Ecological Economics: Principles and Applications

Chapter 2: The Fundamental Vision

Herman E. Daly and Joshua Farley

Chapter Overview

o The Whole and the Part

o Optimal Scale

o Diminishing Marginal Returns and Uneconomic Growth

o A Paradigm Shift

o The Circular Flow and Linear Throughput

o Say’s Law: Supply creates its own demand

o Leakages and Injections

o Linear Throughput and Thermodynamics

The Whole and the Part

Standard Economics sees the Economy as the WHOLE system.

Ecological Economics sees the Economy as part of a larger ‘Earth System’

Open, Closed, and Isolated SystemsOpen System: Matter and Energy Flow in and out. (Example: A human being)Closed System: imports and exports Energy only.

(Example: The Planet Earth)Isolated System: Neither matter nor Energy enter or leave.

(Example: hmmm tough one – The Universe?)

Pre-Analytic vision of Neo-Classical Economics is that there are no opportunity costs associated with perpetual growth of the macroeconomy; or , there is no such thing as uneconomic growth.

Optimal Scale

Optimal scale is not strange to microeconomics. Question: At what level of production does one stop making widgets?

When Marginal Costs = Marginal Benefits

The ‘When to stop rule’. Strangely, there is no such rule in the Macroeconomic world view. Why? Because there are no opportunity costs for growth when the ECONOMY is viewed as an isolated system. This world view ‘works’ in an empty world. However, in a full world the opportunity costs of growth become so large that we have uneconomic growth in which welfare actually goes down.

Welfare is a psychic entity. Matter and Energy are physical entities.

“Neglecting the biophysical basis of economics gives a false picture. But neglecting the psychic basis gives a meaningless picture.”

Diminishing Marginal Returns & Uneconomic Growth

The preanalytic vision of Ecological Economics is expressed in the figure to the right. Stanley Jevons asked the question:

‘When does the effort of working begin to exceed the value of the wage to the worker?’

An Ecol Econ analogous question:

‘When does the cost to all of us displacing the Earth’s ecosystems begin to exceed the value of the extra wealth produced?’

‘b’ – where we want to be

‘e’ – grim life at carrying capacity

‘d’ – the end of the world as we know it and we feel fine.

The greatest good for the greatest number problem – See Garret Hardin Paper

A Paradigm ShiftWhy do Neoclassical economists not see the problems associated with ideas of the ‘Full World’, diminishing marginal returns, and uneconomic growth?

1)They believe we are still in the ‘Empty World’ thus, MU is still very large relative to MDU.

2)Technology will save the day preventing MDU from ever becoming too large relative to MU.

3)The Paradigm problem – The Economy is simply not seen as a subsystem of a larger ecosystem. The Economy is an isolated system that can grow indefinitely.

Where conventional economics espouses growth forever, ecological economics envisions a steady-state economy at optimal scale. Each is logical within its own preanalytic vision, and each is absurd from the viewpoint of the other. The difference could not be more basic, more elementary, or more irreconcilable.

Circular Flow Diagram & Linear ThroughputThe Product Market sets prices for goods and services.The Factor Market sets prices for land, labor, and capital.

Factor prices multipliedBy the amount of each Factor per household isThe household income. The sum of all householdIncomes is National Income.The sum of all goods andServices is National Product.

Nat. Product = Nat. Income

The above is axiomatic byAccounting convention. Profit is counted as part of national income.

Question from text: ‘Would the equality (above) still hold if Profits were negative?Where Profits = Value of Total Production – Total Factor Costs

Assumptions of Circular Flow Diagram

Say’s Law: Supply creates its own Demand

‘If you build it they will come’ …well, not necessarily.

For a long time, economists believed Say’s Law ruled out any possibility of long-term and substantial unemployment. The Great Depression put a damper on that fantasy. The depression did convince a few of these economists to change their mind about the comforting ideas implicit in the circular flow diagram (among these economists was John Maynard Keynes)

It is increasingly recognized that the circular flow diagram is an oversimplification that fails to account for significant ‘leakages’ and ‘injections’ that do not necessarily balance one another.

Leakages & InjectionsExample of Leakage

Taxes Paid to Government

Example of Injection

Government Spending on Roads, Satellites, Military, Fish and Wildlife, Police, Education, National Parks, etc.

Things like imports, exports, savings, borrowing, taxes, and government spending complicate the simplicity of the original circular flow diagram. Question:

By including leakages and injections have we saved the preanalytic vision?

What is really ‘flowing’ in the Circular Flow Diagram?

Is it physical goods and services and physical laborers and land and resources? Is it ‘Money’? Actually, because the preanalytic vision of traditional economics is such that the economy is modeled as an isolated system, the ‘flow’ must be called ‘Abstract Exchange Value’ because even physical money is subject to the laws of thermodynamics.

When goods arrive to the households, the “soul’ of exchange value jumps out of its embodiment in goods and takes on the body of factors for its return trip to the firms, whereupon it jumps out of the body of factors and reincorporates itself once again into goods, and so on.

What happens to all the discarded bodies of goods and factors as the ‘soul’ of exchange value transmigrates from firms to households and back ad infinitum?

Does the system generate wastes?

Does the system require new inputs of matter and energy?

If not, then the system is a perpetual motion machine. Ain’t no such thang.

The Laws of Thermodynamics

Paul’s Version of the laws of Thermodynamics

1)You can’t win. You can only break even.2)You can only break even at absolute zero.3)Absolute zero is impossible to obtain.

Has anyone heard of“Maxwell’s Demon”?

Thermodynamics Concepts Inventory

Image taken from “Thinking Physics” be Lewis Carroll Epstein (super brilliant book)

Those pesky 2nd Law guys…..

Question: A room has a refrigerator in it. Can you cool the room by leaving the fridge door open?

Can we put the ‘Circular Flow’ diagram in its place?

“The circular flow vision is analogous to a biologist describing an animal only in terms of its circulatory system, without ever mentioning its digestive tract. Surely the circulatory system is important, but unless the animal also has a digestive tract that connects it to its environment at both ends, it will soon die either of starvation or constipation. Animals live from a metabolic flow – an entropic throughput from and back to their environment. The law of entropy states that energy and matter in the universe move inexorably toward a less ordered (less useful) state. An entropic flow is simply a flow in which matter and energy become less useful; for example, an animal eats food and secretes waste, and cannot ingest its own waste products. The same is true for economies. Biologists, in studying the circulatory system, have not forgotten the digestive tract. Economists, in focusing on the circular flow of exchange value, have entirely ignored the metabolic throughput. This is because economists have assumed that the economy is the whole, while biologists have never imagined that an animal was the whole, or was a perpetual motion machine.”

The Fallacy of Misplaced Concreteness

Alfred North Whitehead - “Do not mistake the map for the territory”

We cannot think without abstraction. All the more important, therefore, to be aware of the limits of our abstractions. Thepower of abstract thought comes at a cost. The fallacy ofmisplaced concreteness is to forget that cost.

Pertinent Joke:

An economist, a chemist, and a physicist are stranded on adesert island with no food. A palate of canned food washes ashore……

The Hourglass Analogy linking the laws of Thermodynamics to both renewable and non-renewable Energy sources

Sunlight – Renewable EnergyInfinite quantityFixed Flow

Fossil Fuels –Non-renewable EnergyFinite QuantityVariable Flow

Today, Humanity burns400 years of Ancient sunlight every 1 year.

Big Ideas to Remember

Whole and Part Linear ThroughputOpen, Closed, and Isolated Systems Say’s LawOptimal Scale Leakages and InjectionsFull world vs. Empty World Fallacy of misplaced concretenessDiminishing marginal utility Entropy hourglassIncreasing marginal costs Measures of throughput volumeCircular flow Laws of Thermodynamics

…In sum, Americans waste or cause to be wasted nearly one million pounds of materials per person per year.

That’s a lot of Throughput to abstract from – to leave out ofYou model. Question:

What should we focus on first – efficiency or frugality?