Economics of HumanEnvironment Interactions, Lecture 3

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The political economy of environmental
regulationContent from Hackett 2001, Hackett
2006, and Keohane et al. 1998
Sept. 10, 2008
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What is the New Political Economy?

• Rational choice models which develop linkages
  between
• Institutional structures of the political process
• Preferences and influence of decision makers
• Preferences and influence of those affected by
  regulations
• Political economy models are expressed in terms
  of both supply and demand and game-theoretic
  frameworks

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Why develop political economy models?

• Understand government failure--when policy
  makers fail to implement economically mandated
  policies
• Explain and predict particular policy outcomes
• Understand what factors may influence adoption or
  rejection of particular policies
• Develop legislative and regulatory proposals that
  are politically as well as economically feasible

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Positive Political Economy (Hackett)

• Investigates how observed policy outcomes can be
  explained by political institutions, policymaker
  preferences, and the relative power of interest
  groups.
• Policy outcomes will often be quite different
  than what a benign social planner would choose.

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Example of Positive Political Economy

• Investigate the role of campaign contributions in
  explaining post-election voting.

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Normative political economy (Hackett)

• Identifies good policy outcomes (consistent
  with a particular value system) and investigates
  how, given the existing political constraints,
  these good policy outcomes can be realized.
• Focus on optimal governance and regulatory
  structures

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Example of Normative Political Economy

• Lumber companies (or labor unions if you prefer)
  form a political action committee, construct a
  set of desired policy outcomes, and contribute to
  those candidates most likely to support the
  desired policy outcomes.

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Early work The Public Choice school

• Assumes that policy makers are motivated by
  incentives such as ideology, wealth, reelection,
  and power, rather than only the well-being of
  their constituents
• From this framework, develops a model of the
  supply of legislation and/or administrative rules
• For example, Kalt Zupan (1984) explain voting
  behavior in terms of both ideology and the need
  to gain support of voters to remain in office.

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Early work the Capture Theory of Regulation

• Develops one model of demand for regulatory
  policy
• Based on the work of Stigler and Pelzman
• An individual firm may bear high costs of
  regulation, while an individual member of the
  public may bear low costs
• Cost of organizing firms is low due to low
  numbers
• Individual firms or industries may therefore
  capture the regulatory process

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What makes for an effective interest group?
(Stigler and Petlzman)

• The amount that each individual has at stake.
  Having more at stake means the individual will
  invest more money and effort.
• The size of the group. Smaller groups are easier
  to organize and can more quickly come to
  agreement than large groups.

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Support for this theory

• Revolving door deal employment of former
  legislators by regulated firms
• Analysis of political contributions LA Times
  report found the most heavily regulated firms
  tended to be largest political contributors

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Putting the pieces together Keohane et al.

• Regulators (legislators or administrators)
  participate in production of legislation (supply)
• Interest groups (firms, consumers,
  environmentalists) demand regulation
• Level of regulation is determined through
  intersection of supply and demand
• A purely competitive market is assumed

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Keohane Fig. 1
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The demand side

• Legislation is a public good therefore, group
  WTP is expressed as the vertical sum of
  individual members marginal benefit from
  regulation
• Public good nature of regulation also implies
  incentive for free-riding therefore, demand
  curve represents the upper limit of support
• Organization into interest groups can overcome
  some free-ridership issues
• Political support may be expressed in terms of
  financial contributions, endorsements, votes, and
  volunteer effort

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Examples of interest groups

• Trade asc. Organize to reduce costs, gain
  subsidies and barriers to entry, constrain
  substitutes, and create an environment conducive
  to collusion
• Environmental groups lobby to preserve or restore
  environment and natural resources
• Consumer groups seek lower product prices and
  product quality assurance
• Workers seek more jobs, higher pay, trade
  restrictions, and better working conditions

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The supply side

• Legislators supply function depends on three
  components
• Opportunity cost of effort of support (depends on
  payoffs to alternative legislation) (increasing
  marginal cost)
• Psychological cost of support (depends on
  ideology may be positive) (constant marginal
  cost)
• Cost of lost (or gained) votes from electoral
  constituents (constant marginal cost)

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Keohane et al., figure 4
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Keohane, Figure 5
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Political equilibrium
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Equilibria, cont.

• Figure assumes aggregated demand and supply among
  interest groups and legislators
• In certain cases (Figure 7), the shape of supply
  and demand curves imply no legislation will be
  provided.
• In other cases legislation will be provided
  without lobbying
• The institutional structure of legislation may
  determine the ultimate outcome

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What might shift equilibrium? (Hackett)

• Addition of an interest group could shift the
  demand curve upwards, resulting in higher
  political currency and effective support
• An increase in electoral constituent support for
  regulation would shift the supply for legislation
  upwards, also resulting in a higher level of
  political currency and effective support
• Other examples?

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Demand-side explanations for preference for CC
regulations

• Firms oppose instruments that shift costs to
  industry (ex pollution taxes)
• Some regulations can create barriers to entry,
  reduce production, and increase profits (ex
  environmental standards)
• Individual firms may support regulations that
  increase their costs, if the costs of other firms
  are increased more

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Demand-side explanations for preference for CC
regulations, cont.

• Environmental groups preference may be affected
  by donor contributions
• Most env. Groups are hostile towards market-based
  instruments, as they are seen as providing
  license to pollute.
• Market-based programs may be harder to change
  than CC programs
• Taxes are even harder to change
• Market-based instruments can create regional
  hotspots of pollution

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Demand-side explanations for preference for CC
regulations, more

• Labor may oppose tradable permits because they
  often lead to closure of less efficient firms
• While consumer would theoretically favor
  market-based approaches, since they lead to lower
  product costs, consumers have not been strong on
  environmental regulation

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Supply-side explanations for preferences for CC
regulations

• Legislators and staff may have a better
  understanding of, and therefore favor, CC
  policies
• Support for market-based vs. CC may depend on
  ideological bent--more vs. less government
  intervention
• Costs are more visible for market-based
  approaches and may therefore lead to less
  electoral constituent support
• Legislators may engage in symbolic support
  strict standards can be combined with less-public
  exemptions
• CC approaches involve less uncertainty for
  risk-averse policy makers
• CC approaches offer more control for congress
  with respect to implementation

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Applications Downing (Hackett)

• 3 actors polluter, those bearing pollution, and
  regulator
• Regulators seeks jointly to maximize their power
  and protect the environment
• Model finds a relationship between lobbying by
  firms and type of regulations (fees vs.
  technology standards, for example)

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Applications Milliman and Price Hackett

• Studies firms incentives for RD and patenting
  new technologies
• Argue that successful innovators may push for
  higher levels of regulation that put them at a
  competitive advantage over other firms

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Applications Maxwell, Lyon, and Hackett

• Firms may self-regulate in order to placate
  interest groups and stave off more stringent
  regulations
• Argued that provision of TRI data made
  environment organization easier data provision
  therefore induced voluntary abatement by firms
• Data are consistent with the predictions of their
  model emissions have fallen with TRI info

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Political Economy of the Montreal Protocol
(Hackett)

• The Montreal Protocol is an international treaty
  that limits the use of halocarbons that harm the
  stratospheric ozone layer.

In studying the political economy of the Montreal
Protocol and the role of DuPont and the British
chemical firm ICI, Oye and Maxwell developed the
concept of Olsonian and Stiglerian political
circumstances.
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Political Economy of the Montreal Protocol
(Hackett)

• In Olsonian political circumstances (named after
  Mancur Olson), the benefits of environmental
  regulation are more diffuse, spread thinly across
  many entities, while regulatory costs are more
  concentrated, weighing heavily on a few entities.

In Olsonian situations the many who receive
relatively small benefits from regulation have
little incentive to invest in policy influence
activities, and face high organizational and
coordination costs because of their large numbers.
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Political Economy of the Montreal Protocol
(Hackett)

• Thus in Olsonian situations it is more difficult
  to get stable systems of regulation, meaning that
  regulatory controls for protecting the
  environment, for example, are relatively likely
  to be overturned due to the lobbying efforts of
  the few who bear the costs.

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Political Economy of the Montreal Protocol
(Hackett)

• In Stiglerian political circumstances (named
  after George Stigler), the benefits of
  environmental regulation are more concentrated,
  heavily benefiting a few entities, while
  regulatory costs are more diffuse, weighing
  lightly on many entities.

In Stiglerian situations the few who receive
relatively large benefits from regulation have a
strong incentive to invest in policy influence
activities, and face low organizational and
coordination costs because of their small numbers.
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Political Economy of the Montreal Protocol
(Hackett)

• Thus in Stiglerian situations it is relatively
  easier to get stable systems of regulation,
  meaning that regulatory controls for protecting
  the environment, for example, are relatively
  likely to be created and maintained due to the
  lobbying efforts of the few who receive the
  benefits.

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Political Economy of the Montreal Protocol
(Hackett)

• Oye and Maxwell argue that the Montreal Protocol,
  which outlawed CFC production by the year 2000,
  gave a particularly strong advantage to firms
  like Du Pont that came up with CFC alternatives
  over their rivals that did not. In particular,
  Oye and Maxwell state that

Du Pont and Imperial Chemical Industries, Ltd.
(ICI) experience with restrictions on CFCs
represents a classic Stiglerian illustration of
producers benefiting from regulations mandating
product substitution (pp. 19394).
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Social Choice Theory

• Social choice theory is a part of political
  theory concerned with collective decision-making,
  such as through voting in a democratic system of
  self-governance.

The seminal work in this field is by Nobel prize
winning economist Kenneth Arrow in his 1951 book
Social Choice and Individual Values (NY John
Wiley)
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Social Choice Theory

• One of the most prominent advancements in social
  choice theory is the Median Voter Theorem (aka
  median voter model).

Consider an election with the following
characteristics
Political candidates can (at least to some
degree) commit to a political position in the
minds of the voters
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Median Voter Theorem More Assumptions

• Voters have single-peaked preferences, or policy
  bliss points, and can be described by a
  distribution function arraying them in a simple
  two dimensional policy space (e.g., left vs.
  right). If there is an odd number of voters, the
  median voter lies in the middle of the
  distribution.

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Median Voter Theorem More Assumptions

• There are two candidates seeking election to a
  single member district (e.g., US House of
  Representatives districts, CA State Senate or
  Assembly districts).
• The voting rule is that only one candidate can
  win (winner-takes-all) based on a plurality
  rule (candidate with the most votes wins).

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Median Voter Theorem

• Under these conditions, the plurality winner (or
  for that matter a simple majority winner) will
  position herself to advocate for the bliss point
  of the median voter.

In other words, under these conditions the
candidates have a dominant strategy of advocating
a centerist platform consistent with winning the
median voter, as well as all the voters on either
one side OR the other of the median.
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Median Voter Theorem
If parties A and B want to capture the median
voter, they should move towards the center. The
red and blue areas represent the voters that A
and B expect they have already captured.
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Median Voter Theorem

• Most elections in the U.S. feature single member
  district (winner-takes-all) plurality (or simple
  majority) voting rules SMDP voting.

If the election can be described as a location
game in which the two politicians first commit
to a location in policy space, and then voters
vote for the candidate closest to their bliss
point, then the Nash equilibrium (and dominant
strategy equilibrium) is for both politicians to
commit to a location proximate to the median
voter.
42
Application of Social Choice Theory to
Self-Governance of Local CPRs

• Hackett studied voting rules in CPR systems in
  which the appropriators are heterogeneous (e.g.,
  fishermen wth large vs. small vessels). Suppose
  that the CPR system has been abused from overuse,
  and the appropriators have organized to reduce
  overall appropriation levels in order to manage
  the CPR more sustainably. The question is how the
  overall reduction in use will be divided among
  the individual appropriators.

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Application of Social Choice Theory to
Self-Governance of Local CPRs

• Inclusive voting rules require a supermajority
  agreement in order for a proposal to pass. They
  are inclusive in that they require the consent of
  a supermajority. Consensus and unanimity are
  examples.
• Exclusive voting rules allow proposals to pass
  with plurality or simple majority agreement.

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Application of Social Choice Theory to
Self-Governance of Local CPRs

• Rule systems that change the original status quo
  shares of total resource appropriation
  redistribute wealth from one type of appropriator
  to another, and are therefore more likely to
  generate conflict.

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Application of Social Choice Theory to
Self-Governance of Local CPRs

• Hackett identified the following trade-off
  heterogeneous CPR appropriator groups with highly
  inclusive voting rules (such as consensus) will
  take a longer time to reach agreement because
  such voting rules make it easier to block
  agreements. This delay allows the CPR to continue
  to decline in productivity. Distributional rules
  that are approved, however, are less likely to
  result in large redistributions of wealth
  relative to the status quo, and so individual
  appropriators are less likely to fight and
  violate such rules, reducing future monitoring
  and enforcement costs.

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Application of Social Choice Theory to
Self-Governance of Local CPRs

• In contrast exclusive voting rules, such as
  plurality or simple majority, reach agreement
  more rapidly, and so repair of the CPR system is
  not delayed. Yet if the majority does manage to
  impose rules that redistribute wealth from the
  minority to the majority, the agreement is more
  likely to be fought and violated by the minority
  in the future, resulting in higher monitoring and
  enforcement costs.

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Application of Social Choice Theory to
Self-Governance of Local CPRs

• Hackett, Schlager, and Walker (1994) used
  laboratory experimental techniques (controlled
  and paid role-play exercises) to look at how
  heterogeneous CPR appropriator groups resolve
  this tradeoff.
• They found that appropriators tended to select
  allocation rules proportionate with historical
  appropriation, and were able to reach agreements
  without excessive delays or conflicts.

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Application of Social Choice Theory to
Self-Governance of Local CPRs

• The effects of appropriator heterogeneity and
  voting rules on the performance of CPR governance
  structures have been looked at for the case of
  oil and gas fields by Wiggins and Libecap (1985)
  and Libecap and Wiggins (1985).

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Application of Social Choice Theory to
Self-Governance of Local CPRs

• Oil and Gas
• Self-governance of oil fields is more likely to
  succeed if there is minimal heterogeneity among
  the appropriators (e.g., differences in
  productivity).
• Self-governance of oil fields is more likely to
  succeed if voting rules are more exclusive (e.g.,
  63 percent vs. unanimity voting rules).

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Application of Social Choice Theory to
Self-Governance of Local CPRs

• Johnson and Libecap (1982) provide a similar
  analysis of the Texas Gulf Coast shrimp fishery,
  where shrimpers vary with regard to fishing
  skill. Heterogeneity in fishing skill created
  conflict over the type of government fishery
  regulations the various fishermen preferred For
  example, total fishing effort could be restricted
  through uniform quotas for eligible fishermen.
  But if fishermen are heterogeneous, uniform
  quotas will be costly to assign and enforce
  because of opposition from more productive
  fishermen (p. 1010).

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Application of Social Choice Theory to
Self-Governance of Local CPRs

• Field research generally indicates that rules
  linking CPR harvest shares to an appropriators
  historical level of harvest (tons of fish landed,
  acre-feet of irrigation water) or contribution
  (contributions for CPR upkeep, monitoring, or
  enforcement) are far more common than rules that
  simply divide CPR output equally. There is an
  aspect of fairness in rewarding greater
  contributions with larger shares, and sharing
  rules that differ markedly from historical use
  patterns tend to undermine individual cooperation
  with group efforts directed at sustaining the
  commons.

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No short writing assignment for next week!

• Catch up on introductory readings
• Review any theory that you need to
• Get a head start on the sustainability and growth
  model readings
• Think about term projects