ECON 4910 Spring 2007 Environmental Economics Lecture 3, Chapter 7 -9 Lecturer: Finn R. Førsund Environmental Economics

Micro environmental economics model Costs of production and of reducing discharge of pollutants at source Dose - response relationship of natural environments, production of services Environmental Economics

Derivation of the cost function Factorially determined multi output model of Frisch Profit maximisation given prices with no pollutant restriction Environmental Economics

Derivation of the cost function, cont. Cost minimisation with restriction on emission The Lagrangian Environmental Economics

Derivation of the cost function, cont.1 First-order conditions Interpretation of shadow prices: λ: cost of decreasing the emission constraint γ: cost of increasing output 4 equations to solve for x1,x2, λ, γ as functions of exogenous variables Inserting in the factor outlay yields the cost function c(yo,q1,q2,eR) Environmental Economics

Standard simplification of the model Separating production costs and purification costs, dropping subscript i g(y)= primary pollutant, e= secondary pollutant Only one type of pollutant End of pipe purification Environmental Economics

Abatement and purification Abatement: reduction of pollutants discharged to the environment with endogenous output level. Purification: reduction of pollutants discharged to the environment with exogenous output. Environmental Economics

Modelling options general case “Damage” functions: evaluation of environmental services of type s provided by receptor j Environmental standards Environmental Economics

Social optimisation problem Damage function and single environmental service, polluter, pollutant, and constant output: Environmental Economics

Social optimisation problem, cont. First-order condition Marginal damage equal to marginal cost Several polluters: must make assumption about nature of dose-effect relations Damage from total sum of pollutants Environmental Economics

Illustration of the social solution -c’, D’ D’ -c’ e d’=0 emin eo e* Environmental Economics

The environmental standards approach The social optimisation problem The Lagrangian for the problem (problem written as a maximisation problem) Environmental Economics

The environmental standards approach, cont First-order condition Interpretation of shadow price Increasing environmental service increases the purification cost Environmental Economics

Environmental Economics Regulating pollution Command and control Technology standards Economic incentives Tax on pollutants, the Pigou tax Subsidies Refunds Tradable permits Environmental Economics