In the Niger Delta, over 60 oil companies have been dumping waste from oil and gas extraction into the Niger Delta, which makes up 77% of Nigeria’s mangrove ecosystem. 1.5 million tons of waste has been dumped into the delta since the past 50 years. Niger’s National Oil Spills Detection and Response Agency has accused these firms for their crimes against the environment and people of the delta. The population of that area has suffered greatly from having no fresh drinking water because “they suspect most of the effluent must have gone into the water and the effect may be dangerous if they drink it.” As stated by the village head, Emmanuel Ebie.

The most probable reason that these 60 firms dumped their waste in the delta for the past 50 years is to reduce their cost of production. Externalizing is when a firm is pushing its costs off to a third party, so in this case, the oil companies are pushing the costs of taking care of the waste off onto society, which has disastrous effects on population and environment. This is called a negative externality (when externalities have bad effects on the third party). These would include: No drinking water, and the loss of agriculture and crops which makes up the area’s economy. By reducing their cost of production, firms are then able to increase their output of oil, and therefore are also able to increase their profit and eventually, their revenue. Production is expensive, so being able to reduce costs where ever they can is a benefit to the firm. This is a case of market failure. A market failure is when a market fails to allocate its resources in the most efficient way. A market failure occurs when either there is an underproduction of a merit good or the overproduction of a demerit good. In this case, with the oil production, too much is being produced thanks to the externalization, meaning that there is an overproduction of oil, which means that there is a market failure.

As can be seen on the graph, by externalizing, the Nigeria’s Oil companies are able to move from the Socially Optimal Point (P_SO, Q_SO) to the new equilibrium point (P_E, Q_E). By moving this point, the firms are now able to produce more at a lower price.

Externalities create welfare losses (welfare gained/lost from a good or service), therefore, Nigeria’s government will take action against the polluting oil companies.

One option would be to completely ban the externalization of waste. By dumping waste into such environments, the environment will be destroyed and reduce tourism. Once the oil of Nigeria has been depleted, and the tourism industry destroyed, Nigeria will have no more chance in economic growth. It will be hard to enforce a ban. The government needs to be in a good condition, and also, must be able to face the pressure of the oil companies because these firms are the sole form of revenue for the country, and are able to control Nigeria’s economy. If they ban externalization, firms might just leave Nigeria, and find another place to drill for oil, which leaves Nigeria on its own, with no source of national revenue.

Creating a per unit tax and/or a taxing the waste produced by the oil companies is another option. This will force firms to increase their costs of production and should eventually bring the Marginal Private Cost (MPC) curve back towards the Marginal Social Cost (MSC) curve, which would then mean that the social optimal point will be reached. But any taxes implemented will be pushed off onto the consumer. It is also hard to implement this tax. Its hard to control who pays this tax, because firms can export their waste. The tax has to be high enough to induce firms to internalize their costs, and calculating this amount will be difficult.

It can be seen that with a tax or a ban, the MPC will move towards the MSC, and reach the socially optimal quantity (Q_SO), eliminating the market failure and allowing the population of Niger to regain its welfare.

Therefore it is best to tax, due to lower risks for Nigeria’s economy.

The graph above shows the current problem. This is what is currently happening, where the firms are paying less and society has to pay more for the loss of fish. This market failure is why this problem must be fixed. The major problem is the fact that it is near impossible to enforce regulations, because most fishing occurs in international water. So for example, if a boat from China is fishing in international waters off the coast of Japan, and the boat breaks Japan’s fishing limits, Japan can’t do anything about it, because it was international waters. Unless there is an international agreement, no limits can be set and enforced. That is why there is so much overfishing, without any solutions, boats and their companies will just keep trying to maximize profits by maximizing their catch. The article states that there is “an enormous amount of illegal fishing.” Because it’s in international waters though, there is nothing anybody can do. The United States blames European fishing companies for the decrease of the fish population. Europe has a great amount of ships in the waters, with France sailing the most, with 771 ships. Not only is the amount of ships in the water an important factor, but the place where the ships are fishing is effecting this fishing decline. Most companies are starting to fish near hatcheries, where the fish are born. This is because during birth season, there are more fish to be found there. Fishing here messes up the natural cycle of fish, and decreases the population drastically by not allowing fish to get old enough to reproduce.

One solution that governments try to take is setting a quota. A quota works by just reducing the amount of a good that a country may import. This will limit the amount of fish that a boat can catch, so it makes sense that the fish population would return to normal. So if there is a quota in place, why is over fishing a problem? The reason the fish population continues to decrease is because the quota is usually set too high in countries. Governments also want to maximize profits, so they set their quota high, therefore they can strengthen their economy. So right now the quota is pretty much useless if it won’t ever be reached. In my opinion, the best solution is to lower the quota. This way it would actually limit the fish intake. If countries won’t import anymore fish, then the boats won’t catch as many, because without buyers, the fish would be useless to the companies.

In this graph you can see, if the quota was set lower then it would force the Marginal Private Cost back, and thus reduce the negative externality. If they did set a new quota, a quota that is actually under the amount of fish produced, then it will limit the amount of fish that can be produced. This would help bring the natural cycle back to balance and the fish population would start to increase toward the normal amount again.

So in conclusion, I would say that to fix this problem, there needs to be an international agreement on a new quota that will actually limit the fish intake.

Fish is a common resource. They are located in international waters and since we can’t exclude someone from fishing, it is not excludable. The good is rival because when someone catches on fish, it prevents another person from catching the same fish. Overfishing means that society is catching too many fish. This creates a negative externality of production because resources are being over-allocated in the fish market. The overproduction of fish is having a negative effect on a third party, which is in this case the food chain of the ocean and future generations. Therefore society would be better off with less of it. It is shown in the graph below

The market will produce at P₁Q₁, where the marginal private cost, which is the production cost to the company, is lower that the marginal social costs, the cost of production to society. We see that the firms are pushing the cost of the externality off onto society. Ideally, we should produce at P*Q*, where we would be in Pareto optimal. This means that we cannot make someone better off without making someone else worse off. Because we are not, we have a potential welfare loss. This represents the misallocation of resources because the marginal social benefits are lower than the marginal social cost.

However, it is going to be really hard to find a way to decrease the demand of fishing because of the tragedy of the commons which means that we cannot forbid any country to fish on international waters. Therefore “Oceana and Ocean Conservancy” are asking for catch limits that would protect existing fisheries.” These limits would decrease the supply. However, firms will have a higher marginal cost because they have a lower quantity. This would shift the marginal private cost and bring it closer to the marginal social cost, decreasing the dead weight loss if not eliminating it.

We can see that the dead weight loss has greatly decreased, and depending on the catch limit it could be completely decreased. However, this can cause problems. First of all, “Overfishing of prey species are going unregulated”. Implementing a catch limit has might not fix this. Since it is already done unregulated, firms will not feel affected and will keep fishing. To fix this problem, the government will have to make sure to check this, creating a huge cost to the government. Second of all, if firms do need pay attention to the catch limit, their total revenue is going to decrease, and smaller firms might be forced out of business, especially if they specialize in some type of fish. Lastly, implementing the catch limit will be hard to control as well because this fishing is done on international waters. This means that the ocean waters don’t belong to any of the countries, and it will be hard for all the countries to agree where to put borders, and say who should check what area since many countries rely on fishing as a primary source of income. Another reason this might not work is that countries whose major income comes from fishing will not accept these catch limits. They will just keep fishing, while other firms will decrease their quantity, giving them an unfair advantage compared to other firms.

For the government to solve this international problem they will need to work together with other governments. However, trust will play a big role since some countries might promise something but not implement it, like the USA and the Kyoto Protocol. Therefore the solution of implementing a catch limit suggested by “Oceana and Ocean Conservancy” might be ineffective, and therefore the best solution would be to work together and implementing different solutions such as a catch limit and making sure that every country checks the catch of the fishermen when they arrive back at the port.

Article Source:

Kay, Jane. “Overfishing imperils ocean life, study says.” San Fransisco Chronicle. 03 March 2009. 30 Apr 2009 <http://www.sfgate.com/cgi-bin/article.cgi?f=/c/a/2009/03/03/BAGQ167VF6.DTL>.

The graph shows that the MSC (the cost of society to produce the certain good) is above the MPC which means that there is a negative externality. The MPC is the cost that the company has to pay to produce the good. The best thing would be if the MPC=MSC, since then there would be no externalities. The welfare loss is created because the private firm is externalizing its cost on a third party, which is the society.
Barack Obama agreed to cut emissions if other countries are willing to do the same. However, China has said that they are already decreasing their emissions and they do not want to follow the lead of the USA. So, the US had the idea of taxing the goods that come from China, this would increase the price for the consumer but also make it more expensive for China. China responded by saying “Climate change and charging carbon taxed in imports…are two issues in two areas.” Perhaps if the US taxed Chinese goods and services the marginal private cost (MPC) would move closer to the social optimum place. This is because China isn’t willing to cut down their carbon emissions and if the US taxes them, there would be a higher cost for the goods and services.

The main conflict is that China thinks that US is only taxing their goods and services due to “protectionism”. This means that the US is protecting domestic industries from foreign industries. China said that US is putting on tax to find an excuse to make Americans buy their domestic goods and not China’s goods. Another problem with taxing goods and services is that it can be argued that taxing goods do not reduce emissions. Since taxing does bring along some problems it might not be the most sufficient and best idea.
The carbon emission problem is an international problem because it affects all countries. However, the biggest difficulty is to make all nations sign the solution and make them believe that if they reduce their carbon emissions it will benefit them. A solution would be to do negative advertisement. This means that there would be advertisement which would point out what happens if firms continue to release toxic fumes. The Kyoto Protocol did not work since the US and Australia never ended up getting the agreement confirmed, and therefore most countries did not meet the requirement set by the UN. A good solution for the future would be to make another protocol to reduce carbon emissions every 2 years and to set a limit of carbon emissions. However, this would also be a problem because people might sign the contract but no one knows if they would follow it through. Therefore, the UN should make sure that all countries are doing what they promised to do.

Now eight years later Barack Obama has signed an executive order allowing scientists and doctors to restart research. Stem cell research according to Obama is an extremely important issue. Set up correctly and supplied with the right resources it can be extremely beneficial to society saving many lives in the future. Obama has taken the negative externality, originally perceived as something harmful and out of place to something that will benefit our society tremendously. Stem cell research would now become a positive externality. A positive externality is a good that will benefit our society and a third party. Even though the good is beneficial it is under allocated, therefore there’s not enough of the product. Obama wants stem cell research to be a merit good, unfortunately merit goods are undeveloped. Government power can attempt to increase merit goods, such as stem cell research. Private firms do not usually supply these goods because they are not profitable in the long-run. Therefore the government produces these goods using tax payers’ money or subsidizing a private firm to produce the good. Below is a graph showing a positive externality of production now that Barack Obama is president.

Positive Externality of Production of stem cell research now that Barak Obama is President.

The graph above shows that marginal private costs (MPC); the costs that the firm has to pay are greater than the marginal social cost (MSC); the costs of society to produce a certain good. This tells us that the good (stem cell research) is being under allocated and we have to start producing more to reach our socially optimal quantity (Q s.o) which is the quantity we are being efficient and benefiting our society and third party. The third party is the people of America and the government. Obama intends on doing this by using tax payers’ money to supply more resources to help the research increase and benefit not just America but the whole world. This is shown by shifting the MPC to the right bringing the curve down to a socially optimal price and quantity which is more beneficial. Overall Obama’s view of stem cell research is far more beneficial to us and our society than Bush’s negativity towards stem cell research. But is this really the best way? Can we continually use tax payers’ money to supply stem cell research till we find the outcome we want, or will we end up needing the money for something else that arises?

Exports and imports are a factor of aggregate demand, and in our current situation of an economic crisis, people’s confidences along with many other factors contribute to an overall decrease in aggregate demand. However a senior retired government official points out that unlike the economic crisis in the 1930s, “the global economy is going to rebound quickly, at which point China will take a greater role in the world.” They rely heavily on government spending (another determinant of aggregate demand) on exporting industries in the form of favorable policies and tax rebates (which decrease the firm’s costs).

On the other hand, fixed asset investment (a long term asset that is not expected to be converted easily into cash) is doing comparably well as urban property prices begin to rise 0.4% in April compared to 0.2% in March. Fixed asset investment is another contributor to China’s growing economy because it is used to house the multitudes of Chinese civilians, as well as to provide factories for the production of cheap goods to be exported.

However a fall on both these major contributors of the Chinese economy lead to a decrease in the nation’s GDP growth from 13% in 2007 to 6.1% during this year, a clear characteristic of a recession. The decrease of net exports leads to a leftward shift of the aggregate demand curve below. This leads to not only a decrease in GDP, but also a decrease in price level, which in the long run may possibly lead to deflation.

Deflation for any economy is bad news as it can further lead to unemployment which in the graph above is characterized by the difference between full employment (Yfe) and the current point of output (Ye1). That is why the Chinese government steps in to attempt and make up for the lack of economic activity through spending, which brings me to the multiplier effect.

The spending multiplier is any increase in spending in the economy which gets increased by a multiple through further rounds of new spending, resulting in a higher GDP than the initial government spending. However this depends on the people’s tendency to consume with any change in income, also known as the marginal propensity to consume (calculated by: change in consumption/change in income). If the Chinese have considerable confidence in the economy and a high marginal propensity, then the multiplier effect will be all the more effective. On the graph below, the multiplier effect is more than double the initial government spending (GS), so final aggregate demand (AD1) is successfully increased.

As we are dealing with exports, the government cannot directly control other country’s consumption of Chinese products, what they can do is increase investment to stimulate firm activity by decreasing business taxes, so that the firm’s expected return on capital is greater. And finally, by passing monetary policies the Chinese government can decrease interest rates, and the expected rate of return will increase and encourage investment.

According to Obama, stem cell research is a merit good, a good which is beneficial to society. Merit goods are under- provided by the free market and therefore under- consumed. The government, in this case President Obama, wants to supply more of the good because it bears external benefits to society. With the increase of stem cell research, more ways of healing diseases could be made possible to the extent that human lives can be saved by replacing damaged tissue. Stem cell research creates positive externalities of consumption, external benefits to a third party, the whole society, not involved in the market transaction. Positive externalities of consumption are caused by an under-allocation of resources towards goods that have spillover benefits when they are consumed. If more of the good would be produced and therefore consumed, there would be a greater benefit to society, because society as a whole would become healthier. When resources are under-allocated, the government, exception George W. Bush, usually intervenes to increase the supply of the merit good. Graph 1 shows the stem cell research without government intervention.

In the graph MSB, the marginal social benefit, is greater than the marginal private benefit (MPB). Society as a whole benefits more from stem cell research than the producers. If new ways of healing diseases are discovered society gets healthier and therefore has a greater benefit than an individual. The marginal social cost (MSC) equals the marginal private cost (MPC), because the cost for society is the same as for the producers. Stem cell research is provided at Q_P, and so the optimal quantity for society, Q_So, is not reached. A market failure, an over or under- allocation of resources, occurs, because of the under- allocation of resources towards funding stem cell research. Potential welfare gain, occurring due to the under- allocation of resources, could be gained by the society if the market failure is corrected (black area). This graph fits to former President Bush’s policy which “barred the National Institutes of Health from funding research on embryonic stem cells”. Stem cell research was banned and therefore under- provided by the free market.

President Obama, in opposition to Bush, wants to increase stem cell research. “An expansion of stem-cell research could boost medical progress toward eradicating the debilitating diseases.” Obama sees stem cell research as a benefit to society. To increase stem cell research the government needs to subsidize the research to the point where it has the greatest benefit to society. This is shown in graph 2.

The subsidy lowers the marginal private cost (MPC), shifting it to the right. The quantity produced increased to Q_So, the social optimal level, and the market failure is corrected. The resources in this market are now allocated efficiently, shown by point A, which is now at the same quantity as the social optimal quantity B. Because more stem cell research can be provided, the benefit of the producer increases.

But to what extend should stem cell research be subsidized? President Obama’s move is “a slap in the face to Americans who believe in the dignity of all human life”. There are many ethical issues surrounding the research. “Many conservatives object to the destruction of human embryos because they contend that it ends a human life.” A lot of Americans are against stem cell research and agreed with Bush’s policy that banned stem cell research. Many people also do not see stem cell research as a merit good that benefits society. Especially religious people oppose Obama’s policy because they see stem cell research as the killing of human lives. This issue was debated among politicians, but science was faster: “Breakthroughs announced in recent years confirm the full potential of stem cell research can be realized without the destruction of living human embryos”. If stem cell research can develop into the direction that no ‘human life’, viewed by religious people, is ended, the ethical issues should decrease close to zero, because then there are only the positive externalities for society left and no arguments against the further increase of stem cell research.

Commentary Number: #2

Source of the Extract: Guardian Unlimited - http://www.scenta.co.uk/nature/news/cit/1744022/a-collapsing-carbon-market-makes-megapollution-cheap.htm

Date of the Extract: 23/02/09

Word Count: 746

Date of Commentary: 27/03/09

Section of the Syllabus: Unit 2.4 - Market Failure

Candidate Number:

Candidate Name: Ultan Whelan

Economic Recessions Cause Pollution

The carbon market was created to reduce environmental pollution. As a control measure, governments limit the number of pollution permits to polluting companies, usually via auctions. Consequently the number of available permits decreases and prices rise. Now, due to the recent economic recession, pollution has become a favourable and cheap option for firms.

The carbon market was created to eliminate the negative externality (a non-beneficial impact on a third party) of pollution by distributing a limited amount of pollution permits to polluting firms. To eliminate the negative externality, the Marginal Private Costs (MPC) (the cost to private industries of producing one more unit) have to equal the Marginal Social Costs (MSC) (the cost to society of producing one more unit) and thus become socially optimal, see figure 1. Otherwise, it’s deemed a Market Failure, which occurs when there’s an over or under-allocation of resources towards a particular product. The Market Failure also occurs when a negative externality exists, i.e., when the MPC is less than the MSC. In the diagram below, the desired quantity and Costs & Benefits to society are at point (QsubE, CBsubE). Unfortunately, the quantity is excessive, and therefore Costs & Benefits to society are too low at point (Q, CB). Hence welfare loss occurs. The perfect inelastic supply of pollution permits was designed to increase Marginal Private Costs. This market encourages firms to reduce their pollution output as they can sell excess permits to other companies. They’re further encouraged to use non-polluting resources as the supply of permits is tapered over the years. Demand represents the capability and incentive for firms to purchase permits, see figure 2 below. In 2008, the quantity and price is at point (Q, P). Ultimately, e.g. 2009, these values increase to point (Qsub1, Psub1). The problem with the carbon market is that demand reflects the price. Normally this is beneficial, motivating companies to pollute less as the price of permits escalates, but, in a recession, the demand for pollution permits decrease and the excess of pollution permits means the price also decreases. “A tonne of carbon has dropped to 8 Euros, down from……31 Euros and far below the 30 Euros to 45 Euros range at which renewables can compete with fossil fuels.” When the price decreases, two incentives to firms are removed: to trade pollution permits and to utilize more environmentally friendly resources. See figure 3, where the Demand curve has shifted left to DemandsubR after the recession. Thus the equilibrium changes from point (Qsub1, 31) to point (Qsub1, 8). Price decreases can influence companies to “dump plans for the wind turbine” or conclude they “can’t afford not to burn coal.” See figure 4, where MPC + Permits decrease to MPCsubR + Permits after the recession. Although the welfare loss has now increased, the Marginal Private Costs after the creation of the Carbon Market and emergence of the Economic Recession (MPCsubR + Permits) are still greater than the original Marginal Private Costs (MPCsubOriginal). See Figure 4, where the Welfare Loss has increased after moving from point (Q, CB) on the MPC + Permits curve, to point (QsubR, CBsubR) on the MPCsubR + Permits curve. One solution could be to decrease the quantity of available pollution permits, resulting in both increased prices and Marginal Private Costs, thus reducing the negative externality. However, “no government will be brave enough to do that”. Alternatively, the EU could reduce the glut of permits by preventing importation, e.g., from Russia.

The current system forces a choice between the economy and the environment. As demonstrated, pollution increases during economic recessions. Since the carbon market only works in growing economies, it’s more favourable to restore the economy. With economic growth, the demand for permits will increase, leading to a price increase and the restoration of the pollution permit market. Although high amounts of pollution will be produced short-term, in the long-term pollution is certainly reduced.