Public Policies for Natural Resources

Using government to correct for market failures

Why public policy?

Try to promote economic efficiency by correcting for market failure To redistribute benefits and/or costs of natural resource use

Among members of current generation Among generations

What is public policy?

Collective actions through government Results from government decisionmaking process

Types of public policies

I.
A. B.

Incentive based policies

Market based incentives Government sponsored incentives

II.
A. B.

Direct public action

Command and control (Regulation) Public production

Incentive based policies

A. Market based incentives correct for market failure by establishing and enforcing property rights and then allowing the market to work Examples:

Establishing water rights Tradable fishing quotas

Incentive based policies

B.

Government sponsored incentives

Taxes or fees in markets where the price is too low
Examples: fees for fishing in public waters; grazing on public lands

Subsidies in markets where the quantity is too low

Examples: providing free tree saplings; for soil conservation investments by farmers

Direct public action

A. Command and control refers to government issuing orders, promulgating regulations regarding access and use of natural resources
Examples: size and quantity restrictions on catch in fisheries; habitat protection to preserve endangered species

Direct public action

B. Direct public production of public goods and services that the market would not produce enough of.
Examples: National parks, wildlife refuges and forests; public beaches; flood control projects

Market based incentives: Property right policies

Correcting for market failure through the assignment (and enforcement) of property rights

Property right structures

Private property access and use are under the control of an individual person or corporation State property a unit of government controls access and use Common property a specific group of individuals jointly have access and use rights Open access absence of any property rights

Private property characteristics

A complete private property rights structure includes:

All resources are privately owned Rights are enforceable Rights are transferable

Rights are separable

E.g. mineral rights, development rights

Rights assignments methods:

Who gets property rights when private rights are developed?

Apportion among current users Homesteading Lottery Auction to highest bidders

Rights assignment methods

Does it matter to the final outcome how or to whom the rights are assigned? Ronald Coase argued that it will not matter because a post assignment market exchange will occur if the initial assignment does not go to those who value the resources the highest = Coase Theorem

Coase theorem

The initial assignment of rights does not matter to economic efficiency If the rights are not assigned to those who value them the most, those assigned the rights will get offers to sell the rights to those who value them most thereby insuring maximum net benefits are derived from use of the resource

Coase theorem: Solved problem #1

An 100 acre wood is currently open access Chris Robin lives next to the woodland and uses it for recreation LG enterprises, a logging company is interested in harvesting the timber

LG pays $50 per acre for timber land in the area, so the property is worth $5,000 to the logging firm

The government plans to assign property rights to one of the two Will the rights be held or traded?

Solved problem #1

Scenario #1

Rights are assigned to LG Chris Robin offers to buy the land for 3 pots of honey. LG turns down the offer Conclusion: land is worth more to LG than to Chris Robin. Rights have been assigned to highest valued use.

Solved problem #1

Scenario #2

Rights are assigned to C. Robin. LG offers to buy the land for $5000. Mr. Robin accepts the offer Conclusion: land is worth more to LG than to Mr. Robin. Rights have been traded and reallocated to highest valued use

Solved problem #1

Scenario #3

Rights are assigned to C. Robin. LG offers to buy the land for $5000. Mr. Robin declines the offer Conclusion: land is worth more to Mr. Robin than to Mr. Robin. Rights have been assigned to the highest valued use

Coase theorem

Complications:

Transaction costs Income effects Enforcement costs

Complications: high transactions costs

Example of transactions costs preventing post assignment exchange: Rights to logging in a 10,000 acre forest are assigned by giving each of 100 families in the area rights to 100 acres. The net benefits to each family of logging one acre using their own labor and capital are $40 Total net benefits from logging by the families = $40 * 10,000 = $400,000

Complications: high transactions costs

Total net benefits to Logging Giant Inc. of logging are $500,000, $50 per acre If rights assigned to LG Inc., it harvests the timber If rights assigned to families, LG Inc. must negotiate for the sale of the rights. Would have to pay at least $40 per acre. If the costs of negotiating each trade exceed $10 per acre, the cost per acre would exceed $50, the most LG is WTP No post assignment exchange, rights remain with families, yielding less net benefits!

Complications: income effects

Income effects

WTP is bound by ability to pay Willingness to sell, WTS is not

Complications: income effects

Scenario #2 revisited If the government assigns rights to the 100 acre wood to C. Robin he would not sell for less than $6,000 but he cannot pay more than 3 pots of honey. LG is only WTP $5,000. No trade is made.

Complications: high enforcement costs

Enforcement costs: if the costs of enforcing respect for a property rights assignment exceed the net benefits, the assignment reduces social welfare

Complications: high enforcement costs

In the example of logging rights, suppose the government assigns the rights to LG, Inc. which intends to log the land next year In the meantime, the local families go into the forest to harvest timber for their own use as they have been doing for years before the rights assignment.

Complications: high enforcement costs

The net social benefits of LG logging are $500,000 if the forest remains in its current state The cost of hiring forest rangers and prosecuting trespassers is $700,000 over the next year. Society suffers a net loss of $200,000 if rights assignment is enforced!

I.b. Government sponsored incentive policies for external costs

Use taxes, fees or charges to correct for the presence of external costs. Forces producer to face the full costs of production.

External cost example revisited

Socially efficiency dictates producing quantity at which MSC = WTP Add a fee payable to the government equal to the external cost, MSC-MPC at the socially efficient quantity $112.5-87.5=$25

Quantities Pd, WTP 0 150 50 137.5 100 125 150 112.5 200 100 250 87.5 300 75

MPC 50 62.5 75 87.5 100 112.5 125

MSC 50 70.833 91.667 112.5 133.33 154.17 175

External cost example revisited

MSC MPC at q of 150 is $112.587.5=$25 A fee of $25 makes MPC = MSC at the socially efficient quantity. Producer than chooses quantity where MPC+fee = WTP, i.e. 150!

Quantities Pd, WTP 0 150 50 137.5 100 125 150 112.5 200 100 250 87.5 300 75

MPC 50 62.5 75 87.5 100 112.5 125

MSC 50 70.833 91.667 112.5 133.33 154.17 175

I.b. Government sponsored incentive policies for external benefits

Offer a subsidy to either the producer or the buyer A subsidy to the producer lowers costs, shifting supply to the right A subsidy to the buyer lowers price, shifting demand to the right

Subsidy to producer
$

Quantity of trees

Subsidy to buyer
$

Quantity of trees

Direct public action- commands

Command/regulations = a legal solution to market failure Government regulations mandate socially optimal level of production Assumption that laws and regulations will be obeyed

Direct public action - production

Government produces or contracts for private production of a public good or service E.g. flood control project Army Corps of Engineers usually prepares preliminary design alternatives and contracts for final design and construction

Direct public action

Problems faced by government planners:

Information on WTP and costs Enforcement Rent seeking by private interests Lack of incentives to choose efficient policies among government planners

Direct public action

Will government action remedy market failure or perhaps worsen the allocation of resources? Should compare results from market failure with results from imperfect public policies.

Direct public action

Principle of subsidiarity: assign responsibility to the lowest level of government possible

Land use to local government Inland fisheries to states Marine fisheries to federal