Sustainable Development Part 1: Measuring sustainability

What is sustainability?  Sustainability gets at the linkage between economic growth and the environment.  Economic growth is simply the quantity of goods and services we produce and consume over time, typically adjusted for population (per capita).  More growth usually is thought to contribute to economic welfare by creating more jobs, higher incomes, and a better standard of living.

Growth and GDP  Gross Domestic Product (GDP) is used to measure economic growth.  Real GDP is GDP adjusted for inflation.  The economy is growing when real GDP is on the rise.  The average standard of living improves when real GDP per capita is rising.

GDP and the standard of living  This traditional way of measuring the standard of living excludes important items: Impacts on the environment and human health, Depreciation of natural capital, and Depreciation of produced capital.  A more comprehensive measure of welfare, net national welfare (NNW), takes these into account.

Net National Welfare  NNW = GDP – costs of growth – depreciation  Costs of growth: Externality costs, and Cost of pollution abatement and cleanup.  Depreciation is capital that is used up Depreciation of produced capital, and Depreciation of natural capital.

Net National Welfare More specifically, NNW is defined as: GDP – externality costs – pollution abatement and cleanup costs – depreciation of produced capital – depreciation of natural capital.

Dynamic efficiency  When NNW is rising, we can claim that growth is sustainable.  When NNW is maximized, we have achieved dynamic efficiency.

Depreciation of natural capital  Depreciation of natural capital is the monetary measure of using up a unit of resource.  It is a measure of what we give up in the future to produce today.

Resource rent  The market value of a resource is production cost plus resource rent.  Production cost is simply the expense of producing the resource (finding and pumping the oil, for example).  Resource rent is the permanent economic profit that results from producing a scarce resource.

Resource rent Demand Supply $ Market price Q0Q0 Resource Rent Barrels of oil produced Market for oil

Resource rent  Producing a barrel of oil today means we cannot produce the same barrel in the future.  When we produce today instead of tomorrow we give up future resource rent.  This is true because production cost would have to be incurred in either period.  Resource rent is a dollar measure of the depreciation of natural capital.

What is sustainability?  But we know by now that growth has negative impacts on the environment; growth draws down our natural capital.  When natural capital is depleted excessively, our welfare diminishes over time.  Sustainable development attempts to achieve a balance between economic growth and depletion of natural capital.

Sustainable development definitions  Bruntland Commission (1987): ‘development that meets the needs of present generations without compromising the ability of future generations to meet their own needs.’  Economist Ger Asheim: ‘a requirement to manage the resource base so that the average quality of life can be shared by all future generations.’

Defining sustainable development (SD)  SD essentially an equity issue, rather than efficiency.  However, fairness is easier to attain when the economic pie is growing than when it is shrinking; efficiency and equity can be complements, not competitors.  Sustainable development does not mean no growth. Instead, SD gets at how to maintain a broadly-defined standard of living over time.

Sustainability criterion  Total capital available for the economy consists of Human capital (Kh), Produced or man-made capital (Km), and Natural capital (Kn).  Total capital stock = Kh + Km + Kn.

Hartwick rule  John Hartwick – the current generation has been given an endowment of natural capital, produced capital, and human capital.  Sustainability means that we live off the flow of services from our capital, and do not dip into the principal.  Consumption per capita can be sustained indefinitely if resource rent is captured and invested (in capital stock).  This level of investment would be sufficient to maintain the value of total capital stock over time.

Hartwick rule  The bottom line for the Hartwick rule is this: Growth can be sustained indefinitely if we take the resource rent and invest it in new produced capital. Doing this will ensure that total capital will remain level (we don’t dip into the principal). Even though we draw down natural capital, it is replaced by new investments in produced capital (or perhaps human capital).

Hartwick rule implications  Sustainability can be determined by examining whether the value of total capital stock is declining. If total capital stock is steady or increasing, the pattern of resource usage is sustainable. If total capital stock is falling, resource use is not sustainable.

Hartwick rule implications  We can use up natural capital as long as we invest the resource rent to build up produced capital or human capital.  Implies that produced capital and human capital can be substituted for natural capital.

Weak and strong sustainability  The maintenance of total capital is known as the weak sustainability criterion; implies a degree of substitutability between types of capital.  But in fact, substitution can be very difficult and expensive for some types of natural capital (can we substitute machines for the air we breathe?).

Sustainability criteria  A more restrictive approach calls for maintaining the value of the stock of natural capital alone.  This is known as strong sustainability.  Strong sustainability requires than Kn not decline.  Substitution within Kn is allowed.

Sustainability criteria recap  Weak sustainability: No decline in total capital: K = Kn + Kh +Km Substitutions acceptable  Strong sustainability: No decline in natural capital: Kn No substitutions with other types of capital Substitutions within Kn possible