The Environment

Market Failure & the Environment

Environmental consequences of business behaviour often result in market failure as they cause more social costs than social benefits.

Social costs or negative externalities caused by production of goods include pollution of air and water, the destruction of countryside areas and noise pollution.

Because markets do not consider environmental factors they often supply more of a product at lower prices. This can result in increased destruction of the environment.

The environment is able to absorb a certain level of pollution however if more pollution is created it results in negative externalities

Markets and the Environment

Markets allocate resources to do with supply and demand. They are reliant on the environment as they utilise factors of production which are finite including land.

Some environmental goods such as the sea are effectively public goods as it is impossible to eliminate free riders

Goverment Policies and the Environment

The government can use a number of instruments to control environmental damage. The government will implement these policies as they believe the negative externalities and impacts on the environment need to be reduced.

In addition governments may try and reduce environmental damage due to pressure groups and public opinion. In addition international standards such as the Kyoto treaty have meant governments need to consider the environment/

Indirect Taxes

Indirect taxes are those that are not levied directly on an individual but collected from the person who bears the tax by intermediaries who then pass the monies to the government. Indirect taxes can be used by the government to correct for market failure caused by damage to the environment

Pollution Taxes

A pollution tax seeks to convert the external costs of pollution into a private cost and thereby reduce the level of output to the socially equilibrium level.

Pollution taxes are based on the view that the price of the product should reflect the full cost of producing it including any social costs. Pollution taxes can be passed on to the consumer in the form of higher prices.

If goods are inelastic firms are more likely to pass on pollution taxes to them in the form of higher prices. This increased prices may be most felt by the less wealthy causing a inequality in the allocation of resources.

Pollution taxes are likely to be most effective when introduced worldwide

Market Regulation and the Environment

The government is also able to regulate markets to try and decrease the amount of environmental pollution.

Regulation can occur when the government enforce planning restrictions and pollution restrictions.

Climate Change Levy 2001

Government has identified 10 sectors of the economy who are energy-intensive users e.g. chemicals, food and drink

  • This is a tax on energy usage offset against national insurance contributions
  • If the companies are able to meet energy and carbon saving targets they get an 80% reduction on their bill
  • Aim is to reduce energy usage and emissions

The Environment and the Macro Economy

There are often conflicts between macroeconomic objectives and the environment. Economic growth can have a negative impact on the environment as increased production often increases levels of pollution and environmental damage.

Often businesses grow at the expense of the environment. Environmental objectives often conflict with economic objectives such as:

  • Growth Balance of payments in balance
  • The more rapid the rate of economic growth the greater the level of production and the increase in levels of pollution etc
  • Environmental factors can reduce the efficiency of domestic operations making exports more expensive than imports


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