Will economic growth improve environmental quality?
The relationship between economic growth and the environment has always remained of great interest to not only environmentalists but also to economists and policy makers. For a long period of time, human beings relied on nature for most of their economic activities. The limit of natural resources was believed to be the ultimate constraint to economic development. In recent years, the other role of the environment, acting as storage for human waste and by-products of production, has been given more attention with the rise of environmental movements.
The debate on how economic growth affects the environment is also very controversial. Will the earth be able to sustain itself without running into the doomsday scenario when unbounded economic growth lead to destruction and the environmental collapse ultimately? While it is true that economic activities are responsible for such problems as pollution, natural resource over-exploitation, global warming and so on, the argument is that as income increases in developed countries, the demand for a better environment might grow and eventually call for more improvements in the environment. Many economic activities also dedicate to cleaning up the environment, develop technology to increase energy efficiency and productivity. The number of green jobs rises quickly in recent years. The question remains that, eventually, does economic growth help or hurt the environment? The answer to the question shapes humans’ attitude towards the environment and has tremendous influence on policy-makers and how they might design sustainable economic programs.
How does our environment support economic activities?
- Provides myriad of services and consumption goods for humans
- Supplies economic activities with important resources, like raw materials and energies, which are used as inputs in production
- Acts as a sink of wastes or byproducts of the economic process
Roles of the environment in economic activities
In a general sense, the environment encompasses natural conditions that identify the human’s living space such as the atmosphere, water courses, the ecological system, and land. Early theories about economic growth often focused only on capital, labor, and technology as the main driving factors of growth, and ignored the role of natural resources and the environment. Only since the late 1960’s, the role of the environment and natural resources as critical factors affecting growth was given more intense attention (Toman, 2003). In an economic context, the environment is presented as a special composite asset, which supports our own existence, and serves three main functions.
First, the environment itself directly provides myriads of services and consumption goods for humans (Siebert, 1981). People tend to take for granted the tremendous amount of consumption goods they derive from nature such as the air they breathe, the water they drink, the landscape for buildings and so on. People also obtain intangible recreational utility from the environment when taking pleasure in such activities as watching a sunrise, swimming in the sea, or stargazing. In one way, environmental quality, described as the ability of the natural system to provide different services relative to the human needs, is considered public goods.
Second, the environment supplies economic activities with important resources, like raw materials and energies, which are used as inputs in production. The environment also provides space or land not only for residential location, but also for production to take place. Without these inputs, production is impossible to start with. Manufacturers extract raw materials and fuels from the environment, utilizing labor and capital to transform them into final consumption goods.
Third, the environment acts as a sink of wastes or byproducts of the economic process. Along with the production process, by-product wastes are created. Some of the byproducts could be recycled and reused, but some are no longer usable. These pollutants are then passed back to the environment. Some pollutants could be decomposed by itself without altering or damaging the surrounding area. However, other substances can cause adverse effect on the environmental quality and influence the characteristics of the environmental system. These changes may permanently hamper the ecosystem, which remains the main concern of environmentalists.
How economic growth improves environmental quality?: the Environmental Kuznet Curve
In the past, economic growth and environmental quality are viewed as two conflicting goals, and it is considered impossible to have economic growth without hurting the environment. However, since the 1990s, this view has changed. Economists are fascinated by the discovery of a U-shaped relationship, often referred to as the Environmental Kuznet Curve, between the environmental quality and economic growth. The EKC for the environment implies that environmental quality will first fall and then rise when economic development/ income reaches an optimal amount. In fact, the world now is much cleaner than it was decades ago (Bast, Hill, & Rue, 1994). Brock and Taylor also assured that by many measures, including level of emission for regulated pollutants, and air quality, the environment is improving at least in developed nations (Brock & Taylor, 2004). There are several theories explaining this relationship.
Economic growth creates good externalities in the external environment
First, increasing economic growth leads to positive changes and creates good externalities in the external environment. The World Bank’s World Development Report, published in 1992, stated that: “The view that greater economic activity inevitably hurts the environment is based on static assumptions about technology, tastes, and environmental investments” (p 38). According to Tietenberg, economic growth happens in two main ways: through increasing inputs such as labors and capitals, or through fostering productivity via technological progress (Tietenberg, 2006). The extent of growth generated from increasing inputs is governed by two most fundamental economic rules: the law of diminishing returns and the economies of scale (Tietenberg, 2006). The law of diminishing returns states that if only some inputs are increased, others inputs are held constant, the marginal product will ultimately fall. Economies of scale often happens in the long run when all inputs are increased, which will lead to either the same or increasing or decreasing percentage increase in outputs. Hence, although natural inputs are vital to the production process, increasing inputs will not always promise a higher yield. On the other hand, technological progress always assures higher productivity even with the absence of an increase in inputs. Technology works by improving economic efficiency which consistently improves the use of natural resources, thus generates less waste and produces a cleaner environment. Also, technology also changes the input mix, substituting for more environmental friendly inputs, and using less of polluting inputs (Stern, 2003). In this sense, less pollution is also a by-product of increasing economic efficiency.
Developed economies shift economic activities towards cleaner sectors
Second, economic growth is also associated with changes in the composite of outcome and economic structure. Developed economies tend to shift their economic activities from natural resource extraction and manufacturing sector, which involves a lot of polluting activities to service sector, which causes less waste and brings in more income (Shafik, Economic Development and Environment Quality: An Econometric Analysis, 1994). This theory was further illustrated by the work of Copeland and Taylor, who theorized that if the development process mostly depended on capital accumulation in the early stages and human capital formation in later stages, these changes would alter the pollution properties and their proportions with regard to production. As a result, the environment might exacerbate in the first phase of the economic growth path and then recover over time (Copeland & Taylor, 2003).
People's preference for a clean environment
Third, individuals and society as a whole always have a preference for a clean environment because environmental quality also influences one’s existence quality (Smulders, 2000). In poor societies, the main concern is self-preservation, even if it means eating up all the environmental resources. However, as income increases, survival becomes less a priority, people start demanding more environmental quality to improve their living standards. Thus protecting the environment is placed higher on the list of objectives of a society, not only for the present but also for the future generations. Moreover, affluent societies have the ability to invest in environmental protection programs and can afford to effectively enforce government’s environmental regulations. For instance, the United States has dedicated over 1 trillion dollar (around 150 billion dollars annually) in pollution abatement since the 1970s (Bast, Hill, & Rue, 1994). Part of the overall economic expenditure and government spending is allocated to cleaning up the environment, and recycling, which generates its own productivity as well (Smulders, 2000).
Environmental regulation on environmental quality
Another reason that economic development will lead to better environmental quality is that richer states and countries have more resources to enforce environmental regulation. In recent years, concerns over global climate change, and environmental issues have increased public demands for more government’s environmental regulations. A study carried out by Esty and Porter investigating the relationship between environmental regulation and environment performance across countries concludes that the more stringent environmental regulation is, the lower the level of pollution. However, not all government’s policy aiming at reducing pollution has the expected effects. For example, energy subsidies significantly have distorting impacts on energy price signals, causing inefficiency and higher level of pollution (Esty & Porter, 2001).
The U.S government has recently enforces more mandates to regulate the level of greenhouse gas emission and encourage the use of clean-technology and renewable energies. Renewable Portfolio Standard (RPS) is one of those numerous policies. An RPS policy “requires electric utilities and other retail electric providers to supply a specified minimum amount of customer load with electricity from eligible renewable energy sources ((EPA), 2009),” and seeks to promote competition among renewable developers to meet the targets in a least expensive way. The RPS requirements are state-by-state driven with rules, goals and compliance penalty and timelines vary across states to meet their specific circumstances.
Do you believe that economic growth will lead to greater environment quality?
Mixed results of empirical studies on the relationship between economic theory and environment quality
Numerous papers have explored the relationship between economic development and environmental quality. Unfortunately, despite being reasonable in theory, the results of empirical studies on the relationship between economic theory and environment quality tend to be mixed, inconsistent, and ambiguous, reflecting the complexity of the relationship. Several forms of relationship between the environmental indicator and income levels have been detected, varying from linear relationships (upward and downward sloping), quadratic relationships (inverted U and normal U) to cubic relationships, and even J-shaped relationships. For even one pollutant, different studies may even bring out different relationships with economic growth which is usually measured by income per capita (Chua, 1999).
Grossman and Krueger are considered to initiate and popularize the theory about the relationship using empirical methods. They employed a panel dataset from the Global Environmental Monitoring Systems, which keeps track of urban air and water quality in different cities across the world. They estimated several reduced-form equations which related the level of water and air quality to current and lagged income per capita, controlling for other non-economic determinants of pollution which included dummy variables indicating the location of the place, population density of the city, mean annual water temperature and the type of measuring devices. Together, they discovered a strong statistically significant inverse relationship between income per capita and air quality and water quality, and the turning points for per capita income fluctuated around $8000 (Grossman & Krueger, 1995).
Shafik (1994) attempted to analyze the variables that posed an effect on environmental quality. He conjectured that there are four main variables that influenced environmental quality: the level of endowments such as climate and location, per capita income, exogenous factors such as technology, and policies. His empirical work concluded that some environmental indicators improved with rising incomes such as water and sanitation, others deteriorated and then improved like the level of sulfur oxides. The turning points at which income enhanced the quality of environment varied across different countries depending on the income elasticity for each specific environmental factor (Shafik, Economic Development and Environment Quality: An Econometric Analysis, 1994).
Employing a different approach, Verbeke and Clercq investigated the relationship using the binary response model. Verbeke and Clercq believed that this model could provide advantages over the traditional econometric regression model in that it did not experience methodological issues related to time series properties. Their result suggested that higher incomes were associated with a higher probability of improving environmental conditions when income levels were greater than 1556 USD in some groups and 2931 USD in other groups (income was calculated using 1985 as base year) (Verbeke & Clercq, 2006).
Graph 1 plots the GDP per capita of 51 US states and their carbon dioxide emissions. From the plot, it is very difficult to conclude that whether a state with higher GDP per capita characterizing high economic growth, will have higher or lower amount of carbon dioxide emissions, representing the environmental quality.
In this hub, the relationship between economic growth and environmental quality is reviewed. Despite still having some mixed results, there are some evidence suggesting that higher income or economic growth will lead to a cleaner environment. By expanding jobs, fostering economic growth, a state’s environment will be improved as a result.
Bast, J., Hill, P., & Rue, R. (1994). Econ-Sanity: A Common-Sense Guide to Environmentalism. Madison Books.
Brock, W., & Taylor, M. S. (2004). Economic Growth and the Environment: A Review of Theory and Empirics.
Chua, S. (1999). Economic Growth, Liberlization, and the Environment: A Review of the Economic Evidence. Annual Review of Energy and the Environment , Vol 24, 391-430.
Copeland, B., & Taylor, M. (2003). Trade and the Environment: Theory and Evidence. Princeton University Press .
EPA, (2009). Renewable Portfolio Standards Fact Sheet.
Grossman, G., & Krueger, A. (1995). Economic Growth and the Environment. The Quaterly Journal of Economics , 353-377.
IBRD. (1992). World Development Report 1992: Development and the Environrment. New York: Oxford University Press.
Shafik, N. (1994). Economic Development and Environment Quality: An Econometric Analysis. Oxford Economics Papers , Vol 46.
Siebert, H. (1981). Economics of the Environment. LexingtonBooks.
Smulders, S. (2000). Economic Growth and Environemtal quality. In E. Elgar, H. Folmer, & L. Gabel (Eds.), Principles of Environmental Economics.
Stern, D. (2003). The Environmental Kuznets Curve. International Society for Ecological Economics .
Tietenberg, T. (2006). Environmental and Natural Resources Economics (7th Edition ed.). Pearson Education, Inc.
Toman, M. (2003). The Roles of the Environment and Natural Resources in Economic Growth Analysis. Resources for the Future .
Esty, D., & Porter, M. (2001). Ranking National Environmental Regulation and Performance: A Leading Indicator of Future Competitiveness. Oxford University Press .
Verbeke, T., & Clercq, M. (2006). The income-environment relationship: Evidence from a binary response model. Ecological Economics , 419-428.