### Grant McDermott

Assistant Professor
Dept. of Economics
University of Oregon

# Putting a price on nature (II)

Yesterday, I wrote a post in response to George Monbiot's recent column, "The true value of nature is not a number with a pound sign in front", which laments the UK Government's attempts to put an economic value on the environment. My aim there was to introduce the approaches used by economists for evaluating the environment: What are the tools and how much merit do they have? While imperfect, I think that so-called "non-market valuation" is still a worthy pursuit, which $$-$$ contrary to George's fears $$-$$ will bring more benefit to the environment than harm.

As a follow-up today, however, I want to put myself in closer agreement with a point that he touches on. It relates to something that I've been thinking about for a little while and George effectively hints at it too. I say "hints at", because he doesn't spell it out quite the same way that I'm going to, even though I still think it forms part of his most compelling argument. I refer to the last paragraph of the article that I quoted yesterday, which can be summarised: "The second problem is that it delivers the natural world into the hands of those who would destroy it.[...] Cost-benefit analysis is systematically rigged in favour of business."

Consider, if you will, a pristine piece of forest land for sale. Assume that there are two potential buyers: Eco Eric and Industrialist Ian. Assume further that Eric and Ian presently have the same store of saved-up cash available for purchase. Eco Eric wants to preserve the beautiful site as far as possible; he hopes to make some money by developing a guest house and generate some small-scale tourism, but not much beyond that. Ian, on the other hand, has entirely more ambitious plans. He wants to begin a mining operation to extract the valuable diamonds, which he believes lie beneath the surface. For this, he will have to dig up the trees (though this may be a profitable side venture in the short-run) and begin constructing an open-pit mine. More importantly, the possibility of large future cash flows, suddenly gives Ian an unassailable (financial) advantage: It now becomes profitable for him to borrow a lot more additional money, while still preserving the profitability of his venture. Consequently, he is able to up his bidding price to a level that Eric simply cannot match. Ergo, the sale goes to Ian and he builds his mine.

Okay, so you may be thinking that you could pretty much have skipped my little story if you saw Avatar. However, there are some important distinctions between the two (3-D cinematography notwithstanding). Not least of all, this isn't about one group of people forcibly taking land away from its current owners. It is about a peaceful, run-of-the-mill market transaction of property rights.

 "OMG. Have you SEEN the market valuation on this place??"
 "Totally. My NPVs are telling me: 'BUY'!"

It seems to me that the only thing stopping the land going to Ian, is if the owner suddenly weighs in with a clause that prevents him from developing the land in the way that he proposes. (Just to cover bases, we'll assume there are no negative externalities associated with neighbouring plots.) However, there are legitimate reasons to doubt that the seller would be. For instance, if the owner really doesn't want to see the land developed, why would he be putting it on the market in the first place? You could even say that he may, by no rights, have any idea what the relevant plans of Eric and Ian were. He'd certainly have to care a great deal to make it a central part of his selling decision (i.e. finding out what plans were afoot for the property after he sells). Again, however, I don't think that  characterises the selling habits of most people. We don't become overly sentimental about items that we sell, even those that we have invested significant emotional time into. Do people really care about what buyer of their old house plans to do with it? My anecdotal experience tells me that concerns over the extent to which renovations might turn people's family kitchens and living rooms into something unrecognisable, run secondary to the number of zeros at the bottom of the cheque. At the least then, I think that a "neutral" seller, is an entirely reasonable assumption to make.

In a sense, I'm saying that the problem with a lot of economic theorising is that it simply captures willingness-to-pay (WTP), but not ability-to-pay (ATP). As such, it disadvantages anyone who wishes to preserve the environment in something close to its natural form when it comes down to the possibility of purchasing property.

The reality is that the market and property regime is systematically gamed in favour of those who can make a plot of land the most profitable. In other words, if something is up for sale, it will inevitably favour people that can make the most money from it and, moreover, that can do so in a relatively short time.[*] That means exploitation and development. Another point is that increasing scarcity $$-$$ while it acts as a mechanism for innovation $$-$$ also prolongs the project life and viability of industrial enterprises. A rising oil price will mean more tar-sand operations and deep-sea drilling; not less.

There are, of course, some important exceptions to the pattern that I describe here, such as tourism. However, I suspect that there are sharp diminishing returns to these cases and, taken as a whole, the system inherently disadvantages people who find value in the in situ (i.e. natural) state of nature, or something close to it. Other reasons to be optimistic strike me as more plausible. For instance, the trend towards improved environmental quality in many industrialised nations $$-$$ the proverbial environmental Kuznets Curve, although the empirical record on this topic is not without controversy. It would also be remiss, in some sense, not to mention Julian Simon here. However, Simon's work is not directly relevant to the topic at hand, since he focused on countering Neo-Malthusian notions about resource shortages (etc) in the context of a developing society. In other words, his was a stance on nature meeting the material needs of society; not the fact that people ascribe an objective value to nature in of itself.

The best reason that I can come up with for not being too glum about this situation then, is probably the most arbitrary. The world that we have been bequeathed is surprisingly large and bountiful. Despite the undoubted impact that  human beings have had on the earth, there is still a swathe of unspoilt (and protected) nature out there. We may not get our wish to preserve as much of it as we would like, but I imagine that future generations will still get to enjoy a large portion of... especially given that we seem to care about preservation in the present day.

THOUGHT FOR THE DAY: Trying to summarise both yesterday and today's posts... It may be impossible to put a precise figure on value of nature, but there are still legitimate reasons to try. Unfortunately for those that derive intrinsic value just from the environment in its natural state, market transactions will still tend to favour development over preservation in most cases. Such is life in a world of opportunity costs and limited few free lunches.

[*] For one thing, the net-present values (NPVs) run on an entirely different scale... What is the lifetime of most capital projects? 10, 20 years? You can maybe get up to 30 or 50 in the case of huge undertakings like oil fields. In contrast, the "NPV" of nature runs over millennia. Unfortunately, our relative short-terminism only cuts one way.