This paper will discuss the complex interface between economic forces and social responsibility, in particular emphasizing environmental issues that tie hand in hand with economics. As an economy, we must institute resources as products of value to the whole, as opposed to the individual. Businesses, like people, tend to only consider actions that directly impact their wellbeing, and have less interest in actions that don’t directly affect them. By nature, self-interest often supersedes what is right for the greater good.
Natural resources, once considered limitless, face rapid depletion of significant proportion as the roller coaster of economic growth races toward losses too great for the world to sustain.
Air, water and soil, all natural resources, are considered environmental capital, even though they may not fit the conventional accounting definition of such, because natural resources, like air and water, are ‘owned’ by everyone. Naturally, a conflict develops between businesses and individual’s desire to meet self needs and the expectation to incorporate common goals for all.
Paradoxically, the markets’ economic growth relies on consumption and trade but exceedingly contributes to the destruction of our natural resources. Environmental resources improve humankind’s wellbeing, but overconsumption and its by products impose burdensome costs to the environment.
Humankind is leaving an irreversible footprint on planet earth. Economic growth, population expansion, financial incentives, ignorance, greed, prosperity, and consumption are but a few of the contributing factors to the crisis we now face. Companies who are benefiting from economic growth, financial gain and prosperity are constantly being threatened by vocal environmentalists, the must recognize that they are degrading the social welfare and are ethically responsible to mitigate the damage they are causing.
Delayed action means a decreasing quality of life for the population. We must come face to face with the ramifications of ignoring our actions, regardless of how economically painful it may be. For many years already, economic development models have placed insufficient focus on environmental integrity and committed too few resources to incorporate natural resource support as a component of the same.
The Greenhouse Effect, known as the warming of the air near the earth’s surface, is a serious concern to the survival of the planet. Researches portend frightening increases in temperature, a key measure crucial to our very future. There has been a massive body of scientific evidence that human activity is causing global warming. Although a good number of greenhouse gases are produced naturally, the dramatic increase in global average air temperature over the past years is reported in the literature as being the direct result of human activities such as industrial activities, human consumption activities and tropical deforestation. With the feedback that we are constantly discovering the can highly predict that this could lead to global warming much greater than current projections, resulting in temperatures higher than anything in the past 50 million years (Stern, 2006). There are various potential issues rising due to future climate change, and rapid growing greenhouse gases, that are molding uncertainty in our economy.
Paul Ormerod, author of ‘Why Things Fail’ explains that companies don’t consider the existence of failure on the scale of economics. Instead, much of economic theory is focused on the equilibrium approach which emphasizes that the economic system is a static, changeless state of the world. Ormerod argues, that this is simply not the case either with our current society or with the economy. Firm discussions consist of discussions about success and growth yet there is little or no mention of failure. In fact, over 10 percent of all companies in America fail every single year, regardless of how successful they may be. A noticeable defect, of the equilibrium approach, is that it tells us nothing about the time scale of the process of change from one equilibrium to another. For example, the market sets prices so that supply and demand balance exactly.
If the system receives a shock, the economic theory will guide firms to new levels at which supply and demand will once more be equal. But the theory tells us nothing about how long the system will take to move from the old equilibrium to the new one. On the contrary, economic and social systems are essentially dynamic and not static. Firms fail, policies alter, behavior changes. Nevertheless, failure extends from the realm of economics into the world of public policy (Ormerod, 2007). This is a concept to take important notice of because this is one of the main obstacles we face with environmental economics. Firms do not discuss future failure possibilities, they do not acknowledge that the economic system is always changing. We are rapidly running out of resources, and a firm is only interested in the benefits being gain now, not in the future. Without taking public policy into consideration, many firms will fail and so will humanity.
Growth and production spell economic success; market activity strengthens the country’s gross productivity. Climate change and growth are particularly interrelated. The growth of the product in the market is typically assumed to enhance social welfare; however, society cannot disregard the destructive impact that increasing productivity is having on our ecology. Market transactions assume that the buyer and seller are both better off financially and socially when a mutually acceptable transaction has occurred.
Believing that greater oil production and consumption is beneficial to both the seller and the consumer is shortsighted; we must consider the environmental impact of the transaction. The harm caused by such a transaction, in this case, pollution, impacts more than just the two parties involved in the exchange. This is what we would refer to as an’externality’ in economic terms. It refers to the damage or cost caused by any market transaction. According to the English economist, Pigou, the standard theory of externalities sets a taxation of the emitter equivalent to marginal social cost.
When externalities occur, and unfortunately they are common, the outcome is considered a ‘market failure’ (Stern 2006). Although, the transaction itself does not meet the criteria for enhancing social welfare; it is a human driven transaction which causes harm to others. Though many jurisdictions exist, they are not strict enough and will affect future generations. When a market failure occurs, governmental intervention is commonly the route taken to improve. Emitting pollutants is not against the law unless governmental regulation is set in place to make it so. Decreasing emissions per unit output are likely to cost the producer handsomely; business sense tells the company to continue financially beneficial production without emissions improvements until a sanction or incentive is imposed. For example, a factory that pollutes the air, water, or land imposes a cost on society.
The firm that owns the factory has an economic incentive to use only as much labor or steel as it can productively employ because those inputs are costly to the firm. The cost to society of having some of its labor and steel used up in a given factory is internalized by the firm because it has to pay for those inputs. But the firm does not have an economic incentive to minimize the external costs of pollution. Environmental policies, however, attempt to equalize this imbalance by raising the incentive for a firm to minimize these externalities. Either by internalizing the environmental costs so polluters make their own decisions regarding their consumption of environmental inputs or by imposing a limit on the level of environmental pollution (Adam B. Jaffe, Richard G. Newell, T, Robert N. Stavins, 2005). But unfortunately, most of these environmental policies aren’t as strict.
Moreover, companies understand their demand curve; how much of their product will be purchased at a given price. Every economist and business manager understands the relationship of cost to demand product. Lower cost equals higher demand; conversely, an increased price of a product leads to lower public demand. People find they can live with less of something when the price becomes too high for their pocket book’s comfort. Consumption and cost of public goods, operate differently than services and products regulated by the standard market and economic behaviors. Purchasers of oil, for example, are not consistently responsive to increased cost, sometimes because they can’t decrease their use or because they are not impacted dramatically enough to make a behavior change. (e.g. oil consumption is crucial to their survival)
So how do companies decide when and how to respond to emission mandates in the most financially beneficial manner? Facing costly improvements to aging facilities is a concern for organizations, especially those with tight margins already. It is a difficult ethical and financial quandary at the very least.
Nobel Laureate Eric Maskin stated, in an article highlighting his work on mechanism design theory, ‘Classical economic theory assumes buyers and sellers have complete knowledge of the available alternatives and therefore can make logical informed decisions. But in fact, that’s often not the case,’ (Maskin, 2007). Increased operating costs related to aging facilities, in combination with increasingly stringent regulatory mandates, can lead to expensive capital upgrades. The challenge to corporations is to determine the optimal time to make these capital investments and to a certain extent make their best guess at uncertain future emissions mandates, which undoubtedly will become more stringent as social concerns grow. Cost and profit associated with continued production in an aging facility, including upgrading or retrofitting the facility to mitigate environmental impact may not be well understood. The polluting conditions creating liability for some companies are difficult to place a price on; professionals are required to use their best discretion and business experience when reporting such liabilities.
In the 1970s, a number of pollution emitting companies were granted an exemption to the Clean Air Act, a legislation that was passed to ramp up controls on pollution sources. Further expansion of the improvements related to this act will follow later in this essay. The incentive inherent in this grandfather clause allowed companies to expand, improve, and in fact increase the production of product and pollution. Relatively speaking, it may be easier for a company to identify the costs it will incur when implementing improvements to decrease emissions; it is proven much more difficult for this same organization to identify the costs impacting others as a result of its actions, especially when costs are not measured in terms of dollars.
Incentives affect the means people use to achieve a goal. Implementing incentives like the Clean Air Act was the government’s reply to growing levels of air pollution in the 1970s. This ‘cap and trade’ initiative offers a company an emissions permit, the value of which is neither a monetary fine nor cash incentive, but a delineated amount of specific pollutants that a company can emit. The company has the option to sell its permits to other organizations; in this manner, the seller is able to continue producing at current levels without having to invest in costly facility improvements. The company is effectively putting a cap on its current products and presumably offering the polluting capacity to another organization to enjoy higher production capacity. Companies emitting the highly worrisome gas, sulfur dioxide (the cause of acid rain), employ the cap and trade system now; the long term goal of this initiative is a gradual reduction of permits available over time, thereby decreasing emissions, an improvement over maintaining the steady state.
The incentive instruments do lead to lower social costs, however, companies take a greater financial hit because they are paying for the cost of abating the pollutants as well as paying a fee for ongoing pollution activity. Unless abatement costs, those that provide for existing infrastructure upgrades, are lower than pollution fines levied against emissions, abatement will be a second choice for the polluters. Environmental policy interventions, such as carbon cap and trade systems and carbon taxes, generate incentives that will affect which new technologies will be developed and how rapidly and deeply they will diffuse (Adam B. Jaffe, at el, 2004).
Even though I have only discussed all the negative ways in which firms negatively affect businesses, this paper will also highlight possible solutions in which businesses, the government, and individuals can make changes to lower the cost of externalities. The governor of the state of California, Arnold Schwarzenegger set a great example to follow by signing a new law the first statewide, cap and trade program for controlling greenhouse gas emissions. The law will cap the state’s emissions at 1990 levels by 2020, estimating a 25% reduction in emissions. Facilities will be given emission allowances and be allowed to buy or sell surplus credits. The Global Warming Solutions Act also sets up an emissions reporting system to enforce the law, which will be administered through the staterun California Air Resources Board. Schwarzenegger said in an interview with the Miami Herald that the state hopes the federal government will follow the same footsteps (Sissell, 2007).
Adaptation would also be another alternative since it has the potential to reduce the impact of climate change. The significant climate change occurring Over the next thirty years has become unpreventable since mitigation will have only a minor effect on stocks of greenhouse gases in this time frame. So adaptation is a crucial policy response, and the international community must find ways to support adaptation, especially in the most vulnerable countries, which will be the most affected ones due to their lack of resources. The origins and impacts of climate change, require a strong expansion of assistance. Policies that promote adaptation, should focus on terms of diversification of opportunities. Some specific investments in terms of infrastructure, crop varieties and other areas and are likely to be important in the long run. Adaptation and mitigation are no longer not alternatives, they have become a social obligation.
We should also reflect on the matter that energy is accountable for about two-thirds of emissions. Reducing emissions rely on changes in the links from economic activity to energy intensity, and from energy intensity to carbon intensity. Measures to reduce the energy required include altering the mix of economic activities and promoting energy efficiency. Discovering ways to save energy could both can slash many inefficiencies in the supply and use of energy, this would also promote an era of innovation. Economically, industries must examine the adjustment costs of moving towards low-carbon economies.
For example, switching to gas instead of coal could lead to high efficiency and low capital cost, combining cycle gas turbine technology, resulting in lower carbon emissions of electricity being generated. This could also improve growth, and competitiveness is likely to be more successful if corporations of different countries act together so that their economies adjust to changes in relative prices. All countries must be able to clearly perceive the implications of adaptation and mitigation of climate change, and start applying them. This would highly affect all of them in terms of their growth, security, competitiveness, public finances and the environment (Stern, 2006).
Another current change was made by The Chicago Climate Exchange (CCX) a voluntary greenhouse gas reduction system. Companies participating with CCX benefit from the independent verification statistics the organization can offer. The exchange quantifies for participants their emissions of greenhouse gases, and like the governmental cap and trade system, trade greenhouse gas allowances. By joining, participating organizations commit to reducing their aggregate emissions by 6% by 2010. With 300 members from multiple business sectors and emissions offset projects around the world, CCX has successfully extended into the emissions marketplace (Magee, 2007).
Emissions controls driven by the market, as opposed to governmental command and control systems, are likely a less costly means to the same end — decreased emissions. Companies involved in emissions trading are associated with each other in a collaborative mode, while the more punitive model tends to push companies into a ‘silo’ position; responding independently to monetary fines. To that same end, companies subject to emissions penalties are likely to try and purchase more permits to produce. In this essay’s earlier review of economic theory, the natural response to greater demand will concurrently drive up the price of the permits.
The world’s economy becomes increasingly interconnected every day; the very nature of globalization leads to growth in production and consumption. Decisions to decrease overall pollution by regulation or controlling current levels through capandtrade or market trading are made by society. Planning for and participating in emissions control is the job of the companies who are involved. Complex economic and social decisions in the context of planning for our future will be the challenge for this generation and many more to come.