"Property Rights and Natural Resource Management"
If humanity is expected to survive for at least several generations, the question of equity clearly has temporal as well as current spatial application. If policy analysts are to become increasingly concerned with issues of equity, there is no obvious reason to restrict this concern to a generation's timespan. Thus, we should consider transgenerational equity. Assume, for a moment, that no one knows into which generation he or anyone else would be born. Once behind the "veil of ignorance," our key question becomes: Which assignment of property rights will produce the greater degree of intergenerational transfer: an assignment of private rights or one with collective rights assigned to a democratic government?
Many hold it as an article of faith that we are running out of resources despite the compelling evidence of static or declining real prices for many natural resources. Certainly a perception of resource depletion is real, regardless of the facts, and it is perceptions which influence policy. Hence, if we are interested in policy we must consider the perceptions which underlie policy.
Given a belief that we are running out of natural resources, we can expect future generations to be seriously disadvantaged. Those unlucky enough to be born later will suffer from the consumption decisions taken by their predecessors, decisions that violate intergenerational equity.
If transgenerational equity is to be a goal, then, it becomes necessary to distribute the value of resources across generations. Obviously, it would be inequitable to distribute the volume or mass equally, for utilization efficiency will surely change. As a simple example, an equal volume of timber produces, due to higher productivity efficiency, a higher volume and value of products now than it did 40 or even ten years ago. Thus, were we to be allocated the same biomass of timber as was allocated to the previous generation we would, in terms of a simplistic notion of equity, be unfairly advantaged.
Due to increased capital accumulation, including information and human capital, we expect improvements in utilization of all resources. Under incentives that reward efficiency this outcome should occur partly due to the fact that resources become increasingly scarce. In this as in other areas, however, we expect to encounter diminishing marginal returns. The gain from moving utilization of standing timber reserves from 30 percent to 60 percent is likely to be easier to attain than a move from 60 percent to 90 percent utilization.
The great wealth of capital stock available today was generated by the savings and accumulation of past generations. Whether we call it altruism or poorly planned self-interest, the result is the same: each generation has been endowed with a continually growing stock of productive capital with which to satisfy its desires to consume as it sees fit. The natural resource equity argument holds that this enhancement of consumption options is purchased at too high a price in terms of raw materials and natural amenities. Indeed, it seems reasonable to consider a possible shift in the relative opportunities offered by capital accumulation and raw materials. It is at least possible that future generations would prefer present generations to bequeath them less additional capital and more natural resources. As the authors of the Federalist Papers understood so well, no person can be assumed the best judge of another's preferences. Hence, those in the future might want the option of developing the capital that they find most useful. Clearly, however, each generation's use of resources influences the welfare of those which follow.
It is a blunt fact that the present generation operating in a historical context establishes the rules regarding property rights with respect to resources. While there may be no logical way to apply a discount rate for the comparison of satisfactions among different generations, each generation implicitly does so.
With clear property rights the market mechanism will allocate resources efficiently provided that all parties can enter the market and that negotiations have negligible costs. But because future generations cannot bargain directly with the present, this approach is questionable.
Both the issues and the conditions should now be clear. Many consider equity to be increasingly important. Transgenerational equity (discounted by the probability of there being future generations) is one important form of equity. Property rights to resources are a component in an equity formulation. And finally, future generations cannot speak for themselves.
The transgenerational equity questions may be stated quite simply. If one did not know into which generation he would be born, how would he structure property rights to resources? We will undertake below a preliminary analysis that turns out to yield counterintuitive results.
We would all expect that a market system involving privately held rights would yield very different results than would a system whose rights were held by society and whose decisions regarding resource use were made collectively. And it is widely believed that a market setting causes future generations to be robbed of natural resources. Krutilla and Page, for example, recently put it this way:
"...Generally, markets are considered fair only if all those affected by the outcomes are present in the market (without externalities) and the distribution of market power is considered fair. In the case of deciding which new (energy) supplies to develop, the distribution of market power is indeed uneven: the present generation controls the total stock of resources, leaving future generations with no voice in today's decision."*13
Further, V.K. Lippit and K. Hamada in their essay, "Efficiency and Equity in Intergenerational Distribution," in Sustainable Society (1977), have argued that: "In the extreme case, future generations cannot compensate the present for foregoing the mildest satisfactions, even when the very survival of mankind is at stake."
The major implication of this and similar material is that a market mechanism, as compared with collective control, deprives future generations of resources. But this antimarket claim does not withstand examination. Our analysis results from both the different incentives faced by market as opposed to government decision makers, and from the different ways decision makers are chosen in the two settings.
In what follows, we employ simple models of market and collective democratic actions. For concreteness, we will refer to the resources stock in question as a copper mine. This example is chosen to capture the elements of inter-temporal resource allocation and intergenerational transfer of resources, while presumably minimizing the intrusion of side issues (such as environmental externalities and violation of the exclusion principle). A binary (yes or no) decision must be made periodically on whether to exploit the one ore body in the current period or not. Following the initial analysis, we will make the models less naïve by relaxing certain assumptions, and we will note the results.
To decide whether or not an existing resource should be exploited in the current time period the decision maker simply compares its value (net of development costs) in current exploitation with its expected value in highest future use (net of development costs, and discounted to the present). If current exploitation yields more net benefits than does any future use (as judged by the decision makers), then the decision maker chooses current exploitation rather than preservation of the stock resource. The major difficulty, of course, lies in how to estimate the value in future use. The value of a body of copper ore to be mined in any given future period depends on several factors, all of which are subject to uncertainty. Availability of other copper ore, the price of copper substitutes, the state of tastes and technology determining copper's usefulness—all those factors are important in determining a decision maker's estimate of the mine's present value in future exploitation. For a given mine, different people are likely to have differing opinions on when the mine should be developed, or more specifically for present purposes, whether or not current exploitation is best.
The views of the populace on the present discounted value of future use might be summarized in a diagram such as the one below. The abscissa (or horizontal axis) indicates E(PV), the estimated present value of preservation, which is a single value in dollar terms, expressing the sum of all the influences we listed above. The ordinate (or vertical axis) indicates the frequency of each estimate. No particular shape is required of the distribution for simple models. If we then locate on the abscissa a value, M, equal to the value (net of operating costs) of the ore body if mined now,*14 all E(PV) greater than the value indicates that preservation is preferred. Similarly, those whose E(PV) falls short of M(the current development value) presumably must conclude that current development is the better choice.
Consider now the most straightforward kind of democratic political decision making regarding the copper mine. Each voter expresses his opinion of whether the mine should or should not be developed currently, and the majority rules. For a maximum bias against our outcome, assume that each individual is not simply self-interested, but that he votes for what he believes will benefit society most. To predict the outcome of such a vote, we simply must ask whether the majority of the estimates fall to the right, or to the left, of the value of the mine in current use. If the majority is to the left, current exploitation will be mandated; if to the right, preservation is supported. Put another way, if the median voter*15 has E(PV) greater than M (the current development value) preservation will result, while current development wins if he feels the other way. In a very real sense, the median voter's judgement prevails.
By contrast, consider a simple market situation involving the same people with the same tastes, expectations, and discount rates, where the copper mine is controlled by the highest bidder. One type of bid is M, for current development, made on behalf of ore processors. The highest such bid represents the mine's worth in current exploitation. The other type of bid is from those who want to preserve the mine for the future. We can assume either altruistic or selfish motives for these bidders. In either case, each bid reflects the bidder's belief as to the mine's value. Obviously, if anyone (with sufficient funds, or credit, or the ability to convince fellow risk takers) believes the mine will be sufficiently more valuable in future use than now, so as to justify postponing its use, the resource will be conserved or preserved. Unlike political decision making the median opinion does not control decisions in the market. The tendency instead is for those with the strongest bias to preserve resources to control. Those conservers are usually called speculators.
We have long been puzzled regarding the general condemnation of speculators by environmentalists and preservationists. "Speculator" is, quite widely, a derisive term. But, with the singular exception of the monopoly case, such criticism seems to be at variance with the announced preferences of the critics. The critics claim to favor deferred consumption which is merely saving for the future. This, of course, is exactly the function of the speculator. Only by paying a higher price than those who prefer to consume now can he conserve the resource for his profit (and for the future). While current consumers have good reason to object to speculators for driving up the price and hence reducing current consumption, those in the future should shower them with praise and rewards—if the speculator guessed correctly. The central point, of course, is that successful speculators benefit consumers in the future at the expense of those in the present. Their action in markets over time is analogous to distributors of goods over space. The distributor of oranges buys in Florida on behalf of New Yorkers. Orange prices would be lower for Florida consumers if interstate trade were for-bidden; but this would not benefit New Yorkers who desire Florida oranges.
It is not important whether the speculators have a long view encompassing the future period when the resource will be developed, or a more short-sighted view, for their own personal financial plans. So long as they can transfer (sell) the property rights they hold of the mine's future value, the mine remains a saleable asset and a good investment. As time passes and the higher-valued time of use approaches, the present discounted value rises.
Of course if the purchasing speculator is wrong, and potential bidders begin to learn so, he suffers the loss as the mine's value rises less rapidly (or falls) compared to other assets he could have held. He and the deprived earlier generation bear society's loss if his decision to preserve the mine is incorrect. But the resource is preserved. Since this type of speculative activity can be expected whenever resource property rights are private and transferable, resource prices in such markets will reflect bidding for future use, and current exploitation will occur only when all future speculative bids are overcome. Contrary to the statements by Krutilla and Page, the equilibrium market price clearly includes pressure from future potential bidders, including those bidders yet unborn, since speculative bids are based on what future users, as bidders, are expected to be willing to pay. Hence, in a market system with transferable property rights over stock resources, those who are most optimistic regarding the future value of any storable good are the ones who control the resource. Given that they believe that the future value will be high, they expect to capture rewards by keeping resources out of consumption.
It is difficult to imagine how a mechanism other than market speculation could be devised to give current political voters an analogous incentive to consider future citizens. Future voters must depend on the good will of present voters to sacrifice current consumption of governmentally controlled resources. Our analysis of collective control has thus far assumed that such good will is present; that present voters view future generations' consumption as they do their own. The only discount factor assumed to apply to consumption in the distant future was that which people apply to their own consumption during their lifetimes. This form of altruism was not required of the private bidders.
Now if we allow more self-interested voters to enter our collective control model, the market's bias for preserving resources stands out in even sharper relief. If voters are less interested in future generations' welfare than in their own, current exploitation becomes more valuable relative to the benefits of preservation in the eyes of current voters. The value in current use, M, remains constant while their effective E(PV) falls because future usefulness, enjoyed by others, is in effect hore heavily discounted than if current voters themselves could enjoy the benefits.
It should be clear that as we allow for self-interested behavior the most realistic presumption is not that voters feel towards future generations as they do toward their heirs. It can be argued (particularly well in sociobiological terms) that such a presumption collapses back to the naïve altrustic view. People in general may value their descendant's consumption as they do their own. However, the voters deciding on the stock of natural resources to bequeath to the next generation are not considering their descendants' welfare alone, but the welfare of all those alive in the future. Such a diffused interest will surely result in a lower present value than that which leads people individually to leave bequests to their heirs. On the other hand, since costs are also diffuse, the net effect is not obvious.
Another assumption to be relaxed in our model is that of market structure in the private control model. Initially we posited a competitive bidding process for the resource. In fact, a competitive market is not necessary to our results. In a monopolized or cartelized market, the tendency towards preservation is increased. As Harold Hotelling demonstrated in his 1931 article, "The Economics of Exhaustible Resources," a constant-cost monopoly will restrict the exploitation rate due to its output-restricting behavior.
To summarize the situation with exhaustible resources, privately held, exchangeable property rights tend to encourage preservation, relative to a simple democratically controlled collective management system. This is because the gains from preservation are appropriate in a market system, but not with collective ownership, and because those with expectations of high future value for the resource tend systematically to control it through outbidding others. The preservation bias differential is even increased if people are viewed as self-interested, or if the private producing industry is a monopoly or a cartel.
An implication of this model is counterintuitive or at variance with commonly accepted wisdom. One respected source of that accepted wisdom is Robert Solow who in his 1973 Richard T. Ely lecture stated:
"...We know in general that even well-functioning competitive markets may fail to allocate resources properly over time. The reason, I have suggested, is because, in the nature of the case, the future brings no endowment of its own to whatever markets actually exist.*16
We have argued that, at least relative to collective control, the future does have a "representative" in present markets: the speculator. The endowment the future brings to the market is what the speculator expects the future to be willing to pay.
Later in his lecture Solow suggested a partial corrective to the perceived lack of representation of the future.*17 Futures markets are claimed to save resources for future generations. Our analysis suggests the opposite. To institute a "futures" market is to allow speculators to be supplied, not only with actual claims on resources but speculative claims as well. Without futures contracts, the only role for the speculator is to bet on the rises in resource values. Futures contracts allow speculators to sell short those resources they expect to decline in value, thereby depressing current prices and encouraging greater current consumption of these resources. In short, the futures market gives influence in the resource market to those expecting a lower rise in resource price or having a higher discount rate.
When governmental bureaus (rather than simple democratic voting) manage resources, then resources use is a function of the incentives operating on the bureaucratic resources managers. In private markets with well-defined property rights, the incentives serve to maximize the value of output from flow resources, or to minimize the value of inputs for a given output flow. Public managers are no different from private managers in that they tend to respond to incentives. Both are largely self-interested. McKenzie and Tullock in The New World of Economics: Explorations into the Human Experience (1978), give perhaps the classic statement:
"Bureaucrats are not markedly different from other people. Most citizens of the U.S. are to some extent interested in helping their fellow man and in doing things in the public interest. Most citizens of the U.S., on the other hand, tend to devote much more time and attention to their own personal interests. The same is true of bureaucrats."
Why does more stocking and more production investments take place in collectively owned and bureaucratically managed forests? One explanation for this is the incentive structure faced by the bureaucratic managers.
For people in general, but for highly motivated individuals in particular, self-interest leads to the desire for an increase in discretionary control over resources. For the "selfish" individual, this provides the power and deference which accompany discretionary control. For the professionally oriented or "socially concerned" individual, this provides, in addition, the ability to make "good" things happen. More timber growth is presumably a "good" thing to a forester, for example. When resources are owned collectively as in a bureaucracy such as the U.S. Forest Service, a prime strategy of the bureaucrat for increased discretion is to promote the growth of his bureau.
There are reasons to believe that in most cases waste is generated from the bureau being above optimum size. Most will agree that powerful forces lead in this direction. For the bureau head, civil services rank, prestige, and pay—all are strongly related to the size of his bureau. Further, symbols of success such as office amenities are also related to the number of persons under his charge. (For example, in one university, for years only deans and higher level administrators could have IBM typewriters). In addition, expansion generates more possibilities for promotion. This enhances the bureau head's ability to control those under his charge, since under Civil Service rules firings are nearly impossible to execute successfully. Thus to gain control over his inferiors, the bureaucrat may promise promotions as inducements. And promotions are more common in a growing office.
Or perhaps equal importance for the ambitious bureaucrat is the fact that a large proportion of his budget is "locked in" from previous years. This, of course, reduces the range of discretionary expenditures. In contrast, new funds offer far more opportunities for flexibility and for innovation.
Among other results, this tendency toward bureaucratic growth can be expected to encourage decisions that favor a more intensive management of this resource. Likewise, there is a reluctance to surrender territorial authority (unless the cut in manpower is small, or exercise of the authority leaves no discretionary resource claims), as well as a reluctance to merge with any larger entity or to transfer resources to activities outside the agency's scope. Such incentives are consistent with maximum preservation of the resource or large (relative to private) inventories.
This strong desire for growth does not depend on the presence of evil administrators or megalomaniacs. We must remember that the bureaucrat, because he lacks market information on the relative value of his produce and those of other public agencies, suffers from the absence of an obvious and immediate "reality check" on what he wishes to believe. Thus, it is easy for him to harbor the illusion that his agency mission is above average merit and thus argue that his office deserves above average budget increases. He of course has the help of clientele groups at budget time. Collective ownership and the lack of a pricing mechanism result in both anti-efficient incentives and distorted information—or a lack of the latter—which deal to even a well-meaning, intelligent bureaucrat blows from which recovery is difficult and rare. In sum, the bias is toward expanded bureaucratic growth and activity. When dealing with resources that require active management (usually renewable resources) this means high flows and high inventories since there is no interest charged to the inventories.
To predict whether private markets or governmental control will save more of a resource for the future, one must consider the bias which a private market has (in the absence of well-functioning futures markets in natural resources) relative to a simple democratic voting system. Also, however, the bias of bureaucracies toward high levels of activity and bureau growth will complicate prediction in the more realistic world of bureaucratic (not simple democratic) governance. Where stocks must be actively managed, bureaucratic pathologies may lead to even greater inventory carryovers than the private market.
As we indicated above, the market system shifts resources among owners under the rule of willing consent. Trades are voluntary and are expected to leave both parties better off. Prices provide condensed information regarding the relative value of resources and they provide incentives to move those resources to more highly valued uses. When property rights are clear and easily enforced, the market mechanism will (with initial endowments taken as given) efficiently allocate resources, including natural resources.
Energy production provides an excellent example of: (1) the efficient and responsive operation of the market system, and (2) the problems generated by the coercive intervention of the government. An examination of the production of what is now called "alternative" or "soft path" energy is especially enlightening.
In this section we will: (1) introduce the "problem" of alternative energy production in the U.S.; (2) provide a historical sketch of alternative energy production; (3) review governmental programs that precipitated the decline in alternative energy research production; and (4) make some generalizations regarding the functions of governmental subsidies.
Of the many complaints regarding American energy systems one seems especially interesting. Often stated as a question, that complaint becomes, "Why have U.S. companies failed to invest in 'alternative' or 'renewable' sources of energy, particularly 'soft path' and solar?" This is an interesting question because the answer is not intuitively obvious and it is substantially important. Further, the usual reaction to this question is to press for governmental subsidies for alternative energy research and development (R and D). Let us quickly review existing and proposed energy subsidies.
In the years from 1918 through 1977 the Federal Government expended $217.4 billion for incentives designed to stimulate energy production. See for example, Battelle Memorial Institute, An Analysis of Federal Incentives Used to Stimulate Energy Production (1978). Since the 1970s, the "energy crisis" has been a prime political issue. President Carter addressed our energy problems when announcing the "first principle" of his energy program: "We can have an effective and comprehensive energy policy only if the Federal Government takes responsibility for it..."*18 In the fiscal year 1977 alone, the Energy Research and Development Administration called for appropriations of $6.0 billion, an increase of more than 70 percent from the 1975 level of $3.5 billion. See Murray Weindenbaum and R. Harnish, Government Credit Subsidies for Energy Development (1976). Thus, the proposed direction of public policy is quite clear. Further, the idea of fostering energy development through government subsidies is not a new one.
The years since 1977 have produced a substantially increased set of proposals for subsidizing these "alternative" or renewable energy sources. Many of these proposals would dwarf earlier actions even when measured in constant dollars.
The fundamental question we pose is quite simple: can these and other proposed subsidies, meant to encourage the expansion of energy supply in the private sector of the American economy, be justified in terms of social welfare or economic efficiency?
Perhaps we should begin with the issue raised earlier and deal with the fundamental question of why the domestic energy industry is reputed to "need" federal financial assistance. That is: Why would profit-seeking capitalists fail to invest in the development of alternative energy systems? Of course, there is one obvious answer. Such investments seem unlikely to generate normal profits. Pushing the question a bit further, we ask: Why would entrepreneurs not expect alternative energy systems to produce normal profits? To respond to this question we must consider historical evidence.
First, consider the fact that until October of 1973, the real price of conventional fossil fuels was declining at an accelerating rate. It was not only becoming less expensive but the percent of decrease increased annually. (This was due in part to imperfect property rights to oil pools and hence was a transistory condition) Obviously, such a market does not foster the development of substitute products. Given that the recent shortage was caused by political rather than by physical factors, it could not be predicted using standard models of resource consumption. Thus, investors, entrepreneurs, and speculators could not be expected to effectively buffer the consumer from the impacts of shortages.
As an example, let us look at synthetic-fuel production, a current governmental "band-wagon" item. Why the reluctance of private industry to jump into the development and subsequent production of synthetic-fuel substitutes? Government energy policies of the last twenty years, including quotas and price controls on oil and gas, have interfered with the smooth market adjustment to substitute fuels. Through the price control programs, government policy is bringing about, at least temporarily, the very shortages it is seeking to prevent through the proposed synthetic-fuel programs.
Other factors are at work to delay the development of synthetic fuels. In five years the estimated price of crude oil from shale increased 310 percent.*19 A similar picture is painted for price estimates of gas derived from coal. In 1971, a price of $.33 per thousand cubic feet was reported; by 1975 the President's task force on synthetic fuel reported a cost of approximately $2.70 per thousand.*20 Thus, in four years these rough cost estimates have soared 710 percent. The potential investor justifiably pauses at such a path for projected costs. Other price uncertainties are caused by the possibility of continued controls on crude-oil and natural-gas prices. From the above estimates, it is projected that by 1985, prices for conventional hydrocarbons are still likely to be lower than the cost of synthetic fuels. Again, we find understandable reasons for private industries' reluctance to invest in synthetic fuel R and D.
In spite of history, economic theory, and the high risks seen by private industry, many influential people feel that the government should subsidize synthetic fuel and alternative energy programs. Barry Commoner, in an October, 1979 interview in Challenge magazine, judges President Carter's synthetic fuel subsidy program as a "cynical attempt to use public money to bail out the oil companies from their impending difficulties." He does not view shale oil and other synthetic fuels as "alternatives" but rather as a "simple way of bolstering up the conventional system." Commoner feels that the passage of the Synthetic Fuels Program will parallel or repeat economic costs and so override any possible advantages:
"You know the Atomic Energy Commission obligated itself to develop nuclear power without taking into consideration environmental questions and consequent economic questions. The idea was just to forge ahead. See where it's gotten us—into an essential bankrupt industry which has failed.... It will be tragic if we have another failure like nuclear power before we can get onto the proper course."
When the government allocates resources, market signals are distorted: the resources now flow to the most politically powerful rather than to consumer directed uses. With synthetic fuels, there are inherent resource and environmental difficulties, the risk of cancer, the disruption of land, as well as water pollution and drainage difficulties. But, why should a private company invest in other alternative sources of energy, such as wind or solar power, when the government is paying his competitors' costs in synthetic-fuel production? Investments in the private sector are made only when the projected benefits are greater than the costs. Through government subsidization of synthetic fuels or alternative sources of energy, energy costs are borne by society at large through taxation. This bypasses direct cash payment by the individual consumer of energy. As Joskow and Pindyck write in a paper summarized in The Wall Street Journal, July 2, 1979: "But Americans would in fact be much worse off with high taxes than with higher energy prices. Individuals can choose to avoid paying higher energy prices by limiting their consumption, but they have no choice regarding the taxes they must pay."
Proposed subsidies designed to encourage energy production by the private sector of the American economy seem unjustifiable in terms of social welfare or economic efficiency. As we indicated above, when resources are allocated by the market, they tend to be used more efficiently, flowing towards those uses where they can be put to the best advantage. Without government intervention through subsidization, market-stimulated research and development is allowed to follow its own course of satisfying the demands of consumers. In contrast, when subsidies are involved, then political power (rather than consumer decisions made on the margins) allocates resources. It is yet to be demonstrated that such decisions optimize social welfare. Perhaps we can best illustrate some of the destructive qualities of subsidies by briefly examining some of the historical consequences of government intervention through subsidizing energy. Let us now consider historical developments in "soft path" alternatives to conventional energy production.
With the advent of the "energy crisis" of the 1970s, many people became informed of "soft path" alternatives to conventional energy forms. These include solar collectors, wind power, hydroelectric and tidal power, and organic fuels such as methane and alcohol. Contrary to popular belief, these solar energy forms are not recent developments, nor are they presently a great deal more technologically advanced than they were 45 years ago. The Industrial Arts Index from 1913 to the 1940s shows a significant amount of research and practice occurring in all of the solar energy forms mentioned above:
For further evidence that U.S. individuals and firms did indeed respond to opportunities to develop alternatives to the conventional large scale power systems see Baden "Subsidizing the Destruction of Alternative Energy Production," (1979) for a more detailed example of historical developments in wind power, solar energy, and hydroelectric and tidal power.
There are three sets of basic factors that may account for the observed atrophy of R and D in alternative energy systems. One is technological and two are political.
(1) Substantial economies of scale have developed in the production of energy. If these economies are sufficienctly large, they could be sufficient to override the substantial delivery costs associated with remote locations. If energy was "too cheap to monitor," then the only relevant cost was the cost of delivery. Given that some power generating facilities came on line at 2¢/kw (two cents per kilowatt hour), delivery costs would have to be huge indeed for small scale local generators to be economically preferable. Further, new generator technology made it much more economical to transmit power over long distances. These technological considerations, however, constitute neither the complete nor the interesting explanations for the failure of alternative energy systems.
(2) Another component of an explanation involves the structuring of utility rates. For a market to encourage the movement of resources to more highly valued uses, individuals must face the consequences of their economic decisions. Thus, a person who demands power that is expensive to produce and deliver must face prices which include that relatively high expense. If this does not occur, then he need not take account of the real opportunity cost of his action. Thus, he has little incentive to use resources efficiently or to conserve. When individuals do not confront real marginal costs, we cannot expect them to act as though they do.
The politically determined rate structure was set to preclude an accounting that would foster efficient resource utilization. People using expensive-to-deliver power are subsidized in their consumption by those who consume less expensive power. After an initial installation charge, all using the same amount pay the same rate regardless of the cost of delivery. This outcome is politically mandated.
Now let us consider the healthier effects of market pricing of energy without subsidies. Assume that people faced rates that reflected true marginal costs. Were this the case, then those living in remote and, consequently, expensive locations would have strong incentives to become potential consumers of small scale alternative energy production units. The continued existence of this market would have fostered the continuence of R and D efforts by those firms and their potential competitors active in the 1920s, 30s, and 40s.
(3) Perhaps the most important factor fostering the decline of our indigenous alternative energy industry was an unintended consequence of a desire to "do good." The Rural Electrification Administration (REA) was established during the 1930s to subsidize power delivery to people in rural areas. The federal government guaranteed two percent loans and eliminated income taxes to rural power co-ops. Thus, the general citizen picks up a portion of the cost of delivering expensive power and hence reduces the market incentive to develop alternative systems.
Although REA legislation was enacted in the 1930s, the demise of the windmills and wind generators was postponed for another two decades, the time required for electric wires to be strung throughout the Central and Western states. Marcellus Jacobs, founder of the once successful "Jacobs Wind Electric Company," stated that without question, the spread of REA subsidized power facilities signaled the end of his business.*22 The solar water heating industry, resurging after World War II, was also stunted by cheap electric rates. Like wind power and solar water heaters, the ultimate demise of eighteenth and nineteenth century tidal power can also be attributed to the subsidized introduction of cheap electricity.
It is clear that there were worthy goals underlying REA. The ideal of bringing power to all of the people is, perhaps, inherently attractive. Unfortunately, however, not all good things go together. There were unanticipated costs associated with the decision to subsidize power delivery. The first cost, that of inefficiently employing power poles, labor, and copper wire, seems relatively trivial when compared with the second. The crucial cost is the loss of forty years of research and development in the area of alternative energy development. By providing subsidies for rival energy forms a market in alternative energy was severely restricted. The absence of a competitive market allows little incentive to develop and produce a product. As a result, REA eliminated a once thriving wind power industry and contributed to a decline in R and D efforts in alternative energy sources.
Our current retarded position, caused largely by subsidies, has led to arguments that we should now subsidize the development of alternative energy systems. But clearly there is a problem with subsidies. Specifically, a subsidy inhibits developments in areas not subsidized. Since the future is uncertain we can never know what the cost of our bias will be. We can only know that there will be a cost.
Had we perfect vision in the 1930s and predicted the energy crisis of October, 1973 we could have accomplished the objective of distributing power while fostering R and D efforts. It now seems clear that had we given each recipient of subsidized power his subsidy in cash and provided him the option of systems, he would have the benefits of power and we would have the fruits of forty additional years of research. Given that: (1) bureaucracies find it difficult to be time and place specific, and hence to encourage variation, and (2) that the future cannot be predicted, we want to exercise extreme caution before making a commitment to additional subsidies. We cannot at this time anticipate the future costs of present subsidies.
An increasing proportion of people understand the linkage between property rights and efficient and equitable resource management. Although this perspective is recognized as "new," it actually is "neo." The process of social evolution led to the development and implementation of this understanding among various ethnographic units, including some of the American Indian tribes. In this section we consider two cases. The first deals with a fugitive resource whose characteristics are such that control costs (and hence management difficulties) are very high. As we would suspect, property rights were not established in this case. The second case involved a relatively sedentary or "locatable" resource where property rights were more easily defined and enforced.
The Indians of the American Plains are among the most well known and eulogized of all tribal peoples. The culture for which they are famous was of only short duration and was based on the horse and the buffalo.
Prior to the introduction of the horse, the hunting of bison was uncertain, and relatively unproductive. In the pre-horse period the capture of a buffalo was comparatively rare. The buffalo was highly valued and hence fully utilized.
In effect, the introduction of the horse, steel tools, and later firearms lowered the "price" of the animal. As the price fell due to technological adaptation, patterns of utilization changed dramatically. During this period many buffalo were killed by Indians merely for the tongue and the two strips of back strap. By 1840 the Indian had driven the buffalo from portions of the original habitat and there is evidence of concern about this occurrence. Earl F. Murphy states that "[O]nly the simplicity of weaponry and the small number of these nomadic peoples kept the buffalo from meeting its fate two centuries earlier." See Haines, The Buffalo (1970), pages 156-159 for a general description, and Earl F. Murphy, Governing Nature (1967), page 99. Compounding this shift in technology was the Indian's new market of hides sought by the white man. Thus, there was both a supply shift from lower costs of production and a new use of buffalo (sales) which led to an increase in demand.
Thus, in observing the Plains Indians we witness efficient behavioral adjustment to changing prices by inefficient management of a common property resource. Given multiple tribes, a fugitive resource, and high transaction costs, the Indians were incapable of establishing property rights and managing the buffalo as a renewable resource. Regardless of the ideology of the resource users, it is obvious that wise use is difficult to achieve when property rights are undefined and unenforced. Communally owned resources (i.e. where private property rights are not established) tend to foster ecologically damaging behavior. In this case the benefits from harvesting additional buffalo accrued to the individual hunter and his group while the costs of depletion of the herd were distributed among all potential hunters. In such a common property context, since the full costs of hunting are not borne by the hunter, over-use is predictable.
One of the first systematic accounts of the development of property rights is Harold Demsetz's treatment of the North American fur trade in "Toward a Theory of Property Rights," American Economic Review (1967). The institution of private hunting territories among the Labrador Peninsula (Montagnais) Indians was described by the anthropologist, Frank Speck, in "A Report on Tribal Boundaries and Hunting Areas of the Malecite Indians of New Brunswick," American Anthropologist (1946).
These Indians were primarily hunters subsisting on large game such as caribou and small fur-bearers such as beaver. Prior to the development of trade with Europeans there was little pressure upon these resources. Demand was below carrying capacity and the tribes hunted communally, sharing the harvest. With the establishment of the French fur trade routes in the early 1600s came the incentive for over-exploitation of the resource. Localized extinction of the beaver could be predicted with the increasing value, scarcity, and depletion of the beaver under the existing system of property rights. But unlike the buffalo, which was virtually condemned to extinction as common property, the beaver were protected by evolving awareness of private property rights among hunters. By the early to middle eighteenth century, the transition to private hunting grounds was almost complete and the Montagnais were managing the beaver on a sustained yield basis. Eleanor Leacock notes that trappers readily adopted conservation practices when they were able to personally collect the benefits. She notes in "The Montagnais 'Hunting Territory' and the Fur Trade," American Anthropologist (1954), that "[t]he Western Montagnais farms his territory by marking his houses, ascertaining the number of beavers in them, and always leaving at least a pair." The system of private ownership developed parallel to the fur trade. Leacock*23 observed "an unmistakable correlation between early center of trade and the oldest and most complete development of the hunting territory.".
The difference in behavior between the beaver and the buffalo hunters may be traced to the different institutional structures. The inherent characteristics of the resources are fundamentally different, i.e., while the buffalo is a fugitive resource, beaver are sedentary and thus are amenable to private appropriations. Further, the transaction costs for a relatively homogeneous group of tribes such as the Montagnais are lower than among the warring Plains tribes. Thus, institutional accommodation should be easier to achieve.
With the significant intrusion of the white trapper in the nineteenth century, the Indian's property rights were violated. Because The Indian could not exclude the white trapper from the benefits of conservation, both joined in trapping out the beaver.
A similar shift to the mining of beaver by the Algonquin relatives of the Montagnais, the Malecite, is described by Speck.
"The occasion for this change in Indian sentiment regarding conservation was made plain by the informant's declarations that the native hunters, seeing that the whites were bent on wholesale destruction of the game animals and fur-bearers, deliberately decided to take their share and profits from the forests before it became too late, and did so. And thus the epoch of conservative, regulated hunting by the Malecite... came quite abruptly to an end."*24
In essence, the Indians lost their ability to enforce property rights and rationally stopped practicing resource conservation.
As we have indicated, when there are not clear property rights, where there are substantial public or easily nonpackageable goods associated with a resource, or where there are pervasive monopoly problems, there are pervasive monopoly problems, there is a valid argument for governmental intervention. Unfortunately, the governmental solution to this failure is quite often more costly than the original failure.*25 For an elaboration of the logic presented here see the following studies by Baden and Stroup. "Externality, Property Rights and the Management of Our National Forests," The Journal of Law and Economics 16 (October 1973): 303-312; "Private Rights, Public Choices, and the Management of National Forests," Western Wildlands 2, No. 4 (Autumn 1975):5-13; "Property Rights, Environmental Quality, and the Management of National Forests," Ch. 22 of Managing the Commons (1977). See also by Baden and Stroup "The Environmental Costs of Government Action," Policy Review (Spring 1978): 23-38; "Response to Krutilla and Haigh," Environmental Law, Vol. 8, pages 417-421; "The Development of a Predatory Bureaucracy," Policy Review (Winter 1979).
Some of the best examples (and worst cases) of governmental failure are found in the lands managed by the federal government. In this section we will: (1) review one case of governmental mis-management and (2) describe a mechanism for correcting this problem. The case is the Bureau of Land Management lands in the West.
For many years the Bureau of Land Management (BLM), quite unlike the Forest Service, was large immune from public controversy and conflict. The BLM, which developed from the Grazing Service established by the Taylor Grazing Act of 1934, has two primary client groups. The first is the stockmen of the West. The second has involved those who used BLM lands for mineral and other resrouce-extracting purposes. Recreation has been a relatively minor component of BLM management plans. BLM holdings have been known as "the land no one wanted." Indeed, few even knew they existed.
For good or ill, this situation has changed dramatically. Beginning with the environmental movement, the Classification and Multiple Use Act of 1964, and especially with Earth Day in April 1970, BLM lands were "discovered." With added understanding by the growing environmental movement, BLM lands became identified and recognized. Their managers became exposed to criticism and litigation.
The inherent conflict of BLM management goals was further codified with the BLM's organic act of 1976, especially with section 202. The BLM is mandated to provide multiple use on the lands it manages. No longer need they satisfy only the stockmen and the miners. Under the current wilderness review, a substantial portion of BLM land has become the focus of significant conflict over use and management.
In this issue as in most others there are no perfect solutions and none that are cost free. There simply is no way BLM managers can satisfy all the competing factions. Public controversy will continue and public relations will become more important than range management. Fortunately, however, there is a solution. While it is not cost free, and while there will be winners and losers, the solution is likely to be preferable to the existing circumstances.
Ideal management of the BLM lands would provide a diversity of uses, would have management that is adaptive to changing national needs and priorities, and would distribute the benefits nationally. We suggest that these goals can be approached most nearly by the divestiture of BLM lands. Only in this way can all of the people of the nation capture the benefits into perpetuity produced by the 170 million acres of land in the West now managed by the BLM.
A divestirue plan which conveys selected rights to BLM land into the private sector would avoid many problems, while retaining for the general public the value of future productivity from those rights. What we are suggesting is the sale of BLM lands with protective covenants. If rights to a tract of land are thought of as a bundle of sticks, most of those sticks would be sold, but not all. In an area providing important recreational access, for example, the land might be sold without the right to exclude properly behaving hikers. The right to kill certain ecologically important predators might also be with held from sale.
Would those people currently enjoying BLM leases be disadvantaged? We think not, if the sale terms are properly established. In general, current lease holders would be offered permanent property rights to do what they are now doing plus all other land rights not specifically retained by the federal government. Making these property rights permanent would increase the value of land use to the user, since the benefits of long term management practices, such as range improvement, would clearly be captured by the user into the future. Users with a short time horizon might well choose to sell their new asset, but they would still have the incentive to avoid overgrazing, erosion, or any other practice which would reduce the value of their land. By the same token, such expensive (and sometimes very destructive) practices as chaining and rest-rotation grazing would be carried out only when the long-term plus short-term benefits outweighed the long-term plus short-term costs. This would be true because the land owner would both pay the costs and receive all the benefits.
The terms of sale under our divestiture plan would make available to current users the land they now utilize in return for payment equal to the present value of all future lease payments, discounted at the rate of interest on long-term agricultural loans being made in their area. Parcels of land not bought on those terms by current lease holders would be offered at auction with a starting bid equal to the price offered to the current lease holder.
Diversity of land use on lands thus conveyed into the private sector would be guaranteed, for the same reason that diversity exists in an urban area: any entrepreneur with a vision of appropriate land use can bid for the right to implement his vision. Adaptiveness to changing conditions is fostered for the same reason. Those wishing to try new ideas can do so without having to convince either a giant bureaucracy or a majority of elected representatives. Ideas that turn out to be crackpot schemes are quickly exposed and stopped automatically due to the drain on the wealth of entrepreneurs and financiers. In a private setting we need not count on the good will or morality of decision makers; their greed will suffice. Decision makers who move the resources into higher valued uses will prosper, whereas those who devote resources to uses others do not value highly will be systematically separated from wealth and thus from their ability to make socially important decisions in the future.
A crucial feature of our divestiture plan is the equity of its outcome. Current users will be advantaged by having available the opportunity to gain by better long-term management of the land they are using. Citizens will gain not only by increased productivity, but by being able to capture the value of their productive resource into perpetuity, to at least the same degree they are doing now. In addition, taxpayers will not have to pay the high management costs they now bear through funding the BLM.
In summary, we believe that a plan to privatize the lands currently managed by the BLM can be arranged to the benefit of everyone with the possible exception of the bureaucracy itself. The continuing and expensive hassle of intensive lobbying by environmentalists, producer groups, and others can be avoided. The ongoing debate over environmental law as it applied to private lands will continue, of course, but the perpetual struggle over lease rates and the appropriate land use pattern will be ended, as will the occasional scandals which inevitably arise when public figures and bureaucrats continually control billions of dollars and assets without any means of being held personally accountable for their use.
Since individuals rather than groups or societies, make decisions on natural resource management, the property rights approach is highly relevant to the analysis of those decisions. Each decision maker can be expected to be concerned with appropriate management from his own point of view rather than from an "efficiency" or a societal point of view. Because individuals differ, it is important to know who controls a resource (has the right to allocate its use). With privately owned property rights, a resource is generally controlled by those with the most optimistic view of how they might be used, as constrained by ability to finance resource use or ownership. (Banks and financiers act as a filter on crackpots.) New ideas and new opportunities bring shifts in resource control, as the identities (and plans) of high bidders for a given resource change. Positive transactions costs, however, hinder the flow of resource rights to higher valued uses. In the extreme case property rights are effectively undefined and obvious resource waste (e.g. excessive pollution) occurs.
Market failure results when property rights fail to cause decision makers with authority over resource use to be faced with the full responsibility for their decisions. Since governmental control almost never makes fully effective the linking of authority to responsibility, public sector control clearly will fail also to reach ideal efficiency goals.
Any realistic approach to the formation of good (or improved) natural resource management will take these important facts into account. As Demsetz has indicated, one should not commit the "grass is always greener" fallacy and assume that if one institutional arrangement is imperfect the desire for improvement should lead to an ideal alternative.*26 We must compare realistic alternatives with the imperfect status quo, instead of an ideal (but unattainable) alternative with the imperfect status quo. When the market is known to fail, for example, we should not leap in to replace it with collective control assuming that well-intended and omniscient bureaucrats, oblivious to career goals and political pressures, will solve our problems. Similarly, if we move toward a market solution, the existence of transaction costs must not be forgotten as if they did not exist.
In a sense, the property rights and related public choice approaches to natural resource management are worthy of the "dismal science" title which Thomas Malthus gave to economics. We are reminded that a responsible analyst must segregate hopes and ideals from expectations. Yet the new approach is quite constructive in useful ways. It counsels us mainly to recognize incentives to individuals, and to shape them when necessary. It tells us that institutions are crucial in decision making. Indeed, one can maintain with Alan Randall, in "Property Rights and Social Microeconomics," Natural Resource Journal 15 (1975):746, that this new approach is a rebirth, with the infusion of neoclassical microtheory, of the tradition of institutional economics long associated with J.R. Commons.
Policy Principles suggested by the works we have summarized include the following:
(1) Privatization of property rights, taking them from the public sector, may improve management from society's viewpoint. As indicated in the section above on grazing rights; in Alred Cuzán on water rights, "A Critique of Collectivist Water Resrouces Planning," Western Political Quarterly (1979); and by Bruce Yandle on air pollution, "The Emerging Market for Air Pollution Rights," Regulation (1978); a plausible case can be made that market constraints are superior to collective controls in resource management. Always, however, the problem of transactions costs must be carefully examined before final judgement can be made. The ideal market with perfect competition does not (and will never) exist.
(2) In a world of change, it is crucial to minimize transactions costs so that resources can flow to higher valued uses. Price controls, regulation of all kinds, and curbs on profits to those controlling the resources moved to higher valued uses are all virulent forms of what is frequently called "The British disease." The net gains to society from increased efficiency should, we think, be sought by the reduction of such measures. Increased efficiency is, after all, a positive sum game.
(3) When collective control is deemed necessary despite its drawbacks, it is frequently possible (and usually desirable) to mimic the market. This normally amounts to privatizing a collectively determined set of rights, as in marketable pollution rights and transferable development rights, or using taxes and subsidies in place of direct controls. Bureaucrats and politicians will normally prefer direct controls, since that path enlarges their discretion and their budgets. As even such governmentally oriented economists as Charles Schultze and James Schlessinger have cogently argued,*27 however, shaping incentives is generally a more effective solution. No matter how elegant the operations research solution might be, it will seldom be implemented properly without the flow of information and the set of incentives only a market can provide. No one is omniscient. No one lives to maximize efficiency.
In brief, the property rights approach indicates that privately held rights, far from being the root of ecological problems and natural resource misuse, may be a key element in their solution. Markets will never be perfect, but government failures are both obvious and intractable. Resources held as part of a decision maker's wealth will seldom be squandered.
Notes for this chapter
John Krutilla and Talbot Page, "Paying Tomorrow for Energy Today," Resources, No. 49 (June 1975).
In reality, the value of the mine in "current" development is subject to some uncertainty, particularly since development is not really confined to one short time period. But the degree of uncertainty is small relative to development farther into the future. One could work with a similar, though much-compressed, distribution of estimates of value in current use, but that would seem to add complexity with no change in the basic outcome in comparing private and collective management systems.
Median voter is the individual whose E(P) splits the distribution, in the sense that half the other people lie above him, and half below.
Robert Solow, "The Economics of Resources or the Resources of Economics," American Economic Review 64 (May 1974):10.
Solow, "The Economics of Resources or the Resources of Economics," 13.
Anonymous, Detailed Fact Sheet: The President's Energy Program.
See Weidenbaum and R. Harnish, Government Credit Subsidies for Energy Development (1976).
See Weidenbaum and Harnish.
Table constructed by Shelia Hart.
John Baden, "Subsidized Destruction of Alternative Energy," mimeo, Center for Political Economy and Natural Resources (October 1979).
Eleanor Leacock, "The Montagnais 'Hunting Territory' and the Fur Trade," American Anthropologist (1954), page 12.
Frank Speck, "A Report on Tribal Boundaries and Hunting Areas of the Malecit Indians of New Brunswick," American Anthropologist (1946).
See also by Baden and Stroup "The Environmental Costs of Government Action," Policy Review (Spring 1978):23-38; "Response to Krutilla and Haigh," Environmental Law, Vol. 8, pages 417-421.
See Harold Demsetz, "Toward a Theory of Property Rights."
See Charles Schultze, The Public Use of the Private Interest, and James Schlessinger, "Systems Analysis and the Political Process."
End of Notes
Return to top