Sustainable Development of New Zealand Agriculture and Forestry
Economic governance model for sustainable development
This section outlines a core economic governance model that encompasses:
- governance, institutions and rules;
- market forces;
- technological innovation;
- internalisation of externalities;
- social pricing of environmental services and natural resources;
- efficient public intervention to address market failures.
This core economic governance model is a necessary condition for sustainable development, as well as for other societal and economic outcomes.
Governance, institutions and rules
Governance, institutions and rules include property rights, the rule of law and legislative and regulatory provisions governing resource allocation. There are very strong links between property rights, the rule of law and sustainable development. Specified and exclusive property rights mean that the benefits and costs resulting from owning and using a resource should accrue to the owner, either directly or indirectly through sale to others. The ability to develop and enforce effective environmental and natural resources regulation is essential to sustainable development policy.
Market forces
In a market economy the value of a resource and therefore its price is determined by demand, cost, scarcity and the availability of substitutes. Where a resource shrinks in supply it rises in price and this creates incentives for further exploration, improving technology to increase resource yields or reduce harnessing costs, and developing substitutes.
Technological innovation
Technological innovation changes the relationship between a resource and its price by improving efficiency of use, finding substitutes or improving functionality. In effect, economic forces and the technological innovation they spur constantly change and often sever the relationship between a specific resource and the functionality or services it originally provided.
Technological innovation identifies and helps create resources by finding uses for formerly valueless things - glass from sand and ceramics from clay. What matters for future generations is not existing resources (which are the products of existing market forces and technological production possibilities) but sustaining good governance and the market dynamics and technological innovation that augments existing resources and creates new ones and new functionality.
Internalisation of externalities
Externalities (or spill-overs) occur when one party’s activities have external or spill-over effects on another, for example, industrial pollution affecting a neighbour. Externalities should be internalised, that is, positive externalities should be rewarded and negative ones discouraged, with the benefits and costs attributed to those who produce them. Some externalities may be too minor or difficult to address cost effectively and so have to be accepted (for example, low levels of noise from farming or horticultural operations, the aesthetic effects of a poorly maintained house or garden, the visual impact of agricultural activities or spray drift in a rural environment that has no human health impacts).
However, a core part of sustainable development must be to discourage major negative externalities, and to reward positive ones so they are optimally supplied. In effect, the social costs and benefits of activities that impinge significantly on the environment should be reflected, and this in turn will improve the efficiency of resource allocation and the harmonising of economic and environmental outcomes. However, the existence of transaction costs means that some externalities will still persist where the transaction costs of addressing them are excessive.
Externalities exist between different parties, in relation to different geographic environments and spatial scales and different temporal frames.
Externalities between different parties
Externalities between different parties can be unidirectional (for example, spray drift, deforestation impacting on downstream parties, spread of contagious diseases) or reciprocal (tragedy of open access resources). Some resource management practices and the introduction of new species generate both positive and negative effects, which have to be balanced against one another. Pacific oysters were accidentally introduced in a biosecurity breach and have since formed the basis of an aquaculture industry without any overwhelmingly negative effect on the natural environment or its services.
Trees produce positive externalities such as water management, soil conservation, carbon sequestration, biodiversity and aesthetic benefits, as well as some negative effects such as wilding pines, and some roadside tree planting causing ice hazards on roads.
While people are free to pollute their own properties the costs of negative environmental spill-overs from economic activity (where pollution affects others) should be borne by those who produce them. Pollution and environmental damage that is internalised should not be subject to intervention - the focus should be avoiding or internalising externalities, not intruding on private decisions on the waste, pollution or other negatives that people are prepared to impose on themselves. Likewise, where practicable the benefits from positive externalities should go to those who produce them, rather than obligations being placed on people to provide positive externalities without any incentive or reward for doing so.
Externalities over different geographic environments and spatial scales
Sustainable development is about the human, environment and natural resource nexus and this is often highly localised. Economic theory and policy often glosses over the heterogeneity of the world’s resources, ecosystems and communities. As such, the localised nature of ecosystems and economies and knowledge relating to them is often discounted. Some negative externalities impact only on people and environments remote from their cause. People may be locked into poverty traps because they cannot migrate and therefore they lack substitution possibilities for local resources and the ability to exploit specialisation of labour and network economies.
Some local communities may contend they should be rewarded because they generate positive externalities by forgoing market income due to the protected status of much of their natural forest and other resources.
Knowledge of species and natural environments can be widely dispersed and not lend itself to central provision, and it is often individuals who have the best incentives to manage resources and environmental assets on their land.18 Resource allocation that does not account for dispersed information ends up with one-size-fits-all approaches. For many dispersed natural resource ownership and management issues the starting point may best be with individuals and communities rather than centralised or top-down approaches. Common law and contractual agreements can often manage externalities better than centralised regulatory approaches. However, this individualised and property rights approach can fail due to excessive transaction costs or other factors, leading to a market failure and a requirement for prescriptive regulatory or other interventions.
Externalities over long temporal dimensions
Human activity can create negative externalities that impact on future generations, for example, the long-term effects of climate change or of gradual accumulation of toxic chemicals in soil.
Some externalities have multiple effects over different parties, geographic environments and time periods. For example, some non-point source water pollution may impact on near neighbours and also on distant communities and environments. The effects may be apparent only over the longer term and may be difficult to reverse, except perhaps over a multi-generational timeframe.
Social pricing of environmental services and natural resources
Social pricing has two main functions:
- to ensure that natural environments and their products are valued and therefore managed efficiently;
- to address externalities.
These two functions are interconnected.
Full social pricing and costing captures the social rather than just the private benefits and costs of using environmental services and resources. This requires robust scientific understanding of environmental values and services (which may sometimes be very hard to estimate, in some cases prohibitively so) and an economic and institutional governance regime that either ensures social pricing and costing or intervenes in other ways to correct negative externalities.19 It also requires transparency in prices so that people can observe and act on the real costs and benefits of their actions.
Where scientific understanding is translated into policies to price and pay for the costs of environmental services the gains can be dramatic. In a famous example, the New York City government spent US$250 million to prevent land development in the Catskill Mountains and incurred US$100 million in running costs a year to avoid paying US$4-6 billion for water treatment plants with annual running costs of US$250M million.20
Poor environmental and natural resources management typically results from the under-valuation of environmental services and resources, which leads to their over-exploitation and degradation.21 If water, fish or forests are treated as free goods rather than as scarce resources then a tragedy of open access goods is created. Environmental and natural resource management often ignores the through-life costs of resource uses or technological choices. Nuclear power may seem economic until the full lifecycle costs of decommissioning plants and storing wastes are recognised, at which point it may become uneconomic. Subsequently, when the value of lower carbon emissions is factored in nuclear power may become economic. The use of steel and concrete may appear cheap compared to wood because the cost of embodied energy and carbon emissions is excluded.
Socially efficient resource use only occurs when all social and private costs and benefits are taken into account. When natural capital is not valued it is used to cross-subsidise inefficient resource-intensive economic activities, and research and development is not directed to economise on the use of natural capital. Therefore, the direction of technological change distorts the use of environmental services. This manifests itself in over- or under-use of resources, negative externalities such as pollution, or under-provision of positive externalities.
Consistent with a wider socio-economic view of human needs and aspirations, environments are often multi-functional - they produce economic output and environmental and recreational services. Farmers become custodians of environmental goods - green space, clean water, fresh air, biodiversity and natural beauty - and in some countries are paid to generate or safeguard them. However, multi-functionality has been used by other countries for protectionist reasons and this must continue to be opposed.
Lack of scientific understanding and community awareness of the value of environmental services
Many environmental services and resources are treated as free goods or under-valued simply because of a lack of scientific understanding and community awareness of their value. For example, the contribution that forest environments make to control flooding22 and erosion and to the quality of downstream water supply has often not been understood scientifically, nor reflected in policies and in the valuation and pricing of these environmental services.
Attempts to measure the value of environmental services often depend on contingency valuation, notional prices or other proxies. However, these techniques often focus on concentrated amenities such as national parks rather than more diffuse and fragmented ecosystem services that are more difficult to value.
Institutional and policy failure
Degradation of the Aral Sea in the Soviet era and the 1998 Yangtze Valley floods in China resulting from (or at least exacerbated by) the deforestation of upstream watersheds are examples of hugely destructive negative externalities that arose from institutional and policy failure. Land development encouragement loans and other fiscal interventions in New Zealand in the 1970s contributed to biodiversity loss, hill country erosion and water and soil conservation problems that are still imposing substantial costs on New Zealand. Deforestation due to illegal logging in Africa, Asia and Russia illustrates the environmental damage and resource depletion arising from institutional and policy failure and lack of property rights, as well as a lack of scientific understanding and community awareness.
Efficient public intervention to address market failures
A core assumption is that externalities associated with environmental and natural resources, and efficient resource allocation needed for sustainable development, can best be achieved by creating property rights and markets and the institutional and legislative frameworks to allow them to work. However, for many environmental resources markets not only do not exist but cannot easily be created or made to work effectively because of excessive transaction costs. These transaction costs result from asymmetric information, distancing of cause and effect due to geographic or temporal factors or the non-point nature of externalities. It may be impossible to trace a problem and its solution to a manageable number of freely contracting parties. Where markets cannot be created, other instruments need to be applied such as Pigovian taxes and subsidies, quantitative controls and prescriptive regulation.23
The existence of market failure does not imply that government intervention is always an effective solution. Markets can fail and so can governments - in both cases the problem is institutional failure, and institutions are capable of redesign.
Contact for Enquiries
Peter Winsley
Director
Strategy Development
Ministry of Agriculture and Forestry
PO Box 2526
Wellington
NEW ZEALAND
Tel: +64 4 894 0682
Fax: +64 4 894 0746
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