What Do We Spend on Environmental Protection?

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All claims that environmental regulatory costs do significant economic damage to the U.S. economy rest on the assumption that those costs are large. After all, relatively minuscule environmental costs couldn't affect anybody or anything in ways that would give rise to the negative consequences attributed to them. But, there are several possible meanings of the term "large regulatory costs" depending on the context.

One definition of the term is compliance costs that are high enough to result in unemployment, plant closures, and impairment of international competitiveness. This definition requires only that regulatory costs are significant compared with the economic sizes of plants and firms. Before we get to that, let's focus exclusively on costs in a macroeconomic sense - as a percentage of the U.S. gross domestic product. In other words, how much does environmental protection cost American society? Critics frequently declare that regulatory costs are too large in this sense, diverting enormous national economic resources from productive pursuits into complying with environmental rules.

To evaluate this claim, we first need to know how much we as a nation spend on environmental protection each year. Fortunately, we have a comprehensive assessment of this question - EPA's 1990 report Environmental Investments: The Cost of a Clean Environment [1]. This landmark study found that the cost to comply with federal environmental regulations was 2.1 percent of gross domestic product in 1990, and a projected 2.6 percent of GDP in 1997. This works out to about $210 billion in 1997 dollars.

Is this too much? First, we need to determine how accurate this often cited estimate is. If there is serious doubt about whether the $210 billion figure is even close to the truth, any debate about whether it is too large would be pointless. The fact that the Cost of Clean numbers are widely cited does not mean that they are universally accepted by everyone as precisely correct.

First, here's how EPA came up with its numbers. Following statutory mandates to assess the cost of compliance with the Clean Air Act and the Clean Water Act, it expanded the scope of Cost of Clean to include expenditures mandated under RCRA, CERCLA, TSCA, and FIFRA as well. In addition, the agency included state and local expenditures and a host of environmental costs that are not necessarily mandated by EPA regulations, such as a variety of solid waste management and water provision expenditures. EPA also projected future costs for new regulations and for regulations being phased in over time. In other words, the agency went out of its way to be as complete as possible.

Still, some economists feel that the $210 billion figure is too low. For example, according to some researchers [2], the Cost of Clean estimates omit a number of more subtle environmental regulatory costs, such as reductions in agricultural yields that arise due to restrictions on pesticide, the costs of complying with noise restrictions at airports, voluntary efforts for litter removal, diverted management focus and inefficient resource use, and legal and other transaction costs. In addition, others [3] argue that the data EPA used to develop the majority of its estimates, which came from the Commerce Department's periodic surveys of private sector pollution control expenditures [4], understate the full social costs of regulation. The idea is that the pollution control costs reported by industry do not include the indirect effects on production these regulatory mandates entail. If pollution control measures render the entire production process less efficient, their full cost to American society exceeds the amounts that companies report.

But there are other arguments suggesting that the Cost of Clean estimate is too high. In preparing the report, for instance, EPA supplemented the Commerce Department's industry pollution control expenditures survey with cost estimates drawn from its own regulatory impact analyses of specific environmental regulations. These studies are based on anticipated future compliance costs as predicted by EPA using the best available information at the time. However, industries and consumers almost invariably find cheaper ways to comply with environmental regulations once they are actually subject to the rules [5].

Another reason for suspecting that the Cost of Clean figure might be too high again has to do with the accuracy of the Commerce Department's survey. When queried by the government, firms have an incentive to overstate their pollution control costs as a way of reducing the possibility that they will be saddled with additional regulatory costs in the future. Furthermore, firms face honest difficulties in distinguishing actual mandated pollution control costs from other capital expenditures. For example, some pollution control measures involve entire process changes, so determining what portion of the total cost is specifically for environmental protection is difficult and potentially arbitrary.

Finally, it is possible that the compliance costs reported in the Commerce survey exceed the actual social costs of these expenditures, because some pollution control measures might actually increase, rather than decrease, the efficiency of production processes [6]. In this case, the social costs of these requirements will be less than the reported amounts.

Perhaps the correct figure is double or half the $210 billion, but no one really knows. The important point is that, despite all of the controversy surrounding this estimate, the arguments are mostly about making marginal adjustments, not radical revisions, to this figure. Economists are not saying the number is so far off that it would change their conclusions about whether the answer represents "large regulatory costs," the question we began with and the assertion made by many critics of regulation. It therefore seems justified to take the Cost of Clean estimate as at least a point of departure for deciding whether we spend too much on environmental protection.

To read the answers to the other questions:
2. Regardless of the Cost of Environmental Protection, Is It Still Money Well Spent?
3. Does Environmental Protection Cause Unemployment, Plant Closures, and Reduce International Competitiveness?
4. Does Environmental Protection Decrease U.S. Economic Growth?
5. Multi-Sector Economic Modeling Results Must Be Interpreted With Caution
6. What Conclusions Can We Draw?

What Do We Spend on Environmental Protection?

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