Why study natural resource economics? The Self-Extinction Premise A society can germinate the seeds to it’s own destruction. Malthusian view – Pop. Growth can’t keep up with our use of… Oil, fish, forests, fresh water, clean air Examples Easter Island – Reliance and overuse of trees led to downfall Mayan civilization – Pop. Growth > Food Supply

Opposing Viewpoints Resources are scarce, but we will find substitutes or innovation will lead to more efficient use of the resource – “necessity is the mother of invention

Three statements History shows that when faced with scarcity, societies always correctly adapt to solve the problem. History gives no clues as to whether societies correctly adapt to solve problems of scarcity. History shows that when faced with scarcity, societies never adapt to solve the problem.  

Resource Taxonomy Natural Resource – resources that occur in a natural state and are valuable for economic activity Exhaustible, Non-renewable resources Resources that are fixed in amount of the resource which may be used up over time. Examples include fossil fuels, minerals such as iron, silver, and gold. Renewable resources Resources that can be regenerated over time. Examples, Depletable – A renewable resource that can be exploited and depleted, such as soil and clean air. http://www.isgs.uiuc.edu/maps-data-pub/statewide.shtml

Coal Exhaustable Depletable

Uranium Exhaustable Depletable

Clean Water Exhaustable Depletable Lake Michigan, Aquifer

Forests Exhaustable Depletable

Public Goods Private Goods Common Goods Club Goods Rivalrous Fish, hunting game, grazing land Food, clothing, toys, cars Non-Excludable Excludable Satellite television, Golf courses, Cinemas National defense, lighthouses, clean air, information goods Private Good – Beer in your fridge Common Good – Beer on the sidewalk outside Common/Private Good – Beer at your party you charge for Public Good – Hulu, Bayes Rule & Information Goods. Club Good – Hulu Plus Public Goods Club Goods Non-Rivalrous

Questions… How much rainforest do we really need? I want to maximize wealth and societal welfare. In order to figure that out, I need to know how many trees I should grow AND I need to know how much paper people use.

How much of a resource should we use? Marginal Analysis – Tool used to answer questions of ‘how much?’, by examining very small changes. Benefits > Cost => Do more Benefits < Cost => Do less Examples, Valuing the Resources Economic value of the a tree Anthropocentric view Direct value of tree’s existence- can make a chair out of it Indirect value – reducing carbon dioxide in air, protecting the environment from global warming, pretty and other like it http://arboretum.illinoisstate.edu/downloads/tree_map.pdf

WTP Willingness to pay – max amount that we would spend on a good.

How much paper should we make? Marginal Analysis – Tool used to answer questions of ‘how much?’, by examining very small changes. Benefits > Cost => Do more Benefits < Cost => Do less

Your Demand for Paper WTP for Paper stacks p1 p2 Quantity of paper stacks. q1 q2

Total Benefit from q2 WTP for Paper stacks p1 p2 Quantity of paper stacks q1 q2

Opportunity Cost The benefit lost when specific environmental services are forgone in the conversion to the new use

Marginal Opp. Cost Curve Price of Paper Stacks p2 p1 Quantity of Paper Stacks q1 q2

Total Cost Price of Paper Stacks p2 p1 Quantity of Paper Stacks q1 q2

Net Benefits Price of Paper Stacks p1 p2 Quantity of Paper Stacks q1 Define Net Benefits= Total Benefits – Total Costs Quantity of Paper Stacks q1 q1 q2 q2

Net Benefits Price of Paper Stacks p1 p2 Quantity of Paper Stacks q1

Max. Net Benefit from Paper Price of Paper Stacks Marginal Cost Equilibrium Price Marginal Benefit Quantity of Paper Stacks Equilibrium Quantity

Marginal Analysis First Equimarginal Principle – Net benefits are maximized when the marginal benefits from an allocation equal the marginal costs Efficient Max. Net Benefits

Problems One convenient way to express WTP between price and quantity is through the inverse demand function. In an inverse demand function, the price consumers are willing to pay is expressed as a function of the quantity available for sale. Suppose the inverse demand function of a product is P=80-q And the marginal cost of producing the product is MC=1q A) How much would be supplied in a static efficient allocation? B) What would be the magnitude of the net benefits?

Static Model Dynamic Model Time does not matter Cost/Benefit Analysis – cutting down trees Benefit > Cost => support action Cost > Benefit => oppose action Dynamic Model Account for time Cost/Benefit Analysis accounting for time Max [B0, B1, B2] Present Value – $1 invested today at 10% interested yields $1.10 a year from now. Present Value (PV) of X one year from now is X/(1+r)2 r is the interest rate (discount rate) PV[Bn]=Bn/(1+r)n PV[B0, B1, B2]= B0/(1+r)4 + B1/(1+r)3 +B2/(1+r)2

Market Equilibrium Price of Good Supply Equilibrium Price Demand Quantity of Good Equilibrium Quantity

Well-Defined Property Rights Exclusivity – All benefits and costs accrued as a result of owning and using the resources should accrue to the owner, and only the owner, either directly or indirectly by sale to others Transferbility – All property rights should be transferable from one owner to another in a voluntary exchange Enforceability – Property rights should be secure from involuntary seizure or encroachment by others (ie. eminent domain) Note – Eminent domain is the inherent power of the state to seize a citizen's private property, expropriate property, or seize a citizen's rights in property with due monetary compensation, but without the owner's consent. Example, Haiti & Dominican Republic

Equilibrium = Best We Can Do Price of Good Supply Equilibrium Price Demand Quantity of Good Equilibrium Quantity

Consumer Surplus Price of Good Supply Equilibrium Price Demand Quantity of Good Equilibrium Quantity

Producer Surplus Price of Good Supply Equilibrium Price Demand Quantity of Good Equilibrium Quantity

Total Welfare Price of Good Supply Equilibrium Price Demand Quantity of Good Equilibrium Quantity

For next time, Homework #1 due