Measuring Natural Capital And The Implications For Sustainability


I recently read a fascinating paper written by Columbia University professor, Geoffrey Heal. The paper explores the issue of sustainability through an economic lens. In particular, the challenge of measurement as it relates to natural capital and economic development.

Economists have a fairly robust measure for economic output, that being Gross Domestic Product (GDP). Unfortunately, as Heal eloquently points out, GDP fails to capture depreciation on economic capital.

To solve this issue one could look at Net Domestic Product (NDP) which is essentially the difference between GDP and depreciation on capital. From a sustainability perspective, Heal uses the example of Saudi Arabia to see how NDP would work. Saudi Arabia makes most of its money from extracting and selling oil – essentially this is its natural capital. Each year the Saudi’s run down their reserves thus depleting their natural capital. The price at which their oil is sold is in fact the deprecation cost on their natural capital. Hence their NDP is in effect zero. In sustainability terms the Saudi’s are poor!

The reason why economists don’t generally use NDP is because it is very hard to measure depreciation on capital accurately. However, without looking at depreciation on capital it is hard to measure whether a country is sustainable and more importantly identify impending environmental and social crises that may be on the horizon.

To solve the limitations of these economic instruments some people have designed other, more esoteric measures of economic performance such as the UNDP’s Human Development Index which is based on data on health, education and income.

Most interesting is a measure developed by the small Himalayan kingdom of Bhutan which looks at economic and social performance as an index of Gross National Happiness (GNH). GNH considers nine conditions including psychological well-being, time use, community vitality, culture, health and education. Of course the challenge with GNH is finding ways to systematically measure these relatively intangible conditions in large, complex economies.

In terms of measuring a country’s sustainability, Heal notes that Adjusted Net Savings (ANS) is one of the better measures. ANS starts with a conventional measure of net investment in plant and equipment (less depreciation) and then adds in investment in human capital through training / education and intellectual capital through investment in R&D. From this figure, the depreciation or degradation of natural capital is subtracted to give ANS.

In the paper Heal goes on to discuss the trade-offs between natural capital and other forms of capital like physical and intellectual capital. He shows that while we are most definitely leaving future generations with less natural capital, we are also leaving them more than we inherited in terms of built capital and intellectual capital. In effect we are trading forests and species for central heating, cures for diseases and the Internet.

The issue is that the trade-off between natural capital and other forms of capital is not nicely packaged up as a perfect substitute. Some natural capital can be substituted fairly efficiently with other forms of capital. Referring back to the Saudi example, running down mineral resources (i.e. oil) could be economically sustainable if the income from the sales of oil is reinvested in other forms of capital (i.e. replacing one asset with another). A fair argument as minerals are just wealth: ‘they provide their owners no other services than the wealth they generate in the market’. Hence we can compensate for their depreciation by building up wealth in other areas such as physical, financial and intellectual capital.

This, however, is not true of other forms of natural capital such as the carbon and hydrogen cycle, photosynthesis and biodiversity which provide services beyond just wealth. In short these types of natural capital cannot be fully replaced by physical infrastructure and financial assets. Or in economic terms their elasticity is less than one implying that a minimum quantity is needed to maintain well-being.

Heal shows that sustainability ‘requires that we keep some of our natural capital intact as it provides services that matter to us and that we cannot replace.’ Most of this type of natural capital is animate or living. Heal expands this argument suggesting that weak sustainability is of the kind that compensates for the loss in natural capital by developing other forms of capital. On the other hand strong sustainability is that which sustains the constancy of animate natural capital. By this definition sustainability means ‘sustaining all forms of life on our planet (strong sustainability), not just maintaining our own living standards (weak sustainability)’.

I enjoyed reading Heal’s paper as it places the sustainability debate into economic context. The trade-offs between economic development and environmental degradation are non-trivial. Choosing between a sustainable path to development requires balancing the substitutability of capital. Ignoring the trade-offs seems imprudent. Equally, taking a weak sustainability stance seems akin to putting a band-aid on a traumatic wound.

A long term perspective suggests that a strong sustainability approach is required, but this seems unlikely without the right incentives and price signals in the market. For now it remains certain that economic growth supersedes the worthy desires to measure, manage and account for natural capital.

About the Author Jess Nielsen

Jess has spent years travelling the world full-time. Nothing else comes close to the reaches of this emotive activity...

Leave a Comment:

Justin Wynn says June 27, 2013

Thanks Mark, found this really interesting. Would like to read the Heal paper but unfortunately the link is not accessible to non-subscribers. Any way of sharing it?

    Mark Whitman says July 2, 2013

    Sorry Justin, will resolve now! Glad you enjoyed the article

Add Your Reply