As the field of economics has developed, so too has the use of economic research in designing environmental policies at the US Environmental Protection Agency. But economics can be leveraged even more at the agency to encourage innovations, reduce costs, and protect the environment.
In the 50 years since its founding, the US Environmental Protection Agency (EPA) has seen enormous changes in both the practice and influence of economics. Early on, relatively little was known about the economic benefits or the net social costs of environmental regulation, and market-based mechanisms did not exist as options.
As an economist serving at the agency for more than a decade, initially as the career director of the agency’s policy office, and then acting in political positions in both Republican and Democratic administrations, I had a seat at the table, near the action. Since leaving government in the late 1990s, my research has continued to examine the evolving role of economic analysis at EPA.
In sync with continued growth in the academic discipline of environmental and resource economics, EPA has conducted increasingly broad and data-driven assessments of the social costs of environmental protection, including some analysis of the distribution of environmental costs and benefits. To address the potential trade-offs associated with new regulations, EPA adopted a neo-classical, net-benefits framework, often referred to as the Kaldor-Hicks criterion. This criterion deems a regulation or other resource reallocation as beneficial if the entities made better off could hypothetically compensate those harmed by the rule, even if the compensation does not actually occur.
The agency generally has rejected normative analyses in favor of the more mainstream positive economics, focusing on cause-and-effect behavioral relationships. Over the years, EPA’s growing capacity to conduct quality economic studies has put it solidly in the top tier of federal regulatory agencies.
Despite the limited support for economic criteria in many environmental statutes, history reveals many examples of how economic analysis has helped inform and shape major EPA regulations and policy decisions. Over the years, the emphasis has moved from a focus on costs, affordability, and potential job losses to other important issues, including the benefits of new regulations and comparisons of benefits and costs. Market mechanisms have been applied successfully, along with innovations related to the value of information, the value of a statistical life, the analysis of risk and uncertainty, and the use of “big data.” Most of EPA’s now-substantial economics-trained staff initially were located in the agency’s central policy office, but today, all major program offices have some in-house economics capabilities of their own.
The founding of EPA in 1970 is widely seen as a response to public outcry over polluted air and water, as was much of the agency’s early legislation. Relatively little was known at the time about the costs and benefits of environmental protection.
Arguably, the roots of EPA’s focus on net-benefits analysis can be traced to the Reagan administration, especially Executive Order (E.O.) 12291, which requires major rules to be accompanied by regulatory impact analyses (RIAs) of benefits and costs, and for those results to be considered in decisionmaking, where legally permissible. While this executive order—which also established the Office of Management and Budget as a gatekeeper role—was widely seen as deregulatory in nature, EPA’s response of building strong economics capacity has, in many cases, helped support stronger regulation.
In the late 1970s, EPA also began considering economic incentive mechanisms to achieve regulatory objectives, including pollution offsets, banking, netting, and trading.
Expansions and Evolution
In the early 1980s, benefit-cost analysis expanded dramatically at EPA. Arguably, this analysis has been used most extensively in EPA’s Office of Air and Radiation and, more recently, to assess climate-related regulations; in contrast, such analysis has played a traditionally smaller (but growing) role in water, waste, and pesticide issues. EPA scientists and economists, along with researchers from RFF and other institutions, pioneered the estimation of damages to human health caused by pollution. As this research has evolved over the years, mortality due to particulate matter became (and remains) the largest single benefit category among major pollutants.
Over time, EPA has developed high-quality, often peer-reviewed RIAs and other economic studies. Most famously, the 1985 RIA on lead in fuels spurred a dramatic reduction in the lead content of gasoline. My best estimate is that EPA has prepared more than 150 RIAs on major regulations since 1981, while hundreds of other rules have undergone more limited economic studies.
Measuring the acceptance of economic analysis as part of the regulatory process, however, is far more challenging.
From the very beginning, EPA’s use of benefit-cost analysis faced resistance from the environmental community, Congress, and even many agency staff who were unfamiliar with or uncomfortable with the approach.
In the 1990s, there was serious internal debate within the Clinton administration about scaling back E.O. 12291; however, Clinton’s E.O. 12866 represented only a modest revision, with slightly more emphasis on equity and transparency. Later embraced by former Presidents Bush and Obama, Clinton’s executive order retained the requirement for analyses of benefits and costs—quantified to the maximum extent possible—and adopted the principle that the benefits of regulations should justify, rather than minimize, the costs.
The use of market mechanisms got a major boost in Title IV of the Clean Air Act Amendments of 1990, when Congress authorized the Acid Rain Program. Although many of the key design parameters were set in the statute, in cases where the law allowed discretion, EPA generally deferred to the use of private markets. Most experts now agree that the agency made sound choices related to private markets for this program.
Notwithstanding some skirmishes, EPA generally has adhered to the mainstream economic approaches established over the prior decades.
Recently, the Trump administration has introduced a number of challenges to the established use of economics in environmental decisionmaking, and in general has de-emphasized benefits analysis—in large part by scaling back the role of ancillary benefits, also known as co-benefits, in RIAs. For example, the case for withdrawing the Mercury and Air Toxics Standards rests almost entirely on the cost analysis, despite the substantial co-benefits driven by mortality due to particulate matter. The recently updated RIA ignores the previously calculated co-benefits despite the absence of an alternative, more cost-effective means of achieving those benefits.
Another example can be found in the dramatic downward revisions of the social cost of carbon (SCC), which was developed by EPA economists and others in an Obama-era interagency working group. The SCC represents the monetized damages of a one-ton increase in CO₂ emissions, including changes in agricultural productivity, human health, property damages, power systems, ecosystems, and other effects. In the RIA supporting a repeal of the Clean Power Plan, the Trump EPA ignored the global implications of the issue and argued that the prior administration used too low a discount rate, which gave greater weight to future benefits. On that logic, EPA more recently added a new scenario using a higher discount rate (7 percent) and limited the calculations to only the benefits that accrue directly to the United States. Together, these changes lower the SCC values for the year 2020 by 85 percent or more, depending on the discount rate used (3 or 7 percent).
Beyond these revisions to rules related to air pollution and climate, the Trump EPA has made other changes that are inconsistent with established approaches to economic analyses. For example, the Trump administration replaced the Waters of the United States (WOTUS) rule from 2015—which had originally increased the number of wetlands subject to federal regulation under the Clean Water Act—with a new, less stringent regulation. EPA justified this change by excluding the wetlands-related benefits previously estimated by EPA itself and the Army Corps of Engineers. Also noteworthy is the dissolution of EPA’s Environmental Economics Advisory Committee (EEAC), a group that had operated for more than 25 years within EPA’s Science Advisory Board. During its existence, the EEAC had served as an important source of peer review for EPA’s economic analyses. Fortunately, the agency is now establishing an ad hoc committee to review its Guidelines for Preparing Economic Analyses.
Looking ahead, the next presidential election is likely to have major impacts on the near-term direction of economics at EPA.
Recommendation: Apply Best Practices
Several future challenges related to economics at EPA merit comment. First and foremost is the importance of mandating consistent adherence to the agency’s economics guidelines. Such a move would restore effective benefit-cost analyses for RIAs and could strengthen both the agency’s legal defenses and its standing in the court of public opinion.
Second is the need to expand analyses of the distributional impacts of major environmental problems, including the potential for some risks to disproportionately burden low-income households, communities of color, or specific regions of the country. Similar questions need to be asked about the policy remedies crafted to address those risks. Who wins from these policies? Who loses? EPA already has carried out some relevant studies, but much more can be done.
A third challenge is for EPA to recognize the importance of institutional learning. Despite the growing importance of environmental economics at EPA over the past five decades, most current efforts focus on ex ante analyses, often in the form of RIAs, which estimate the projected future impacts of major policies. A limited—but expanding—literature conducts ex post analyses, which look back at existing regulations and assess the observed policy impacts. The late Senator Daniel Patrick Moynihan deserves credit for identifying the importance of such retrospective analyses.
A key next step for EPA is to support a systematic comparison of ex ante analyses and ex post analyses of major environmental rules. Such critical comparative evaluations can provide a much-needed validation (or not) of ex ante analyses. Retrospective analyses can produce essential evidence of both the successes and shortcomings of environmental regulations, including any unintended consequences. High-quality retrospective analyses can help shape future regulations and policy, while revealing appropriate analytic frameworks that can be applied for forward-looking ex ante assessments. To EPA’s credit, the agency has begun some work in this area. Much more is needed.
Economics at EPA has come a long way over the past half century, and these efforts remain very much a work in progress. Historically, conflicts over the role of economics in shaping policy originated in a concern that economics would undermine the agency’s regulatory efforts, and more recently because of a concern that economic analysis in excess can bolster regulation. If EPA continues to embrace economics—and, more importantly, a commitment to best practices in economic analysis—then the next half century will lead to better decisionmaking and strong policy design for a healthy environment.