McGraw Hill Company
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MXpA
Chapter 3
ENVIRONMENTAL RISK:
ECONOMICS, ASSESSMENT, AND MANAGEMENT
by Dr. Mohamed Abouleish
Outline
• Characterizing Risk
• Risk and Economics
• Environmental Economics
• Using Economic Tools to Address Environmental Issues
• Economics and Sustainable Development
• Economics, Environment, and Developing Nations
1
Characterizing Risk
• Risk is the probability that a condition or action will
lead to an injury, damage, or loss.
• Risk incorporates three main considerations:
1. Probability of a bad outcome.
Probability is a mathematical statement about
how likely it is that something will happen.
2. Consequences of a bad outcome.
3. Cost of dealing with a bad outcome.
3
Risk and Economics
4
Decision-making process
2
Risk and Economics
• Most decisions in life involve an analysis of two factors:
– Risk
– Cost
• Most environmental decisions involve
economic cost of
eliminating the
conditions that
pose the risk.
perceived cost of
enduring the risk
Find a Balance 5
Risk Assessment
• Assessment is to determine the amount of risk
• Environmental risk assessment uses
facts and assumptions to
estimate probability of harm to human health or
the environment
that may result from particular management
decisions.
3
Risk Assessment
• If a situation is well-known, scientists use
probabilities based on past experience to estimate
risks.
• Models are used to estimate risks for situations with
no known history.
– For example,
• Hurricanes and weather changes, computer model
software is used to indicate the risk
• Chemical exposure to human determined by exposing
animals, yet a risk is involved that animals might not
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react as humans and cause a problem
Risk Assessment
Models are used to estimate risks for situations with no known
history.
– Most risk assessments are statistical statements
These estimates are modified to ensure that a lack of
complete knowledge does not result in an
underestimation of risk.
4
Risk Assessment
Risk Assessment
• Because of uncertainties, government regulators have
decided to err on the side of safety to protect the public
health.
– Many of the most important threats to human health
and the environment are highly uncertain.
In other words,
Overestimate what will happen
Think that the probability of something
bad going to happen is higher than what
data presents 10
5
Risk Management
• Risk assessment is part of the Risk management
process
• Risk management is a decision-making plan that
weighs policy alternatives and selects the most
appropriate regulatory action
• by integrating risk assessment results with engineering data,
and with social, economic, and political concerns.
– The purpose is to reduce the probability or magnitude
of a negative outcome,
• e.g., shifting responsibility to somebody else and reducing the
risk of me taking full responsibility 11
Risk Management
• Risk management,
– Objective is to determine the risk and manage it so it
will be lowered to the acceptable levels by the public
• A risk management plan includes:
– Evaluating the scientific information regarding various
kinds of risks to quantify magnitude of risk
• Science defines that a risk may be possible, but does not
decide which risk is most important
– Deciding how much risk is acceptable.
12
6
Risk Management
• A risk management plan includes (cont.):
– Deciding which risks should be given highest priority,
e.g. decisions with highest risk probability and highest financial loss
should be handled first
– Deciding how the plan will be enforced and monitored.
[Link]
13
Risk Tolerance
• Business and industry must have management
policies or risk tolerance programs
• Each has level of risk it can accept.
• Depending on situation, policies and/or tolerance
for environmental health and safety,
risks can vary greatly.
• The more familiar or well understood the issues are,
the greater the level of risk that is acceptable.14
7
True and Perceived Risks
• The public generally perceives
• involuntary risks (nuclear power plants or nuclear
weapons) as greater than voluntary risks (alcohol
and smoking)
• newer technologies as greater risks than old
and more familiar technologies, e.g. plane ride
vs. car ride, genetic engineering
Knowledge ~ Perception ~ Risk
15
True and Perceived Risks
16
8
True and Perceived Risks
17
Perception of risks
True and Perceived Risks
TRUST
Important
Greatly influences
perceived risk level
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9
Environmental Economics
• Economics is the study of
– how people choose to use resources to produce
goods and services, and
– how those goods and services are distributed to the
public.
• Environmental Economics is a branch of Economics
dealing with environmental problems
– It is a study of the economic effect of environmental
regulations
19
Resources
• Economists look at resources ~
as the available supply of something that can be used.
• There are three categories of resources:
– Labor (human resources or human capital)
• Act as source of profit or return on investment
– Capital (technology and knowledge)
• Anything that enables the efficient production of goods and services
– Land (natural resources)
• structures and processes humans can use for their own purposes but
cannot create.
• Renewable versus nonrenewable 20
10
Supply and Demand
• Supply :
is the amount of a good or service (Available)
– people are willing to sell at a given price.
• Demand :
is the amount of a good or service (Requested)
– that consumers are willing and able to buy at a given
price.
• Price of a good or service is its monetary value
• The relationship between supply and demand
– Determines the price of a good 21
Supply and Demand
• The relationship between supply and demand
– Determines the price of a good
• Price
– reflects the strength of demand and availability of the
commodity.
• Demand > Supply: Price Rises
– e.g. fuel, games, holiday products
• Demand < Supply: Price Lowers
– e.g. promotions to get rid of the excess products
– is often illustrated by a supply/demand curve. 22
11
Supply and Demand
• For example,
• Food production depends on petroleum for
• Machinery used in planting and harvesting
• Transportation of goods
• Fertilizers and pesticides are made using petrochemicals
Therefore, there is a great demand for petroleum, i.e. you need more
energy to function
• But the resources of petroleum are limited
• Therefore, demand > supply i.e. price rise
• Therefore farmers either produce less or reduce use of fertilizers
which can affect the amount produced and quality.
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Supply and demand for old corrugated cardboard.
Assigning Value to Natural Resources
• We assign value to natural resources
based on our
perception of their relative scarcity.
– If a natural resource
• always been rare, it is expensive,
– e.g. pearls, precious metals
• If supply is very large and the demand is low, the
resource is often perceived to be free,
– e.g. sunlight, air, beaches 24
12
Environmental Costs
• Pollution,
• Species extinction,
• Resource depletion, and
• Loss of scenic quality
are all examples of
environmental costs of resource exploitation.
• Deferred costs : costs not immediately recognized and
must be paid later
– Agricultural soil erosion
– Chemical spills 25
Environmental Costs
• External costs : costs borne by someone other than the
individuals using the resource.
– Cleanup of hazardous waste sites
• Pollution costs : costs to correct pollution damage once
pollution has already occurred.
• Pollution prevention costs: costs to prevent pollution
before it occurs
– e.g. changing production methods, taking
precautionary measures during chemical transport
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13
Cost-Benefit Analysis
• Cost-benefit analysis
– formal quantitative method of assessing costs and
benefits of using of a resource, or
– solutions to a problem, and deciding which is most
effective.
27
Cost-Benefit Analysis
• Is also used to determine:
– whether a policy generates more social costs than social benefits,
and
– if benefits outweigh costs, and how much activity would obtain
optimal results.
• There are four steps in a cost-benefit analysis:
1. Identification of the project.
2. Determination of all impacts.
3. Determination of the value of impacts.
4. Calculation of net benefit.
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14
Cost-Benefit Analysis (cont.)
Concerns about using Cost Benefit Analysis
• Analyst must decide which preferences have standing in
the analysis.
• Not everything can be analyzed from an economic point
of view, or can be assigned an economic value.
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Revision – “Ecosystem”
Environmental science views the world as consisting of
interrelated units called Ecosystem
Ecosystem is a natural unit consisting of all plants,
animals, and microorganisms in an area functioning
with all nonliving factors of the environment
For example,
Aquatic and marine ecosystems
Desert ecosystem
The task of an environmental scientist is to recognize and
understand the natural interactions that take place, and to
integrate these with the uses humans must make of the
natural world.
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15
Comparing
Economic and Ecological Systems
• Matching economic processes with environmental
resources is difficult,
– because of great differences in way economic systems
and ecological systems function.
• There is a great difference in the time frames in
which ecosystems and markets operate.
– Ecosystem processes take place over tens of
thousands to millions of years.
– Market processes take from a few minutes to a few
years. 31
Comparing
Economic and Ecological Systems
For ecosystems, place/space is critical and the
capacities of a given location are not transferable,
while
For economic systems place and space is not critical.
– Groundwater in a specific location
• is affected by the soil quality, hydrogeology, precipitation,
plants, and losses from evaporation,
• all contribute to the size of groundwater and can not be
transferred from one location to another
– Economic systems are different, e.g. production can be
transferred from one location to another based production cost 32
16
Comparing
Economic and Ecological Systems
• Economics and ecology are measured in different
units
– Market economics is measured using money (common
measurement for the public)
– Ecological systems are measured using physical units
• such as calories of energy, carbon dioxide
absorption, i.e not common well understood units
Focusing only on the economic value of resources and
ignoring the environmental value (e.g. how much pollution),
may mask serious changes in environmental quality. 33
Common Property Resource Problems—
The Tragedy of the Commons
• Economists have stated that when everybody shares
ownership of a resource,
there is a strong tendency to overexploit and misuse that
resource.
• For example,
– The problems inherent in common ownership of
resources were outlined by biologist Garrett Hardin in
his essay “The Tragedy of the Commons” (1968).
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17
Using Economic Tools to
Address Environmental Issues
Environmental cost can sometimes be catastrophic
• Traditional approach to avoid reaching such effects,
involves
issuing laws that prohibit a specific action, i.e. “Command and Control”
• Such approaches were effective in reducing air and water
pollution, e.g.
– Clean air act (law) passed in 1970 to reduce air pollution
• Currently different approaches are used,
such as
economic incentives (subsidies), which encourage environmental
stewardship
• e.g. Governments helping new farmers 35
Using Economic Tools to Address Environmental Issues
Subsidies
• Subsidy :
A gift from government to individuals or private enterprise
to encourage actions considered important to the public
interest.
– Subsidies are useful when they have a clear purpose and are used
for short transition periods.
– When used inappropriately, subsidies can lead to economic
distortions.
36
18
Using Economic Tools to Address Environmental Issues
Market-Based Instruments
Aim:
use economic forces to achieve a high degree of
environmental protection at a low cost.
can be used to determine fair prices for environmental
resources.
Note:
Are supplements, not substitute for governmental
regulations
37
Using Economic Tools to Address Environmental Issues
Market-Based Instruments
Instruments currently in use:
A. Information Programs,
provide consumers with information about environmental
consequences of purchasing decisions.
B. Tradable emissions permits,
give companies the right to emit specified amounts of
pollutants.
• Permits can be sold or banked for future use.
38
19
Using Economic Tools to Address Environmental Issues
Market-Based Instruments
C. Emission fees and taxes,
provide incentives for environmental improvement by
making damaging activities and products more expensive.
D. Deposit-refund programs,
place a surcharge on the price of a product which is
refunded upon return for reuse or recycling.
E. Performance bonds,
are fees collected to ensure proper care is taken to protect
environmental resources.
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Using Economic Tools to Address Environmental Issues
Liability Protection and Grants for Small Business
• On Jan. 11, 2002, the SBLRBRA act was signed into law
– Small Business Liability Relief and Brownfield Revitalization Act
(SBLRBRA).
• This law provides
– incentives for small businesses and other entities to develop
brownfields
• (areas perceived to have environmental liabilities), most of which
are in urban areas.
• These areas (prior to SBLRBRA)
– were previously considered too risky to purchase and develop
– since purchasers could potentially acquire the environmental liabilities
40
associated with the property.
20
Using Economic Tools to Address Environmental Issues
Liability Protection and Grants for Small Business
• Funding and tax incentives were provided to encourage
development
• Business were asked to commit to their plans
e.g. building a factory that would not add to the
environmental contamination
• The program resulted
– in many successful projects that have brought
business back to where it once was, and
– minimized impact on green belts outside urban areas.41
Using Economic Tools to Address Environmental Issues
Life Cycle Analysis and Extended Product Responsibility
• Life-cycle analysis,
– is the process of assessing environmental effects
associated with :
production, reuse, and disposal of a product over its
entire useful life.
This process can identify
Changes in product design and process technology
That reduces
the ultimate environmental impact of the product. 42
21
Using Economic Tools to Address Environmental Issues
Life Cycle Analysis and Extended Product Responsibility
• Extended product responsibility,
– is concept that product’s producer is responsible
• for all negative effects involved in its production,
• and ultimate disposal of the product.
– The logic is that if manufacturers pay for post-
consumer impacts, they will alter designs in order to
reduce waste.
“This product is coming back to me some day;
how will I recycle / reuse or dispose of it”
43
Using Economic Tools to Address Environmental Issues
Life Cycle Analysis and Extended Product Responsibility
Benefits of extended product responsibility
– Cost savings
– Increased design efficiency
– Reduced waste
– More efficient environmental protections
Obstacles
– Cost of instituting programs
– Lack of assessment tools and information
– Difficulty in building working relationships
– Hazardous waste regulations
– Antitrust laws
(laws that prohibit monopolization, preventing companies from cooperating) 44
22
Economics and Sustainable Development
Sustainable development has become an important policy
priority for the world.
• Sustainable development ,
– is development that meets present needs without
compromising the ability of future generations to meet their
own needs.
• Considering both economic development and
environmental stewardship
– Most definitions refer to the viability of natural resources and ecosystems over time, and
to maintenance of human living standards and economic growth.
“Our Common Future” 45
Economics and Sustainable Development
Characteristics that define sustainability
– Renewability
• Using resources at a rate that does not exceed the rate of
regeneration
– Substitution
• Using renewable resources instead of non-renewable
resources if possible
– Adaptability
• Adapting to changes and taking advantage of new
opportunities
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Economics and Sustainable Development
Characteristics that define sustainability
– Interdependence
• Recognizing oneself as part of a larger system, and that in
order to survive, the larger system must also survive
– Institutional commitment
• Adapting to laws and political processes that mandate
sustainability
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