Category Archives: Externalities

Fishing – Tragedy of the Commons

The Tragedy of the Commons was a title of an article by Garrett Hardin in 1968 although the phrase is more commonly used to name the effect which it describes. It explains what can happen when a number of individuals share a common resource and each individual is presumed to act rationally and in his own interest.

For instance if there 10 different farmers grazing a piece of land then there is an incentive to add one more cow to your herd as you gain all of the benefit of this extra cow and you only have to suffer 1/10 of the cost resulting from the increased degradation of the land. Thus although it is in each individual’s self interest to increase the size of your herd, in the long run the land use will be depleted. This concept can also be transferred to CO2 emissions where countries emit emissions in order to grow their economy but don’t consider the long-term impact of global warming on drought and disease.

Recently a lot of attention has focussed on the fishing industry which is worth $16 billion annually. International law states that 64% of the surface of the oceans are defined as ‘the common heritage of mankind’ although with the advent of technology and bigger and faster fishing trawlers the last 50 years has seen a significant depletion of stock. Approximately 90% of fishing areas are fished to sustainable limits or beyond.

Stopping overfishing

The Economist – 22nd October 2020

Property rights has been the traditional policy to try and overcome the tragedy of the commons. This gives exclusive rights to coastal states to police and maintain territorial waters but the looting still continues – since 2010 the proportion of tuna and tuna-like species being overexploited has increased from 28% to 36%.

Reducing subsidies is seen as the most pressing policy as they come to $35 billion a year of 70% are given to more developed countries. It is estimated that $22bn of the subsidy helps destroy fish stocks. In giving subsidies you reduce the running costs of operators but it also brings certain fishing fields within reach for trawlers from developed economies. Only 10 countries received the money from high-seas catches between 2000 and 2010 and that is with Africa having more fishermen than Europe and America combined.

Closing off more areas fishing is another alternative and it has been suggested that 30% of oceans should be designated as ‘marine protected areas’. Countries could also take responsibility by creating marine reserves within their territorial waters. However technology has provided an opportunity to limit the over fishing. Compulsory cameras on board fishing vessels which can identify suspicious behaviour and illicit species should be compulsory especially in exclusive economic zones that define a country’s control over resources such as fish. Australia, America and New Zealand have invested heavily in this this area of surveillance. For example, reports of interactions with seabirds and mammals increased 7 times when electronic monitoring was introduced to Australia’s longline fisheries in 2015. Overall reported catch remained the same. In New Zealand regulations for on-board cameras on commercial fishing vessels came into effect in 2018 – they applied to vessels from 1 November 2019 in a defined fishing area on the west coast of the North Island. To mitigate the overfishing governments could agree on some policies:

  • National regulators to set basic standards for crew – no forced labour
  • Countries failing to follow rules – banned from fishing
  • Countries should only import fish from law abiding nations
  • WTO to scrap subsidies that encourage over fishing – see above
  • Outlaw bottom-trawling
  • Subsidies to fish farming – it now accounts for approximately 50 percent of the fish consumed globally

Source: The Economist July 16th 2016 & October 22nd 2020

The paradox of Norway – fossil fuel giant and leader in renewable energies

In 1969 the discovery of oil off the coast of Norway transformed its economy with it being one of the largest exporters of oil. A lot of countries in similar positions have succumbed to the ‘resource curse’ in which countries tend to focus on a natural resource like oil. The curse comes in two forms:

With high revenues from the sale of a resource, governments try and seek to control the assets and use the money to maintain a political monopoly. This is where you find that from the sale of your important natural resource there is greater demand for your currency which in turn pushes up its value. This makes other exports less competitive so that when the natural resource runs out the economy has no other good/service to fall back on.

However it is the fall in commodity prices that is now hitting these countries that have, in the past, been plagued by the resource curse. As a lot of commodities tend to be inelastic in demand so a drop in price means a fall in total revenue since the the proportionate drop in price is greater than the proportionate increase in quantity demanded.

Norway – has a different approach.

In Norway hydrocarbons account for half of its exports and 19% of GDP and with further oil fields coming on tap Norway could earn an estimated $100bn over the next 50 years. Nevertheless there is a need to wean the economy off oil and avoid not only the resource curse that has plagued some countries – Venezuela is a good example as approximately 90% of government spending was dependent on oil revenue – but also the impact on climate change. Norwegians have been smart in that the revenue made from oil has been put into a sovereign wealth fund which is now worth $1.1trn – equates to $200,000 for every citizen. This ensures that they have the means to prepare for life after oil.

The Economist – Ecowarriors bankrolled by oil – 8-2-20

What are they doing?

  • 98% of electricity is from renewable energies and technologies
  • Heating with oil is to be banned this year
  • 50% of new cars are to be electric
  • Oslo has set a ceiling every year for its greenhouse gas emissions
  • Oslo removed nearly all parking spaces from the city centre – now bicycle docks / benches
  • Norway is hoped to be completely emission-free shipping fleet over the next couple of decades – this accounts for almost all of Norway’s oil consumption
  • Sovereign wealth fund will sell its shares in companies dedicated to oil and gas exploration

Norway and Liberia – Coarse Theorem

Coarse Theorem – Ronald Coarse argued that bargaining between parties could produce a mutually beneficial and efficient solution to problems like pollution.

An example of this was the a deal between Liberia and Norway. Norway will give $150m in aid in return for Liberia stopping the destruction of its forests. The stick approach of trying to force Liberia to stop cutting down its trees might give way to a more effective carrot approach by paying Liberia to do so. This makes both sides better off. Liberia still gets the aid and Norway gets to preserve biodiversity and take a small step against climate change.

Norway’s challenges

This being said there needs to be more emphasis on the service sector as an earner of GDP – this sector already accounts for 55% of GDP. According to The Economist Norway faces 4 challenges:

  • Reduce it focus on gas and oil
  • Increase its productivity through the use of technologies
  • Reduce carbon emissions to meet the Paris agreement goals on climate change
  • Create 25,000 jobs a year so that oil workers can find meaningful employment

Source: The Economist – Ecowarriors bankrolled by oil – 8-2-20

Using whiteboards to teach externalities graphs

I held my annual whiteboard competition with my A2 Economics class to see who could draw the best 4 graphs showing Positive and Negative Externalities of Consumption and Production. The winner this year was Fiona Leng with two highly recommended by Jemima Hodgson and Yanz Chen.

Fiona Leng

Jemima Hodgson

Yanz Chen

The externalities topic at A2 Level Economics involves being able to draw and understand four graphs. A different way of teaching this area of the course was to get students to use A3 size whiteboards so that they could practice drawing these graphs. This proved to be very successful with students for the following reasons:

  • the novelty of using whiteboards
  • if they made a mistake this could be easily rubbed out and they could start again
  • it allowed me to go around the class to correct graphs where necessary
  • students took pride in their graphs
  • the best set of graphs was posted on the econfix blog
  • students who were struggling could learn off others

New Green Deal – more about politics than economics

In Unit 3 of A2 CIE economics course you will no doubt have come across externalities – see graphs below. In simple terms the cost to the consumer must also be accompanied by the external costs (referred to as externalities) which is normally not paid by the consumer. Externalities are common in virtually all economic activities. They are defined as third party (or spill over) effects arising from the production and/or consumption of goods and services for which no appropriate compensation is paid.

Externalities can cause market failure if the price mechanism does not take into account the full social costs and social benefits of production and consumption. The study of externalities by economists has become extensive in recent years, not least because of concerns about the link between the economy and the environment.

This all seems very straight forward as you would assume the external cost (externality) of driving a car (emissions) would be added to the private cost of running the car (petrol etc). However carbon taxation is politically elusive as only 20% of global emissions are covered by schemes that put a price on carbon and only 1% of emissions subject to such schemes face a price as high as $40 per tonne of carbon dioxide. The Green New Deal proposes to a move to a 100% clean and renewable energy within a decade or two, and to zero net emissions by mid-century. Those who support the idea are sceptical about costs and funding as decarbonising the economy will require some serious capital.

For the Green New Deal to work it must mobilise a majority that are more passionate than the remainder. A carbon tax with a dividend may be appealing but the financial benefits are small when divided by the number of voters. Remember that an associated tax would encourage an aggressive response from wealthy fossils-fuel firms. A Green New Deal, in contrast, might promise sufficient goodies to organised interest groups, such as labour unions and domestic manufacturers, to gather a winning political coalition.

Some see the Green New Deal is something more radical. Roosevelt saw the Depression as both a threat to liberal democracy and the product of an economic system that put profits ahead of the welfare of the working man. Similarly, left-wing activists view climate change as the result of unbridled capitalism. They aim to solve it by redistributing economic and political power.

Source: The Economist – A bold new plan to tackle climate change ignores economic orthodoxy. 7th February 2019

Ireland’s first home win against the All Blacks – Behavioural Economics

You maybe aware that the rugby game this morning (NZ time) between Ireland and the New Zealand All Blacks in Dublin created history. It was the first time that Ireland have beaten the All Blacks on Irish soil. Remember they did beat the ABs in Chicago two years ago.

Image result for ireland v all blacks

Irish supporters, including myself, will take great pleasure in talking about such a result – lets face it we lost it in the last few minutes 5 years ago on Irish soil at Croke Park in Dublin. What all this alludes to is the fact that as part of this entertainment comes without the public paying for it, the public benefits from an externality.

Those who travelled to Dublin (and those local supporters) for the game and will have no doubt spent a significant amount of Euros tonight in the bars and restaurants around town. Nevertheless the satisfaction (utility) derived in Euros from the game would have been much greater than the price they paid for the ticket. This suggest that there is a lot of consumer surplus present – the difference between the price that a consumer WOULD BE WILLING TO PAY, and the price that he or she actually HAS TO PAY. The success of the Irish team will boost merchandise sales and interest for the World Cup next year in Japan but more importantly it has been good for rugby in general with throwing the World Cup wide open. When the All Blacks play overseas there are significant externalities whether it be the revenue generated in hosting the match or the social benefits to society. Furthermore the lead up to the game brings about a sense of delayed gratification (Behavioural Economics). Looking ahead the fact that people have paid for tickets to the World Cup means that they can reap the pleasures of anticipation of being there. Research (Smarter Spending – see previous post) shows that owning material things from expensive homes to luxurious cars turn out to provide less pleasure than holidays, concerts or even witnessing Ireland beating the All Blacks – where were you when Ireland beat the All Blacks in Dublin? With Ireland’s win national pride increases, along with patriotism and people feeling better about themselves. This is turn brings people together and boosts well-being of the nation. As for the All Blacks they will learn from this defeat as they did against the Springboks earlier in the season. All in all it makes for a great World Cup with supporters experiencing the pleasures of anticipation.

Clean energy – winners and losers

The impact of energy flows on the power and influence of nations has mostly been about the need for oil. Securing oil supply by ensuring its shipment, protecting the countries that produce it to the extent of going to war in an oil producing country has been prevalent in the 20th century. Oil being inelastic in demand has meant that as it becomes more scarce the price increases will result in higher revenue for the oil producing oligopoly. Countries dependent on the importing of oil have been at the wrath of higher oil prices caused by embargoes, wars, a financial crisis to name but a few – see graph below.

In fact the USA has been the most aggressive in protecting its oil supply to the extent that it saw it as their right to use military force in the Middle East – 2003 – second Iraq War. The reason given was to remove Saddam Hussein but this just disguised their real motive was to protect the oil fields. If they were so concerned about Saddam Hussein’s regime why didn’t they do anything about Robert Mugabe in Zimbabwe? The answer is Zimbabwe doesn’t have oil. Remember the Gulf War in 1990 was a UN sanctioned operation involving many countries not just the USA and UK.

However the idea of scarcity is coming to an end thanks to 3 big developments.

  1. The shale revolution in the US has lead to them being the biggest combined producer of oil and gas – the US now pumps 10m barrels a day and it is making the country less reliant on imported oil. Also increases in US supply has added to the global market reducing the price.
  2. China is now moving to a more service based economy and in the process is moderating its demand for coal and oil, slowing the consumption of electricity. More importantly though it is deploying gas and renewable energies and stopping the growth of carbon-dioxide emissions. It’s dependence on imported fossils fuels has been the catalyst to develop more of its own wind and sunlight for energy sources as well as it planner more electric vehicles.
  3. Climate change requires low-carbon energy and the Paris accord of 2015 is a start to fight climate change. To achieve this goal trillions of dollars will have to be invested in wind and solar energy, batteries, electricity grids and a range of more experimental clean-energy sources. Ultimately this creates significant competition between countries in developing these technologies but also but at risk the access to rare earths and minerals to make the hardware. It seems that energy is now driven by the technology not the natural resource we are so used to.

Energy transitions since the Industrial Revolution has seen the following:

Coal ——> oil ——> technology and clean energy.

The obvious losers from this change will be those who have an endowment of fossil-fuel reserves and have relied for too long on oil without reforming their economies.

Traditional energy system (oil etc) is constrained by scarcity
The abundant renewable energy system is contained by variability

Ultimately the challenge for countries in future will be who can produce the most energy and who has the best technology. Those that don’t embrace clean-energy transition will be losers in the future.

Source: The Economist – Special Report ‘The Geopolitics of Energy’ 17th March 2018

World Cup – the economics of faking an injury.

As the World Cup enters the quarter final stage we have seen the same old tricks played by players to try and influence the decision of the referee.

  • France’s Lucas Hernandez admitted to flopping in France’s 2-1 win against Australia in an attempt to get Australian midfielder Mathew Leckie sent off.
  • Spanish defender Gerard Piqué accused Portugal’s captain Cristiano Ronaldo of exaggerating a fall to secure a penalty kick in their 3-3 nail-biter. Piqué said Ronaldo has a habit of “throwing himself to the ground.”
  • Neymar rolling around in what seemed to be excruciating pain when there was contact on his ankle and that was on the sideline. What would he have done if it was in the penalty area and Brazil were 0-1 down?

That being said it was hoped that the VAR system would start to see this sort of tactic removed from the ‘beautiful game’. Some of the techniques of faking an injury are below – HT to Kanchan Bandyopadhyay.

The Economist has looked at this area and I thought that I would delve a little deeper. There is no doubt that if you study the costs and benefits of faking an injury there are certain sports where it is perceived as quite worthwhile – i.e. the benefits outweigh the costs. Cost benefit analysis is part of Unit 3 of the AS Level course. What is cost-benefit analysis (CBA)?

Cost Benefit Analysis (CBA) refers to estimating the private and external benefits of an investment project – airport, rail link, road etc against the private and external costs. Once these costs/benefits are established a decision is made as to whether the project should go ahead.

CBA can be applied to any decision you make and below is a table outlining the cost and benefit of faking a peanalty or injury in particular sports. I see the benefit in soccer of diving in the box and being awarded a penalty outweigh the costs by a significant amount. Firstly, if the appeal for a penalty is turned down it is very unlikely that the referee will administer any punishment to the player faking a foul. In too many cases they are happy to let the game play on as they feel under so much pressure anyway for not awarding it. Whilst in ice-hockey a suspension of either 2 or 4 minutes has acted as a deterrent to those caught “embellishing” . I have put some values in the end column which will no doubt encourage a lot of discussion – remember Warren Gatland, the Welsh coach in the Rugby World Cup 2011, considered informing a player to fake an injury so there would be no pushing in the scrums. This was after their captain, Sam Warburton, was sent off early in semi-final against France.

However, with the perceived benefits of diving in soccer it does encourage players to even practice this activity. This reminded me of a great advertisement run by the Guardian Newspaper for the Euro 2004 Soccer Cup – see below

 

 

A2 Economics – using whiteboards to teach externalities

Once again with my A2 class I successfully used whiteboards to get across the concepts of positive and negative externalities. Below are the graphs done by Sarah Cheng. As I have stated before whiteboards are a very useful way of getting across difficult graphs.

The externalities topic at A2 Level Economics involves being able to draw and understand four graphs. A different way of teaching this area of the course was to get students to use A3 size whiteboards so that they could practice drawing these graphs. This proved to be very successful with students for the following reasons:

  • the novelty of using whiteboards
  • if they made a mistake this could be easily rubbed out and they could start again
  • it allowed me to go around the class to correct graphs where necessary
  • students took pride in their graphs
  • the best set of graphs was posted on the econfix blog
  • students who were struggling could learn off others

China and Pollution

Interesting video from Al Jazeera about pollution in China.

Smog levels in Beijing were almost seven times the maximum exposure recommended by the World Health Organization. That makes the smog a matter of life and death. In the first quarter of this year more than 90 percent of Chinese cities failed to meet the government’s own air-quality standards.

Air pollution contributes to 17 percent of all deaths in China. As many as 1.6 million people died this year as a result of air pollution, the Berkeley Research Group estimates. That’s about 4,400 people dying every day. But what is the government doing to tackle the issue? And why has it failed to strike a balance between economic growth and public health?

Coal remains one of the easiest and cheapest form of energy and this is very apparent in India where usage is about 62% of energy needs. India is the second largest consumer after China and ahead of the USA. Also coal consumption is growing about 7 percent a year to power the country’s economic catch-up. As China is going through a growth period similar to Europe many years earlier, their argument will be that European countries polluted the environment by a similar amount

Climate change activists have highlighted concerns of rising temperatures by 2100, however are rising temperatures as significant when you consider the long-term implications of much higher unemployment?