Economics of Sustainable Development

Runa Sarkar, Anup Sinha

• Publisher: Business Expert Press
• Year: 2017
• ISBN:
  9781631571053
• Topic: Economics
• Subtopic: Sustainable Development
• Index: Economics

We attempt to sensitize the business practitioner and the public-policy planner, as well as students of business management and the social sciences, to the concept of sustainable development in an easily comprehensible manner. This book analyzes sustainable development from the perspective of economics. Environmental and social challenges are shaping policies and consumer preferences to facilitate sustainable development. This concept has become an integral part of global business strategy. However, these trends are not always backed up by an adequate understanding of the complexities of the concept, and their implications for decision-making. It is important to appreciate the economic logic underlying both the necessity and the difficulty of moving to a world that can be sustained over time. The inter-relationship between the activities of human societies and nature lies at the core of sustainable development. Understanding this inter-relationship goes beyond the domain of conventional economics, into more interfaced terrains of ecological economics and environmental science.

CHAPTER 1

The Meaning of Economic Development

Sustainable development is a recent addition to the lexicon of terms used in understanding the problems of economic development and growth. The term has attained the status of a buzzword, with everyone using it, often without a clear understanding of its implications. One hears about sustainable growth, sustainable business, sustainable consumption and production, and of course, sustainable development. There are a number of different views on the matter and the term is fraught with imprecisions, complexities, and ethical ambiguities (Pezzey and Toman 2002). The alternative origins of the meaning of sustainable development come from religious texts; modern scientific knowledge, such as atmospheric physics, environmental science, and evolutionary biology; social sciences, including sociology, economics, anthropology, political science, history and even literature. Philosophers too have contributed to the development of the concept.

However, there is one important aspect of sustainable development that is common to all the different points of view. This common point lies in the need to develop a deeper understanding of the relationship of human beings and their activities with the natural environment over time. This implies that the human–nature relationship is something that transcends geographical, political, or cultural particularities. Nature is also shared by all living beings, including humans. Therefore, any process of change that is sustainable over time has to be necessarily global in character. For instance, if an economically developed country, say Sweden, uses natural resources in a sustainable fashion, it may not be a solution for the whole world (or even Sweden itself) if other nations and other communities do not follow suit.

This book is about the economics of sustainable development. While the focus of the book, therefore, will be on the economic aspects, it will draw from other disciplines from time to time. The study of economics, as a means of understanding the extent of human welfare, has existed for over centuries. The concept of economic development is a relatively newer construct that began to emerge, as the industrial revolution created the possibility of unbridled progress and hitherto unheard of improvements in human wellbeing. These changes began with the transition from feudalism to capitalism in Western Europe. This process of consistent and rapid economic growth became the centerpiece of the study of economic development. Questions around economic growth, such as what were the social and institutional parameters needed to sustain it, what were the critical resources necessary, and the role of new technology comprised the modern study of economic development.

The common persons’ perception of economic development is also strongly rooted in improvements in material living, attained by higher incomes earned. Higher incomes help the person consume more goods and services, as well as save for an uncertain future. Economists and policymakers use this as a guideline to measure economic development of an entire community or nation of people. Though the level of income and the rate of growth of national income continue to remain the two most commonly used metrics of economic development, economists also acknowledge that there is more to development than just overall growth. The importance of other aspects of development, such as having access to opportunities for education, good health services, sufficient resources so as to maintain a reasonable quality of life, all have led to the use of new indices such as the human development index (HDI) to characterize economic development. This perception of continuous economic growth and material improvement in daily living was not always the dominant idea among economists. It is to this discussion that we now turn.

A Brief History of the Discourse of Economic Development

The Classical School

The school of classical economics represented by pioneers in modern economic theory, such as Adam Smith, David Ricardo, Thomas Malthus, and John Stuart Mill, had a more complex view of economic development. To all of them, economic development did lead to the greater production of goods and services, but its success was contingent on a large number of interacting factors. To start with, the emphasis was on the wealth of nations, that is, the stock of productive capital necessary to generate growth in the flow of national income. In order to accumulate such productive capital, there had to be an efficient division of labor and resources so as to maximize productivity, which, in turn, would generate a surplus for investments and accumulation of capital. Specialization was not restricted to the division of labor, but also extended to economies as a whole, as exemplified by the notion of comparative advantage and the benefits of international trade. The entire economy would require the generation of a surplus over and above the consumption requirements of society. This surplus (or profits) was considered the key to new investments and the accumulation of the capital stock. Thus, economic development was viewed as a dynamic process driven by the generation of profits earned by enterprises competing in different markets. These markets would have to be governed by the state in terms of appropriate rules and laws. These economists recognized the importance of social regulation of economic activities. Despite Adam Smith’s name being associated with the benefits of the invisible hand of the markets in the allocation of resources, he also spoke of the need for good governance to ensure the smooth functioning of markets.

The classical economists shared a common concern about the nature of land and agricultural activities in the context of rapid industrialization across the world. They realized that industrial capital in the form of machinery and factories could be built and rebuilt repeatedly (reproduced) with very little requirement of land, unlike in agriculture. There were an increasing number of workers who would be moving from agriculture to industry who needed to be fed from the produce of the agricultural sector, although they contributed nothing to the production of food. Agricultural land was fixed in quantity, and human beings could not accumulate it. When all the available land, including the relatively infertile land, had been used up, agricultural land would pose a limiting constraint on maintaining a rising industrial population. Hence, all of these economists considered land as the constraint that would pull down industrial growth to zero. They all had some vision either of a stationary state, or some periodic crisis, that would correct the imbalance between food supply and demand.

For Smith, the emphasis was to keep international trade going so that the advent of the stationary state in any one economy could be postponed till all available land worldwide had been fully utilized (Smith 1776/1976). Ricardo was of a similar opinion and demonstrated that the return to land (the rent earned by landlords) emerged from its scarcity value in terms of productivity (Ricardo 1966). Once the least productive (marginal) land was utilized, there would be no rent left. In any case, according to Ricardo, the rent earned by landlords would not be used for productive investment because landowners were different from industrial capitalists and were not interested in the accumulation of productive capital. Malthus argued that, instead of a stationary state, there would be periodic imbalances in the availability of food, growing linearly, and its geometrically increasing demand from a growing population in the industrial sector (Malthus 1826). These imbalances would self-correct, but only at a large social cost of famine, pestilence, or war. An alternative conception of the stationary state was provided by John Stuart Mill, who argued that societies would realize the implications of an impending stationary state and might choose to limit material growth and focus on improving the quality of life, which he referred to as culture and social graces (Mill 1909). All these economists shared a common concern about the limits to growth of industry because of the constraint of a fixed quantity of land as a natural resource.

The Optimism of the Industrial Revolution

The rapid expansion of industrialization in Western Europe along with its far-reaching impacts on the economies of Asia, Africa, and the Americas shifted the attention of economists from the study of production and distribution of goods and services within an economy to a deeper understanding of market mechanisms and the determination of prices. By the late 19th century, economists in Europe analyzed economic activities at a point of time without explicitly focusing on its dynamics (Walras 2013/1874; Marshall 1920). They assumed that the total resources of an economy were fixed at a given moment of time. The analytical challenge, then, was to explain how, given these resources, the market mechanism through the signaling role of prices optimally allocated the scarce (fixed) resources among alternative productive uses. Production, in turn, would be determined by the preferences of consumers signaled by their demand. The methodology was one of possessive individualism, where an individual or business firm was endowed with some income or resources to start with. The consumer would translate his or her income into an optimal basket of goods that would maximize his or her satisfaction from consumption. The business firm, on the other hand, would determine the quantity of inputs and their appropriate combination for producing goods and services at least cost. Decisions were taken on the basis of small incremental (marginal) changes on the net benefit for producers and consumers. Hence, it centered on achieving optimal solutions, that is, the best solution available under a given set of economic constraints such as income, resources and prices. This method would obviously focus on attaining local (in a mathematical sense) solutions¹ for the efficient allocation of scarce resources, be it income for the consumer or inputs for the producer. Under perfect conditions of well-functioning markets, this method of decision-making would lead to the full utilization of all available productive resources in the most efficient manner. If prices were completely flexible, any unused resource would lead to a fall in that price, which, in turn, would induce a greater demand for the resource, till the point where the market cleared, that is, the demand for the resource exactly matched its availability. Thus, markets and the price mechanism would play a key role in ensuring that marginal returns were equated to marginal costs in all economic activities. The net outcome was that, all available resources in an economy would be fully and efficiently utilized. The analytical focus shifted from the society and economy changing over time to individual consumers and producers allocating resources at a moment of time.

This approach did not address the question of the size of the total availability of resources and whether it was increasing or shrinking. Nor was any explanation provided as to where the initial endowments of resources came from. Hence, there were no questions either about overall economic growth or the limits to growth. It is interesting to note that the fixity of economy-wide resources did not distinguish about any special feature of land as a natural resource, or the presence of any exhaustible resource such as forests or fossil fuels. All productive inputs were assumed to be substitutable with one another within certain bounds. This shift in the treatment of productive resources was because of the growing importance of industry vis-a-vis agriculture with the former being much more dependent on physical capital (reproducible machinery) than the latter that depended heavily on natural resources. During this time, the possibility of enhancing the productivity of a natural resource such as land was eminently possible with the use of industrially produced inputs like agricultural machinery, fertilizers, and pesticides. Given the way the world was changing, a belief began to emerge that science-based technological improvements could lead to increased productivity of a given resource, without significantly affecting its total availability.

The Great Depression and its Aftermath

By the 1920s, the dominant wisdom in economics was that markets and the price mechanism would always lead to the efficient (best-use) and full employment of all resources. This wisdom received a big jolt with the Great Depression of the 1930s, which led to the large-scale unemployment of labor and capital. It spread throughout the market economies of the world, with the worst impact being experienced in the most industrialized economies. The experience of the Great Depression brought into focus the essential role of the state in managing the economy. John Maynard Keynes influenced a whole generation of economists by pointing out that markets, left to their own devices, could not guarantee the full employment of resources (Keynes 1936). The role of the state would have to go beyond the mere provision of national defense, law and order, and the protection of property rights. Hence, economic policy would be one of active intervention in the economy to ensure the smooth functioning of the market system. This was a significant departure from laissez faire and free markets.

The decade of the 1930s also witnessed two other major changes that influenced mainstream economic thinking to a large extent. Economists like Robinson (1933) and Chamberlin (1933) argued that markets, particularly for manufactured industrial goods, were hardly perfect in terms of the degree of competition and the determination of prices. A new theory of imperfect competition (the study of monopolies, monopolistic competition, and various forms of oligopolies) emerged. Under imperfect conditions of competition, the price mechanism did not lead to the best allocation of resources for society. Producers could have a direct role in price setting, which would normally be higher than the incremental cost in the making of the good. Perfect markets and the best allocation of resources came to be contested in a very fundamental way.

The other influential change that left a long-lasting impact on the economic theory was due to the work of the famous economist Roy Harrod, who no longer accepted the fixity of productive resources in an economy (Harrod 1939). Indeed, he argued that resources could be increased indefinitely through the process of capital accumulation and economic growth. He resurrected the concept of profits being ploughed back to create more capital stock that the classical economists had portrayed, but with a difference. In Harrod’s conception, no resource (land or any other) provided a limiting constraint on the process of accumulation. As long as an economy had a surplus (saving) over current consumption, it could be invested in creating and producing more capital stock, which would enhance the total productive capacity of the economy over time. This could (under certain circumstances) result in an indefinite growth of an economy, described as a steady state. Later, economists like Robert Solow refined the idea of the steady state with population growth and technological progress (Solow 1956). Hence, from the individual concerns for optimal solutions of microeconomics, a new aspect of the economy theory (macroeconomics) looked at the possibility of indefinite compound economic growth. This possibility would be realized through markets, and if necessary, by an astute intervention of the policymakers of the economy.

Economists in the 1940s and 1950s looked not only at the role of government in stabilizing markets through suitable monetary and fiscal policies, but also its role as an agent of industrialization. In the post-world war era of reconstruction, and the emergence of newly independent former colonies, many economists came up with new theories of economic development. Growth of GDP² was disaggregated into sectoral investments and structural change. For instance, Rostow (1960) came up with his well-known stages of economic growth, which described how an economy transformed itself from a low-income-low-saving-low-growth to a high-income-high-investment-high-growth economy. Some of the other theories focused on the sectoral balance in investment and growth (Nurkse 1961, Rosenstien-Rodan 1943), while others like Hirschman (1969) talked about an industrial strategy of promoting a leading sector with maximum linkage effects with the rest of the economy, a process described as unbalanced growth. Around the same time, Arthur Lewis’s famous paper (1954) analyzed how the presence of even a small industrial modern sector could transform a labor-surplus traditional economy into a market-driven one, with high rates of capital accumulation. During this period, economists accepted the private sector, as well as the public sector, or government as distinct sources of productive investment flows. For some economists, the role of the state was quite essential in creating a big push for investments—referred to as the critical minimum effort (Nelson 1956). Hence, by the 1960s and 1970s, both mature market economies and less developed or emerging market economies, influenced by the conventional wisdom of the times, accepted a crucial role for the state in policy intervention for fiscal, monetary, as well as industrialization strategies. However, by the 1970s and 1980s, despite active role of governments in promoting development through industrialization, such as in the newly independent former colonies, poverty, unemployment, and basic material deprivation was rampant and simply refused to go away with macroeconomic growth. Economists drew upon the tradition of welfare economics to look at the process of development beyond industrialization and growth of GDP. Serious questions of how to reduce poverty and address issues related to food security and employment opportunity began to be raised. These questions led to the development of analysis that focused on social outcomes, rather than mere quantitative economic growth.

The Advent of Welfare Economics

The tradition of going beyond the merely quantitative was not entirely new to the field of economics. Many decades ago, philosophers like Bentham (1907) had defined a good social outcome as one where the level of utility (a subjective state of wellbeing) of every individual was the highest. This outcome, in turn, would imply that the sum total of utility (or satisfaction) in society would also be the highest. This idea of utility as a philosophical concept had a great appeal for economists in assessing economic outcomes. Pigou (1964) restricted the concept of utility to pure economic terms, measurable in terms of a monetary yardstick. Hence, economic utility would be determined by the happiness caused by the use of purchased goods and services. Utility could be linked to economic growth in this sense—higher amount of goods and services produced would be able to create a higher level of utility. This concept of utility later became the cornerstone of the notion of economic welfare both at the individual and the social level. Much earlier, Pareto (1971/1906) had propounded a criterion of comparing social outcomes. According to him, the social outcome (say A) is superior to another social outcome (say B), if in A, at least one person was better off than in B and no person was worse off. Each individual state of affairs was now easily measurable by the state of utility. A Pareto superior outcome, therefore, implied that social utility was higher than before. Pigou was aware that, in a market economy, the distribution of income and wealth might become too unequal. In such a situation, if economic welfare was to be measured by utility, then taking one unit of income from the rich with low marginal utility and giving it to a poor person with high marginal utility of income would result in a higher total utility for society.

This idea has been used in many later economic formulations, such as the compensation principle. Economists such as Hicks (1939) and Kaldor (1939) pointed out that many effects of economic policy would obviously have direct beneficiaries, as well as peop...

Table of contents

• Cover
• Half-title Page
• Title Page
• Copyright
• Contents
• Chapter 1 The Meaning of Economic Development
• Chapter 2 Economic Activity and Nature
• Chapter 3 Viewing the Future
• Chapter 4 Inequality and Policy Choices for Sustainable Development
• Chapter 5 Weak versus Strong Sustainability
• Chapter 6 Measures and Indicators of Sustainability
• Chapter 7 Market Failures and Public Policy Interventions
• Chapter 8 Corporate Strategies
• Chapter 9 Climate Change as a Special Problem of Sustainable Development
• Chapter 10 Sustainability and the International Political Economy
• Chapter 11 Ethics and Sustainable Development
• Chapter 12 Toward Sustainable Development: Reform or Radical Change?
• References
• About the Authors
• Index
• Backcover