Environmental Pollution and the Economy

A false impression could easily be gained from the rather frantic tone of discussions of environmental pollution during the late environmental crisis—now displaced by the energy crisis, which is itself soon to be displaced by the protein crisis. The impression is that we are suddenly confronted with a totally new problem. This is not true. But the nature of the pollution situation has certainly changed over time and, in some ways, it has become more ominous.

To illustrate that it is not a new problem, one can readily uncover horror stories about environmental conditions in medieval and even relatively modern times. The deplorable history of pollution in the city of London is especially well documented. In the fourteenth century, butchers had been assigned a spot at Seacoal Lane near Fleet prison. A royal document about this reads, "By the killing of great beasts, from whose putrid blood running down the streets and the bowels cast into the Thames, the air in the city is very much corrupted and infected, whence abominable and most filthy stinks proceed, sickness and many other evils have happened to such as have abode in the said city, or have resorted to it." Five centuries later, Charles Dickens is reported to have been moved to say of London, "He knew of many places in it unsurpassed in the accumulated horrors of their long neglect by the dirtiest old spots in the dirtiest old towns, under the worst old governments of Europe."

That the situation was not limited to London is illustrated by an old poem about the Rhine: "The River Rhine it is well known doth wash the city of Cologne. But pray dear Gods, what power divine will henceforth wash the River Rhine?"

It is apparent that in developed countries environmental conditions that directly and immediately affected the daily lives of the mass of humanity improved immensely, at least until the middle of the twentieth century, leaving aside some major aberrations like the Great Depression and the World Wars, during which the quality of life dropped sharply in many areas. What then has happened to make us rather suddenly so acutely aware of environmental pollution?

Aside from the growth of world population, a major topic in itself, three things which have come upon us slowly, but more or less simultaneously, are chiefly responsible.

First, recent decades have seen immense increases in industrial production and energy conversion. Associated with this are massive flows of materials and energy from concentrated states in nature to degraded and diluted states in the environment. This has begun to alter the physical, chemical, and biological quality of the atmosphere and hydrosphere on a truly massive scale. Furthermore, we now have the means to detect even very small changes in these natural systems, so that we are much more aware of what is happening than was the case in the past.

Second, "exotic" materials are being introduced into the environment. The near-alchemy of modern physics and chemistry has recently subjected the world's biological systems to strange, unnatural inputs to which they cannot adapt (at least not quickly), or to which adaptation is highly specific among species and therefore disruptive.

Third, ordinary folk have come to expect standards of cleanliness, safety, and healthfulness in their surroundings that were the exclusive province of the wellborn or rich in earlier times.

What is to be done in the face of these profound new forces in the world? And why do our institutions seem to be coping with them inadequately? A first step is understanding the basic sources of the pollution problems that exist in economies such as those of North America.

In 1835, that remarkably acute man Alexis de Tocqueville said, "If you do not succeed in connecting the notion of right with that of personal interest, which is the only immutable point in the human heart, what means will you have of governing the world except by fear?"

The writers of the Federalist Papers and framers of the United States Constitution were very aware of this point and by large were successful in wedding de Tocqueville's two notions in their time. The social engine which they created, and which, at least in outline, is very similar to that which evolved from the parallel English culture in Canada, was built largely on the concepts of private property and individual freedom, with a framework of laws to keep the channels of commerce open. This reflected the conviction that private ownership, freedom of individual choice, and the profit motive would direct resources to the most productive uses, given individual preferences for various goods and services and the income of the population. This conviction, plus fear of losing personal freedom, have underlain our assumption that collective action through government should be held closely in check.

Of course, the need for degree of collective action regarding the allocation and use of resources has been realized by almost everyone for a long time. Public works and defense have always had strong support. People recognized that a certain minimum amount of collective action was needed to realize gains from cooperation. Accordingly, we have used public funds to build roads and dams and schools, and generally for those activities where economies of scale dictated huge investments, or where investments would yield widespread public gains which private enterprise could not capture.

With a few major exceptions, like the Great Depression, this mechanism has worked very effectively toward the rapid exploitation of our basic resources and a rapidly growing GNP. The levels of human welfare achieved by means should not be forgotten or minimized.

What has happened? Why do we perceive that this system is not now serving us well? The central reason, simply put, is that a major flaw has developed in our system of economic incentives. But why is this so?

To gain insight into why this growing divergence between private ends and social ends has come about, it is useful to invoke one of the most basic physical principles, that of mass balance. When materials—minerals, fuels, gases, and organic materials—are extracted and harvested from nature and used by producers and consumers, their mass is not altered in these processes, except in trivial amounts. Material residuals are generated in production and consumption activities, and their mass must be about equal to that initially extracted from nature. The services these material objects yield are used, and the market works to allocate these services to those who desire them most, but their physical substance remains intact.

The important implication for allocation of resources in a market system is that while most extractive, harvesting, processing, and distributional activities can be conducted relatively efficiently through the medium of exchange of private ownership rights, the inevitable residual mass returned to the the environment goes heavily into what economist calls common property resources. The same is true of residual energy.

Common property resources are those valuable natural assets which cannot, or can only imperfectly, be reduced to private ownership. Examples are the air mantle, watercourses, complex ecological systems, large landscapes, and the electromagnetic spectrum. When open and unpriced access to such resources is permitted, the result is apparent. From careful study of particular common property or common pool problems like oil pools and ocean fisheries, it is well known that unhindered access to such resources leads to overuse, misuse, and quality degradation. Market forces, while marvelously efficient in allocating owned resources, work to damage or destroy common property resources.

The laws of conservation of mass and energy have no doubt always held. But at lower levels of population size and economic activity, the return of "used" materials and energy to the environment has only localized effects, most of which could be dealt with by means of ordinances and other local government measures to improve sanitation in and around the immediate vicinity of cities. Thus the butchers can be moved, sewers can be installed, and the streets cleared of trash and offal.
But as economic development proceeds, more and more material and energy tend to be returned to the environment pari passu with the production of material objects. Indeed, some forces press in the direction of increasing residuals as a proportion of final usable output (resort to progressively lower quality ores is a case in point). Larger "problem sheds" are affected and greater numbers of people more remotely located in both space and time suffer adverse impacts. Common property assets which cannot enter into market exchange are progressively degraded because their use as "dumps" appears costless to the industries, even though important values from other uses of the asset are degraded or destroyed.

In summary, a profound asymmetry has developed in the effectiveness and efficiency of our system of economic incentives. On the one hand, it works well to stimulate the exploitation of basic resources, to process and to distribute them, but it fails almost completely with respect to the disposal of residuals to common property resources.

These market failures are substantially aggravated, at least in the United States, by government tax policies, such as depletion allowances and other special treatment measures, and by government regulation policies, which discriminate against recovered materials and in favor of virgin resource exploitation. In addition, our system of taxes and public expenditures has enormous subsidies built in for large families, especially for the relatively well-to-do, and discriminates severely against single people and childless couples. All of these are holdovers from the time when single-minded development was the order of the day.

The sum total result of market failures and government policy is that the economic incentive system makes virgin materials too cheap, stimulates too much materials-flow through the system, generates inadequate reuse of secondary materials, and produces a vastly excessive discharge of dispersed and degraded materials to environmental media.

Since World War II the federal government has become increasingly active in passing laws intended to deal with environmental pollution. The trend has been toward heavy federal subsidization of certain pollution control programs, centralization of control efforts, and greater and greater reliance on uniform emission standards. The basic fault with this program is that enforcement of regulations must leave room for due process. As a result, enforcement is reduced to a process of bargaining with each individual source of waste discharge in a context where most of the advantages lie with the dischargers. The magnitude of delaying litigation that has followed enforcement efforts indicates that polluting industries have been quick to take advantage of the many handholds the enforcement processes provide for delays and obstruction. In the meantime, common property resources continue to be used—and degraded—free of charge.

One may generalize by saying that national environmental policy in the United States has never recognized the economic sources of, and remedies for, the problem. Clearly, it has not recognized the problem for what it is—a large scale failure of the economic incentive system, requiring rectification if common property resources are to be protected, allocated to their best uses, and used efficiently.

There is still, despite more than twenty years of federal legislation, a clear need to develop a positive program for turning the system of economic incentives around and letting it work for the environment rather than against it. I think the following are the main elements of an effective strategy for doing this:

1. Immediately develop as complete a list as practical of possibly deleterious substances in effluents. Require all dischargers of substantial size to sample their effluents and report them.
2. Develop a list of substances, the discharge of which to the environment will be forbidden on the grounds that the overall deleterious effects clearly outweigh any benefits (cost saving) associated with the discharge. Numerous toxic persistent organics (like DDT) would be candidates, as would all of the heavy metals.
3. For those substances, the discharge of which is not entirely forbidden, levy national effluent or emission taxes at such a level as to provide a substantial incentive for control. Where emission taxes cannot be practically collected, inputs leading to discharge of deleterious substances should be taxed instead. It must be recognized, however, that this narrows the range of possible responses. These national effluent taxes would be a first step toward reversing the economic incentives adverse to the environment. They would not be as efficient as charges tailored specifically to environmental and specific source circumstances, but they would have several desirable properties. First, they could be set on a level that would stimulate rapid progress on environmental pollution problems. Second, they would establish the principle of payment for the use of common property resources everywhere. Third, they would be much more efficient than uniform standards, because the economic incentive would be to exercise most control of discharges at those sources where costs are lowest. Finally, and perhaps most important, they would avoid most of the enforcement problems associated with the permit approach
4. Increase the burden of proof on producers of new products or processes to identify and report any substances associated with them that might have adverse ecological or health effects, and require such producers to bear any environmental costs which might result. The Price-Anderson Act, which provides publicly subsidized insurance for nuclear power plants in the United States, and other "bail out" types of legislation, should be repealed and avoided in the future. This could have important effects on the nature and direction of technological change.
5. Use the proceeds of the emission taxes and other appropriated federal funds to encourage the establishment of regional environmental pollution management agencies. Requirements should be laid down to assure that interdependencies among gaseous, liquid, and solid wastes are appropriately recognized and that efficient regional programs of control can be pursued. In heavily developed areas, integrated environmental management agencies should be strongly encouraged. Once regional agencies are duly established, the task of collecting emission taxes would be turned over to them, and the proceeds would be available for their use. They would be permitted to raise some or all of the emission taxes, to tailor them to specific purposes, but not to reduce them below the national level. Research—including a case study of the Delaware Estuary region—by the Quality of the Environment Program at RFF has demonstrated that the economic, technological, environmental system, and even political aspects of the interrelated solid, liquid, and gaseous waste problems, can be successfully modeled and analyzed in a complex region. National governments should sponsor demonstration projects of this kind for their major problem sheds.
6. To attack the incentives problem at the other end, so to speak, repeal depletion allowances and other special and discriminatory tax treatment of virgin materials. A further step would be to encourage the institution of substantial severance taxes on materials extraction to encourage improved durability, maintenance, and recycling of materials. This would contribute not only to conservation, by countering tendencies which the market may have to discount the future at too high a rate, but would also discourage the generation of waste materials which damage the environment.

A program with these general features would make the economic incentive system a powerful and all-pervasive force for conservation and environmental improvement. I can only regard it as astounding that a government would hope to accomplish these ends, involving literally millions of decisions by individuals, firms, and small units of government, by issuing largely unenforceable orders.