximize social welfare, since social welfare is itself defined in terms of the satisfaction of those preferences. Social welfare is just another name or a proxy for allocative efficiency. The question we must ask is whether "welfare" has anything to do with happiness, well-being, or any goal that appeals to common sense, morality, law, or culture. Ordinary wisdom suggests that happiness is not what money can buy—that one attains well-being not by satisfying one's capricious desires but by learning to overcome or master them. Parents know this: they do not want children to experience instant and constant gratification; they want them to learn through some frustration and defeat to discipline and elevate their desires. The literature of moral philosophy shows us that we improve our stature and well-being more by criticizing than by satisfying arbitrary inclinations. The philosopher and economist John Stuart Mill wrote that Socrates dissatisfied was better off than a pig satisfied. He thought it obvious—as it is—that happiness depends more on the quality of our desires than on the degree to which we satisfy them.
Social research confirms what common wisdom suggests: preference satisfaction and well-being have no clear relation to each other once basic needs are met. Thus people frequently report that they become less happy as their income rises and they thus satisfy more of their wants. Indeed, studies have found, overall, no stable relationship between satisfaction and changing economic conditions once basic needs are met. (These studies do not assume any particular conception of happiness or well-being; they leave that to the individual subject.) Amusingly, people who win large sums of money—in lotteries, for example—do not report being on the whole more happy afterwards.
Environmental economists must concede that their theory of resource allocation rests on a conceptual rather than on an empirical (therefore testable) relationship between "willingness to pay" and "welfare." They may reply, however, that this conceptual relationship is based on an assumption that the individual prefers what he thinks will increase his well-being. This reply defends one tautology by appealing to another. What the individual thinks will improve his well-being is defined beforehand as whatever it is the individual wants.
Most of us seek outcomes, especially with respect to the environment, for intrinsic ethical rather than self-serving reasons. We may have the good of the community or of future generations in mind; we may seek outcomes that are simply good in themselves. However we may define it, our personal well-being is not what we necessarily seek. We debate public policy in terms of the values and goals of the community itself. Our political choices, in particular, may express our commitment to objective values and to social norms—not simply to our personal well-being.
Values not grounded in considerations of personal benefit cannot be included in the social welfare function that determines how goods should be allocated, since that would render incoherent the relation between preference satisfaction and personal welfare; yet they cannot be excluded, since public policies are usually debated in terms of the good of the community.
Environmental economists confront a dilemma. Ethical and community-regarding values not grounded in considerations of personal benefit must either enter into or be excluded from the social welfare function that determines how goods should be allocated. It is impossible to include these "commitment" values, since that would render incoherent the relation between preference satisfaction and personal welfare. (These values, once again, are not based on considerations of personal benefit.) However, it is also impossible to exclude commitment values from the welfare function or calculation, since people usually argue for public policies in public terms—that is, in terms of the good of the community rather than in terms of what benefits them personally.
To overcome this dilemma, environmental economists have invented "existence," "stewardship," "bequest," and other kinds of values to capture what is essential about moral commitments—namely, that they rest on objective ethical beliefs rather than on the expectation of personal benefit. At the same time, economists understand that these values must be based entirely on considerations of personal satisfaction or well-being, for otherwise they could not fit into a welfare function. Thus moral commitments to protect nature are both utterly independent of and completely dependent upon considerations of personal benefit or well-being. That is the reason they are so important.
Economists elicit ethical and other "commitment" values in surveys by asking people how much they are willing to pay, for example, to protect whales. These surveys do not ask how much individuals are willing to pay for a personal benefit, such as a warm glow or a psychic satisfaction, that they might experience as a result of contributing to that cause. Yet economists interpret their surveys as if that were the question they had asked. They assume that paying to protect whales and paying for psychic satisfaction come to the same thing. Thus they interpret moral commitments to preserve nature for its own sake as preferences based on considerations of personal benefit or welfare. For environmental economists, this kind of double-think "solves" the dilemma of not being able to exclude ethical values from or include them in the social welfare function.
Microeconomic efficiency and macroeconomic performance
The approach in mainstream environmental economics that I am criticizing deals entirely with microeconomic issues—principally, efficiency in the allocation of resources. Environmental economists primarily study the relation between resource use and preference satisfaction, particularly in the context of prices at which goods trade in individual transactions. Macroeconomic issues, in contrast, have to do with large aggregates—such as the amount of employment, inflation, and trade—that determine the state of the economy as a whole. The question arises whether environmental economics has anything to do with the economy that concerns ordinary people—for example, jobs, inflation, deficits, and interest rates.
No consensus exists among economists about what relation, if any, holds between microeconomic efficiency and macroeconomic performance. Some theorists accept Marx's argument that efficient market competition—by driving down prices—eliminates profit, which is not a good or service anyone wants to pay for. Efficient market competition would then lead to involuntary unemployment. Others contend, on the contrary, that involuntary unemployment is impossible within efficient markets, since wages will fall sufficiently to clear the labor pool—that is, will fall low enough so that markets will create jobs for everyone who wants to work. Incompatible stories like these are all too easy to tell about how the microeconomy does or does not affect the macroeconomy.
If you turned to the index of any textbook in macroeconomics, you would not find an entry for natural resources, nor would you find one for the environment. At present, environmental or resource economics is exclusively a branch of microeconomics and thus is concerned with microeconomic efficiency. Microeconomic efficiency has no clear relation to macroeconomic performance. That is why environmental economists say so little about the relation of the environment to the economy.
A better approach to formulating environmental policy
I have space here to describe briefly three concepts that I believe are more useful in formulating environmental policy than the concepts I have criticized. They are the concepts of property rights, knee-of-the-curve thinking, and place.
Knee-of-the-curve thinking offers an appropriate context in which to consider the costs of environmental protection; it suggests that we make the least expensive reductions in pollution first and that we implement pollution reductions until we reach the point of rapidly diminishing returns.
As libertarian Murray Rothbard points out, the way to keep polluters from polluting is to enjoin them from doing so and thereby invading property rights. With this in mind, we should treat pollution not as a social cost but as a legal nuisance or trespass. This is in fact the way most of our environmental statutes intend pollution to be treated. The preponderance of these statutes require industry to minimize emissions it cannot feasibly eliminate in order to protect property rights while avoiding the extreme consequence of closing down the economy. The point of the statutes is not to allocate resources efficiently, to "optimize" levels of pollution, or to maximize social wealth. Rather, by ratcheting pollution levels down to the lowest economically and technologically feasible minimums, the statutes seek to prevent torts and to protect personal and property rights.
In setting priorities for reducing pollution, we should rely on knee-of-the-curve thinking, which offers an appropriate context in which to consider the costs of environmental protection. Knee-of-the-curve thinking compares the price of purchasing and maintaining one technology to achieve a given reduction in pollution with the price of purchasing and maintaining an alternative technology to achieve the same reduction. This approach attempts to achieve cost-effectiveness by comparing the actual market price of competing technologies and by stimulating the development of those technologies that can bring down the price still further.
According to knee-of-the-curve thinking, we should make the least expensive reductions in pollution first, and we should continue to implement pollution reductions until the price of doing so rises dramatically—that is, until the point of rapidly diminishing returns is reached. To illustrate, imagine a graph in which the horizontal axis represents pollution reduction and the vertical axis represents price. The law of diminishing returns suggests that at some point the price of the next marginal reduction in pollution will rise considerably; this point is the knee of the curve. The aim of environmental law is to use means such as technological innovation to push the knee out as far as possible on the pollution-reduction axis; it is not to "optimize" pollution, as I noted above, or to balance benefits and costs.
To understand the value and purpose of environmental protection, we should look to another concept. Those who are eager to save treasured landscapes have introduced the concept of place—of a natural scene as it is understood in relation to local human culture and history or, more generally, of the environment as it exists in community with human beings. The concept of place brings together human, environmental, and natural history; it is particularly valuable in helping us understand what we deplore about the human subversion of nature and what we fear about the destruction of the environment. Indeed, much of the discussion about preserving resources might be better understood in terms of protecting places.
As technology makes us economically less and less dependent on nature, we become aesthetically, culturally, and ethically more attached to nature. We begin to think of nature less in terms of utility and more in terms of permanence. (One might compare this to gentrification—the process in which urban areas come to be perceived as a cultural heritage.) The concept of place applies to landscapes that do more than satisfy the consumer preferences of individuals. Protecting landscapes for their ethical and cultural significance is not the same thing as protecting them to satisfy consumer preferences.
The economy was the message of the Clinton campaign; to get "on message" we need a macroeconomics, not a microeconomics, of the environment. Our environmental policy should reflect first and foremost our shared and public values about nature and about the many places we care about in common. The Clinton administration may look to ethics, history, literature, religion, science, and art to find concepts that are useful in devising environmental policy. It cannot express its message of hope, however, in the worn-out vocabulary of environmental economics.
Mark Sagoff is director of the University of Maryland's Institute for Philosophy and Public Policy.
A version of this article appeared in print in the May 1993 issue of Resources magazine.
A version of this article appeared in print in the May 1993 issue of Resources magazine.
