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Social costs in economic development.

Meaning and Significance of Social Costs

There are variety of harmful efforts of productive activities which are not revealed in entrepreneurial cost accounts and hence tend to be neglected in private decision making. This may be termed as social costs which, under given conditions and institutional arrangements, tend to be shifted to and borne by other sectors, third persons, or the economy as a whole. Since the entrepreneur is not held accountable for these negative consequences output is not affected and hence, is independent of these costs. Social costs may take the form of a variety of tangible and intangible losses. They may be reflected in higher cost of production of some sectors of the economy, and sooner or later, they may call for additional outlays for remedial measures as well as public policies and public investments.

Governments in developed countries have responded to some of the social costs of production by means of social and other protective legislation, however it is in no way certain that such legislation has as yet succeeded in either eliminating social costs or even reducing them. Economic history and more particularly, the history of economic development and social legislation in many advanced countries could be written as the history of the success or failure to reduce the social costs of production.

However, social costs are not confined to developed economies, they play an important role in less developed countries where the development process is just getting underway. For instance, under certain conditions, lumber operations may be highly profitable, at least in the short run, despite the fact that they may set the stage for a serious deforestation of considerable areas of timberland which in turn may give rise to a cumulative process of soil erosion, land-slides, increased frequency and severity of floods as well as premature silting of reservoirs and the loss of life and property.

This example shows the inherently cumulative character of the emergence of social costs in a much more far reaching sense than the term has been used in theoretical discussion of business fluctuations and economic instability.

The principle of cumulative or circular causation stresses the fact that social processes are marketed by the interaction of several variables, both "economic" and "non-economic", which in their combined effects move the system away from a position of balance or equilibrium. In fact, instead of calling forth a tendency toward automatic self-stabilization, social processes may be said to be subject to a kind of social inertia which tends to move the system in the same direction as the initial impulse.

Just as there are social costs of production which may be shifted to other sectors or third persons, there are important social benefits of productive activities which tend to be neglected in the ordinary course of events, characteristic of market economies. Social benefits include a wide variety of inappropriable utilities which tend to diffuse themselves throughout society. They are "inappropriable" by private producers in the sense that they can not be withheld and offered for sale in markets.

Economic Development, Structural Change and Social Costs

All economic development is structural change and structural change tend to give rise to losses which are shifted to and borne by third persons or society at large. This thesis rests on the following consideration: economic development in the sense of increasing real incomes involves three kinds of structural changes.

1) increasing real incomes are spent not proportionately but disproportionately on different goods and services (different income elasticities).

2) productive factors (inputs) can be increased not at constant but at disproportionate cost (different supply elasticities).

3) different sectors of the economy are able to introduce and assimilate innovations only at varying rates (with the result that some industries lag far behind in the utilization of innovations.

Such structural changes inherent in economic development entail a transfer of resources including labor embodying special training, skills or knowledge. These transfers are associated with costs which do not necessarily enter into entrepreneurial outlays and hence into the decision making process.

It is one of the characteristics of the market economy to permit owners of capital assets and laborers with special skills or knowledge to absorb the financial windfalls or "unearned" increments which may accrue to them as a result of economic change. This fact is taken for granted in economic practice and accepted by economic theory. Less realized is the fact that the market mechanizm also forces laborers with specialized skills and established in particular localities, as well as owners of specialized resources, to bear the losses caused by the decline or shift of particular industries.

It may be argued, and in fact it has been argued, that the shift of these social costs of economic development to third persons or future generations is a prerequisite for accelerated economic growth and that any attempt to "internalize" them into entrepreneurial outlays either by social legislation or by taxation required for remedial action would have the effect of slowing down the rate of growth. This argument seem to be irrefutable. In fact it may be formulated in even more general terms with reference to all social costs.

Resource Utilization and Social Costs

There are some specific cases of social costs which play an important role in developing countries. For many decades to come, the economies of Asia, Africa and South America are likely to derive the bulk of their national output from agriculture and other extractive industries based upon renewable and non-renewable resources such as land, forests, fisheries, and minerals. Hence economic development is likely to call for an extension of the margins of utilization quite apart from the growing needs for increased output due to a rapid increase of population.

In many advanced countries, such extension of the margins of cultivation has given rise to considerable social losses, and there is every reason to anticipate similar experiences in the developing countries.

The Critical Zone

K. William Kapp first introduced the concept of "critical zone" which is basic to the study of social costs. Whether we are concerned with social losses arising out of the utilization of natural resources or with the social costs of air and water pollution or with the "human" costs of industrial accident or occupational diseases, we are implicitly introducing the nation of a safety limit or "critical zone".

Closely connected with this concept of the critical zone relevant for resource use is the concept of natural balance which refers to the delicate system of inter-relationships between land and its vegetative cover. Essentially this is a physical concept which has an important bearing on what are adequate and safe principles of soil and water or forestry management as the case may be. For any thing that destroys this natural balance is likely to interfere with the protective function of the vegetative cover of the land.

To define the ecological balance is not to suggest that its maintenance must become a norm. Nor is there any need to point out that rapid increases of population make it increasingly difficult to maintain intact the ecological balance. Even apart from the general increase of population, there may be other overvaluing reasons why this balance cannot be maintained as for instance, in periods of natural disaster or national emergencies. However, any such disturbance has long-run cumulative consequences which man can anticipate to a large extent and which it is always imprudent to ignore in the interest of maximizing current returns or minimizing current costs.

Expressed differently, it may be said that there is a minimum standard of resource use beyond which any intensification in the rate of utilization will cause an economically irreversible depletion which is associated with considerable social losses.

Compared with these potential social costs likely to be caused by an economically irreversible depletion, the actual costs involve in avoiding adverse social consequences are relatively small.

This conclusion is justified if we consider that what is needed, in many instances, is the adoption of more selective techniques and practices of resource use which are in harmony with the life and growth cycle of such resources as wildlife, fisheries and forestry. In all these instances, the rate of use may have to be reduced not to zero but only to a safe distance from the critical zone.

Soil Depletion and Erosion

In developing countries various methods of land use, such as repeated plantings of soil exhausting crops without or with little regard to fertilization of the land, short-term tenancy arrangements, as well as population pressures and inadequate credit facilities have contributed to serious soil depletion and erosion in some regions. It may be argued that the costs of soil depletion and erosion are borne by private owners and as such constitute private rather than social costs. However, there are the social effects of soil destructive practices which are reflected in the reduction of soil fertility of land owned by persons often at a considerable distance from the place where the process of depletion and erosion was set in motion. Soil and gully erosion may affect an entire watershed. Downstream silting of reservoirs and rivers is another case in point. These social costs may be substantial in monsoon regions marked by torrential downpours concentrated during a few months of the year.


Excessive or indiscriminate logging operations are another source of serious social costs. Population pressure, export opportunities and a pressing need for foreign exchange may cause the utilization of renewable timber resources to be carried beyond the limit of safety.

Indiscriminate cutting of trees does not only destroy the resource and capital base of the industry but, by undermining the ecological balance, destroys the protective functions of forests in a given watershed area. It reduces the capacity of the soil to store moisture, sets the stage for accelerated run-off, contributes to erosion, enhances the severity of floods and droughts and leads to the sedimentation of downstream areas and the premature silting as well as the reduction of the effective life span of reservoirs.

Water logging and Salinization

The problem of water logging and salinity is an acute problem in some parts of India and Pakistan. The social losses are accrude in agriculture and forestry which threaten economic development. These social costs are directly connected with the provision of additional water for irrigation purposes and improper soil management practices which fail to take into account existing physical and technical interdependencies. Unlike artisian irrigation which draws upon available sub soil water, canal irrigation brings additional water to the area and hence, may raise the ground water level. Depending upon a variety of factors, the additional water may lead to a rise of the subsoil water level and may bring to the surface soluble salts which will adversely affect soil fertility.

Even before complete water logging and salinization set in and before the land may have to be abandoned, social costs in the form of avoidable higher costs of production and lower yields will make themselves felt. Preparation of the ground for cultivation becomes more cumbersome and, hence, more costly plant roots find it difficult to penetrate the soil, and germination is hindered, until finally, the whole composition and structure of the soil change, thereby gradually reduces or destroys soil fertility.

Water and Air Pollution

Economic development and the concomittant process of industrialization are like to give rise to a process of urban concentration which may have far reaching negative effects, which are not necessarily, and certainly not fully, reflected in entrepreneurial outlays and hence, constitute social costs.

The conditions which have given rise to water and air pollution in the developed countries are rapidly and indeed cumulatively emerging in some parts of the underdeveloped world. While countervailing group action and political decision-making aiming at minimizing these costs remain weak or non-existent, it has been found that, mining, beverage and textile establishments as well as sugar refineries and saw mill dispose of untreated poisonous waste materials by discharging them into waterways with various cumulative harmful effects on human health, live stock and fisheries. Air pollution causes not only respiratory diseases, including lung cancer, but a variety of other diseases, have been statistically correlated with the pollution of the atmosphere.


Generally speaking, we can say that the process of economic development tends to give rise to a variety of essentially heterogeneous harmful effects and losses which are shifted to and borne by third persons or society at large.

Most of these social costs tend to emerge as a result of complex physical and economic inter-dependencies which are likely to increase as economic development takes hold and employs technologies which are based on modern science. From the perspective of the economy as a whole, social costs are never "unpaid". In many cases it is probably true that an early prevention of social costs is considerably less costly for society than the costs of repairing the losses and damages once they have occurred. Hence, while the internalization of social costs may make certain productive activities less profitable and hence affect the rate of growth in the short run, the neglect of social costs and their cumulative and corrosive effects may retard and arrest the process of economic development altogether.

(The writer is staff Economist in Applied Economics Research Centre - Karachi).
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Title Annotation:Industrial Pakistan-1993
Author:Khalil, Samina
Publication:Economic Review
Date:Jun 1, 1993
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