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Cost of Nature

Theories, however, cannot explain why some countries succeed while others fail in transforming natural resources to higher productivity and growth; the answer probably lies in the institutional environment of a country. If institutions promote transparency and incentivise productive and entrepreneurial activities and protect property and other rights of individuals, natural resources are likely to impact the economic outcomes positively.

Govind Bhattacharjee | New Delhi |


Modern economics and public policy will be in no man’s land without the concept of GDP to measure growth, which came out of Adam Smith’s Wealth of Nations. GDP measures the flow of products and income, both representing different measures of the same continuous flow. GDP is the sum total of private and government consumption, investment and the net of exports over imports, which gives the money value of all goods and services produced and purchased within the economy in a given period ~ usually a year.

Measurement is central to management, though not everything that matters is always measurable and there are dysfunctional aspects of measurement too. Thus, GDP cannot distinguish between good and bad spending for consumption or investment, neither can it reflect how the growth gets distributed among people and hence cannot capture inequality or its negative consequences upon society. But nevertheless, GDP remains essential for setting governmental priorities; governments are obsessed with its growth as reflection of their performance, despite the fact that it leaves out too many things which are crucial to policymaking.

Most importantly, GDP does not count the natural capital and ecosystems of a country. Preserving natural resources is essential for intergenerational equity and future growth of a country, but GDP assumes that natural resources are free. Its calculation reflects natural resources only when they are extracted, commoditized and sold, even if it is environmentally unsustainable. One common example is the exploration and production of fossil fuels which affect the climate adversely while supporting much of the consumer economy, thereby contributing to the GDP. But ‘real’ growth must be sustainable and must factor in environmental degradation like deforestation, diminishing biodiversity or deterioration of water quality.

As Joseph Stiglitz had said “What you measure affects what you do,” because if “you don’t measure the right thing, you don’t do the right thing”. The latest UN framework adopted by the UN Statistical Commission attempts to correct this deficiency by making environmental conservation an essential element of economic development so that the ‘natural capital’ of a country – forests, wetlands, biodiversity and ecosystems can be counted in reporting the wealth of the countries. Indeed, the overreliance on GDP as the sole measure of growth and progress often distorts priorities of governments.

GDP must be considered in conjunction with metrics for poverty, inequality, erosion of the natural capital and other socio-economic indicators to reflect real progress. Several such metrics have been developed, including the Genuine Progress Indicator (GPI) used by the Maryland state of USA, which uses 26 economic, social and environmental indicators like pollution, depletion of natural resources, crime, etc. It divides consumption expenditure by income inequality to derive ‘adjusted consumption expenditure’ which is used to direct the policymakers’ focus on reducing inequality.

The Un framework, called the Environmental-Economic Accounting Ecosystem Accounting (SEEA-EA) and adopted by the UN Statistical Commission, marks a major step forward in recognising the value of nature in human life. As UN Secretary-General António Guterres said, “We will no longer be heedlessly allowing environmental destruction and degradation to be considered economic progress.” Nature is not only an economic asset, it impacts our lives as ‘individuals, societies and species’. Our prosperity depends on preserving nature and passing it undamaged to our children.

As many as 34 countries of the world are preparing some form of ecosystem accounts on an experimental basis and with adoption of SEEA-EA, many more countries are likely to follow suit. They will of course need financial and technical support from international institutions. It could indeed be a game changer for action on climate change. This will also be in line the UN Sustainable Development Goals (SDG) ~ especially Goal 8: Promoting sustained, inclusive and sustainable economic growth, including decent work for all and Goal 13: Taking urgent action to combat climate change.

The SDGs entwine the five intertwined and interdependent Ps: People, Planet, Prosperity, Peace, and Partnerships, none of which is achievable without conserving Nature. Resource accounting is fairly complex because of difficulties in establishing definitional boundaries, estimating natural capital, its net depletion and assigning a value to these. The World Bank reckons development as a process of building and managing a portfolio of assets.

“The Changing Wealth of Nations” brought out by the Bank attempted to measure the total wealth of nations following a methodology that takes future consumption into account ~ spreading it among three components: ‘Produced’ or man-made capital which comprises machinery, equipment and structures; ‘Natural’ capital comprising agricultural land, areas, forests, minerals and energy and ‘Intangible’ capital measured as the difference between total wealth and sum of the other two capitals; it implicitly includes human, social and institutional capital.

It estimates that the high-income OECD countries alone account for 82 per cent of the global wealth, while the poorest countries accounting for 10 per cent of the global population hold less than 1 per cent of global wealth. This highlights the extreme inequality that exists between the rich and the poor nations. A February, 2021 UNEP report, “Making Peace with Nature,” also highlighted that the global economy has grown fivefold over the last 50 years due to the tripling of natural-resource-extraction which boosted production and consumption, while during this period, world population has doubled to 7.8 billion, with 1.3 billion people living in poverty and 700 million going hungry.

The rich world scarcely takes notice. Most countries start out with relatively high dependence on natural capital and use these assets to build more wealth. But in the course of development, the composition of total wealth changes. The global share of natural capital fell from 34 per cent in 1995 to 25 per cent in 2005, with increases in the shares of other forms of capital. The methodology provided is used to estimate the total ‘natural resources rent’ ~ the different between the value and the cost of production of natural resources – which was 2.5 per cent of global GDP in 2018 (2.3 per cent for India).

But for some lowest per capita income countries in the world, it has a disproportionately high share, e.g. Azerbaijan (30 per cent), Republic of Congo (55 per cent) or Mongolia (40 per cent), while some of the richest per-capita-income countries like Singapore or South Korea have practically no natural resources. Economists sometimes refer to a ‘Resource Curse’ to imply that that resource dependence undermines long-run economic performance. There are notable exceptions too, like Australia, Botswana, Chile, Malaysia, etc., which are both resource-rich and enjoy high per-capita income, often due to the former.

The resource curse occurs when a country begins to focus on a single industry, such as mining or oil for all its production, while neglecting other sectors in a phenomenon known as the ‘Dutch Disease’ as observed in Netherlands following the discovery of North Sea gas in the late 1950s. The resource windfall generated additional wealth, which raised the prices of non-tradable goods like services, which in turn led to higher wages in the services sector. But the resulting reallocation of capital and labour to services caused contraction of manufacturing, leading to deindustrialization and affecting long-run growth.

Theories, however, cannot explain why some countries succeed while others fail in transforming natural resources to higher productivity and growth; the answer probably lies in the institutional environment of a country. If institutions promote transparency and incentivise productive and entrepreneurial activities and protect property and other rights of individuals, natural resources are likely to impact the economic outcomes positively. In the absence of such institutional support, resources may harm the cause of development by breeding corruption and cronyism, which we have seen aplenty in India – allocation of coal blocks and telecom spectrum being tell-tale examples.

There has been plenty of debate over the role of natural capital in “sustainable” economic development, and even whether natural resources are good or bad for economic development. Empirical evidence points out that poorer economies with abundant natural resources do not always develop more rapidly than economies that are relatively resource poor. Economic development necessarily depends on the irreversible depletion of natural capital. This need not necessarily imply that such development is inherently unsustainable.

The critical issue is how the future generations can be compensated for the current loss of natural capital. Environmental Kuznets Curves depict an “inverted U” shaped relationship between resource depletion and the level of per capita income implying that environmental degradation ultimately declines after rising initially. Concern for environment increases along with rising per capita income, leading to legislations for clean air and conservation of ecology.

But without public policies being in place to ensure that welfare-damaging environmental externalities are corrected by reinvesting the rents generated from the depletion of natural capital in conservation initiatives, the environmental damage may become irreversible. Across the world, governments are still pouring in US$5 trillion in annual subsidies to fossil fuels, non-sustainable agriculture and fishing, non-renewable energy, mining, and transportation. The adoption of the latest framework, SEEA-SA, will definitely be a move forward towards sustainable development if it can reverse this ominous trend.

(The writer is a commentator, author and academic)