ECON 4925 Resource Economics Autumn 2010 Lecture 1

ECON 4925 Resource Economics Autumn 2010 Lecture 1 Introduction Lecturer: Finn R. Førsund 4925 Lecture 1 1

Perman et al. Chapter 1. 2. 1 • Classical economists: 1700 -1800 century – Development of natural resource economics – Adam Smith, Thomas Malthus, David Ricardo, John Stuart Mill • Economic growth: importance of natural resources (land) • Living standards in the long run subject to constraints (land) • Diminishing returns , inevitability of a stationary state ECON 4925 2

Perman et al. Chapter 1. 2. 1 • Adam Smith: markets and allocation of resources, invisible hand • Malthus: population growth geometric and food output growth arithmetic • Ricardo: subsistence wage level in steady state, land in varying quality • John Stuart Mill: diminishing returns, but also growth of knowledge and technical progress. Amenity values, first environmental economist? ECON 4925 3

Perman et al. Chapter 1. 2. 2 • Neoclassical economics: marginal theory and value in exchange • 1870+, Jevons, Menger, Marshall (consumer surplus), Walras (general equilibrium) • Production- and utility functions • Keynes: short-run use of resources • Neoclassical growth theory: absence of natural resources, introduced from 1970+ ECON 4925 4

Perman et al. Chapter 1. 2. 3 Welfare economics • Rankings of allocation must be based on ethical criterions • Utilitarian moral philosophy, Hume, Bentham, Mill. Weighted average of the total utility levels enjoyed by all individuals in the society • Pareto optimality (1897) ECON 4925 5

Perman et al. Chapter 2 • Can the global economic system continue to grow without undermining the natural systems, which are its ultimate foundation? • Can poverty be alleviated in such ways that do not affect the natural environment in such a way that future economic prospects suffer – Interrelationship between poverty, economic development and the state of the natural environment – World Commission on Environment and Development 1987 Our Common Future ECON 4925 6

Issues in resource economics • Types of resources – Non-renewables • Minerals, oil, gas, coal – Renewables • Fish, forests, water • Questions to be studied – Optimal depletion of non-renewables – Optimal harvesting of renewables

• Sustainability – Can the global economic system continue to grow without undermining the natural systems, which are its ultimate foundation? – Can poverty be alleviated in such ways that do not affect the natural environment in such a way that future economic prospects suffer – Interrelationship between poverty, economic development and the state of the natural environment – World Commission on Environment and Development 1987 Our Common Future

• Aggregate modelling – Social planner • Discounting – Care less about consumption tomorrow than today, > 0, pure rate of time preference, defective telescopic faculty (Pigou) – One believes tomorrow’s consumer will be better off than today’s

Perman et al. Chapter 3. Utilitarism • Utility discount rate ρ and consumption discount rate, r • Discounting discriminating against future generations? • Rising consumption over time may be consistent with positive discounting ECON 4925 10

Perman et al. Chapter 3 (11). • Derivation ECON 4925 11

Rules within resource economics • Two intertemporal allocation rules have attracted particular attention: the Hotelling rule and the Hartwick rule • The Hotelling rule: – No-arbitrage possibility condition that every efficient resource utilisation path has to meet. The net price of an exhaustible resource must grow at a rate that equal the interest rate ECON 4925 12

• The Hartwick rule – Invest proceeds from resource extraction such that total capital is constant • The Hartwick result – The investment rule is necessary but not sufficient for constant sustainable consumption • The relevance of the Hartwick rule for sustainability – Must have substitution between natural capital and man-made capital ECON 4925 13

Further issues • Policy instruments to achieve optimality – Taxes – Distribution; taxing Ricardian rents • Markt forms – Monopoly – Free competition • Role of ownership for utilisation of commonpool renewable resources

• Main types of models – Cake - eating model • limited amount of non-renewable resources • Hotelling’s rule – Limited non-renewable resources, production of man-made resources – Biological growth of renewable resources • Modelling the growth process • Role of steady state and sustainability • Necessary mathematical skills – Optimal control theory – Dynamic programming

The cake-eating model • A two –period model, consumption C of a finite resource during the two periods – Discounting of utility in period 2 with factor • Problem: when to eat the cake and how much • Solution • Hotelling’s rule

• Generalisation to depletion on the interval to – t 1 of a resource consuming Rt at time t • Introducing a consumption good produced using resources and capital

• Biological growth of a renewable resource • Objective function: – Maximising present value of net utility of harvest of the resource, specifying e. g. a current variable cost function of harvesting