Key Economic Issues

The changes needed to achieve circularity can have direct impacts on the production functions/ technologies (i.e., the technical relationship between the output produced and the inputs used in its production, which captures the production technology and gives the maximum output that can be produced from a given level of inputs), at the different stages of the supply chain. 

Redirecting wastes and byproducts away from disposal and back into closed loops results in the creation of more inputs. Circularity not only results in the creation of more inputs to producers, it also changes the production technology to allow for a greater potential output. 

For instance, in Figure 1, the production function of producer 1 under the linear supply chain is given by y₁ = ƒ(k^m₁ , kⁿ₁), while under circularity, the production function can become y₁ = g(k^m₁ , kⁿ₁, k^r₁, k^r₅, k^r₁₁, k^r₁₇ ).

As a consequence, not only does circularity result in increased inputs available to producers in the form of adding recycled capital, it also changes the production technology used from ƒ(.) to g(.) and by extend the maximum output that can be produced. 

The impacts of this change are determined by the relationship of the production technologies under the LSC and under the CSC, the technical relationship between the secondary products and the traditional inputs used in production, and the returns to scale under the different production technologies.

The use of secondary products and recycled capital in production can also impact the costs of production along the supply chain. 

The cheaper secondary products are relative to traditional inputs or the more substitutable they are, the greater the cost savings associated with using these secondary or recycled products. This ultimately lends itself to greater economic efficiency in the supply chain. 

Adjustment costs can also be made necessary in this transition, and the greater the changes to production practices, the larger the adjustment costs faced by producers. 

The production of secondary products through the CE units is costly. First, there is a fixed cost associated with the creation of the CE units. There is also a variable cost associated with the operation and production of the secondary products through the CE unit associated. 

Spatial context is important because the closer in proximity the secondary product originates, the cheaper the more efficient and cost effective the recovery. 

The fixed costs of the CE units can affect the structure of the relevant markets. Higher fixed costs associated with a transition to circularity also entail a greater minimum efficient size of operation, and indicate a more concentrated market. To clarify, if it's expensive to make the shift to circular practices, companies will need to be large to afford it. This, in turn, can lead to markets being dominated by a few big players.

Market structure shifts are important because they determine the size and distribution of economic benefits (surplus). 

In addition to impacting the quantity and costs of products products along the supply chain, using secondary products as inputs in the supply chain can also influence the actual or perceived value of the final product.

For example, consumers can increase the perceived value or willingness-to-pay (WTP) for products produced through circularity if they value socioeconomic or environmental benefits of circularity. In contrast, consumers can also perceive a lower value for circularly produced goods if they believe the secondary inputs used are detrimental to the product. This can be seen in instances of produce grown using recycled or reclaimed wastewater. 

If there is an increased consumer valuation of products produced through circularity, there is also a potential for an increased demand on primary production through the economic incentivation of byproducts and waste, as they are used as inputs for secondary products. This in turn can create a “rebound effect” in which there is also a greater demand for extraction and processing of natural capitals to be used in primary production, exacerbating environmental impacts. Further, Zink and Geyer [21] noted that there exists a separate potential for a rebound effect if CE production fails to compete effectively with primary production, resulting in increased primary production.

The novel nature of a circular economy, unknown quality of secondary products as inputs within the supply chain, the consumer response to circularly produced goods, and rebound effects create uncertianty surrounding a transition to a circular economy. The more uncertainty that exists in regards to a circular shift in a specific supply chain, the higher the threshold for risk adverse decision makers in the supply chain to opt for a transition. 

A circular economy operates by reusing waste and byproducts as inputs in other steps or supply chains. To that end, byproducts ansd waste can become revenue generating for the producers of these excesses. The more important these excesses are in the generation of secondary products, and the more relevant the secondary product is in it’s relevant production process, the more expected revenue the producer of the waste and byproduct has. 

There is increasing emphasis on businesses and firms to be actively involved in emerging and current socioeconomic and environmental issues. Even if these are not the businesses direct mission, a transition to a circular economy, if carefully managed, can promote goodwill and public valuation of the firms.