By Vatsal Khandelwal

Edited by Namitha Sadanand, Associate Editor, The Indian Economist

Irish philosopher and political economist Edgeworth mentioned that “the first principle of economics is that every agent is actuated by self-interest”. This assertion has been the basis of the Rational Choice Theory, which rightfully assigns the meaning of rationality to mean that “an individual acts as if balancing costs against benefits to arrive at action that maximizes personal advantage”. Economic agents who model their decisions with respect to this self-interest based ideal have a restricted outlook towards the resource constraint, the social costs and the overall negative externalities resulting out of their decisions. These decisions and policy repercussions are so profit-oriented that they end up being unsustainable and unethical.

In order to understand the issue pertaining to the development projects that have usurped the natural resources of the country today (especially the kind being pursued in the rural areas of Chhattisgarh, Orissa and Jharkhand), one needs to unfortunately assume that some amount of displacement is inevitable. Private companies (with prior sanction of the government) displace people to gain access to the resource, reduce their transportation costs, pursue the project and earn profits. This involves a tradeoff between displacement of people (a negative externality of development) and added costs of production.

Consider an extremely simplistic scenario- Company A has two options- to displace a forest population and set up a plant with production costs C, or to not displace any population and set up a plant away from the resource with a higher production cost C+K (due to higher transportation costs, resource-quality loss during transit and lesser services available in the production vicinity). In lieu of Edgeworth’s famous assertion that self-interest is synonymous with rationality, the firm’s utility function would be as follows-

U = F (C, S)

Wherein C is the cost of production, S is the number of people displaced

UC < 0 and Us > 0

I.e. Higher costs of production means lesser utility. And the more people displaced, lesser the costs of production (given the scenario) and thus, higher utility. Without any significant checks by the government, a firm would prefer displacing the maximum amount of people thereby maximizing its profit-related utility, rather than adding to its production costs.

Let the Marginal Cost of Preventing Displacement be the additional production cost incurred by Firm A in order to prevent displacement of an additional unit of population. For example- If Company A decides to displace 200 people, instead of 500, the marginal cost of preventing the displacement of 300 people is equal to the added production cost the company has to bear. In today’s scenario, this added production cost can be reinterpreted as the Cost of Rehabilitation (Compensation Cheques).The Marginal Cost of Displacement Prevention (MDP) curve is downward sloping (with the number of people displaced shown on the X axis), as higher amounts of displacement mean lesser marginal cost incurred by the firm on preventing it.

The Marginal Damage or Marginal Social Cost (MSC) curve is upward sloping (with the number of people displaced on the X axis), as a higher number of people displaced would mean higher social costs/marginal damage to society in the form of low standards on living post displacement, livelihood issues etc.

Consider the two equations-

MDP = z – kp

MSC= a + bp

where p is the amount of population displaced, -k and +b are the respective slopes of the two curves, z and a the two intercepts.

Equating these two, in order to get the Optimal Population Displacement Value-

We get, p* = (z-a)/(b+k) as the optimal amount of population to be displaced where MDP=MSC (in other words where costs of rehabilitation- added production costs would be equal to the social cost of displacement)

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For any level of population displacement, above p*, the Marginal Social Cost would exceed the Marginal Cost of Displacement Prevention. For any level below p*, the Marginal Cost of Displacement Prevention would exceed the Marginal Social Costs, and thus, p* (established through equilibrium point e) is the ‘optimal’ level of displacement.

In the Indian Scenario, companies in certain states displace beyond p* i.e. displace more people than they can compensate, that is, they displace at levels where the marginal cost of preventing displacement (represented through added production costs or rehabilitation costs) is less than the social costs of displacement. Such displacement is characterized by the absence of adequate compensation wherein firms increase their profit based utility by reducing costs of providing rehabilitation. It is an offshoot of unsustainable development and gives rise to Naxal uprisings and violent anti-state agendas.

The concept of development that exists today brings forward the economic dilemma which is often referred to as the ‘free rider problem’. A free rider refers to a person/institution who gains from a resource/service/commodity without paying the cost for the gain at all. This problem also alludes to that of a ‘forced rider’ who is forced to share in the cost of public good which he does not desire to and the gains of which he does not get to enjoy. One of the important things we need to assume while assessing the idea of ‘cost’ in this scenario is that we are necessarily dealing with social costs. The government/private owner solely benefits from its development policy (‘a public good’ regardless that three-fourths of the public is excluded) and does not have to pay the ‘social cost’ of this benefit. The entrepreneur does not have to suffer and thus it is the ‘forced rider’ (the population displaced) which is compelled to pay the cost of the public good in the form of displacement and exploitation. The p* amount of population displaced is generally a forced rider, for the benefits of the development project do not reach them at all while they are forced to pay the costs of it. It is then due to this free-forced rider dilemma, that the civility of the ‘civil’ society is disturbed and the government (the free rider, as in the case of Naxal outbreaks) then blames the forced rider, uses violence and silences the voices of the dissenters.

This simplistic model can be used to analyze the grievous state of affairs in our country, but measurement problems and lack of fluidity between theory and reality makes it nothing more than a graphical sketch coupled with mathematical equations. Also, if we start measuring externalities such as ‘social costs’ and ‘environmental damage’ we would pose a greater threat to human development because then, we will enter a situation where even nature and people will not be spared from the brutal calculations of the economic market. If everything is commoditized and given a price tag, and we start equating human loss to economic loss, the world would be nothing more than an egotistical capitalist slum and only then might we recognize the value of human emotions and values, and more so, human life over any kind of analysis Edgeworth ever came up with.

 

Posted by The Indian Economist | For the Curious Mind