LECTURE 1

Energy and
Environmental
Economics
Course organisers:
Ruth.dittrich@sruc.ac.uk
Peter.Alexander@sruc.ac.uk
Harry van der Weijde
h.vanderweijde@ed.ac.uk

Part 1: Principles of economics

(Ruth Dittrich)
Lecture

1: Introduction to economics

Definitions and some history of economics

Guest lecture

Lecture

Preferences, budgets and utility maximisation

Lecture

2: Theory of consumer behaviour

3: Foundation of welfare economics

Pareto efficiency, consumer welfare

Lecture

4: Cost-benefit analysis

Foundations of cost-benefit analysis

How to evaluate environmental goods

Part 2: Pollution control

(Peter Alexander)
Lecture

1: Theory of firm behaviour

What

guides firms behaviour and the impact of

market structure?

Lecture

2: Instruments of pollution control

What

is the socially optimal level of pollution and how

might it be achieved?

Lecture
Gain

3: Climate change negotiation exercise

insights into some of the economic and ethical

issues in emissions controls

Part 3: Energy Economics

(Harry van der Weijde)
Lecture

1: Introduction to world energy markets

How

have worldwide oil, gas, coal markets evolved

and how do they currently work?

Lecture

2: Economics of electricity

How

do various electricity markets work and interact

with physical electricity networks/systems?

Lecture

3: Investment and regulation in energy

markets + ethical issues
What

are current issues around investment and

regulation and how do we solve them?
What are important ethical problems?

Formalities

2 hour written exam at the end (100 %)

Revision lecture at the end of term

Office hours: after the lecture in the LT, otherwise

please email me to make an appointment:
ruth.dittrich@sruc.ac.uk

1h

tutorial every second week, Wednesday

mornings

Tutorial structure
Questions

provided ahead of every

tutorial for you to work through on your
own

Questions
Questions

will be concept focused

will be discussed in class in

smaller groups

Reading (for the first part of

the course)

Edwards-Jones, G., Davies, B. and Hussain, S.S. (2000)

Ecological Economics: An Introduction. Oxford: Blackwell
Science.

For consumer theory, any microeconomics text book, for

example:

Pindyck, Robert S. and Rubinfeld, Daniel L. (2005)

Microeconomics. New Jersey: Pearson Education International

For cost-benefit analysis also:

Cost-Benefit Analysis: Concepts and Practice by A. Boardman,

D. Greenberg, A. Vining, D. Weimer

Reading list on LEARN

What is economics?
The

study of how individuals and societies

make decisions about ways to use scarce
resources to fulfil wants and needs.

What does THAT mean?

What are resources?

The

things used to make other goods

Scarcity
Unlimited

wants
and needs but
limited resources

Choices
Because

ALL resources, goods, and services

are limited we must make choices!

Why choices?
We make choices about how spend our
money, time, and energy so we can fulfil
our NEEDS and WANTS.
NEEDS: stuff we must have to survive
generally: food, shelter, clothing
WANTS: stuff we would really like to have
(fancy food, shelter, big screen TVs,
Iphone)

Questions
Society (we must figure out)
WHAT to produce
HOW to produce it
HOW MUCH to produce
FOR WHOM to produce
WHO gets to make these decisions?

Trade-offs
You cant have it all (scarcity) so
you have to choose how to spend
your money, time, and energy.
These decisions involve picking one
thing over all the other possibilities
a TRADE OFF

What could you have done instead

of coming to this lecture?

These are all trade-offs! Thanks for being here!

The value of the Next Best

Choice
Example:

Sleeping is the opportunity cost

of studying for an exam.

Opportunity cost
The

basic relationship between scarcity and

choice: doing one activity means not doing
another activity.
It is the "cost" incurred by not enjoying the benefit
that would be had by taking the second best
choice available
This can be time, energy, or even money.

If you decide not to go to work, the opportunity cost is the

lost wages.
Tony buys a pizza and with that same amount of money
he could have bought a Coke and a hot dog. The
opportunity cost is the Coke and hot dog.

Sunk cost
A

cost that has already been incurred

and cannot be recovered.

The

cost is irrelevant for all decisions about

the future.

Production
How

do we get all the stuff that we have

to decide about?

Production
Production

how much a individual,

business, country, the world makes.

Goods

(tangible products we can buy)

Services

others)

(work that is performed by

Process
Factors

of production (capital, land,

labour)
Producer (company that makes goods/
services)
Households (people who buy goods/
services and work of the producers

The circular flow

Labour

Wages
Households
consumers

Firms
Purchases

Goods/services

Positive and normative statements

POSITIVE
If

the cost of doing a Masters rises in Edinburgh

then less students will embark on the programmes

NORMATIVE
The

fees ought to stay high as Edinburgh University

ought to only attract the rich/elite (!)

Why Economists Disagree

In

some cases, the disagreement may be

positive in nature because
Our knowledge of the economy is imperfect
Certain facts are in dispute

In

most cases, the disagreement is normative

in nature because

While the facts may not be in dispute

Differing

values of economists lead them to

dissimilar conclusions about what should be
done

Positive And normative

statements

University education should be free!

If the government raises the tax on beer, this will lead to a

fall in profits of the brewers.

The retirement age should be raised to 70 to combat the

effects of our ageing population.

Pollution is the most serious economic problem

A fall in incomes will lead to a rise in demand for ownlabel supermarket foods

A glimpse into economic

thought

Classical Political Economy

(18th to 19th century)
Still influential on current thinking in economics
Adam Smith, Thomas Malthus, David Ricardo,
John Stuart Mill
Role of the market mechanism

Efficient resource allocation mechanism

Stimulus to growth in consumption

Limited capacity to the market to continue

growing

Stationary state
Land, and natural resources in general, were
seen to be vital determinants of the wealth and
growth of nations

Adam smith (1723 90):

The invisible hand

Smith and the free market

Self-interested

behaviour by an individual
serves to satisfy that individuals want AND
coincides with the interests of society at
large.
Thereby an invisible hand coordinates the
operation of a market economy to maximise
its output.
But its an accidental property of freely
functioning markets.

Smith: The role of the state

State

should not act as a burden on

individuals
Provision and operation of the judicial
system, national defence, provision of
infrastructure and other public goods
A nightwatchman state
Issues:
Ownership
Market

power
Natural resources

Karl Marx (1818-1883)

Profound

impact on politics
Industrial Revolution: capitalist classes
exploited the working class to achieve
high level of consumption and political
power
Capitalism as a modern form of
feudalism that will eventually lead to
revolution.

Marx communist vision

Class

free society
Abundant resources distributed
according to citizens need.
Labour factor input is the only source of
net income in the economy
Neo-Marxist theory: environmental
impact as another form of social
suppression of the labouring class under
capitalism
footloose

capital

Neoclassical economics
Mainstream

economic thought (mid 19th

century and after).
Economy works best without state
intervention with the individuals making
rational decisions.
Value of a commodity also stems from the
utility it yields to the consumer and not only
from the labour input needed to produce it.
Brings supply (value of labour theory) and
demand (utility based) together with price
being determined by both.
The price mechanism yields incentives for
innovation to generate substitutes for scarce
commodities.

The allocative system

price

gives signals
demand and supply interactions
determine price

demand
supply

quantity

Neoclassics and welfare

economics
Its

about the well-being of society: does the

economy raise welfare?
Pareto-efficiency: a situation in which given the
initial distribution of resources no person could
be made better off without making at least one
other person worse off.
This doesnt necessarily imply an equal
distribution.
Redistribution is a normative political/ethical
question for neoclassical economists.

Institutional economics
Origins in early 20th century
Focuses on relationship between institutions and human
behaviour
Institutions are organisational systems for behaviour
Formal systems such as the legal constitution and
regulations
Informal institutions like tradition, habits, moral norms
and social codes.
Interested in how institutions have developed and
influence the market instead of a framework for a
functioning market.
Unable to match the rigour and predictive power of
neoclassical economics.

Emergence of an
ecological conscience
1960s/1970s:

entire economic system is itself

embedded within the wider environmental
system.
Club of Rome (1968, 1972): The limits of
growth
Kenneth Boulding: The space ship
economy (1966)
Herman Daly (1973): Toward a Steady State
Economy

Kenneth Boulding and Space

ship earth
Kenneth

Boulding
Traditional analysis:
Cowboy economy

Raw
Materials

Economy

Waste

The spaceman economy

corrected circular flow: the

Spaceman economy
Recycling

Implications of the spaceman

economy
Earth

is a closed system with limited

opportunities for exchanging materials and
energy with areas outside the system.
Environmental impacts of economic activity
must be kept within some limits.
What are those limits?
(1) If we are unsure about total stock/recycling
capacity of the earth, minimise the throughput
of material and use it as efficiently as possible.
(2) The higher the total capital stock on board,
the better.

So whats ecological economics?

There are no passengers on spaceship Earth. We are
all crew. (Marshall McLuhan).
A

transdisciplinary field of study which examines

the interactions between economic and
ecological (and liked to this the social) systems
from a number of related viewpoints.
Central

problems of unsustainable human

impact on the natural environment
No supremacy of any discipline but assumption
that they are mutually supportive.

And Environmental
Economics?
Sub-discipline

of (neo-classical) economics.
Efficient allocation of natural resources, e.g.
forest and fisheries management in a supply and
demand framework.
Theoretical and empirical studies on the
economic effects of environmental policies
around the world.
Understanding the causes of, and designing
policy solutions to, contemporary environmental
problems.