The Economic Impact of Environmental Regulation

by

Stephen M. Meyer1

The political debate over environmental policy has never been as

contentious or rancorous as it is today. In Washington the new Congress is

moving swiftly to roll back twenty-five years of environmental legislation and

regulation. Less noticed by the national media, but perhaps of even greater

significance, are moves toward environmental deregulation underway in state-

houses across the country.

Driving these efforts is the widely held belief that three decades of

creeping environmental controls has strangled the economy and undermined

economic competitiveness. Still reeling from the recession of the early 1990s

many state governments hope that untying the environmental regulatory knot will

unleash a new burst of economic growth.

Of course environmental deregulation will not be cost-free. Steady

progress toward cleaner air, water, and land will be slowed significantly, if not

reversed. While this may be of small concern in still pristine states such as

Wyoming, the implications for public health, ecology, and the quality of life in

states such as New Jersey are more dire. Protection and preservation of rapidly

vanishing wildlife, plants, habitats, and ecosystems will be weakened nation-

wide. Undoubtedly we will lose parts of America’s natural heritage that might

otherwise have endured. Nevertheless the economic gains forthcoming from

environmental deregulation might well be worth the price.

All which begs the question: What magnitude of economic gains should

we expect from environmental deregulation? Are we talking about fractions of a

percent growth in jobs? A doubling of growth rates? Amazingly, no one seems

to know.

Given the high stakes involved the reader might find it unsettling to learn

that credible evidence supporting this policy shift is virtually non-existent. To be

sure, anecdotes about companies ruined by environmental regulation abound.

Yet they provide no clues regarding the likely economic benefits from

deregulation. Moreover there are an equal number of anecdotes about

companies pulled back from the brink of bankruptcy by environmental efficiency.

And stories about the growth of green companies continue to proliferate giving

rise to the argument that “environmentalism” – vigorous policies of

environmental protection – actually spurs economic growth.

When we turn away from anecdotes and special interest (i.e., industry

and environmental lobbies’) “studies” the results from rigorous, independent,

economic analyses strongly suggest that no lasting macro-economic gains will

be forthcoming.2 Focusing on a number of different industries, using a variety of

economic indicators, and covering different time periods these studies find that

neither national nor state economic performance have been significantly or

systematically affected by environmental regulation.

For the most part this research has been industry specific and designed

around a single economic performance indicator, such as industry productivity

growth. What is missing is a broader examination of the macro-economic effect

of environmental regulation. Nation level studies raise a number of sticky

methodological problems because of a basic inability to control for the effects of

conincident political, economic, technological, and social changes on basic

economic performance. One cannot satisfactorily isolate the impact of

environmental regulation.

In contrast state level studies offer the opportunity to investigate the

relationship between environmentalism and economic performance while

controlling for many "nuisance" effects. Fifty states sharing a common political,

economic, technological and social space, but with differing environmental

policies, allow for quasi-experiment statistical control. Moreover, as is described

below there are solid substantive reasons to be interested in environment-

economy tradeoffs at the state level. And with current motions toward returning

regulatory discretion to the states this tradeoff – if it exists – becomes even more

important.

And so we can ask: Do states with stronger environmental policies pay a

price in job growth, and if so how much? Do they suffer higher rates of business

failures? To what degree?

Although the questions posed are simple, obtaining valid and useful

answers are not. Investigating the relationship between environmental

regulation and economic performance requires four steps:

sorting out the states according to the relative strength of their

environmental policies;

measuring the performance of state economies;

cataloguing the many distinguishing state characteristics that might

confound the relationship between environmental regulation and

economic performance; and

combining all the data in a statistical analysis.

Following this strategy this article summarizes the results of my most recent

investigation into the relationship between state environmentalism and economic

growth for the period 1982-1992.3

State Environmentalism

Among other things the Clean Air Act, the Clean Water Act, and related

national environmental legislation were born out of the concern that the

patchwork of diverse state environmental standards evolving in the early 1970s

would wreak havoc on interstate commerce and create competitive

disadvantages for states striving to improve environmental quality. National

environmental legislation was expected to level the playing field.

Although national environmental policies have certainly raised the

minimum level of environmental standards, three decades later very important

differences in state environmental policies remain, as anyone who works in

business or industry can attest. Federal laws notwithstanding, state regulations

governing hazardous waste disposal, wetlands filling, air and water pollution,

and wildlife protection vary considerably between Louisiana and Massachusetts,

Mississippi and New Jersey, and Idaho and California.

Some of these differences can be explained in terms of “need.” The more

heavily industrialized and urbanized states have more serious environmental

problems and hence require more stringent controls. Other differences can be

attributed to variations in state political cultures. Sagebrush states, for example,

tend to reflect the “leave people be” attitude of their residents.

Regardless of what may explain these differences tabulating and

comparing the characteristics of environmental policies among the states

produces an interesting snapshot of the relative degree of “environmentalism”

among the states. 4 TABLE 1 lists the states in order, starting with those with the

weakest environmental policies and moving down to the strongest, for 1982 and

1990. A detailed description of the precise method for deriving the scores

underlying these listings is not important for our purposes.5 In essence each

state was scored on a set of roughly twenty environmental policy indicators, for

example: wetlands policy, hazardous waste disposal policy, and non-point

source pollution policy. The scores across each of the policy areas were then

summed. Since the 1982 and 1990 lists were scaled differently by their

respective creators the scores for each period I standardized them (subtracting

the mean for each respective series and dividing by the standard deviation) in

order to allow meaningful comparisons. Consequently, a unit change in

environmental score represents an approximate jump from the state ranked tenth

(going weak to strong environmental policies) to the "average" state (i.e, the

state ranked twenty-five). Another unit jump in environmental score would land

on the state ranked about fortieth. Therefore a two unit difference on the

environmental scale separates the ten states with the weakest environmental

policies from the ten states with the strongest policies.

What is important is that the listings are intuitive: the states that most of

us would guess as having the most stringent environmental regulations appear

near the bottom of the list. Those that we would imagine to have less rigorous

standards are found near the top. This is essential for the analysis to be

credible. Environmentalists, politicians, business and industry must "feel"

comfortable that the correct comparisons are being made. If, for example, New

Jersey were scored as have weak environmental policies it would simple (and

proper) to dismiss the analysis.

State Economic Performance

There are many conceivable measures of state economic performance.

Three most commonly used are gross state product, non-farm employment, and

per-capita income. Other measures, such as manufacturing employment,

construction employment, manufacturing productivity, and business failure rates

tap into special aspects of state economic health.

Here I report the results for four key indicators: annual gross state product

growth, annual non-farm employment growth, annual manufacturing employment

growth, and annual business failure rates.6 These four are representative of a

wide array of measures and directly address the concerns regarding the

environmental protection-economic performance tradeoff facing the policy

community today.

Distinguishing State Characteristics

When medical researchers conduct studies on, say, the effects of coffee

drinking on heart disease, they must take into account other factors that might

influence their results. For example, they may “control for” differences among

the study subjects in diet, exercise, smoking, family history, occupation, age, and

sex.

The same holds true in economic analysis. The inability to randomly sort

states and experimentally impose environmental policies forces us to

compensate via statistical manipulation for confounding influences that lurk in

the background. States with high per-capita incomes, for instance, may tend to

have strong environmental laws (because wealthy people want them) and strong

economic performance (because a strong capital base provides investment

dollars). Conversely, states with high tax rates (supporting a variety of social

programs) might also tend to have strong environmental policies but weak

economic growth (due to tax burdens).

TABLE 2 lists the thirteen state characteristics taken into account here for

statistical control. These are standard confounding variables found in most

economic analyses.

State Environmentalism & Economic Growth: 1982-1989

Did states with strong environmental policies pay an economic price

during the banner economic growth years of 1980s? The results shown in

TABLE 3 from the multiple regression (cross-sectional time-series) analysis on

the data for 1982-1989 answer: no.

The column labeled “Coefficient” reports the estimated change in the

economic indictor for each unit change in environmental score. Glancing at the

row for "Gross State Product" we see that gross state product growth increased

on average about 0.2% for every unit increase in environmental regulatory. The

relationship appears to be positive. If stronger environmental regulations

harmed economic performance this value should be negative, indicating a

decline in economic performance with increasing environmental regulatory

stringency.

Perhaps a more meaningful reading of this coefficient is to tie it directly to

differences in economic performance between the ten states with the strongest

environmental policies and the ten states with the weakest policies. Are there

clear winners and losers? As noted above the measure used to score relative

state environmental standing separates these two groups of states by roughly

two units. Therefore this translates into an average 0.4% advantage in annual

growth in gross state product favoring the ten states with the strongest

environmental policies (multiplying the coefficient – 0.2 – by 2 units produces a

difference of 0.4 between the two groups).

The next column presents the classical statistical significance test of the

coefficient. It asks: given the variation in the data what is the probability that we

might observe an estimated coefficient as large as that shown in the previous

column when no real relationship exists at all? That is, what is the likelihood

that the true underlying coefficient is really “0” and that the 0.2 value is just a

fluke. Traditionally, if this probability is 5% or greater then researchers tend to

discard the estimated coefficient and instead assume it is zero. Conversely a

significance test yielding a probability under 5% is taken as an indication that a

systematic relationship exists.

As you can see the probability for gross state product is about 30% so we

would be on solid ground dismissing the 0.2 coefficient and presuming that there

is no systematic relationship between gross state product growth and

environmental standing. Nevertheless this “0” finding still contradicts the

assertion that environmentalism is trashing state economies.

The last column provides what may be more interesting and useful

information about the data. The column labeled “Odds of a Negative

Relationship” reports just that: the odds that the true underlying relationship is

indeed negative – that strong environmental policies do impose economic

burdens – despite what the estimated coefficient or the significance test for a “0”

value may say. This is just a classical one-tailed significance test of the

coefficient for the possiblity that it could have a real value of -0.1 which is then

simply reported as odds rather than probabilty (for example a 50% probability

would represent 1:1 odds; a 10% probability would represent 1:9 odds).

Unlike the classical signficance test, however, there is no conventional

rule of thumb for deciding what represents "acceptable " versus "unacceptable

odds". It is policy twin to the legal question: "what is a reasonable doubt?" Odds

here merely quantify doubt. But what is reasonable? This is entirely subjective

and intimately associated with perceptions of the relative costs and benefits

resulting from a policy decision.7

In fact, the advantage of this “odds” test over the conventional statistical

significance test is that it allows policymakers to make choices in terms of risk.

Where the conventional statistical significance test offers a simple “accept the

estimated coefficient as reported” or “reject it in favor of assuming it is really

zero” the odds test gauges the degree of risk in assuming that the true

coefficient falls within some meaningful range of values, which in our case is

negative values. In TABLE 3 we see that the odds of meaningful negative

relationship between gross state product growth and state environmentalism are

about one to fourteen – not good by gambler’s standards8. There is no evidence

that gross state product growth was depressed by strong environmental policies.

Jumping down to the next row we look at non-farm employment growth.

There we find indications of a similar association between state

environmentalism and economic performance. Each unit increase in state

environmentalism is associated with an approximately 0.3% increase in non-farm

employment. Job growth – not job loss – is associated with stronger

environmental policies. The ten states with the strongest environmental policies

appear to have experienced annual employment growth rates almost 0.6%

above those of the ten states with the weakest environmental policies.

However, once again the significance test (with a probability of 18%) suggests

that we should consider the positive association to be spurious.

The odds that environmentalism could be negatively associated with job

losses at the state level are extremely poor: slightly more than one to thirty one.

We can safely reject the notion that state environmentalism resulted in

economically meaningful job losses.

The results for annual growth in manufacturing employment follow the

established pattern: a positive coefficient that is not statistically significant

(p=28%), while the odds of it masking a true negative are small enough

relationship (one to twelve) to suggest dismissing the idea. Many factors may

account for the general trend in manufacturing job losses among the states, but

strong environmental policies does not appear to be one of the more important

ones.

Lastly we look at the annual business failure rate. Since the indicator is a

failure rate, rather than a growth rate, evidence that stronger environmental

policies harm business activity would be indicated by a positive coefficient

(stronger policies should be associated with higher failure rates). But as the

table shows the coefficient in this instance is negative. States with stronger

environmental policies tended to have marginally lower business failure rates.

Here again the coefficient fails to achieve the nominal 5% significance level, so

we are advised to dismiss the negative coefficient and presume it should be

zero. The odds that the underlying relationship might be positive – thus,

supporting the advocates of environmental deregulation – are about one to six,

failing to support the assumption that states with stronger environmental policies

would experience a higher rate of business failures.

Summarizing, the findings for 1982-1989 consistently and unambiguously

fail to support the argument that states with stronger environmental policies

suffer an economic penalty. All the coefficients hinted at a very weak positive

relationship – albeit one that is statistically insignificant – between state

environmentalism and economic performance. More importantly the over all

odds are better than 15:1 against the proposition that environmental regulation

hurt state economic growth during this period.

State Environmentalism & Economic Growth: 1990-1992

Next we examine the period 1990-1992. Where 1982-1989 was a period

of general economic growth 1990-1992 saw national economic recession. It can

be argued that the failure to find a negative economic effect from environmental

regulation in the 1980s may have been due to the fact that robust national

economic growth overpowers, or at least masks, the stifling effects of

environmental regulation. When recession hits, however, business and industry

are far more vulnerable at the margin. Perhaps the true burden of environmental

regulation is only measurable and observable during bad economic times.

TABLE 4 presents the results for 1990-1992. They are indeed different

from what we saw above. The coefficients for annual growth in gross state

product, non-farm employment, and manufacturing employment are all negative

as the one would expect if stronger environmental policies placed a drag on

business and industry. The latter two coefficients are about half the magnitude of

the coefficients estimated for the previous period, indicating a weaker effect.

The ten states with the strongest environmental policies may have suffered

about a 0.25% higher annual rate of job losses during the recession (compared

to a 0.6% annual job growth advantage during 1982-1989). None of these

coefficients, however, is statistically significant – or even close. The classical

approach to analysis would have us dismiss these coefficients and presume that

no systematic relationship exists.

However, when we look at the “Odds” column we find that the odds of a

meaningful negative relationship tend to favor the argument that

environmentalism does hobble economic performance during recessions. The

odds that environmentalism is negatively associated with annual growth in gross

state product during the recession are about 3 to 1. Non-farm and

manufacturing employment growth show roughly even odds. Although these

odds are not compelling they are, nonetheless, suggestive.

Surprisingly annual business failure rates during the recession among

states with stronger environmental policies were less than those for states with

weaker environmental policies. Interestingly the relationship is stronger here

than during the earlier period – in terms of both the size of the effect and its

statistical significance, which is below the 5% threshold. Thus, if states with

stronger environmental policies suffered greater losses in terms of growth in the

value of goods and services produced and jobs they also lost fewer businesses

outright.

The results for the 1990-1992 recession provide modest though mixed

support for proponents of environmental deregulation. On the one hand three of

the four estimated coefficients are negative. And the odds slightly favor a true

underlying negative effect. The size of the negative effect, if it exists, is small –

and (except for gross state product growth) is about half the positive effect size

estimated for the previous period. On the other hand the three negative

coefficients are not statistically significant by classical standards and the one

that is statistically significant indicates a positive relationship.

More Subtle Drag Effects from Environmental Regulation

Given the mixed results it is worth pursuing the argument that

environmental regulation hinders state economic performance a bit further via a

more subtle line of analysis. Suppose that states with very robust economies in

the 1970s also were to more likely to adopt more stringent environmental

regulations. (Stronger growth produced more pollution, congestion, land use

conflicts, etc.. and therefore stronger demand for environmental controls.)

Moving into the 1980s these same states might feel the drag of their

environmental policies accumulating to a degree sufficient to slow their growth

relative to their own prior performance in the 1970s, but not sufficient to slow

them to the point where they under-perform states with weaker environmental

laws. This decelerating effect would not be detected in the analyses discussed

above. This suggests searching for the deceleration pattern in the difference in

economic growth rates between the 1970s and the 1980s.

As the results in TABLE 5 show the data contradict this formulation as

well. All the coefficients suggest a marginal positive association between

stronger environmental policies and economic performance as measured by

changes in inter-decade growth rates. In general moving from the 1970s to the

1980s the ten states with the strongest environmental policies saw an average

annual increase of 0.4% in gross state product growth, non-farm employment

growth, and manufacturing growth over and above what the ten states with the

weakest environmental laws experienced. The drop in the business failure rate

for states with stronger environmental policies is further evidence against a

negative effect.

However, since all the coefficients except for the business failure rate are

statistically insignificant classical rules of analysis tell us that we are best off

concluding that there is no systematic relationship at all. However these results

strongly undermine the belief that a drag effect is present.

Furthermore on average the odds that an underlying negative association

is hidden by noise in the data are roughly 1 to 10. Therefore we find no

evidence that the accumulating environmental regulatory setting entering the

1980s translated into an increasing economic burden for states that imposed

environmental controls above and beyond minimum federal standards.

Discussion

If we place our faith in classical statistical significance tests then the data

argue that there is no systematic relationship – positive or negative – between

state environmental policies and state economic performance in either good or

bad economic times. Consequently, environmental deregulation cannot be

expected produce measurable economic benefits at the state level. While

individual firms, businesses, and industries might accrue specific benefits, the

overall impact on the state economy will not be noticeable. (And, of course, this

ignores the imposed costs – short term and long term – from scaling back

environmental programs.) This conclusion is consistent with prior research by

other investigators.

If we lean more heavily on considerations of risk (odds) then the message

is mixed but still not supportive of policies of environmental deregulation. On the

one hand strong environmental policies seem to be associated with better

economic performance during periods of national economic growth. On the

other hand strong environmental policies seem to be associated with weaker

economic performance during recessions. Taking into account that (1) the

positive coefficients for 1982-1989 are approximately twice the absolute

magnitude of the negative coefficients for 1990-1991 and (2) there are three to

four years of good economic times for each year of recession the results imply

that over the course of a decade states with stronger environmental policies

enjoy a small net economic gain.

This does not mean that strong environmental policies cause strong

economic growth. It merely means that whatever the underlying association

environmentalism does not impede economic performance.

Clearly these findings are at odds with current political wisdom. How can

we explain this? Five observations come into play:

the relative magnitude and scope of environmental regulatory costs

are comparatively small when examined in the context of other

business cost factors;

state governments are sensitive to business concerns and do

compromise in setting environmental standards and enforcing them;

business and industry do adjust to environmental restrictions and

requirements, resulting in both compliance and profit making;

a very large fraction – upward of 90% – of the expense of

environmental compliance is eventually plowed back into the private

economy to pay for goods and services; and

there may well be a small – but growing – correlation between

environmental efficiency and productive efficiency resulting in stronger

economic performance.

Business perceptions and lobbyists’ protests notwithstanding, the relative

magnitude and scope of the economic costs of environmental regulation turn out

to be far from towering – well under 2% in most instances – when compared to

other business cost factors such as taxes, wages, benefits, and interest rates.

And indeed, while business surveys usually find respondents claiming that

environmental costs would be one reason they might relocate to a new state (or,

overseas), business migration and location studies consistently show that other

factors ultimately determine the decision. Why? Because when the calculus is

done the true weight of environmental costs just does not measure up to the

amplified perception.

Since manufacturing and manufacturing competitiveness command

special status in discussions of economic performance let’s consider how annual

pollution control operating costs stack up against the value of goods shipped. As

shown in TABLE 6 the overall ratio for manufacturing industry averages about

0.6%. Although there is considerable variability among industries, all ratios are

under 2%. Not surprisingly the highest ratios correspond to the most-polluting

industries.

In contrast when we compare employee payrolls against the value of

goods shipped the ratio is thirty times greater. In the most-polluting industries

the burden of employee payroll is about ten times greater than environmental

costs. (Petroleum and coal industry is the exception, and the discrepancy is

entirely accounted for by petroleum refining, which is not labor intensive). In the

least-polluting industries the payroll burden is about 100 times greater.

Consider that none of the forecasts of economic doom by business or

industry regarding the impact of prospective environmental laws and regulations

have ever materialized. The U.S. auto industry did not collapse as a result of

the Clean Air Act. Recycling has not thrown hundreds of thousands of people

working in the plastic, paper, glass, and bottling industries. Nor has logging in

the Pacific Northwest ceased to exist despite the listing of the Spotted Owl as an

endangered species. Accepting that there is a substantial amount of built in

political hyperbole in such predictions, they nevertheless reveal perceptions

grossly out of sync with reality.

So why do business leaders and lobbyists single out environmental costs

as so noteworthy, when they are comparatively insignificant? To a large extent

business still does not perceive environment-related costs as ordinary and

proper business costs, recent advertising campaigns to the contrary.

Environmental costs are seen as a form of externally imposed social tax, an

illegitimate tax place on business.

In this respect the concepts of “extranalities” and “social costs” have not

crossed from business management schools to board rooms. Manufacturing

plant owners do not consider taking clean water from and returning chemical-

laden dirty water to the same river as either a public subsidy or imposing a

public cost. As one CEO explained “...Look, the public benefits from our

products. They use them and they get jobs. Part of the price of this benefit is

the impact we have on the environment. That should be born by the public, not

the company.” And so for business and industry these costs, however small,

stand out in bold face – despite the fact that they do not tabulate them

systematically or reliably.

The same holds true for non-manufacturing business sectors, even fairly

green industries. In New England, for example the ski industry perceives itself

under enormous pressure to extend the skiing season and availability of runs

through artificial snow making. This means drawing tremendous quantities of

water from local streams and rivers. The economics of artificial snow making

favor the ski resorts only as long as the down stream impacts on water quality,

wildlife, residents and businesses (such as tourism, canoe and raft rentals,

fishing) of these withdrawals are ignored or are paid for by someone else. If

forced to pay the true price for extended snow making, the industry would

reconsider its plans.

In a sense, business is psychologically dependent on environmental

subsidies: the ability to pollute or use common resources without charge. When

more stringent environmental policies effectively reduce these subsides

business feels betrayed. Strong environmental policies are perhaps more of a

psychological burden than an economic concern. If the results described here

are correct, state governments that succumb to the lure of environmental

deregulation may make local business leaders happier, but the effect will not

translate into more robust state economies or even more conducive business

climate.

Turning to capital spending we see that the ratios for pollution-related

capital spending to overall capital spending are substantial. In 1991

manufacturing averaged about 7.5% of new capital expenditures for pollution

abatement and control. This is roughly four times the ratio for private business

in general, which amounted to less than 2% in 1990.

Looking at individual industries petroleum & coal top the list with a ratio of

almost 25%. This is quite a hefty chunk of capital spending. (However, folding

in the non-manufacturing side of the petroleum refining industry reduces the

ratio to 10%.) The next highest ratio is about 14% for the paper industry. Ratios

decline after that. Electric utilities allot about 5% of capital expenditures to

pollution abatement and control.

Although capital spending ratios are frequently used for gauging

environmental regulatory burdens on industry there are good reasons to be

cautious about interpreting these numbers. First and foremost with few

exceptions business still has not implemented accounting mechanisms for

accurately tracking environment-related expenditures. Consequently the capital

spending data are influenced by the fact that most firms do not know what

portion of their capital spending went exclusively, or almost exclusively, for

pollution control – as opposed to modernization.

Second, single year estimates of capital spending ratios are misleading

because capital spending runs in cycles. Time series data of business capital

spending show that the fraction allotted to pollution abatement and control

dropped steadily between 1975 and 1989, and then began to rise in 1990. The

long-term downward trend, despite increasing environmental regulation,

suggests industry learning behavior: business successfully anticipates

environmental protection requirements and incorporates them into planning.

The trend also suggest that although requirements may increase the expanding

availability of environmental technology, products, and services has helped to

moderate the unit costs of compliance.

Another reason why the environmental regulatory burden may not show

up at the state level is because state governments are sensitive to business

concerns. State-houses in particular feel the political weight of industry and

regulated interests and are responsive. Consequently, state environmental

regulations are rarely imposed without considerable compromise. Rightly or

wrongly, state politicians fear “anti-business” labels and the possibility of

business flight to other states. Therefore, performance standards,

implementation requirements, and enforcement are adjusted to take into account

economic impact.

And federal environmental regulations – such as those under the Clean

Air Act and the Clean Water Act – have been adjusted numerous times to reduce

economic impact. Standards have been lowered and deadlines extended. Even

determinations under the Endangered Species Act have been tailored to reduce

conflict with economic concerns. To be sure such accommodations rarely satisfy

(or are even acknowledged by) industry lobbyists, who prefer no restrictions of

any kind. Nevertheless they do make environmental laws more business-

friendly.

In a consistent regulatory setting business does learn. Business learns

from trends to anticipate future directions in policy and adjusts accordingly.

Adjusting to environmental standards can take many forms. But ultimately

healthy firms do find a comfortable market path. This means that the initial

impact of new environmental regulations may generate short-term economic

perturbations such as job shifting – displaced workers will move to other firms

within an industry or to firms in other industries. Over the longer run there is no

net loss of economic performance.

Consider that when the first wave of environmental laws was passed in

the 1970s industry was forced to make large, unplanned, capital expenditures for

retrofitted “tail pipe” pollution control systems. Tail pipe controls merely capture

pollutants in one form or another for disposal. Catalytic converters on cars,

scrubbers on the stacks of power plants, and carbon filters in waste treatment

plants are examples of tail pipe controls. These are inherently uneconomic

responses in the sense that they increase costs by adding another element to

production or the product but do not contribute to product or productivity

improvement. Undoubtedly these “tail pipe” controls had many of the negative

economic consequences commonly noted by advocates of the green burden

argument.

By the early 1980s, however, environmental standards began to be folded

into plant management and plant design. Business learned. New facilities

incorporated pollution control technologies into their production and

management processes; more forward looking firms attempted to reduce

pollution at the source. Production process change attempted to cut pollution by

directly altering the input-output mix. Higher efficiency processing and recycling

can cut overall wastage, or entirely new processes may eliminate particularly

noxious pollutants. Production process change holds the potential for recouping

the costs for environmental compliance, and in some special instances even

allow for positive economic returns after a fixed payback period.

We see evidence consistent with such learning behavior in comparing the

division of capital spending for pollution control between “tail pipe” and

“production process change”. TABLE 7 shows the proportion of total capital

spending for pollution control devoted to production process change for selected

industries for 1979, 1985, and 1991. The data show wide variations among

industries and across time. For 1991 (the last year for which data are available)

the manufacturing average is 29% but the corresponding fraction for individual

industries ranges from 10% to over 50%.

Two interesting patterns are suggested by the table. First, the

percentage of capital spending for pollution abatement via process change is

increasing over time for pollution intensive industries. These industries can

taking advantage of opportunities to recoup environment-related costs via

efficiency enhancement. Thus, over all expenditures may not reflect true net

costs when returns from productivity improvement are considered.

Second, the industries with the largest proportion of capital spending

going to pollution abatement and control (TABLE 6) also tend to put more

relative effort into production process change. This may partially explain why

industries that spend a relatively large percentage of their capital on pollution

control – such as petroleum refining – may not suffer competitively as much as

the raw statistics imply. They get more back in return.

Entering the 1990s once again new standards are being imposed and the

immediate compliance response of business is capital spending to address

requirements. Thus we see an increase in the percent of capital spending by

the most pollution intensive industries. But this is a short-term immediate

response to a long term condition. As learning and innovation set in, these

numbers should fall.

Expenditures for environmental compliance are not a tax – even though

they are often portrayed as such by lobbyists – that disappear into the pockets

of a government bureaucracy. Today a very large portion of the expense of

environmental compliance is plowed back into the private economy to pay for

goods and services. The money spent by complying firms represents sales and

income to environmental product/service providers, who are private businesses.

New demand spurs new products and new services. And as time passes these

products and services grow increasingly sophisticated, belying the notion that

green jobs are fundamentally unskilled.

Some estimate that about 90% of environmental spending goes to private

business.9 In 1991 slightly less than 10% of manufacturing operating costs for

pollution abatement and control went to government units for services. Paper

work, filing, and other “soft” compliance costs do not add that much more to the

over all tab, although the relative burden on individual firms most certainly

increases with decreasing scale of operation.

Although wetlands, endangered species, and similar land use protection

may prevent a specific project from being built in a specific location within a

state, such outright prohibitions are rare exceptions. Far more often projects

require modification to meet environmental standards. This generates additional

work, especially for consultants and workers with specialized construction

techniques and skills.

Lastly, environmental “efficiency” and productive efficiency are almost

certainly correlated to some degree, though there is considerable disagreement

about the present size of that correlation as well as its long term potential. The

relationship is most easily demonstrated in energy conservation and recycling of

process materials. Similarly pollution prevention programs – attempting to

reduce the overall waste stream from production – can and do yield economic

benefits.

In short the findings reported here (and throughout the economics

literature for specific industries and earlier periods) are not all that surprising

when the complex interaction between environmental regulatory demands and

the economy are considered in context. Environmental policymaking provides

numerous opportunities for substitution, tradeoff, accommodation, learning, and

adjustment that effectively mitigate what in theory should be a measurable

economic burden.

IMPLICATIONS

Undoubtedly those readers with adverse personal and professional

experiences in the environmental regulatory process are shaking their heads in

disbelief. Of course specific environmental regulations can and do have real

effects on individual businesses and firms, specific industries, and even local

communities. However, these economic effects are limited in scope and duration

and are fewer in number than popular political mythology allows. They do not

rise above the background noise of state economies either singly or

cumulatively. Even if we accept the possibility that state environmentalism may

increase the relative severity of recessions that impact is wiped out within a year

or two of economic recovery.

Consequently, those who hope to improve their state's business climate,

economic competitiveness, and employment picture by rolling back

environmental statutes are misinformed and are in for great disappointment.

The evidence is compelling that this strategy will not produce any meaningful

economic gains, while imposing real environmental losses. Instead efforts

should shift to factors that have been shown to really affect the bottom line: state

tax and labor policies and transportation and communication infrastructure.

In this respect the large sums of money spent lobbying and litigating to

block or otherwise water down environmental regulations under the belief of

presumptive economic harm might be more productively spent reengineering

business accounting systems to accurately track environment-related costs (and

returns) and determine where substantial cost-savings can truly be found.

None of this means that we can proceed mindlessly heaping

environmental regulation upon regulation. Nor does it imply that we should not

work to design, implement, and enforce environmental policies in more

procedurally benign ways. But it does mean that to the extent that we do identify

transient economic (and social) effects of environmental policy they should be

addressed in both context and proportion.

For example rather than trying to relax goals, standards, requirements,

and prohibitions, regulatory reform should focus on process: especially reducing

time delays. When you get down to specifics, the number one complaint by

business owners is the time delays inherent in getting a decision out of the

system. Often a timely denial is less costly than a drawn out approval.

Unfortunately, outrage over procedural delays and their very real costs is often

transformed into a misguided political campaign against the costs of protecting

the environment.

Regardless of political happenings today, over the longer term both public

demand and economic competitiveness will push business and industry to

internalize environmental costs. Environmental regulations simply force

environmental impacts into the competitiveness equation, thereby producing a

form of environmental-economic Darwinism. Regulatory incentives to avoid the

expected high costs of waste disposal and pollution abatement can fuel process

and product innovation that improve productivity, increase input-output

efficiencies, and provide substantial cost savings. This has been the experience

of such prominent firms as the 3M Corporation, Dupont, and Raytheon. New

businesses are created to satisfy new demands for environmental services and

products.

Of course not all firms and industries learn, and even among those that

try some will undoubtedly lack the resources to adapt or reengineer – especially

small businesses. Indeed large corporations such as Dow, 3M, and Chevron

dominate the anecdotal evidence on the positive economic effects of

environmental regulation. In contrast, small businesses with low capitalization,

and firms already teetering at the margin of profitability may fold, unable to

maintain production and comply with envrionmental restrictions. Firms that

cannot compete without dumping some of their costs on the environment (and

thereby compel the public to subsidize their operation) never were really

competitive in the true sense of the term. But the loss of such companies is

ultimately compensated for by new start up companies that use more innovate

technologies.

The all out assault on federal and state environmental statutes now

underway is unwarranted and unwise. There is no environment-economy crisis –

real environmental gains will be lost without accruing any enduring economic

benefits. The valid concerns of business and industry will not be addressed in a

meat-ax approach to reforming environmental policies. Gutting environmental

statutes merely prolongs pubic subsidization of inefficient uncompetitive

businesses.

Table 1 State Environmental Standings

1982-1989 1990-1992

Alabama Wyoming

Missouri Mississippi

Mississippi Arkansas

Idaho Louisiana

New Mexico Alabama

Oklahoma Alaska

New Hampshire West Virginia

Louisiana Nevada

Nebraska Utah

North Dakota Tennessee

Texas North Dakota

Nevada New Mexico

Utah South Dakota

West Virginia Oklahoma

Tennessee Kentucky

Alaska Texas

Wyoming Idaho

Kansas Montana

Arizona Arizona

North Carolina Kansas

Georgia Colorado

South Carolina Delaware

Rhode Island Missouri

Colorado Indiana

Arkansas South Carolina

Illinois Hawaii

Pennsylvania Georgia

Virginia Nebraska

Iowa Ohio

Delaware Pennsylvania

Michigan Washington

South Dakota Vermont

Ohio New Hampshire

Florida Rhode Island

Maine Virginia

Connecticut Illinois

Vermont Maine

Kentucky Maryland

Hawaii Iowa

Indiana Michigan

Maryland North Carolina

Wisconsin New York

Montana Minnesota

New York Florida

Washington Oregon

Oregon Connecticut

Massachusetts Massachusetts

New Jersey New Jersey

California Wisconsin

Minnesota California

Table 2: State Characteristics with Potential Confounding

Effects

Size of Land Area

Economic Weight of Extractive Industry Sector

Population Crowding & Land Use

Energy Cost

Economic Weight of Manufacturing Industry Sector

Size of Consumer Market and Labor Pool

Size of Economy

Technological Capacity

State Wealth

Extent of Economic Development and Urbanization

Manufacturing Labor Cost-1

Manufacturing Labor Cost-2

Tax Rate

Table 3: Impact of State Environmental Policies on Average Annual Economic

Growth: 1982-1989

Economic Indicator Coefficient Probability of

No

Relationship

Odds of a

Negative

Relationship

Gross State Product 0.20 0.31 1:14

Non-Farm Employment 0.28 0.18 1:28

Manufacturing Employment 0.29 0.28 1:12

Business Failure Rate -6.30 0.35 1:6

Table 4: Impact of State Environmental Policies on Average Annual Economic

Growth: 1990-1992

Economic Indicator Coefficient Probability of

No

Relationship

Odds of a

Negative

Relationship

Gross State Product -0.36 0.32 3.2:1

Non-Farm Employment -0.13 0.58 1.2:1

Manufacturing Employment -0.14 0.66 1.2:1

Business Failure Rate -13.59 0.02 1:142

Table 5: Impact of State Environmental Policies on Changes in State

Economic Growth between the 1970s and the 1980s

Economic Indicator Coefficient Probability of

No

Relationship

Odds of a

Negative

Relationship

Gross State Product 0.20 0.30 1:13

Non-Farm Employment 0.21 0.41 1:7.6

Manufacturing Employment 0.16 0.62 1:3.8

Business Failure Rate -14.37 0.03 1:94

21

Table 6: Business Expenditures for Pollution Control as a Percentage of Total Business Capital Expenditures

and Annual Value of Goods Shipped – 1991

INDUSTRY SECTOR

Pollution

Abatement Capital

Expenditures

vs.

Total Capital

Expenditures

Pollution

Abatement

Operating

Expenditures

vs.

Value of Shipments

Employee Payroll

vs.

Value of Shipments

All Manufacturing 7.5% 0.6% 18.7%

Petroleum & Coal Products 24.8% 1.8% 3.0%

Paper & Allied Products 13.7% 1.3% 15.0%

Chemicals & Allied Products 12.5% 1.4% 10.6%

Primary Metals 11.4% 1.5% 16.3%

Electrical Machinery 2.9% 0.4% 21.0%

Transportation Equipment 2.8% 0.3% 16.5%

Instruments and Rel. Products 2.3% 0.2% 25.0%

Machinery (exc. electrical) 1.8% 0.2% 22.6%

Electric Utilities 5.0% – –

Source: U.S. Department of Commerce (1993; 12-13), U.S. Statistical Abstract, 1993 (table 1256).

22

Table-7 Fraction of Industry Pollution Abatement Capital Expenditures Invested in Process Change*

YEAR

INDUSTRY SECTOR 1979 1985 1991

All Manufacturing 14% 29%

Petroleum & Coal Products 27% 35% 39%

Paper & Allied Products 17% 25% 46%

Chemicals & Allied Products 11% 18% 26%

Primary Metals 5% 8% 16%

Electrical Machinery 22% 11% 16%

Transportation Equipment 15% 34% 14%

Instruments and Rel. Products 23% 16% 10%

Machinery (exc. electrical) 5% 10% 52%

Data Source: U.S. Department of Commerce

* Air and Water Pollution Abatement Only

23

24

ENDNOTES

1. The author is Professor in Political Science at MIT where he directs the Project on

Environmental Politics & Policy. He also serves as a Conservation Commissioner in

Massachusetts.

2. For an excellent review of rigorous economic studies see: Adam Jaffe, Steven Peterson,

Paul Portney, and Robert Stavings (1995) "Environmental Regulation and the

Competitiveness of U.S. Manufacturing: What Does the Evidence Tell Us?" Journal of

Economic Competitiveness ....

3. See: Stephen M. Meyer (forthcoming) Environmentalism and Economic Prosperity

(Cambridge: MIT Press).

4. A number of such studies have been produced over the years. See: Duerksen, Christopher

J. (1983) Environmental Regulation of Industrial Plant Siting: How to Make It Work Better

(Washington, D.C.: The Conservation Foundation), Hall, Bob and Mary Lee Kerr (1991)

1991-1992 Green Index (Washington D.C.: Island Press), Renew America (1987-1989) The

State of the States (Washington, D.C.)

5. The 1982 ranking is based on Duerksen and the 1990 ranking is from Renew America as

cited in endnote 4..

6. See: Meyer, op cit.

7. Data on gross state product and employment were obtained from the Department of

Commerce. Business failure rates are reported as business failures per 10,000

establishments. These data were provided by Dun & Bradstreet.

8. 7 Although most students of statistics do not realize it, the classical 5% threshold for judging

statiscal significance is also arbitrary. Unfortunely, it is now enshrined in practice.

9. This calculation defines a meaningful negative relationship as one in which the true

coefficient is -0.1 – each unit increase in environmental score (regulatory stringency) cuts

annual growth in gross state product by 0.1%. This is a very conservative threshold that

captures declines that are probably less than the ability to measure real changes in the

economic indicator. In general a 0.1% change is about 5% of the difference in observed

growth rates between the ten states with the weakest envrionmental standards and the ten

states with the strongest standards.

10. Goodstein, E.B. (1994) “Jobs and the Environment: The Myth of a National Trade-Off,"

(Economic Policy Institute).