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Economists versus engineers: Two approaches to environmental problems

Abstract

There are two distinct and partly irreconcilable approaches to analyzing environmental problems. The first, we call the engineering approach and the other the economic approach. The engineering view brings focus to the technical limitations we face in given production processes operating under given parameters. The economic approach brings attention on the crucial role of economic –and not simply technical– substitution and to the conditions under which humans successfully coordinate their plans. Environmentalists generally give weight to the engineering approach according to which substitution is too limited to enable durable economic growth. This hypothesis has empirical content. The available empirical evidence, however, vindicates the economic approach. At least in the case of raw materials, the expenditure shares used to pay for them have steadily declined since at least a century, suggesting that substitution is a powerful force and that their declining physical stock are getting less, not more, important for long run economic growth. Finally, we explain how the economic approach is unique in its emphasis on adaptation and the institutions under which adaptation is facilitated.

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Notes

  1. This is not to say that assuming given utility and production functions may not be useful to explain human behavior. It is indeed necessary to do so to come up with predictions about changes in human behavior and coordination. Yet the usefulness of such assumptions does not rely on whether entrepreneurs in the economy know their production or utility function, but whether their implications are confirmed by evidence which in turns depends on the conditions under which entrepreneurs make enough money to survive (Alchian 1950). It does not follow from making those assumptions that economists have the necessary knowledge to derive the optimal allocation of resources independently from the actual process within which the allocation of resources takes place (Cheung 1978).

  2. Even this, however, is misleading. Humans can subjectively “know” a causal connection which is objectively wrong without making acting on that objectively false knowledge irrational. In fact, in many cases, objectively false believes are welfare improving (Leeson 2012).

  3. For instance, Desmet et al. (2018) estimate that “When ignoring the dynamic response of investment and migration [to flooding due to rising sea levels], the loss in real GDP in 2200 increases from 0.11 percent to 4.5 percent.” Kahn and Zhao (2018) argue that climate skeptic may in fact slow down adaptation and therefore increase the cost of climate change. On the crucial role of economic adaptation for responding to climate change, see: Auffhammer and Kahn (2018). S. E. Anderson et al. (2019) and Kahn (2015).

  4. As Hayek (1944, 37) puts it, “The knowledge of when a particular material or machine can be most effectively used or where they can be most quickly or cheaply obtained is quite as important for the solution of a particular task as the knowledge of what is the best material or machine for the purpose. The former kind of knowledge has little to do with the permanent properties of classes of things which the engineer studies, but is knowledge of -a particular human situation.”.

  5. Not all environmentalists reject the Simonian or economic approach. See for instance T. L. Anderson and Leal (2001).

  6. The proof is communicable upon request.

  7. “Ecologists express concerns that natural resources have only a limited set of substitutes. They fear that to the extent that economists are overly optimistic about opportunities to substitute other capital assets for certain natural resources, reductions in their stocks would then receive too little weight.” (Arrow et al., 2004).

  8. Showing this is straightforward. With two factors, labor \(L\) and raw materials \(R\), the relative share of the two factors is equal to \(S=\frac{{P}_{R}R}{{P}_{L}L}\) where \({P}_{L}\) is the price of labor and \({P}_{R}\) the price of raw materials. Differentiating the relative share of raw materials with respect to the relative supply of raw materials \(R/L\), we get: \(\frac{\partial S}{\partial \left(R/L\right)}=\frac{{P}_{R}}{{P}_{L}}\left(1-\frac{1}{\sigma }\right)\), where the elasticity of substitution is \(\sigma =\frac{\partial \left(R/L\right)}{\partial {P}_{L}/{P}_{R}}\frac{{P}_{L}/{P}_{R}}{R/L}\). If \(\sigma >1\), a decrease in the relative supply of raw materials leads to a decrease its relative income share \(\frac{{P}_{R}R}{{P}_{L}L}\).

  9. The data on prices and quantities of energy materials are given by Spencer (1980). The data on US GDP used is from Johnston and Williamson (2008).

  10. The data used for Fig. 3 comes from Spencer (1980) (census) and the Energy Information Administration as well as from Johnston and Williamson (2008).

  11. Ehrlich and Stephen Schneider later offered a counter-bet which Simon refused, though Desrochers, Geloso, and Szurmak (2021a, 2021b) argue that even the outcomes of this bet would vindicate Simon.

  12. Tol (2009), in his survey on the economic damage of climate change distinguishes between two estimation approaches –both of which fail to account for the role of dynamic adaptation. The first, the statistical approach “is based on direct estimates of the welfare impacts, using observed variations (across space within a single country) in prices and expenditures to discern the effect of climate. [It] assumes that the observed variation of economic activity with climate over space holds over time as well; and uses climate models to estimate the future effect of climate change.” [emphasis added].

    The second, the enumerative approach, “estimates of the “physical effects” of climate change are obtained one by one from natural science papers […]. The physical impacts must then each be given a price and added up. For agricultural products, an example of a traded good or service, agronomy papers are used to predict the effect of climate on crop yield, and then market prices or economic models are used to value the change in output.” As Tol (2009) recognizes, “the enumerative approach also has […] concerns about extrapolation: economic values estimated for other issues are applied to climate change concerns; values estimated for a limited number of locations are extrapolated to the world; and values estimated for the recent past are extrapolated to the remote future.”.

  13. For instance, Deschênes and Greenstone (2007). On the role of adaptation to climate change in the agricultural sector, see: Auffhammer and Kahn (2018).

  14. Acemoglu (2002) develops a model of directed technological change in which innovations are physical complements to any one factor of production –i.e. they increase the physical productivity of one factor. Innovations, in his framework, are substitutes to a productive factor only if they augment another productive factor which is also a substitute to that first one. It does not allow for the creation of completely new factors which do not directly change the physical productivity of existing factors of production, but which nonetheless serve as substitutes to some of them. Using the broader distinction between innovative substitutes and innovative complements, on the other hand, allows to analyze the development of those kinds of innovations.

  15. Popp (2002) finds that the short and long run elasticities of energy patents with respect to energy prices are 0.125 and 0.625 respectively.

  16. Worries about running out of fossil fuel and pessimism about pollution related to fossil fuel are not fully consistent. If fossil fuel is a non-reproducible resource whose stock is rapidly declining, one should be optimistic that pollution related to the exploitation of fossil fuel will also rapidly decline.

  17. Inversely, Habakukk (1962) argues that labor scarcity during the nineteenth century “gave the American entrepreneur with a given capital a greater inducement that his British counterpart to replace labour by machines.”.

  18. The data can be found at: U.S. Energy information administration, Table 3.7c Petroleum Consumption: Transportation and Electric Power Sectors and Table 9.4 Retail motor gasoline and on-highway diesel fuel prices (Accessed on 3/1/2021). Data on real GDP and the GDP deflator (to calculate real gasoline prices) are from the BEA.

  19. As Newell, Prest, and Sexton (2021) put it with respect to climate change, “[T]he econometric approach confronts two challenges in estimating aggregate economic impacts of climate change. First, identification of climate effects from weather variation requires strong assumptions about dynamic processes like adaptation and the persistence of idiosyncratic temperature responses amid secular climate change […]. Second, theory does not prescribe specific, estimable, structural relationships between climate and economic outcomes.” [Emphasis added].

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Acknowledgments

Louis Rouanet (the economist) wishes to thank Arnaud Rouanet (the engineer) whose conversations with him convinced the former of the insurmountable differences between the economic and engineering approaches when used to analyze environmental issues. We also wish to thank Cedar, Emile, Wren and Julien as well as our respective wives Hayley and Mary for their infallible support. The authors gratefully acknowledge the financial support of the Mercatus Center and the Institute for Humane Studies.

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Correspondence to Peter Jacobsen.

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Jacobsen, P., Rouanet, L. Economists versus engineers: Two approaches to environmental problems. Rev Austrian Econ 35, 359–381 (2022). https://doi.org/10.1007/s11138-022-00580-1

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Keywords

  • Environment
  • Human Progress
  • Adaptation
  • Julian Simon

JEL Classification

  • N50
  • O13
  • O44
  • B53