Academic journal article Journal of International Affairs

Informal Economies, Information and the Environment

Academic journal article Journal of International Affairs

Informal Economies, Information and the Environment

Article excerpt

"If household and firm activities are not observable by government, then they may not be observable by those affected by environmental degradation either.... [W]e have a regulatory challenge: when information is scarce, private bargaining is unlikely to suffice ... and government will lack a basis for regulatory action."

Many less developed countries (LDCs) contain sizeable shadow economies. For example, informal economic activity constitutes perhaps 70 percent of the GDP of Nigeria and Egypt, and perhaps as much as 30 percent of the GDP of Chile, Costa Rica, Venezuela, Brazil, Paraguay and Colombia.(1) The magnitude of the shadow economy in these and other countries may have serious environmental consequences. Environmental regulators seeking to provide incentives for environmental protection and conservation, for example, face enormous difficulties in monitoring and enforcing laws in the shadow sector. Groups and individuals operating in this sector recognize that they are not likely to be held accountable for actions that degrade environmental quality. The lack of accountability and incentives to comply with strong environmental standards raises the possibility that parties operating in the shadow sector will engage in activities that threaten the quality of the environment. This includes activities that cause an increase in the number of hazardous waste sites, the degradation of local air and water quality, species loss and total greenhouse gas emissions.

While informal sectors exist in all economies, the impact of unobserved economic activity on the environment might be more intense in developing countries for at least four reasons: first, as suggested above, the shadow sectors of LDCs are likely to represent a higher proportion of gross GDP than in developed countries; second, LDCs characteristically have more relatively rural and unpopulated areas, in which the inhabitants lack sufficient incentives (economic or otherwise) to motivate well-defined property rights;(2) next, developing countries are poorer, and thus their governments have fewer resources with which to monitor polluters; and finally, if environmental health is understood as a "luxury good"(3) then developing countries may lack the motivation to develop institutions that expose shadow sectors to regulation.

Given the challenge shadow economies pose to environmental regulators, are there strategies that a well-intentioned government can pursue to mitigate environmental damage? This paper will investigate three major related questions:

1. How does the existence of shadow sectors affect the design of environmental regulation?

2. How might regulators set environmental policies if they had more information concerning economic activity within shadow sectors?

3. Could economic development (including income growth) and increased international trade help "lift the shadow" and thus aid environmental regulators in pursuing accountability?

In general, environmental economic policies should provide appropriate incentives for firms and households to reduce environmental degradation. Designed appropriately, such government intervention can guide markets toward outcomes that are socially preferable if, as expected, these actors ignore to some extent the environmental consequences of their actions. Appropriate intervention, however, may require expensive studies to gather useful information regarding actors in the shadow economy. Thus, regulators may choose not to gather this information.

Consider the underlying policy problems: firms and households make millions of choices every day which go unobserved by regulators and may have an impact on the environment. These are choices such as: the quantity and type of fuel to use; or, whether to dump hazardous wastes or dispose of them properly If a regulator observed each activity and thereby knew how much damage was caused, they could provide appropriate incentives--facing polluters with the full costs of their activities. …

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