Institutional Economics vs Ecological Economics - Example

Institutional Economics vs Ecological Economics Introduction Institutional economics is defined as a school of economic thought which emphasizes the significance of non-market factors such as social institutions, their habits, rules or regulations and their evolution in explaining economic behaviour (Samuels 1984). Institutional economics is concerned with institutional arrangements which are considered as endogenous factors in determining economic behaviour and analysing economic problems. Institutions are rules, regulations, laws and contracts that govern market development and interactions, guiding individual actions and providing a framework for human interaction in the political, social, environmental or even the economic (Hodgson 2008). Institutional economics can also be considered as a school of economic thought which focuses on the interrelations or interactions between legal and economic processes. As shown by Hodgson (2000), institutionalism requires an analysis of the key institutional situations acting upon individuals and how the same affects their economic behaviour. On the other hand, ecological economics is a term first used by Robert Costanza (1989). EE, as ecological economics would come to be referred to, addresses the relationship between ecosystems and economic systems in the broadest sense. These interrelationships are the source of most of the world’s current problems such as unemployment, global warming, species extinction and acid rain As Van den Bergh (2001) would point out, EE integrates various elements of ecology, economics, energy, thermodynamics and other sciences to contribute towards the development of structural solutions to environmental problems. Environmental economists view the economy as part of a larger local and global ecosystem which sets limits to the physical growth of the economy. This essay will debate the superiority of institutional economics over ecological economics. The essay will highlight some of the strengths of institutional economics and the weaknesses of ecological economics. The essay will demonstrate the superiority of institutional economics in addressing an environmental problem- global warming- and discuss how institutional economics can be modified to adapt to the views of ecological economics. Strength of institutional economics One of the key strengths of institutional economics is that it makes the development of economic environment orderly. Institutional economics takes in account the influence of institutions on economic interactions by acknowledging that significance of social, political, legal and political institutions in the performance of the economy (Coase 2000). This approach accentuates on policy goals, beliefs, learning and understanding in human behaviour and economic change (Hodgson 2000). Furthermore institutional economics provides evidence –based premises revolving around law, morality and experiences in economics thus promoting the development of economic environment in an orderly manner. Miller (2003) observes that the strength of institutional economics is mainly based on the power of its ideas and principles. For instance, institutional economics provides invaluable insights on the influence of economic, social and political institutions on economic performance. Moreover, institutional economics employs disciplines such as law, history, anthropology, political science, sociology and other related fields to advance understanding on the impacts of economic policies and the influence of institutions on the economy. This in turn makes the subject to be more applicable when it comes to assessing criteria that are essential in the making of public policy. Over the years, institutional economics has made substantial progress as it accentuates on institutions as avenues of economic performance. This notion has been increasingly accepted in mainstream research studies (Joskow 2008).Institutional economics enables the analysis of economic relationships in various social settings since it focuses the fundamental premises required for exchange (Brousseau & Glachant 2008). It widens the spectrum of economics thus enabling economists to pay attention to their environment, non- market institutions and other means of coordinating economic activities. Theories on institutional economics also incorporate values, norms, factors of human behaviour, rule and policies in economic thus promoting fairness in the economy environment (Eggertsson 1990). Furthermore, institutional economics expands the static traditional economic theory into a more dynamic one by incorporating dimensions of time and developing modest hypothesis of economic changes so as to address human challenges and problems(North 2005). In addition to this institutional economic provides solid and evidence based theories and principles revolving around human incentives, learning, perceptions, beliefs and perceptions. These premises provide profound lessons on how to improve economic performance and welfare (North 2004). Unlike ecological economics which does not incorporate premises that provide explanations on economic changes, institutional economics accentuates on process and interactions that aid in illuminating changes in the economy and sustaining a market economy (Joskow 2008 ; North 2005b). Weakness of Ecological Economics There are several weaknesses of ecological economics as a school of economic thought. Ecological economics appears preoccupied with prioritising environmental protection over economic development (Daly and Farley 2010). This is seen in the disproportionate spending of some developed countries on environmental protection and sustainability measures at the expense of provision of humanitarian aid and support for developing countries. For instance, Germany has spent up to $ 10 billion since 2004 on ecological economics. On the other hand, the number and proportion of the world’s population living under the absolute or extreme poverty line has increased with up to 2.4 billion people lacking basic access to food and clothing (Daly and Farley 2010). Critics of ecological economics have argued that ecological economics does not consider people’s well being as the ultimate end or aim. For instance, ecological economics does not fully consider a solution to unemployment when natural capital is exhausted as they lobby for sustainable development (Soderbaum 1998). Therefore, economic development must prioritise the provision people’s basic needs first as opposed to environmental protection at the cost of people’s welfare. A purely environmental focus by developed countries does not guarantee increased standards of living (Spangenberg 2004). Another major limitation of ecological economics can be seen in its general theory. The general theory of ecological economics focuses on sustainable economic development for ecosystems and societies. Through advocating for sustainable development, however, ecological economics also places constraints on the economic growth rates of societies ((Spangenberg 2004)). Its various analyses, such as cost-benefit analysis, frequently conclude with disapproval for economic processes which are actually economically efficient. Ecological economics also tends to rely on outdated and historical data. The basis for the general theory of ecological economy is often based on outdated information. In the absence of new and significant research to provide evidence, the recommendations made by ecological economists are often based on incomplete knowledge (Daly and Farley 2010). The specific ideas generated by ecological economics for sustainable development are also extremely complex with too many interconnections. For instance, the Environmental Impact Equation which measures the impact on the environment due to population, affluence and technology is often far-reaching and at times far-fetched (Lintott 1998). For instance, the Environmental Impact Assessment of a new factory may include far reaching impacts going beyond the effects of its operations to those of its suppliers of raw materials and other numerous forward and backward linkages. Therefore, it may not be practical to resolve such issues due to the extremely complex nature and maze of interconnections. The goal of pure sustainability, which is the end point for ecological economics, also appears to be unsustainable (Spangenberg 2004). Another weakness or limitation of ecological economics is that the policy recommendations or the prescribed solutions may be unpopular hence politically challenging to implement, difficult, and costly ultimately making them impractical (Soderbaum 1998). For instance, the proposed carbon dioxide tax as a disincentive to discourage emissions is largely unpopular and may be difficult to implement. In addition, ecological economics proposes shifting some of the costs of environmental protection or sustainable development to non economic goods which are subjective. There are also the high overhead costs associated with the transition from one environmental system to another such as installing and maintaining recycling plants to comply with emission standards (Soderbaum 1998). Superiority of Institutional Economics in Analysis of Global Warming A good demonstration of the superiority of institutional economics in the analysis of a modern economic problem is the carbon credit trading market established as part of the 1997 Kyoto Protocol. The carbon credit trading market is one of the market mechanisms developed as part of the Kyoto Protocol to address the problem of global warming. The carbon credit trading market is an example of an economic tool under an environmental agreement to resolve the problem of global warming by reducing greenhouse gas emissions within an institutional economics framework (Woerdman 2004). As earlier indicated, institutional economics is concerned with institutional arrangements which are considered as endogenous factors in determining economic behaviour and analysing economic problems. Institutions are rules, regulations, laws and contracts that govern market development and interactions, guiding individual actions and providing a framework for human interaction in the political, social, environmental or even the economic (Woerdman 2004). Climate change, more so global warming, had become an environmental problem that attracted increasing international concern in the late 1980s and early 1990s. Reports by the Intergovernmental Panel on Climate Change (IPCC) established by the United Nations Environmental Program (UNEP) in 1988 had published scientific evidence which demonstrated that rising global temperatures due to anthropogenic greenhouse gas emissions would lead to serious climate change (IPCC 1995). It was predicted that unless greenhouse gas emissions were stalled, global temperatures would the mean global temperature would rise by 1.8 to 4 C by the year 2100. They had also predicted serious adverse consequences such as loss of biodiversity, melting of plar ice caps, rise in sea levels leading to mass human mgrations, food shortages, water contamination among a host of other negative side effects such as outbreak of diseases (IPCC 1995). In 1997, signatories to the the United Nations Framework Convention on Climate Change (UNFCCC), a climate change treaty, signed the Kyoto Protocol. The Protocol was a legallly binding commitment by member countries to take active steps in reducing anthropogenic greenhouse gas emissions. Among the flexible mechanisms established by the Kyoto Protocol to enable countries meet their reduction targets was the carbon credit trading system. The carbon trading system includes Joint Implementation (JI), Emissions Trading (ET) and the Clean Development Mechanism (CDM) (Woerdman 2004). Uner these mechanisms, developed countries could offset their excess carbon emissions by either participating in projects in other industrialized and developing countries through JI and CDM or agree to buy emissions quotas from countries which have lower emissions. Certain organizations such as the World Bank and Mercantile and Futures Exchange Bovespa (Brazil) act as carbon markets (Woerdman 2004). The Kyoto Protocol and the carbon trading system are an example of an institutional apparatus with rules, norms, regulations and contracts which has been used to determine economic behaviour of states in approaching the problem of global warming. They exemplify how institutional economics incorporates an understanding of the importance of institutions and offer useful explanations, important and essential thoughts for development and consolidation of a global emissions reduction agreement as carbon credit trade (Woerdman 2004). Conclusion Ways to adapt institutional economics to make it more compatible with ecological economics There are several ways to adapt the institutional school of economic thought to make it more compatible with ecological economics. The key to adapting institutional economics to make it more compatible with ecological economics essentially involves reconciling the objectives of environmental sustainability and institutional stability with economic growth and development. This can be achieved by changing some institutional rules to make them more favourable from an ecological economic perspective. One of the mechanisms which can be employed to make institutional rules more ecologically compliant is the taxation system. For instance, the government can establish a tax regime which provides incentives for companies with ecologically or environmentally sustainable production processes and systems. This can be achieved through tax rebates for companies which achieve a certain level of greenhouse gas emissions, generate their own power or set up recycling plants. This kind of policy may lead to a convergence between institutional and ecological economics. The government can use the institutional framework to make rules that establish penalties for companies that do not meet environmental standards or polluters and award subsidies or sales tax reductions to companies which consistently uphold best-practice in environmental management meet sustainability standards. By adapting institutional rules to become more ecologically compliant, the government can balance between growth and sustainability and reconcile environmental benefits for society with corporate growth. Environmental benefit is realised through the ecological standards and in turn, the government “compensates” the company by offering them subsidies or reducing taxes on their products. This helps ameliorate the problems associated with high costs of compliance to environmental standards. Bibliography Brousseau, E. & Glachant, J., 2008, New Institutional Economics: A Guidebook. Cambridge University Press, Cambridge. Costanza, R. 1989, “What is Ecological Economics?” Ecological Economics vol.1, no.1, pp 1-7. Coase, H., 2000, The New Institutional Economics, Edward Elgar Publishing, Cheltenham. Daly, H. & Farley, J. 2010, Ecological Economics: Principles and Applications, Island Press, Washington. Eggertsson, T., 1990, “The Role of Transaction Costs and Property Rights in Economic Analysis," European Economic Review vol. 34, pp 450-457. Hodgson, G., 2000, What is the Essence of Institutional Economics?" Journal of Economic Issues vol. 34, no. 2, pp 317-329. Intergovernmental Panel on Climate Change (IPCC), 1995, IPCC Second Assessment, Climate Change 1995: A report of the Intergovernmental Panel on Climate Change, Retrieved on October 23, 2011 from Joskow, L. 2008, Introduction to New Institutional Economics: A Report Card. Cambridge University Press, Cambridge. Lintott, J. 1998, “Beyond the economics of more: the place of consumption in Ecological Economics”, Ecological Economics, vol. 25, no. 2, pp 239-248. Miller, E., 2003, “A Symposium on David Hamilton's "Evolutionary Economics: A Study of Change in Economic Thought,” Journal of Economic Issues, vol. 37, no. 1, pp. 51-63. North, C. 2004, Understanding the Process of Economic Change, Princeton University Press, Princeton. North, C. 2005b, Understanding the Process of Economic Change, Princeton University Press, Princeton. Samuels, W. 1984, “Institutional Economics,” The Journal of Economic Education, vol. 15, no. 3, pp 211-216. Soderbaum, P. 1998, “Values, ideology and politics in ecological economics”, Ecological Economics, vol. 28, no. 2, pp 161-170. Spangenberg, J. 2004, “Reconciling sustainability and growth: criteria, indicators, policies,” Sustainable Development, vol 12, no. 2, pp 74–86. Van den Bergh, J. 2001, “Ecological Economics: themes, approaches and differences with Environmental Economics”, Regional Environmental Change, vol. 2 no. 1, pp 13-23. Woerdman, E. 2004, The institutional economics of market-based climate policy, Elsevier, New York. Read More