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The market and the environment

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Speech delivered to the Cambridge Union

The case is sometimes made that it is the operation of a free market which damages the environment, and that pollution of the air we breathe and the water we drink represents “market failure.” It is a short step from here to the proposition that market economics should be suspended or overruled in favour of preserving the environmental quality we deem desirable. Many environmentalists take that short step, and proceed to argue in favour of state controls and restrictions which would impose heavy costs upon business and industry, and severely restrict the freedom of participants in those activities to respond to economic signals.

The reality is that it is not markets which have failed to protect the environment, but the absence of markets. And while it is possible that markets fail from time to time, it is government failure which is far more frequent and far more damaging. When government tries to substitute its own rule for that of the market, the result is nearly always vastly inferior to that which markets achieve in similar circumstances. Occasionally its rule is disastrous. The tragedy which government controls inflicted in the Socialist countries was not confined to their economies, but to the whole lives of their citizens. Even the environment, for whose support state controls are called upon, suffered more acutely wherever the state’s rule was supreme.

In a market situation people conserve valuable resources to control the costs of what they produce. They make trade-offs, they turn to substitutes. They commit capital to develop alternative supplies, and they act in such a way as will protect the value of that investment. Many of the cases of alleged “market failure” are simply cases where there is no market at all, and where none of these behavioural responses are called into play.

There are four simple principles which illustrate why the solution to environmental problems is often to be gained by introducing markets, not by abolishing them, and by making them work efficiently, rather than by replacing them. While the four principles in question may not be self evidently true, they have the support of the overwhelming weight of argument and evidence.

The first of these principles tells us that:

1. “It is in everyone’s interest to abuse common property.”

What is meant by this is simply that if there is communally held property for whose use no price is charged, it is in everyone’s interest to use as much as possible. While a farmer will take good care to control the rate at which his livestock crop his own pasture, there is no such inhibition regarding any common land. On the contrary, it is in each individual’s interest to put the extra sheep or the extra pig onto such land. This is because the benefits derived from such activity accrue to the individual, whereas the costs are borne collectively.

Some environmentalists, especially those who were recently Socialists, draw the wrong message from this. If they accept the principle at all, they derive from it the idea that people must be forced somehow to put collective and community values ahead of their own interest, and act in ways which run counter not only to market economics, but to human inclinations.

A more rational response would be to assign property values and prices to that which is communally owned, so that market forces will begin to control its use. It was when the prairies were fenced that the land began to acquire value which made it worthwhile for owners to protect it, to improve it, to irrigate it and to conserve it. The open ranges, accessible to all, were conserved by none.

A celebrated example in environmental terms concerns the fate of the African elephant. In Kenya, its absolute protection has failed to prevent its numbers diminishing to the point of extinction. Elephants damage the crops and the fences of farmers, and have no value within the law to anyone. To poachers they have a value, and thus society finds itself in a losing battle against poachers investing in modern weapons and equipment. It is not in the interests of farmers or villagers to protect either the elephants or their habitat. The fact that it might be in the interests of mankind does not necessarily impress people struggling to live.

In other parts of Africa, notably in Zimbabwe, Botswana and Lesotho, elephants have value. Villagers are allowed to exploit them commercially. They are allowed to sell elephant products, and to permit hunters to kill them. Elephants become precious resources under these circumstances. Villagers will protect their habitat because hunting brings in more dollars than farming would. The local population guards against poachers trying to steal their assets. Hunting is carefully controlled so as not to prejudice the breeding population. Only the expendable ones can be killed. The result is that elephant numbers in these countries have increased even as those in Kenya have declined. Elephants prosper when they are part of the economy, not when they are excluded from it. No-one gives enough effort to protecting the elephant as common property in Kenya; they do to protect their individual property further South. Ironically, the world ban on the ivory trade diminishes the value of elephants, and therefore the effort which will be extended to conserve them.

The first principle distils the lesson learned by the tragedy of the Commons. One has only to look at the common areas of public housing estates to see it demonstrated each day. Private property is protected; public property is abused. If environmental resources can have property rights in them assigned to individuals and groups, those individuals and groups will have an economic reason to protect and preserve them. This suggests that nature reserves and national parks might be better protected if the ownership or lease on them were to be assigned to specific groups. Conservation societies might be handed such areas to exploit sensitively, and to finance their conservation by such activity.

Those who campaign for animal rights are sometimes distressed to see that those who hunt animals for pleasure are often the best protectors both of the animals and of their habitat. It is the elephant hunters in Zimbabwe who provide the resources to make conservation worthwhile. It is the fishermen in Scotland who make the conservation of the rivers and the fish stocks into an economic activity. It is the grouse shooters who finance the preservation of the moorlands and the protection of a vulnerable species.

The pattern is repeated in many places: the hunter has an interest in preserving the habitat of his prey, and is ready to pay for the privilege of joining the chase. Some environmentalists recognize this fact and embrace the hunter as the friend both of the environment and of the species which are hunted. The message is the same: that controlled exploitation which allows play to individual incentives will succeed where exhortations to protect communal property have failed.

The second principle which supports the case for market based environmentalism is this:

2. People will always do more willingly that which coincides with their own interest.

There are three important ways to motivate people. They can be summarized as exhortation, sticks and carrots. Exhortation means telling people what they ought to do and trying to persuade them to do it. It tends to be ineffective. People try to cheat on it when they are not being observed. They prefer to follow their own interests, even though they are fully aware of what they “ought” to do. The pressure of social disapproval is not strong enough, particularly when it does not come from their own peer group but from what is perceived of as a self-appointed elite.

People can be motivated to change their behaviour by punishment or by the threat of it, but they do not like it. The prospect of heavy fines or imprisonment will persuade people to change their behaviour, but people are reluctant to vote this upon themselves in a democratic society, and legislators who follow this route are at risk. It only works if the chances of apprehension are high. If people can break the law covertly with impunity, a certain percentage will do so.

In practice this means that where punishment is used to coerce social behaviour, it must be accompanied by improved surveillance and law enforcement. This can make it even more unpopular, as well as very expensive. The imposition of fines upon polluters might work, but the fines have to be approved by the legislature, and the polluters have to be caught.

In practice the coercive use of law to protect the environment can involve a panoply of bureaucrats and inspectors to implement the policy, and can impose huge burdens on legitimate businesses as they seek to comply with the minutiae of the regulatory rule. The price is so high that legislators think twice before stepping out along that road. The punishment route also leads to social divisions, as some elements in society attempt to impose laws upon others to restrict their freedom and to punish them.

The use of incentives (“carrots” as opposed to “sticks”) is more popular and more effective. By offering tangible individual rewards attached to social goals, people can be motivated to feel that the communal aim is also in their own interest. People in Britain were told that the public would willingly pay more for a cleaner environment. Indeed, they told pollsters the same. Yet the consumption of unleaded petrol remained at near zero until the Chancellor of the Exchequer, Nigel Lawson, exempted it from a tax increase on leaded petrol. When it became 10 pence cheaper per gallon, sales took off to the point where it soon dominated the market. The individual interest had been made to coincide with the social goal.

This suggests that instead of concentrating upon an attempt to ban activities which are perceived to be unfriendly to the environment, we should be concentrating on the provision of incentives for those activities which are friendlier. Market economists have developed a range of mechanisms through which this can be achieved.

Instead of mandating the emission of each polluter by law, for example, the local government can set the maximum pollution it will accept, and sell permits up to that level. The cost of the permits makes it worthwhile for manufacturers to develop low emission processes which will need less permits. More efficient firms can sell their unused permits to other producers.

On a more general note, non market controls tend to be “process driven,” meaning that producers are required by law to adopt a declared technology, such as catalytic converters, to achieve cleaner emissions. There is little incentive for innovation or the cost saving that efficient inventions can bring. Market based controls will usually be “result driven,” and specify not the technology, but the end result required. It is then left to manufacturers to devise cleverer, cheaper, and more efficient ways of achieving those goals. In the “result driven” system, people are given the incentive to produce new ways of cleaning the environment; in the “process driven” version they are not.

The consequence of this second principle is that it is more efficient (and more popular) to achieve a cleaner environment by use of differential taxes, financial incentives and tradable permits than it is by restrictive laws and punishments. When the city of Seattle began charging its residents for garbage collection by volume, instead of at a flat rate, they responded by halving the amount of garbage they put out. It became in their interest to dispense with over-packaged products, to use material efficiently, to compact their trash and to recycle. The result was a much lower use of the local landfill sites.

The third of the indicative principles tells us that:

3. If things cost money, people will try to use them efficiently.

If something is free, there is no inhibition on the unlimited or wasteful use of it. If forest lands are free, slash and burn is an economic practice. When the land and the trees have to be paid for, there is an incentive to use them wisely. Similarly, when energy is ridiculously cheap people will squander it. If they have to pay a full economic price for it they will try to economize.

In this context it is significant that energy use per head went down over the decade of the 1980s. So did the energy used in each unit of production. The price rises at the beginning of the decade almost certainly played a bigger role in this behaviour than did any desire to conserve following environmental messages.

When shortages hit, as they occasionally do because of political upheavals or newly discovered uses, there are always pleas for government subsidies, price controls or rationing. None of these is effective. The best solution is to let prices rise, making it efficient for people to develop new ways of using less of the scarce resources. Sometimes it will become economic to develop new supplies, sometimes to develop substitutes, sometimes to use the scarce resource more efficiently.

In 1973 it took 140 lbs of aluminium to make 1,000 drink cans. Now it takes 36 lbs. The reason for the difference is that the price of aluminium makes it worth saving, and worth investing in the innovative technology which can achieve that end. There are now greater reserves of copper than there were then; this has come about because the price of copper made it worthwhile to develop fibre optic technology to replace copper wires. With less use now anticipated for the copper, the supplies will last longer.

Environmentalists, led by Paul Erlich and others, painted a gloom filled picture of resources running out. In fact the operations of the market have prevented that. Price rises have led to the development of new sources and the use of cheaper and more plentiful substitutes. Of the major threatened resources pointed to by Erlich, the price in real terms has gone down since his prediction, indicating that supplies are relatively more plentiful. A celebrated wager offered by Paul Simon to this effect resulted in Erlich paying out a decade later.

To encourage conservation we should be attempting to have resources priced at genuine market levels, rather than supported by price controls or subsidies. We should further attempt to affix realistic prices to some resources which have in the past been allocated too cheaply. Once the costs of resources are fully assigned, users will have an incentive to be more efficient in their use of them.

The fourth principle which demonstrates the validity of markets as an aid to the environment is perhaps more contentious, but is no less true for that. It is that:

4. Problems are not created by growth and high technology. They can be solved by growth and high technology.

There is an element of Puritanism about some modern environmentalists. They urge us to live more simply and claim that the planet cannot afford any more economic growth. We should all make do with less, we are told, and learn to moderate our ambitions instead of trying to achieve them.

There is a primitive appeal to this. Few persons in modern times have not occasionally felt how much simpler life would be if we all lived around campfires and ate berries. The fast pace of today’s life makes a world without cars and skyscrapers seem to be a peaceful world without problems. Indeed, increasing numbers seek a holiday in the wilderness, backpacking along remote trails, or canoeing along virgin rivers.

It is the allure of the lotos eaters, who opt out of life’s problems to lie on a beach and daydream. It might be all right for a holiday, but to do it permanently is to opt out of our humanity. The simple life has other problems, and lacks many of the resources to solve them.

It is something of a middle class affectation to gaze out from a centrally heated balcony, secure in the comforts of advanced medicine, and say how nice it would be if we all lived more simply once again. This overlooks the fact that it would involve a return to the disease, poverty and degrading toil which characterized that past. Poor people throughout the world do not share that illusion. They seek improvement for themselves and their families, and a betterment of the conditions of life.

In any case, the simple life is not exactly eco-friendly. Human beings throughout their several million year history have caused mass animal extinctions wherever they have appeared, and whenever technological advance has made them more efficient. Nor is it necessarily true that the modern world pollutes more. The internal combustion engine exudes a great deal of dirt, but so did the horses it replaced. They fouled our cities with unhealthy excrement in thousands of tons, and the removal of dead horse bodies in their thousands was a significant health hazard.

Primitive industries often pollute more than advanced ones. The coal powered industrial revolution blackened our cities and the air of their inhabitants. Both the air above London and the water that flows through it are cleaner than they were at the beginning of the century; so are its streets. It was the relatively backward and low technology industries of the Socialist world which caused most of Europe’s pollution problems.

As economies advance and grow, they not only develop the technology for a cleaner environment; they develop the wealth which can pay for it. In the advanced economies now we demand a cleaner and safer environment than our grandparents could afford or achieve. The amount of dirty coal we burn is fast diminishing. New and cleaner sources of energy are replacing old and dirtier ones. Synthetic products are replacing the scarce resources on which our predecessors depended.

Economic growth creates the affluence which sets us sufficiently far above the survival line to contemplate luxuries such as a cleaner and more pleasant environment. It is the rich countries of the West which will have to provide the technology and the wealth to clean up some of the environmental problems created by the poorer countries of the East.

Cleaning the environment is a significant growth industry in itself, already estimated at more than $200 billion per year. It is more advanced processes which offer us clean production, not the simpler and dirtier methods of former eras. Our automobile engines are cleaner, they use less fossil fuel, and they consist of more recyclable parts than their forerunners. When they are powered by electricity or hydrogen fuel cells they will be even more environmentally efficient.

Our power stations emit less pollution than their predecessors. Our manufactured products use less scarce resources and more synthetic substitutes. We produce more food per acre than ever before from our farmland, and therefore we need less of it. All of these positive steps are the products of growth and technology. That growth and that technology are being applied to the solution of our problems; it is not the problems which the absence of the growth and technology would avoid, but the solutions.

These four principles illustrate why markets are not the cause of environmental problems, nor the enemy of a clean and unpolluted world. On the contrary, they can give people a direct interest in a cleaner and safer world, and can motivate them to bring it about far more surely and more swiftly than any amount of pious sentiment which exhorts them to act against what they perceive to be their own interest. Markets succeed in motivating people because they work with the grain of human nature, not against it.

Our concern for a cleaner world, now that we have the means to achieve it, should lead us to assign property rights over that which is currently abused because it is free. It should lead us to use incentives to ally people’s individual interests with those of the planet. It should induce us to make costs as realistic and as evident as we can, so that people will receive the messages which those costs convey, and economize on the use of scarce supplies. It should lead us to make our economies sufficiently advanced and sufficiently wealthy that we can afford the costs of a cleaner world, and can develop the techniques to bring it about.

The market is the friend of the environment; its help should be accepted.

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