Putting a Price on Injustice

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September 17, 2007

As everyone knows, when people pollute, they impose costs on society. The problem is, the people who benefit from the pollution don't have to bear all of the costs of their actions, and therefore they often have no incentive to avoid polluting. If left unchecked, polluters could destroy the environment, and severely decrease the standard of living for the entire population. This is 'The Tragedy of the Commons,' first made famous by Garrett Hardin in his 1968 essay of the same name. Economic theory elaborates: when people create harmful side-effects for others through their actions, they are said to be producing 'externalities.' Clearly, the existence of externalities is a real problem for society. If people were allowed to impose significant costs on others without being held responsible, justice would obviously not be being served, and society as a whole would likely suffer.

One possible reaction to the existence of externalities is prohibition of externality-generating activities. That is, if an action imposes costs on others, it could be made illegal. With regard to pollution, many environmentalists feel that this is the correct solution, since anything else would allow people to harm the environment for their own selfish gain.

But economists generally take a different tack. They reason that the costs imposed by externalities are finite, and if the people creating those externalities were only made to pay those costs, then the problem would go away. Enter the pollution tax. The idea of a pollution tax is to make polluters feel all the pain that they create for society by polluting. If this were done successfully, then people would only engage in polluting activities where their benefits outweighed the social costs. This kind of solution makes economists happy, because it allows people with different goals to arrive at a compromise, instead of forcing one side to concede to the demands of the other. But whether or not pollution taxes are a legitimate answer to the problem of externalities is a contentious issue. We will examine the arguments, and conclude that on a philosophical level, pollution taxes are a failure.

The first point of contention we encounter is the popular claim that pollution taxes couldn't work because we could never calculate the proper level for the tax. That is, we will never be able to know exactly what kinds of damage will result from a particular amount of pollution at a particular time in a particular place, and how much compensation would be required to fix it. Therefore, it would be impossible to come up with a proper amount to charge polluters for their activities. Accordingly, the pollution tax simply could never be correctly implemented.

But this argument falls somewhere short of its mark. Pollution tax advocates argue that even if we don't know exactly where to set the level of the tax, a reasonable guess would still be better than no tax at all, or than prohibiting the activity entirely. If the right level could plausibly be anywhere between, say, $5 and $10 per unit of pollution, it doesn't follow that we should set the tax at $0 (doing nothing) or infinity (prohibiting pollution) just because we can't correctly choose a correct amount. A decent guess, they say, is better than no guess at all. And on this point, I agree. A reasonable approximation would be acceptable in the absence of perfect measurements.

So for our purposes, let's just pretend like some divine authority on the subject could tell us exactly how to set the tax so as to perfectly equal the amount of damage caused by the externality. This wouldn't ever happen in real life, but as we discussed, we could more or less approximate it in practice. For the sake of our discussion, then, we'll say that the tax-paying polluter would feel exactly the amount of social pain being caused by her actions, and would have to weigh her benefits from polluting against that pain. When her pleasure and the social pain equaled out, she would stop polluting, and a socially optimal level of pollution would be reached. Right?

Umm . . . sort of. In order to arrive at the conclusion that pollution taxes produce optimal outcomes, we would have to use a definition of 'optimality' that, at least in my opinion, makes absolutely no sense, and is completely unacceptable. I'll explain what I mean.

There's one school of thought that compares the total benefits of an action to the total social costs to come up with the 'net benefit' of that action. The idea is that if we increase net benefit, we're making society better off. When net benefit is as high as possible, we've reached social optimality. This approach can be termed the cost-benefit approach, and is strongly linked with Utilitarian philosophy.

The cost-benefit approach has been objected to on the grounds that imposing costs on one person for a greater social benefit is unethical. To illustrate this idea, imagine that Jason is walking by Alicia's house, and he sees a beautiful antique tea set in Alicia's house. Jason is an avid tea enthusiast, and he knows that Alicia received the tea set as a gift (she doesn't even really care for tea!). Jason thinks, 'If I had that tea set, I'd be really happy, and Alicia probably wouldn't even really care that much.' As this is going through Jason's mind, Jason notices that Alicia's window is open; he could easily slip into Alicia's house, take the tea set, and leave without causing any damage.

Would we say that Jason ought to steal the tea set? According to the pure cost-benefit approach, we would be committed to saying that he probably should. After all, Alicia would be worse off, but Jason would gain a lot more than she would lose. But this seems unacceptable to us. Jason should most certainly not steal the tea set, no matter how much he wants it. This is because we feel like the fact that the tea set belongs to Alicia counts for something. Jason is not entitled to take Alicia's stuff, for the simple reason that it's hers.

However, now let's say that Jason would be willing to buy the tea set from Alicia, but she's on a very long vacation. Jason is sure that Alicia would agree to the terms of his offer if he could talk to her. Jason really wants the tea set now, and he would be glad to compensate Alicia for the value of the tea set. In this case, it seems at least somewhat fair for Jason to take the tea set, on the promise that he will compensate Alicia completely. This standard of justice is not uncontroversial, but it's the one which would be used to justify polluting and then paying for the damage caused by the pollution. So for the sake of discussion, let's assume that the following principle is fair: If you're willing to compensate someone for damage you cause them, and you can't obtain their consent first, then it's okay to harm them and then compensate them later. We'll call this the principle of compensation.

The principle of compensation attempts to solve the problems associated with the cost-benefit approach to looking at optimality. It leads us to the idea that a socially optimal state of affairs is one in which people have compensated everyone who they've harmed. This seems a lot more just than what we were looking at before. It would be nice if no one had to impose costs on others, but at least this way, everyone gets paid back for what others do to them. Seemingly, this is the idea behind a pollution tax. We make polluters pay the full social costs of their actions, and their guilt is removed. They've paid for their damage.

But notice that with a pollution tax, we are only charging polluters for the damage they cause. We don't actually compensate the victims of the damage. That would be like Jason paying the government the value of Alicia's tea set, and then being allowed to take it guilt free. This doesn't make any sense. It's true that Jason would be forced to take Alicia's tea set only if he were willing to compensate her for it. But though we would force him to pay for the tea set, we wouldn't force him to pay Alicia. So even if we accept the principle of compensation as our standard of justice, and say that there would be nothing wrong with imposing costs on others so long as those costs were compensated, we still wouldn't be able to condone the solution provided by pollution taxes.

So then how could we possibly say that pollution taxes bring us to a socially optimal state of affairs? As I said before, we can only do it with a very strange definition of optimality. If a supporter of pollution taxes wanted to be consistent, she would have to say that the aforementioned scenario ' where Jason paid the government for Alicia's tea set ' represented a fair and equitable outcome. Clearly with regard to theft, this view of justice is absurd. So why should we accept it when we talk about pollution taxes? That's a good question.

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Danny Shahar's picture
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Danny Shahar is an intern at the Foundation for Economic Education.  He has a B.A. in Philosophy from the University of Wisconsin, Madison, and plans to begin work on a PhD in philosophy in the Fall of 2009.  Danny's research generally falls within the fields of ethical, political, and economic philosophy.  He writes a blog called Back to the Drawing Board.