[2.1.1e] Protection of the Environment
Business Activity and Environmental Damage
Economic activity generates substantial external costs borne by society and the natural environment. Businesses pursuing profit typically do not account for these environmental costs in their pricing decisions, leading to overproduction of environmentally damaging goods and services relative to what is socially optimal.
Environmental protection is therefore a macroeconomic objective — governments must intervene to reduce pollution and preserve natural resources for present and future generations.
Ways Businesses Damage the Environment
Visual pollution includes any form of environmental degradation that reduces the aesthetic quality of an area. Business-related sources include: large advertising billboards and signage; industrial waste sites and landfill areas; deforestation and open-cast mining leaving scarred landscapes; litter from packaging, takeaway containers and commercial waste. Visual pollution reduces property values, discourages tourism and can harm the mental wellbeing of local communities.
Noise pollution from business activities includes: aircraft taking off and landing near airports; heavy goods vehicles and freight trains; construction and demolition; factory machinery; nighttime deliveries to retail premises. Chronic noise exposure is linked to sleep disruption, stress, cardiovascular disease and reduced cognitive development in children — imposing significant health costs on nearby residents.
Air pollution from business activity includes: carbon dioxide (CO₂) and other greenhouse gas emissions from burning fossil fuels in factories, power stations and transport; toxic emissions (nitrogen oxides, sulphur dioxide, particulate matter) from industrial processes and diesel engines; chemical releases from manufacturing. Air pollution causes respiratory disease, climate change and acid rain — imposing enormous costs on public health systems and future generations worldwide.
Water pollution from business activities includes: industrial effluent discharged into rivers, lakes and coastal waters; agricultural run-off containing fertilisers and pesticides; oil spills from shipping and extraction; pharmaceutical residues; plastic waste entering waterways. Water pollution harms ecosystems, kills wildlife, contaminates drinking water and requires expensive remediation — with costs falling on taxpayers and future communities rather than the polluting businesses.
Government Intervention to Protect the Environment
The policies available to governments are the same as those used to address externalities generally (see benchmark 1336), applied specifically to environmental protection:
| Policy | How it works | Example |
|---|---|---|
| Taxation | Taxes on polluting activities raise their private cost, reducing output toward the social optimum | Carbon tax on fossil fuel use; fuel duty; plastic packaging tax |
| Subsidies | Subsidies to environmentally friendly alternatives lower their cost relative to polluting options, shifting consumption and production | Subsidies for solar panels, electric vehicles, insulation |
| Regulation | Laws setting maximum pollution limits, product standards or banning harmful practices entirely | Vehicle emissions standards; bans on single-use plastics; mandatory recycling requirements |
| Fines | Financial penalties for environmental violations, creating a deterrent and compensating for damage caused | Fines for illegal dumping; penalties for exceeding permitted emission levels |
| Pollution permits | Cap-and-trade schemes setting a total pollution limit; firms trade permits so reductions occur where cheapest | EU Emissions Trading System (ETS) for carbon emissions |
| Government provision of parks | Creating and maintaining public green spaces, national parks and nature reserves preserves biodiversity and provides environmental services free at point of use | National parks; urban green spaces; nature reserves protecting habitats |
Key Takeaways
- Business activity generates environmental external costs including visual, noise, air and water pollution.
- Because these costs fall on third parties and future generations, the free market overproduces environmentally damaging goods — justifying government intervention.
- Government tools include: taxation (raises polluters' costs), subsidies (encourages clean alternatives), regulation (sets legal limits), fines (penalises violations), pollution permits (caps total pollution) and provision of parks (preserves natural environments).
- No single policy is universally best — effective environmental protection typically requires a combination of approaches.