Environmental Economics

Pollution externalities are widespread in modern industrial economies. In microeconomics, an externality is a key defect of a market and creates the rationale for government intervention in the economy. This first module provides an overview of the field of Environmental Economics and reviews the essential microeconomic principles for the course.

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Concepts and methods are needed for quantifying the economic value of goods and services not transacted in markets. "Nature's services" are a prime example of these. These methods, and their application, are an important sub-field of environmental economics, with relevance to public policy and government programs.

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Environmental regulation typically involves a public policy that requires companies to reduce emissions of one or more pollutants. Market-based policy instruments are defined by providing financial incentives for companies to reduce emissions, instead of prescribing particular reductions. They have the virtue of cost-effectiveness, that is, of achieving least-cost compliance with the regulation. This module uses the example of carbon dioxide (CO2) emissions as the regulated pollutant.

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The economic benefits and/or costs of a prospective policy or program can occur at different times in the future. Discounting is an approach for translating future dollar values into a consistent metric, present-value dollars. Discounting plays an important role in quantifying the Social Cost of Carbon – a key concept in the economics of climate policy. The material in this module builds a bridge to the next module on benefit-cost analysis.

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Benefit-cost analysis (abbreviated as BCA) is the standard economic framework for evaluating a public policy or government program. It involves enumerating the various categories of benefits and costs of a policy and, where possible, quantitatively estimating those benefits and costs. An example is provided of the BCA conducted for the first major climate policy in the United States: greenhouse gas emissions standards for automobiles, which was finalized in 2012.

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Transitioning from fossil fuel to renewable energy resources is a critical issue of global sustainability. This transition is inherently an intertemporal problem: the global economy depletes the physical stock of fossil fuel over time before transitioning to renewable resources such as solar and wind. We develop the conceptual framework used in economics to understand the problem. An empirical application of the framework demonstrates the key economic logic: the economy transitions to renewable energy when renewables are cost-competitive with fossil fuel.

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The amount of carbon dioxide in Earth's atmosphere is a second resource stock (in reference to Module 6's stock of fossil fuel). The carbon budget is a common way to express this stock: beginning now, how much carbon dioxide can be emitted into the atmosphere before a particular climate policy target is reached? We build on the conceptual framework of Module 6 to consider a carbon budget as an expression of global climate policy. We then consider a benefit-cost analytic approach to assessing climate policy options. We understand both elements of, and results from, the analysis.

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