Environmental economics

Environmental economics

Environmental economics studies how economic activity affects the environment and how economic tools can protect it. It treats nature as a source of resources, a sink for wastes and a provider of life-support services.

Defensive expenditure

Defensive expenditure is spending to protect ourselves from, or repair, environmental damage caused by economic activity. Examples: buying water purifiers and bottled water because tap water is polluted, air purifiers and masks in smoggy cities, cleaning up an oil spill, and medical treatment for pollution-related illness. Such spending raises GDP, but it does not improve welfare; it only restores what was lost. Many economists argue it should be subtracted when measuring true well-being.

Natural capital

Natural capital is the stock of natural assets, such as soil, forests, water, minerals, the atmosphere and biodiversity, that yields a flow of goods and services. Like man-made capital, it can be depleted. Weak sustainability assumes natural capital can be replaced by man-made capital; strong sustainability holds that some critical natural capital (such as the ozone layer or a stable climate) cannot be substituted and must be kept intact.

Carbon footprint

A carbon footprint is the total amount of greenhouse gases caused directly and indirectly by a person, product, organisation or event, expressed in tonnes of CO₂ equivalent (CO₂e). Other gases are converted to CO₂e using their global warming potential. Travel, electricity, diet and consumption all add to it.

Carbon credits

A carbon credit is a tradable permit representing the right to emit one tonne of CO₂ (or CO₂e). Under a cap-and-trade system, a total limit is set and permits are distributed; a firm that cuts emissions below its allowance can sell surplus credits to one that exceeds its allowance. The Kyoto Protocol's Clean Development Mechanism (CDM) let projects in developing countries, such as wind farms in India, earn Certified Emission Reductions that developed countries could buy. The idea is that emissions are cut wherever it is cheapest.

Key points

• Defensive expenditure raises GDP without raising welfare.
• Natural capital: stock of nature that yields ecosystem goods and services.
• Carbon footprint is measured in tonnes of CO₂e.
• One carbon credit = one tonne of CO₂e.

Common mistakes

• Thinking carbon credits allow unlimited pollution; the overall cap still limits total emissions.
• Confusing carbon footprint (emissions) with ecological footprint (land and water area needed).