Green accounting and the welfare gap

Abstract

Although gross domestic product (GDP) is not intended to be a measure of societal welfare, it is often used as such. One shortcoming as a welfare measure is that it fails to account for the non-marketed value of natural resource flows. The difference between societal welfare and GDP is labelled the ‘welfare gap’. A model that accounts for both market and non-market income flows from natural capital is used to examine this gap. Societal welfare depends on private goods and the stock of natural capital. The latter is subject to a logistic growth relationship common to many non-human species. Private goods are produced using human capital and flows of natural capital. An exogenously growing human population either harvests the natural resource, produces human capital or produces the private good. Optimal control theory and dynamic simulations provide steady-state harvest and human capital growth rates which determine the steady-state natural resource stock, GDP and societal welfare growth rates. The model illustrates the feasibility of explicitly accounting for ecological relationships in economic growth models and shows that, depending on one’s preferences and the growth rate of human population and the intrinsic growth rate of natural resources, GDP may diverge substantially from the growth rate of societal welfare, leaving a large welfare gap.