Environment and Development Economics

Research Article

Cost-effective provision of environmental services: the role of relaxing market constraints*


a1 Department of Economics, School of Oriental and African Studies, Thornhaugh St, Russell Square, London WC1H 0XG, United Kingdom. Tel: +44 (0)20 78984730. Email: bg3@soas.ac.uk

a2 Chair of Environmental Policy and Economics, Institute for Environmental Decisions, ETH Zürich, Zürich, Switzerland. Email: C.Palmer1@lse.ac.uk


Ferraro and Simpson (2002) argue that when markets are competitive, payments for environmental services (PES) are more cost-effective in achieving environmental goals than more indirect approaches such as subsidies to capital. However, when eco-entrepreneurs face non-price rationing in input or output markets, as is typical for credit in developing countries for example, we show that interventions which relax constraints can be more cost-effective than PES. One corollary of this is that such indirect approaches are preferred to PES by interveners (e.g., donors) and eco-entrepreneurs alike. Both of these outcomes are more likely when constraints are severe. This has implications for schemes with dual environment and poverty alleviation objectives.

(Received November 27 2008)

(Revised July 08 2009)

(Accepted November 03 2009)

(Online publication January 26 2010)


* The authors would like to thank David Simpson and the two anonymous referees for very helpful comments. The usual disclaimer applies.