Air pollution is a silent killer that imposes substantial welfare and economic costs. Yet, people and governments underinvest in clean air. Policymakers must intervene with innovative solutions.

Historically, economic growth and the externalities of growth have been studied and dealt with separately. However, we are now reaching the point where the externalities of growth, such as air pollution, are holding back economic growth and thus policy decisions can no longer be made in isolation.

Air pollution is an externality of growth that has significant consequences at all levels; it affects individuals, firms, and governments. Approximately, nine out of ten individuals worldwide breathe air with high levels of pollution. Both outdoor and indoor air pollution have significant and long lasting consequences. Over four million people die every year from exposure to outdoor air pollution and nearly as many perish from household exposure to dirty fuels, the overwhelming majority in developing countries (World Health Organisation, 2019).

In this brief, we look at the often severe economic impacts of air pollution in developing countries and what can be done to mitigate them. We discuss some reasons why individuals seem to have low demand for improving the quality of the environment and how these introduce a role for government intervention. We then lay out policy instruments that can be used to curb pollution and discuss some ways that these can be adapted to developing country contexts.

Key messages

  1. Air pollution has severe economic and welfare costs. These costs are often excluded when designing new policies. Costs include direct impacts, through premature deaths, infant mortality, and mental health issues, and indirect impacts, through lost work hours, decreased productivity, and migration.
  2. Although demand appears to be low for a clean environment, government policy can improve welfare. Low demand is likely caused by market failures, including poor information, weak land and credit markets, and cognitive biases. This introduces a role for government intervention.
  3. Various policy tools are available for tackling pollution, but careful design is crucial. Market incentives – such as permit or tax systems – and mandates are two policy tools available for tackling air pollution if effectively designed.
  4. Policymakers need to innovate, tailoring traditional tools to their local market context. Solutions should address existing market failures by increasing transparency, improving incentives for monitoring and enforcement, and strengthening credit and land markets.