American Economic Association

Environmental Pollution: Economics and Policy

Author(s): Allen V. Kneese
Source: The American Economic Review, Vol. 61, No. 2, Papers and Proceedings of the
Eighty-Third Annual Meeting of the American Economic Association (May, 1971), pp. 153-
166
Published by: American Economic Association
Stable URL: http://www.jstor.org/stable/1816988
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 TIHE POLITICAL ECONOMY OF
ENVIRONMENTAL QUALITY

Environmental Pollution: Economics

and Policy
By ALLEN V. KNEESE*
Director, Quality of the Environment Program, Resources for the Future, Inc.,
Washington, D.C.

Any discussion of environmental pollu- and a weakness, is its focus on two-party

tion by an economist naturally starts with
the concept of externalities which has oc-
cupied the attention of some members of
the profession for a long time. But very
recent theoretical and empirical work has
developed an approach which, while grow-
ing out of and incorporating the exter-
nalities concept, is sufficiently distinct in
emphasis and orientation as to be legiti-
mately deemed new. I will call this new
approach, which I think to be much more
commensurate with the character and
scale of contemporary environmental pol-
lution problems, the management of com-
mon property resources approach.' This
paper is devoted to a general exposition of
it and its policy implications.
A characteristic of most of the postwar
discussion of pollution-type externalities,
which at the same time is both a strength
* I wish to acknowledge helpful comments on an
earlier draft by William Baumol, Peter Bohm, Blair
Bower, James Buchanan, Ralph d'Arge, Mason Gaff-
ney, Edwin Haefele, Robert Haveman, Orris Herfin-
dahl, John Krutilla, Mancur Olson, Ezra Mishan,
and Walter Spofford. The acknowledgment of help
should not be taken to imply agreement with my
conclusions.
' This is not to say that common property-type
problems have gone unnoticed in the literature, par-
ticularly in connection with "common pool" problems
associated with petroleum and water resources and
with fisheries. This literature is referred to later.
situations.2 The strength of this discussion
has been its rather deep examination of
the specific allocative effects of externali-
ties under various circumstances. For ex-
ample, the concept of reciprocal externality
has been examined [5],the implications of
bargaining between the parties for the tra-
ditional tax solution have been explored
[3], and the relation of property rights to
the externalities phenomena and its allo-
cative implications has been clarified [4].
The weakness of this discussion has
been that it has dealt with an artificial
case which, unless properly interpreted,
lends itself to some highly misleading in-
ferences concerning policy. The case dealt
with is about as follows: two parties,
equal in economic power and in possession
of full information concerning their own
and their adversaries' positions, confront
an externality situation in an economy in
which resources allocation is in every
other aspect optimal. Moreover, the envi-
ronmental medium through which the ex-
ternal effect is transmitted (air, water, the
electromagnetic spectrum, an ecological
system, etc.) is fixed in supply, or, if it
2 Two excellent review articles have recently ap-
peared to which the reader can be referred for a
quick overview of the most salient writings. These
are by Mishan [12] and Turvey [17].

153

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154 AMERICAN ECONOMIC ASSOCIATION
can be altered, this can be done only by
the two participants. Inferences which
might be, and sometimes have been,
drawn from consideration of such a situa-
tion are that bargaining between private
parties eliminates "Pareto relevant" ex-
ternalities; that the imposition of a tax
based on marginal external effects distorts
the optimal solution which would other-
wise be reached by bargaining; that merg-
ers can be an effective general solution to
externality problems; and, much more
generally, that the force of external effects
is always met in some manner by the
counterforce of private economic interest.
The inference which should be drawn is
that the essence of externality problems is
that the conditions of this simple two-
party case are not met in reality.
As regards environmental pollution, the
case under examination is indeed highly
unrealistic in several particulars. First,
parties involved in an environmental pol-
lution situation are usually anything but
"separate but equal" insofar as organiza-
tion, power, and information are con-
cerned. The typical situation is one in
which one or more sources of pollution,
usually associated with a well-organized
economic interest, affect a large and dif-
fuse group of parties whose individual in-
terests are hit relatively little. For exam-
ple, a major source of pollution may affect
many hundreds of fishermen, no one of
whom finds it worth his while to bargain
or even generate information. The fisher-
men also find the costs of organizing as a
group prohibitive.! In such a context, bar-
gaining does not occur. What is more, no
signal that important values are being de-
stroyed is produced. Furthermore, what
meaning could one possibly attach to a
merger solution in such circumstances?
'An excellent and innovative discussion of the
economics of cooperation and the conditions under
which groups will be formed and function is found
in Olson [13].
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An additional complication with impor-
tant implications for policy is that it is of-
ten possible to enhance an environmental
resource that is being degraded through
the application of large-scale, collective
measures. For example, low river flows
can be raised by regulating reservoirs, the
reoxygenation capabilities of watercourses
of all kinds can be improved, and ecologi-
cal systems can sometimes be altered to
counteract degrading effects (as in the
case of the introduction of the Coho
salmon into Lake Michigan). Usually, in-
dividual self-interest cannot be relied on
to undertake, to an optimal degree, such
activities which are characterized by the
public good aspects of jointness in supply
and/or exclusion problems. Finally, and
most unfortunately from the point of view
of the complexity of the problems, envi-
ronmental pollution is not an isolated or
random phenomenon, but in developed
economies, at least, it must be regarded as
inherent in man's production and con-
sumption activities.4 Thus, an analytical
orientation which regards externalities as
a systematic and pervasive phenomenon
in modern economies is much more on all
fours with the real situation than one
which regards them as a somewhat freak-
ish anomaly which can often, if not usu-
ally, be efficiently controlled by ad hoc
measures or private bargaining.5
In this connection it is useful to call at-
tention to a simple fact, but one that
seems to have been neglected by econo-
mists when reasoning about allocation
problems. When materials-minerals,
fuels, gases, and organic materials-are
4 For development of this point, see Kneese, Ayres,
and d'Arge [9].
'There is even something whimsical about the
examples which are used in discussing the two-party
cases. Bees and apple orchards have been with us a
long time. A more recent favorite is sparks from a
railway engine igniting a farmer's field-this being
some eighty years after the introduction of the spark
arrester and twenty years after the abandonment of
the steam locomotive.
 ENVIRONMENTAL QUALITY 155

extracted and harvested from nature and and the occurrence of public exposure to
used by producers and consumers, their high residuals concentrations in the envi-
mass is essentially unaltered in these pro- ronment to grow faster still.7
cesses. Material residuals are generated in What significant general conclusions
production and consumption activities, can be drawn from the above discussion?
and their mass must be about equal to I feel the following are important:
that initially extracted from nature. Ac- 1. The discussion of two-party exter-
cordingly, it is basically depletive to speak nalities has led to some important clarifi-
of the consumption of goods. The services cations of the concept of externality, but
which material objects can yield are used, because of the unreality of its assumptions
but their substance remains intact. its direct utility for policy prescription
An important implication flows out of about pollution situations is small.
this for the allocation of resources within 2. There is a need to reconsider general
our institutional setting. While most ex- allocation theory with a view to the perva-
tractive, harvesting, processing, and dis- siveness of externalities and to similarly
tributional activities can be conducted rel- rethink or adapt growth theory. Along
atively efficiently through the medium of with this, a deep reexamination of our na-
exchange of private ownership rights, the tional income accounting system is also
return of residual mass to the environ- called for. The profession has now begun
tnent is heavily to common property re- to do these things.
sources, like the air and water, where the 3. We are particularly in need of opera-
processes of private exchange cannot be tional analytical methods (and associated
expected to assign accurate relative values data) that can take account of broader
to alternative uses of the resource. In fact, systems of externality-type interdepen-
we know from a relatively well developed dencies than those that have typically
body of theory concerning special types of been discussed in the economic literature.
common property resources like fisheries The remainder of this paper is devoted
that perverse incentives lead to their over- to a discussion of some of the most perti-
use and misuse in both a static and dy- nent efforts which have been undertaken
namic sense.' Thus, now that many prop- under the last point and what I take to be
erties of the natural environment have the major policy implications flowing from
clearly become scarce resources, we are them. The general orientation of these ef-
confronted with a vast asymmetry in the forts is to view the various aspects of the
ability of our property institutions to formnatural environment as multiple purpose-
the basis for efficient resources allocation. multiple user natural assets, owned in
What's worse, unless decisive counter- common, which must be managed through
measures are taken, leading to more tech- some collective choice mechanism if they
nically efficient use of materials and en- are to be developed, used, and conserved
ergy, we can expect this problem to grow efficiently.8
rapidly more intense. If our spotty knowl-
edge of past history is any guide, and re- ' The reason for the latter is explained in Ayres
and McKenna [ll. In general, it is that exposure tends
siduals discharge is uncontrolled, we can to be log-normally distributed, and with this distribu-
expect residuals discharge to the environ- tion extreme concentrations will grow faster than
ment to grow faster than national output mean concentrations as discharge increases.
Incidentally, it may be noted at this point that
what might be called the "reciprocality of external-
"An early and excellent treatment is by Gordon ity" argument presented by Coase [41 and others
[71. A large literature was spawned by this article. appears in a somewhat different light in the context

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156 AMERICAN ECONOMIC ASSOCIATION

The kind of rethinking about pollution- ally favored by economists as well as the
type externalities which has taken place more usual direct regulation approaches.
recently emphasizes that the generation of (3) The enhancement of environmental
residuals is inherent in the production common property resources has proved
and consumption processes, that the types desirable on efficiency grounds in real
and amounts of residuals generated are cases. More generally, the ability to ana-
strongly influenced by the production and lyze and implement a wide range of tech-
consumption technologies adopted, and nical measures has been shown to substan-
that residuals treatment (such as waste tially improve efficiency. (4) Our present
water treatment) does not reduce the collective action institutions are ill-suited
mass of residuals but only changes their to realize these gains.
form. One of the strong lessons taught by Following the discussion of these cases,
this approach is that in a situation where I will sketch a new operational residuals
the common property resources of envi- management model devised by my associ-
ronment are basically unpriced, externali- ates Russell and Spofford [15]. The avail-
ties tend to be pervasive in the economy ability of this model opens opportunities
so that either general equilibrium or "sec- for much more comprehensive analysis of
ond best" approaches are indicated. An- the efficiency and distributional aspects of
other lesson is that the quantities of resid- residuals management than has heretofore
uals discharged to air, water, or land are been possible.
highly interdependent so that treating one The final section of the paper discusses
environmental medium, such as water, in what I take to be the most significant im-
isolation from others can lead to undesir- plications for policy flowing out of the
able secondary effects. (For example, the studies discussed, as well as of some oth-
treatment of waste water leads to solid ers which can only be cited because of
residuals which often are incinerated or space limitations. Also because of limited
otherwise pollute another environmental space, I have chosen to stress the empiri-
medium.) Still, our ability to produce op- cal and operational aspects of the ap-
erational general-equilibrium approaches proach rather than the theoretical under-
to take account of these factors is as yet pinnings. Even so, I can only give some
highly circumscribed, and we can gain im- interpretations and must cite other refer-
portant insights about intelligent policy ences for fuller discussions. I can only ask
approaches from more partial analysis. understanding for my oversimplification
In the next section of the paper, I will from those who understand the details of
report briefly on several case studies of the studies which I sketch.
water quality which take the management
I. Some Cases
of common property resources approach.
They illustrate several points of impor- The first applied economic study to
tance to the later discussion. (1) Method- view an environmental problem as a mat-
ological tools exist which are useful for ter of managing a multiple user-multiple
the quantitative study of environments as product natural asset was a water quality
multiple purpose-multiple user natural study of the Delaware Estuary. This
assets. (2) These tools can be used to study, which had some substantial defi-
study the tax or charges approaches usu- ciencies, though it pioneered in important
ways, was conducted by the Federal Wa-
of the common property asset utilization than in the
ter Quality Administration within a
two-party direct interaction approach to externality.
Cf. Baumol [2]. framework developed by economists. The

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 ENVIRONMENTAL QUALITY 157
deficiencies were mainly in the narrow
range of technical alternatives considered
for improving water quality, and its ne-
glect of the interdependency of various
environmental media. Its achievements
were to innovate some important method-
ological approaches and to do a compe-
tent, if limited, benefit-cost analysis of al-
ternate management strategies including
effluent charges or taxes.
Let me begin by sketching one aspect of
the methodological approach which was
particularly ingenious and which we will
need to refer to again further on. The
model of transfers of materials from dis-
chargers to receptors introduced in the
next section is one of the central elements
in the realistic analysis of multiple-party
pollution cases (see, for example, the dis-
cussion of the Russell-Spofford model be-
low).
The Delaware Model
The Delaware Estuary was divided into
thirty reaches, and the so-called Streeter-
Phelps oxygen balance equations were
adapted and applied to these intercon-
nected segments. This led to a system of
linear first-order differential equations.
The transfer functions, wlhich relate the ments,
change in concentration of a residual in
segment i to an amount of input of the re-
sidual in segment j,9 fortunately simplify
to a set of linear relationships if steady-
state conditions are assumed, i.e., if it is
assumed that the waste discharge rate
once established is constant and tempera-
ture and river flow are taken as parame-
ters. In fact, the transfer functions can be
represented by a matrix of coefficients.
'The transfer relations are fairly complicated be-
cause the degradation of organic wastes in the water-
course consumes D.O., whereas aeration, or move-
ment of oxygen across the interface between air and
water, tends to counteract this effect. Important vari-
ables that affect the oxygen balance for a given waste
discharge are temperature and various characteristics
of the watercourse.
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The general name for such mathematical
models of the movement and transforma-
tion of materials or energy in the environ-
ment is "diffusion models." This result is
very useful because it means that these
coefficients can readily be incorporated
into a set of linear constraints which fit
the linear programming format quite
straightforwardly.10
A linear programming model similar to
that sketched in the previous footnote was
used to find the minimum costs for the
whole estuary of different targets for wa-
ter quality improvement given different
management approaches, for example, ac-
10 Assume that the watercourse consists of in homog-
enous segments and c, represents the improvement in
water quality required to meet the D.O. target in seg-
ment i. The target vector c of in elements can be
obtained by changes of inputs to the water resource
from combinations of the in segments. Define a program
vector x = (x1, X2,. . . , x,,) in which the values of x refer
to the weight of waste discharges in each of the estuary
reaches. In a feasible solution, these values represent
the waste discharges at the various points which meet
the target vector c. This vector generates D.O. changes
through the mechanism of the constant coefficients of
the linear system already described-ai-=D.O. im-
provement in segment i per unit of x, i= 1,.. ., m;
j-1,... ,n;and,of course, xi>O. If we let A be the (inXn)
matrix of coefficients, then Ax is the vector of D.O.
changes corresponding to x.
Now, recalling that c is the vector of target improve-
we have two restrictions on x, namely, Ax>c
and x> 0. The reader will have noticed that mathe-
matically these are sets of linear constraints such as
thiose found in a standard linear program. All we need
is an objective function to complete the problem. Let
d be a row vector where dp=unit cost of x,j = 1, ... , n.
Notice that this assumes linear cost functions (although
in more sophisticated models this is not necessary). We
can now writethe problem as a standard linear program,
min dx
s.f. Ax> c
x > O
Of course, the transfer coefficients relate to a steady-
state condition and to specified conditions of stream
flow and temperature. Thus, the model is totally deter-
ministic, and the variability of environmental conditions
is handled in this analysis by assuming extreme condi-
tions usually associated with substantial declines in
water quality. The actual programs needed to solve the
problem encountered in the Delaware Estuary were
somewhat more complicated. The reader interested in
the details should consult the paper by Sobel [16].
 158 AMERICAN ECONOMIC ASSOCIATION

tual cost minimization for the whole estu-
ary, cost minimization by zones in the es-
tuary, uniform cutback in discharge at all
outfalls, and effluent charges. The uniform
cutback procedure might be regarded as a
conventional administrative approach.
The study found that for the water qual-
ity target, which benefit-cost analysis and
an associated process of political decision-
making indicated to be optimal, there was
a very large cost difference (almost a fac-
tor of two) between this conventional ap-
proach of uniform cutback and cost mini-
mization. Further, it was found that a sin-
gle effluent charge of about 10? a pound
for BOD would achieve the target level of
water quality improvement at a real re-
sources cost only slightly higher than the
Later studies, using similar method-
ological tools and developing others, have
significantly extended the results of the
Delaware study in terms of water quality
as a common property resource manage-
ment problem. In general, the most signifi-
cant result from these studies has been to
demonstrate beyond a scintilla of a doubt
that technical measures to improve the
quality of the water resource, such as flow
regulation via reservoir regulation, or
groundwater pumping, mechanical reaer-
ation of streams, and other regional-scale
collective measures, can greatly enhance
3 R6 aolxl + a62x2 (i.e., "binding" constraint)
() R8 = the "standard"
Form the Lagrangian,

programmed cost minimization procedure. (4) L = Cl + c2 + X(R6- aeiX - a62X2)

If the minimum cost solution were to be At optimum,
achieved through direct regulation, de-
tailed control of each outfall would be re- (5) -=-+ X(-aei) = 0
ax, dxi
quired, and this would give rise to an ex- AxL dc2
tremely unequal cost distribution as (6) +X-a62) -
aX2 dx2
among dischargers. The result that the ef- If we include the constraint R6=a6lxl+a62x2, we have
fluent charge can approach a minimum 3 equations and 3 unknowns (xi, x<, and X).
cost solution is not very surprising to an
Solving for X, we get:
economist because the charge tends to
equalize marginal costs at different out- (7) 1 dc
a6i dxl
falls."1
and
11 This is strictly a necessary condition for cost mini- 1 dc2
mization only when a homogenous "lump" of assimila-
a62 dx2
tive capacity is being allocated-or more formally, when
all the coefficients in the transfer matrix are identical. Note that:
When they are not, cost minimization requires that
prices be "tailored" for each outfall. This explains why 1 dc1 1 dcs
the solution based on a single charge only approaches a8i dx1 ae2 dX2
but does not reach the programmed cost minimization
or
solution. How closely it will approach is an empirical
question relating to the magnitude of the aij's. To see dci a6i dc2
this, assume two dischargers with the following cost
dxl a62 dx2
functions for reducing waste discharge:
Note also that X0 unless either dcl/dxl or dC2l/dx2=
(1) Ci 3f(xl)
Because both equations (5) and (6) are equal to zero,
(2) C2 = f(x2) they may be set equal to each other:
where
x1= waste discharged from plant ,1. - = - + X(a6i - a62)
dxi dx2
X2=waste discharged from plant #2.
cl and c2 =cost of reducing waste discharge. (I am indebted to my associate Walter Spofford for
Assume reach #6 is the "critical" reach. Therefore, developing this demonstration.)

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 ENVIRONMENTAL QUALITY 159

the efficiency of a water quality manage-
ment program beyond what would be pos-
sible if waste water treatment were the
only alternative included.'2
Another generalization supported by
recent economic-engineering research,
mostly still unpublished, is that even at
points of waste generation many technical
alternatives besides waste treatment can
be efficiently used to reduce waste dis-
charges. Industry studies and evidence
from those instances where sewer sur-
charges have been levied on industries indi-
cate that process redesign, recycling, and
by-product recovery are fully as impor-
tant in reducing industrial residuals dis-
charges as treatment in a conventional
sense and frequently much less costly.
These results apply not only to water-
borne but to solid and airborne residuals
as well and are important for our discus-
sion of the Russell-Spofford model in the
next section and the concluding consider-
ations of policy implications.
II. The Russell-Spofiord Model
We have learned much from studies
viewing water pollution as a common
property resource management problem.
The results are beginning to have an im-
portant effect on policy formation at sev-
eral levels of government, both in the
United States and abroad, as well as on
education in the pertinent parts of engi-
neering and economics. But as is implied in the scrubbing of stack gases); the costs
of transporting the residuals from one
by the introduction to this paper, they still
go only part of the way toward analyzing place to another; and the cost of any final
the common property resources of the en- discharge-related activity such as landfill
vironment as multiple purpose-multiple
12 The most important published study of this type is
choices
by Davis 16]. A short interpretation of this study along
with several other pertinent ones is contained in Kneese
and Bower tl0]. Other, unpublished studies supporting
the above conclusions are of the Miami Basin in Ohio,
the Raritan Bay, and the Wisconsin River Basin. All
of these have been cooperative studies by economists
and engineers.
user natural assets with technical and eco-
nomic interdependencies often existing
among different common property re-
sources.
As was pointed out in the introduction,
recent literature has yielded the insight
that residuals management confronts eco-
nomics with a new type of general-equilib-
rium problem. Also, it was indicated that
some pertinent literature reflecting this
has begun to appear. Still, we are far from
being able to do a satisfactory general-
equilibrium analysis of the problem. But
we are moving rapidly toward implemen-
tation of what might be called a partial-
general model which retains many of the
most important insights from the general-
equilibrium approach. An operational
model has been devised by my associates
Russell and Spofford [15] which we will
soon apply to an actual region-probably
the Delaware estuary area."3 I discuss
here only a highly skeletonized version of
the model."4 Its essential components are
as follows:
A linear programming inter-industry
model that relates inputs and outputs of
the various production processes and con-
sumption activities at specified locationis
within a region, including the unit
amounts and types of residuals generated
by the production of each product; the
costs of transforming these residuals from
one form to another (as gaseous to liquid
operations.
The interindustry model permits
among production processes, raw
material input mixes, by-product produc-
13 A rather full discussion of the model is found in
Russell and Spofford [tS] in Kneese and Bower [11].
14 This exposition is based on unpublished material
prepared by Clifford S. Russell and Walter 0. Spofford.

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160 AMERICAN ECONOMIC ASSOCIATION
tion, recycle of residuals, and in-plant ad-
justments and improvement, all of which
can reduce the total quantity of residuals
generated. That is, the residuals generated
are not assumed fixed either in form or in
quantity. This model also allows for
choices among transformation processes
and hence among the possible forms of the
residual to be disposed of in the natural
environment and, to a limited extent,
among the locations at which discharge is
accomplished.
Environmental diffusion models (at-
mospheric diffusion, stream diffusion, and
noise diffusion models) are used to relate
the amounts and types of residuals dis-
charged into the natural environment-
both to the atmosphere and to water-
courses-to the amounts (i.e., ambient
concentrations) and types of residuals
that are present at the various receptors-
man, animals, plants, and inanimate ob-
jects.
In the case of noninteracting residuals,
the total quantity (i.e., concentration) of
a given residual at any point in time and
space is a linear sum of the contributions
from all sources. This has already been
explained in connection with the Delaware
estuary model. Air and noise diffusion
models work similarly. Thus we can ex-
press the ambient concentrations at vari-
ous receptors r as the set of linear equa-
tions Ax=r where A is an rn Xn matrix of
transfer coefficients.
The quantities of residuals discharged to
the environment, xj, j-=1, . . . , n, are
given as an output of the interindustry LP
model, and the transfer coefficients, aii,
i= 1, ... , m; j= 1, . . . , n, are computed
from environmental diffusion models. The
vector of ambient concentrations of the
various residuals at all the receptor loca-
tions, i, i = 1, ... , m, due to residuals dis-
charged from all sources, x;, j= 1, . .. , n
is the output of the above system of
equations.
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Receptor-damage functions use the vec-
tor r as input. Where damage functions are
not available, ambient standards may be
used. For this situation, the above equa-
tion set may be modified to include the
standards
Ax < S
where
Si, i= 1,... , rt; = ambient standards.
Since this is a linear constraint set, it can
be transferred in its entirety to the inter-
industry LP model. The duals of the maxi-
mization solution will then indicate the
implied marginal value of the constraints
in terms of the objective function. When
damage functions are available, it is pos-
sible to compute marginal damages at the
locations of residual discharge for all
sources."5 As described in the footnote,
these prices reflect the sum of marginal
costs imposed on all receptors by each
discharge point.
15 It is assumed that the functions are continuous and
have continuous first derivatives. For this case, the
damages at each location, Di, i=1,. . . , m, may be
written as a function of the corresponding ambient
residual concentrations, Ri, i= 1, . . . , m, or
Di = f(Ri) i =l, . . .,I m.
For each residual, the total damages to all receptors
and/or uses in the region is given by:
DT = Di + D2 Jr. + Dm. 2 Di
;-1
Since the actual damage, Di, is a function of the ambient
concentration, Ri, the following expressions for total
marginal damages obtain:
ODT dD1 OR1 d Dm OR,,
Ox, dR, Ox, dRm O1x
OR, dD, OR, dD,, ORm,
oxn dR, 9xn dR. Ox,
However, OR,/Oxj=a,,, 9R2/Ox,=a2,, 9R,,,/Oxlam,,
and so on. Thus, total marginal damages resulting from
each discharge are obtained by post multiplying the
vector of derivatives of damages with respect to con-
centrations by the transpose of the A matrix, AT. The
marginal damages are evaluated using this equation set
and the resulting vector aDT1/xi, i = 1, . . . , n, is re-
turned to the inter-industry LP model as prices on the
residuals discharged to the environment.
 ENVIRONMENTAL QUALITY 161
When an iteration is completed using
these prices, a new discharge vector re-
sults and the process is repeated with
newly computed prices. Of course, each of
the iterations involves a linear approxima-
tion to a response surface which is not lin-
ear. Thus a problem of determining step
sizes permissible in each iteration arises.
It is not appropriate to pursue this inter-
esting problem here.
Enhancement of the common property
resource through such measures as river
flow regulation and mechanical reaeration
is also included in the model in ways
which cannot be discussed in this short
paper. The next step is to try to take
broader ecological considerations explic-
itly into account in the model.
In sum then, the Russell-Spofford
model permits analysis of numerous strat-
egies for the management of common
property environmental resources in a re-
gion. These include charges and several
types of standards to induce private and
public investment in numerous types of
residuals control technologies and tech-
niques for the enhancement of common
property resources. The analysis can con-
sider all the pertinent interdependencies
among liquid, gaseous, and solid residuals
in a region.
III. Policy Discussion
General-Central Problems for Policy
My reading of the literature of the com-
mon property assets approach to environ-
mental problems suggests two central
problems for appropriate policy forma-
tion. The first is the development of sys-
tematic and routine procedures for the
pricing of common property environmen-
tal resources. I think that economic re-
search has already shown that acceptably
rational pricing of these resources is by no
means a hopeless task (see the Delaware
study, for example). Of course, in many
cases this may mean an infinite price, i.e.,
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a complete prohibition of the use of the
resource for a particular purpose. For ex-
ample, I find it difficult to imagine that
the social costs of forbidding the dis-
charge of a heavy metal like mercury to
watercourses could outweight the social
benefits. In those cases where there is
great uncertainty concerning the effects
(especially the longer-term ones) of using
the environmental resource, a much
greater burden of proof should be placed
upon the proposed user than is now the
case. In many instances at the present
time, we do not even know what users are
using our common property resources for.
The apparent ignorance of the regulatory
scientific community concerning the dis-
charge of mercury to watercourses in the
United States is a striking case in point.
We are still operating largely under prop-
erty laws which impose the burden of
proof on the damaged party. This legal
posture at least implicitly assumes that
rapid growth is a central public objective
and that external costs will be small-
both are propositions which may be seri-
ously questioned in our contemporary
economy.
The second main problem for policy in-
dicated by the common property assets
approach is that of institution building.
Environmental pollution problems are in-
herently regional. Unless they are global
(such as C02), they occur in a watershed,
an air-shed, or some other problem shed
which almost never coincides with existing
governments of general jurisdiction."6 It
is within such problem sheds that external
effects occur and that the opportunities
for reducing residuals generation, trans-
formation from one form to another, or al-
"This is not to say that existing governments of
general jurisdiction are never appropriate to the man-
agement task or could not take important initiatives
of a "second best" character. Some problems are best
handled at the national level, and the states have
tremendous powers (in principle) which they mostly
don't use.
162 AMERICAN ECONOMIC ASSOCIATION

tering the environmental assimilative ca- disappointing. Municipal treatment plant

pacity occur. In such regions there is a
technical job of analyzing and implement-
ing management strategies as well as a po-
litical job of making collective choices
about a collective resource. Our present
structure of federal, state, and local
ernments is quite unsuitable for imple-
menting an efficient or even coherent ap-
proach for managing common property
assets-or even for a single one like wa-
ter.
But we are, as of this moment, in a bet-
ter position in terms of research base to
suggest a strategic approach to the water
quality management problem than to the
other environmental management areas.
Also, there has developed, in bits and
pieces, a national policy approach to this
problem which is somewhat more definite
than in the other areas. Thus, we can con-
trast the actual (implicit) strategy with
the one which research such as that re-
ported in earlier sections suggests would
be preferable. Accordingly, I will empha-
size the water quality problem rather than
present a balanced discussion of the whole
range of environmental pollution prob-
lems.
A Partial Policy Program-Water
To start with, I would like to character- dustrial plant where assistance might be
ize briefly the present strategy of the fed- justified die.
eral government for achieving water pol-
lution control in the United States. This
strategy is based on two main elements.
The first is financial support for municipal plant construction, poor design and opera-
waste treatment plant construction. This
program has been going on for a long
time, and presently it is possible for mu-
nicipalities to cover up to fifty-five per- tution building for effective and efficient
cent of the costs of waste treatment plant
construction from federal grants. The sec-
ond main element in our national strategy
is enforcement actions against indi'vidual
waste dischargers. I think it is fair to say
that the results of this strategy have been
construction has been lagging partly be-
cause federal appropriations for treatment
plant construction have fallen far behind
authorization, and it is clear that munici-
palities are holding up construction until
gov-
federal funds become available. Many
plants that have been built are not operat-
ing well. The difficulty and cost of mount-
ing effective enforcement proceedings, as
well as the political power of the larger in-
dustries, has effectively stymied enforce-
ment at both the federal and state levels.
More generally, our record of trying to
impose direct federal regulations on large
industries has, of course, been dismal.
Under our present system, a certain
amount of subsidy is also available to in-
dustrial plants. Some are connected to
municipal systems and can benefit from
the subsidies to municipal treatment plant
construction. Furthermore, five-year tax
amortization of pollution control facilities
is available. This is a particularly per-
verse form of subsidy because it cannot
help those marginal firms which often
serve as the excuse for subsidy arrange-
ments. Tax writeoffs have the effect of
providing most assistance where it is not
particularly needed and, unless counter-
acted by other provisions, letting the in-
The result of this strategy has been a
continuing deterioration of water quality
due to a low rate of municipal treatment
tion of existing plants, and in many basins
the overwhelming growth of industrial
waste discharges.'7 Progress toward insti-
water quality management has been nil.
An alternative strategy for dealing with
our national water pollution problems
grows rather naturally out of the eco-
17In this connection, see the GAO Report [8].

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 ENVIRONMENTAL QUALITY 163

nomic research which has been accom- ing discharge, it tends to bias the choice of
plished on the matter. This strategy is techniques in an inefficient direction since
also based on two main elements. The first as a practical matter only treatment
rests on the concept that the waste dis- plants qualify for subsidies. This provides
charger should insofar as possible bear the an incentive to construct treatment plants
costs his waste disposal activities impose with federal subsidy, even though internal
on the common property assets of society,controls would be cheaper as in many, if
and the second recognizes that in many of not most, instances they are.
our highly developed basins, where pollu- Finally, the effluent charges system
tion problems are concentrated, great yields revenue rather than further strain-
gains in effectiveness and efficiency can be ing and eroding an already seriously over-
obtained by the implementation of a sys- extended tax system. This revenue can be
tematic and well-integrated water quality put to useful public purposes including
management plan on a regional basis. The improvements in the quality of our envi-
latter would contain elements other than ronment.'"
just the treatiient of waste waters at par- Industry has been emphasized but mu-
ticular outfalls. nicipalities too are paying only part of the
The present subsidy arrangements are social costs associated with the wastes
quite different in their impacts than the they generate, and what they pay is rather
effluent charges system. First, the systemcapriciously distributed depending on how
of effluent charges is based on the concept much waste water treatment they have
that payment for the use of valuable re- implemented and whether they have qual-
sources is necessary for efficiency, ified for federal subsidies. The effluent
whether they happen to be privately or charges system would give these munici-
collectively owned. These payments will palities an incentive to proceed expedi-
affect industrial producers' decisions to tiously in the effective treatment of waste.
generate and discharge residuals. They Our present policies put heavy emphasis
will also be reflected in the price of inter- on the construction of plants with little or
mediate and final goods so that a broader no follow-through on operations. The ef-
incentive wiJl be provided to shift to goods fluent charges system focuses on what is
with a lesser environmental cost. The put in the stream and thereby offers an in-
present system of subsidies has the unfor- centive for effective operations of existing
tunate effect of subsidizing those goods facilities.
most, the production of which, directly or Despite what appear to be compelling
indirectly, makes the heaviest use of com- reasons for favoring the effluent charges
mon property assets. system as one of the cornerstones of effec-
Second, to the extent that the subsidy- tive and efficient regional water quality
enforcement'8 system is effective in reduc-
19 From an economic point of view, perhaps the
'Enforcement must be linked to subsidies because best imaginable tax base is an activity that causes
even though the latter are often erroneously called external diseconomies. Not only does a tax on such a
incentives, they do not in themselves provide an in- base yield revenue, but it tends to improve the overall
centive to take action to control waste discharges. allocation of resources, thus yielding an "excess bene-
Even if an industry is paid a major proportion of fit." It should be noted that the yield from an op-
the cost of waste treatment plant construction, it is timal effluent charge would only be equal to what
still cheaper, from the point of view of the indus- should optimally be spent on common property re-
try, to dump untreated waste into the river. Thus, source enhancement only under special circumstances.
the subsidy arrangement cannot work unless accom- Usually it would be more or less. For an analysis of
panied by enforcement or other pressures on the this, see the Appendix to chapter 10 (by J. Hayden
waste discharger. Boyd) in Kneese and Bower [10].

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164 AMERICAN ECONOMIC ASSOCIATION

management, it may be difficult for

operation, partic-
the agency might be eligible for
ular states and regions to pioneer such a a grant to assist it with actual construc-
substantial departure from previous prac- tion and operating expenses. Such a sys-
tice, although surprising initiatives have tem might appropriately be limited to the
been taken in several states and regions early implementation-say, five years.
recently. Nevertheless, the federal gov- During this period, it would be necessary
ernment's greater insulation from power- to work out longer-term arrangements for
ful local interests provides an opportunity financing the agency. Clearly, the pro-
for leadership. One approach would be for posed effluent charges system could play a
the federal government to levy a national major role in this. Presumably, adminis-
effluent charge on all waste discharges tration of the effluent charges system
above some minimum amount. This would be turned over to the regional agen-
charge could be considered a minimum cies with the federal level of charges con-
which could at their discretion be ex- tinuing to be regarded as a baseline. In
ceeded by a state or regional agency hav- this manner, regional scale measures for
ing responsibility for water quality man- the management of the common property
agement. Revenues obtained by the fed- asset would be financed while at the same
eral government could be made available time providing incentives to waste dis-
for purposes of financing the federal pro- chargers to cut back on their emissions.
gram with the excess turned over to other Special provisions might be included in
governments of general jurisdiction or, the federal law toward marginal industrial
and I think preferably, the revenues could plants which might go under and where
be used to establish regional water quality there is a broader social interest in pro-
management agencies which are the other tecting them. It should be noted that
element in the proposed strategy. The ra- where serious efforts to implement re-
tionale for this element has been rather gional water quality management have
fully discussed earlier.20 been undertaken (as in the Delaware and
One way for the federal government to the Miami), one of the most serious prob-
encourage regional agencies would be to lems has been to set up adequate financing
establish incentives and guidelines for the arrangements. Once the regional agency is
organization and operation of regional functioning, collection of the effluent
management agencies, either under state charge would be turned over to it. It
law or through interstate arrangements. would be expected to improve and refine
An agency with adequate authority to the charges system.
plan and implement a regional water qual- There is some encouraging evidence
ity management system would be eligible that a strategic reconsideration of our ap-
for a grant of funds to support a portion proach to water quality management is
of its budget to help staff the agency and occurring. In both the executive and legis-
to make the first data collections, analy- lative branches of our national govern-
ses, and formulation of specific measures ment, serious discussion of approaches
for water quality management. If the fed- emphasizing regional management and
eral government is satisfied that the pro- economic incentives is occurring. Similar
posed program and the plan for its imple- developments are also happening at lower
mentation satisfy criteria for its efficient levels of government.
Interestingly enough, the main opposi-
'The elements are embodied in a bill before Cong- tion to the approach outlined here-espe-
ress introduced by Senator Proxmire [4]. cially the effluent charges part of it-has

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 ENVIRONMENTAL QUALITY 165
come from industry and the so-called con-
servationists. The industrial opposition
stems, I believe, from the recognition that
effluent charges would be effective and not
subject to the delays and general manipu-
lations which the administrative-enforce-
ment approach has permitted. In the case
of the conservationists, the opposition
seems to reflect a puritanical ideal that
common property resources should not be
used for residuals disposal at all. This is
idealism run wild, as a moment's reflection
about the first law of thermodynamics will
reveal. In their case, what they regard as
the "best" is clearly an enemy of the good.
Other Steps
Even should we move in the direction of
greatly improved water quality manage-
ment, this is still a far cry from a com-
plete and coherent approach to the man-
agement of our environmental common
property resources. But there is at least
some small ground for encouragement
that economically rational strategic ap-
proach to environmental management
may be developing. Under the Environ-
mental Policy Act of 1969, the President
appointed a Council on Environmental
Quality. This Council was modelled on the
Council of Economic Advisers. The first
Council consists of three highly respected
environmentalists who issued their first
report in mid-1970. In it there is much ev-
idence (far more than in any previous im-
portant public document) of recognition
of the importance of the twin features
of environmental quality management
problems emphasized in the first part of
this section-incentives and institutions.
Also, the need for a coherent concept to
guide environmental management is rec-
ognized. Many constructive recommen-
dations for study and experimentation are
made, but the report does not press for ac-
tion to nearly the extent I believe would
be appropriate.
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Another development of 1970 of signifi-
cance for improving our national orga-
nizational posture in regard to environ-
mental problems is the creation of EPA-
the Environmental Protection Agency. On
the recommendation of the Commission
on Reorganization of the Executive
Branch of the Government (the Ash Com-
mission), the President proposed, and
Congress accepted, a reorganization of the
federal pollution control agencies. In this
connection, the Commission and other Ex-
ecutive Office advisory arms gave careful
consideration to the rationale for a unified
approach to environmental quality man-
agement described in earlier sections of
this paper and which also underlies the
Russell-Spofford model.2' EPA combines
the pollution control and related research
activities of the federal government per-
taining to air, water, solids, pesticides,
and radiation into a single agency report-
ing directly to the President. These func-
tions were formerly performed in virtually
complete isolation from one another and
housed in diverse agencies such as HEW,
Interior, Agriculture, and the Atomic En-
ergy Commission. While anyone who has
observed the Washington scene for a pe-
riod of time has just cause to be skeptical
of the efficacy of reorganizations, one can
still recognize the convincing rationale of
this one. It puts us in a better position to
view residuals generation as an inherent
part of our production and consumption
activities rather than an isolated phenome-
non and to recognize the interdependencies
among types of residuals.
To sum up, the strategic policy ap-
proach developed with respect to the envi-
ronmental resource where policy is most
advanced is subject to fundamental criti-
cism from the point of view of economic
" Fortunately, there was ample opportunity to
communicate these thoughts to the panel of the Ash
Commission working on the environmental aspects
of the reorganization.
166 AMiERICAN ECONOMIC ASSOCIATION
theory and empirical research. On the
other hand, evidence accumulates that ap-
proaches based on the latter are penetrat-
ing the thinking of governments at both
the national and other levels. There are
good grounds for hope that our strategy
for water quality management can be
somewhat reoriented and improved and
that those policy areas pertaining to the
management of common property assets
which are still in their formative or unde-
veloped states can be based on sounder
conceptual and policy research ground.
This is the bright side. The other side is
that progress is very slow, the problems
are urgent, and we know that vested inter-
ests can often stave off really effective pol-
icy until they are ready to accommodate
it.
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3. J. W. Buchanan and W. C. Stubblebine,
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