New Perspectives for Environmental Policies Through Behavioral Economics

This article gives an overview of recent discussions on behavioral economics and its importance both in reevaluating known instruments of environmental policy and in figuring out new instruments in this policy area. In reporting on recent discussions in behavioral economics, a distinction is made between (mostly experimentally) observed effects (e.g. the framing effect or the endowment effect) and concepts which try to generalize these effects theoretically (prospect theory and concepts of bounded rationality, for instance). Against this backdrop, contributions of behavioral economics which already take environmental instruments into account are systematized according to the instrument they focus on and according to the addressees they have in mind. On this basis, an assessment as regards the most important behavioral effects and insights in discussing issues of environmental policy is presented. This is accomplished by evaluating that part of the insights made in recent research of behavioral economics that have not yet been applied to the issue of environmental policy. It is here in particular that the concepts mentioned above come into play; going beyond a mere modification of canonical subjective utility theory then becomes a key analytical strategy in figuring out and assessing environmental instruments. Finally, the article sketches out potential avenues for further research towards a refreshed conceptual and instrumental framework for environmental policy.

The conceptualization of environmental policies aiming to promote pro-environmental behavior has long been based mainly upon the theoretical inputs provided by standard economics. As a result of a growing awareness about the limited effectiveness of such concepts there is to be observed a re-orientation of environmental policy toward “soft-policy” instruments. In this connection, social scientists and policymakers have increasingly given attention to behavioral economics as a basis for designing more effective policy instruments. Research concerning this approach and especially its actual application are, however, still at an early stage, and, moreover, the field of behavioral economics is still developing.

Against this background, it yet has to be researched in detail, which concrete input behavioral economics might provide for the conceptualization of different kinds of environmental policy instruments and fields of applications. That is the scope of this study, which presents the results of a worldwide online survey requesting scientists concerned with both behavioral and environmental issues as well as heterodox economists to assess (1) the current state of the art of standard economics and its implications for environmental policy, (2) in more detail, the current state of the art of behavioral economics and its implications for environmental policy, and (3) as a central focus, the relevance of behavioral effects, for example the endowment effect and bounded rationality, for different kinds of environmental policy instruments. The results point to the necessity of a further development of behavioral economics that is less closely tied to anomaly research and the analysis of single behavioral effects, and instead takes a more interdisciplinary perspective. The results also indicate the relevance of other-regarding preferences, especially for the design of soft environmental policy instruments. With a behavioral foundation, information-based as well as cooperative-based policy instruments are expected to gain more importance in the future.

Behavioral Economics has attracted the attention of environmental economists: it should help to understand why people do not respond to environmental policy measures, based on neoclassical assumptions, as predicted by theory. Moreover, understanding motives and driving forces behind pro-social, pro-environmental, and cooperative behavior should help to improve environmental policy design. The aim of this paper is to present a critical discussion of how this branch of research is interpreting the explanatory power and the normative implications of behavioral Economics.

Human economic activity and its effects on the environment are ever more clearly approaching critical ecological limits. At the same time, the ecological crisis is accompanied by multiple socio-economic crises in the economy, society, state governance capacity, and in the development of scientific theory. Under such crisis conditions, how should successful ecological sustainability institutions be designed and how can social change be initiated? Far-reaching visions of a “great transformation” stand alongside rather sobering findings from institutional and behavioral economics research on the institutional framework for change and collective mitigation through cooperation.

Behavioral economics tends to be seen as a new and separate branch of economics comparable to environmental economics, health economics and even public choice theory. This version of behavioral theory is mainly trying to test hypotheses about human behavior in various ways. It will here be argued that taking various behavioral concepts seriously (as was done at an early stage by Herbert Simon for example) will lead us to a new understanding of human beings and be part of a microeconomics different from that of mainstream neoclassical theory. A political economics person (PEP) is proposed as a more open alternative to Homo Oeconomicus. A political economic organization (PEO) will similarly replace the firm exclusively focusing on monetary profits and markets will be understood in terms of PEPs and PEOs as market actors.

The political element suggests that issues of ideology, ethics, and responsibility are relevant and this is so also for natural resource, ecosystem, and other sustainability issues. The ideological orientation of an actor is something to be investigated in each case suggesting that it is not so meaningful to look for a general theory of behavior applicable to some average person or all individuals.

To bring value issues to the forefront I have recently suggested that “economics” is defined as “multidimensional management of resources in a democratic society”. Resources should be understood as multidimensional, i.e., monetary and non-monetary, where the reduction of all kinds of non-monetary impacts to their alleged monetary equivalents is not considered very meaningful. Positional analysis is proposed as an alternative to cost-benefit analysis (CBA) and institutional change is looked upon as matter of understanding the behavior and actions of PEPs and PEOs (processes of legitimation, manifestation etc.) Inertia (lock-in effects, commitments, path dependence, irreversibility) is characterizing institutional change processes as well as estimates of policy and project impacts in decision situations.

Careful attention to ‘choice architecture’ promises to open up new possibilities for environmental protection—possibilities that may be more effective than the standard tools of economic incentives, mandates, and bans. How, for example, do consumers choose between environmentally friendly products or services and alternatives that are potentially damaging to the environment but less expensive? The answer may well depend on the default rule. Indeed, green default rules may be a more effective tool for altering outcomes than large economic incentives. The underlying reasons include the powers of suggestion, inertia, and loss aversion. If well-chosen, green defaults are likely to have large effects in reducing the economic and environmental harms associated with various products and activities. Such defaults may or may not be more expensive to consumers. In deciding whether to establish green defaults, choice architects should consider consumer welfare and a wide range of other costs and benefits. Sometimes that assessment will argue strongly in favor of green defaults, particularly when both economic and environmental considerations point in their direction. But when choice architects lack relevant information, when interest group maneuvering is a potential problem, and when externalities are not likely to be significant, active choosing, perhaps accompanied by various influences (including provision of relevant information), will usually be preferable to a green default.

This chapter explores behavioral insights relevant to designing policies to promote efficient household energy consumption. Standard economic approaches to managing household energy efficiency tend to focus on price factors and demand management. While there is some evidence that these methods are partially effective, they are an incomplete solution. Blending conventional economic policies with policy insights from behavioral economics can enable a more holistic approach to energy policy design and behavior change. Behavioral economics does not depend on strict rationality assumptions and allows that ordinary households are affected by various forms of behavioral bias and social influence. Understanding the range of behavioral drivers and constraints affecting household energy decisions—including social influences; heuristics, bias and folk wisdom; procrastination and self-control problems will facilitate the development of a more nuanced and comprehensive set of policy tools to encourage households’ efficient management of fuel consumption.

The benefit principle of public finance is regaining ground in the scientific and political arena. User-based financing for excludable public services plays an important role here. This becomes evident in the field of transport infrastructure for which a chronic underfunding has been claimed for a long time now in Germany. However, road pricing policies introducing user charges for the first time face ubiquitous “fee-resistance” that expresses the unwillingness to see access to goods that were previously free of price obstacles now obstructed by individual payment obligations. Thus, political involvement might turn out, from a public choice perspective, to be a real barrier to PPP projects in the case of user-charge financing rather than a driver as usually has been argued. For the case of transport infrastructure, missing political acceptance of road user charges and perceived lack of price fairness might be remedied though through an updating of reference prices determining the perceived fairness of market prices. Thus, behavioral pricing might solve the dilemma of politicians trapped between the conventional tax resistance and the “constitutional fee resistance” occurring on the occasion of a transition of funding from general taxes towards specific road user charges.

In order to prepare human and natural systems for arising challenges related to climate change such as more intense and frequent heat waves, droughts or floods, there are two main coping mechanisms: mitigation and adaptation. Despite concerted efforts to reduce climate-relevant emissions on a global scale (mitigation), total greenhouse gas emissions continue to increase. Therefore, the second coping mechanism—adaptation—is becoming increasingly relevant. However, when considering the potential of individuals to adapt to more extreme weather and slowly changing climate averages, decision anomalies, such as misperceptions and heuristics, as well as decision affects can constitute barriers for action. This paper provides an overview of these barriers and uses observations on efforts of households to prepare for hurricane events in the US and on private flood protection in Europe to illustrate them. Based on this overview, five policy recommendations are deduced that have potential to reduce the mentioned barriers or that take advantage of certain heuristics. Using social norms and peer pressure as well as establishing adaptation commitments and providing feedback are among these recommendations. Subsequently, a framework for policy-makers to develop behaviorally-informed interventions for nudging adaptation related behavior is outlined.

In a democratic society the transition towards sustainable development is not a question of “command and control” policy, rather it depends on the mobilization of proactive contributions from a broad range of different actors. Thus, the regulatory concept has to be designed as “responsive regulation”, based on an inclusive perspective on behavior to cover all relevant aspects in the context of regulation and innovation.

One prominent problem area of environmental policy aiming at reducing the unsustainable impacts of modern economic activities is the question of how to stimulate firms to carry out more environmental innovation. The present study addresses this topic by focusing on the behavioral basis of environmental innovation. Such a behavioral approach may not be surprising given the importance that has been ascribed to behavioral economics by research and policy. However, neither research about environmental innovation nor behavioral economics has been systematically concerned with this topic. Traditional economics with its quite simplifying perspective on the behavior of firms has certainly not focused on this subject.

Against this background, the question arises as to which theory could provide a foundation for such a research endeavor. One promising option is provided by the Carnegie School with its behavioral theory of the firm. Especially the embedded “concept of initiation” is of relevance, as it is concerned with the complex behavioral processes starting from the perception of a problem and ending with a decision to innovate. Thus, by adapting this model to environmental innovation, a better understanding of the decision to carry out environmental innovation might be gained, which also would be of relevance for behaviorally-based environmental policy design.

Along these lines, the present exploratory study first introduces the “concept of initiation,” and second develops and tests a corresponding empirical model. The dataset used for the empirical analysis is based on a quantitative survey of the German passenger car industry. The descriptive results as well as the relatively high degree of explanation of the structural equation models give evidence for the fruitfulness of the chosen approach. The Carnegie School-based approach allows for the identification of a whole bundle of behavioral elements influencing the environmental innovation behavior of firms. Based on this, suggestions for policy design and further research are also given.

The contributions in this volume demonstrate that behavioral economics (BEC) offers a wide range of new insights and recommendations for environmental policy. It shows that specific cognitive effects on the level of individuals, on the level of interaction between multiple individuals, and on the level of policy processes play an essential role for the way decisions are made at these different levels as well as for the outcome of these decisions. This seems to reflect the multi-faceted nature of the decision reality itself.