Microsoft PowerPoint - 14 - Market Based Instruments - Price by mifei


									                                                                                                            Instrument taxonomy

             Policy for Market Failure:

              Market-based strategies

    Information based: Mandatory
                                                                                                        Market-based instruments
•   Regulators require firms to make certain information publicly available.                        • The two most notable advantages that market-
•   Examples: the toxics release inventory lead paint disclosures, food nutrition
                                   inventory,           disclosures
                                                                                                      based instruments (price and C&T) offer over
    labels, drinking water quality notices, and eco-labels.                                           traditional command-and-control approaches are
                                                                                                      (Stavins, 1998):
•   Can lead to improved environmental performance via (Kennedy et al., 1994)
     – 1. increasing consumer demand for a reporting firm’s environmental                             – cost effectiveness, and
       performance,                                                                                   – dynamic incentives for technology innovation and
     – 2. increasing a reporting firm’s susceptibility to liability under legal statutes
     – 3. increasing investor and/or employee pressure for reporting firm’s pollution                   diffusion.
       abatement, and
     – 4. increasing community coercion.
                                                                                                    • Market based instruments take advantage of
•   U.S. Toxic Release Inventory                                                                      private information that polluters have about
     – “The Toxics Release Inventory (TRI)
          • a publicly available EPA database                                                         means and procedures they could use to reduce
          • contains information on toxic chemical releases and other waste management activities
            reported annually by certain covered industry groups
          • established under the Emergency Planning and Community Right-to-Know Act of 1986
            (EPCRA) and expanded by the Pollution Prevention Act of 1990”

                                                                       Price-based policy examples
                                                                 Fees/taxes/charges to reduce “bads”:
                                                                 • User fees (e.g. at National Parks)
                                                                 • Congestion fees, road tolls (e.g. London
                                                                   congestion charge, 8 £)
                                                                 • Emissions fees (e g GHG tax)

           Policy for Market Failure:                            Subsidies
                                                                 • Abatement subsidies (reduce “bads”)
                                                                    – E.g. NC bill to provide $50B to reduce
                                                                      hog farm waste
                  Price Instruments                              • Subsidies to encourage “goods”
                                                                    – California Million Solar Roofs Initiative
                                                                    – 2008 Farm Bill
                                                                        • $14B in subsidies for rice, cotton, corn,
                                                                          soybeans, wheat and other crops
                                                                        • $27B to conserve environmentally
                                                                          sensitive farmland
                                                                        • $23B crop insurance

  Emissions charge (tax) mechanics                                                    Tax - mechanics
• Given an emissions                                              • Will higher charges
  charge of $120/unit,
  what is the firm’s optimal
                                                                    bring more or less
  level of emissions?                                                 b t
                                                                    abatement? t?
    • Optimal least costly (cost-
                                                                  • If the MAC curve
 – Total compliance cost:                Single source of a         shifts down (e.g.
                                         particular pollutant.
    • Total abatement cost +                                        MAC’) does the
      Total emissions fees
                                     Tax has been set               predicted level of
                                     at $120/ton/month
• Idea: each pollution                                              abatement go up or                                MAC’

  source will reduce its                                            down (assuming
  emissions until                                                   the tax is
   MAC = tax. (Why?)

   Setting an                                                                      Why might bussiness firms be so
                                                                                 strongly opposed to pollution taxes?
   efficient tax
                                                                             Suppose the tax is set
     th      f   ti i
• If the MD function is                                                        at t*:
  known then the tax                                                         • Does the tax satisfy
  can be set to produce                                                        the principle of
  the efficient level of                                                       “polluter pays”?
                                       • Work in pairs. Identify:
                                         – Efficient emissions (explain)     • Does the polluter
            – When the tax is set        – Given t*:                           pay a total
              equal to the                                                     emissions charge
              marginal damage at             – TAC: Total abatement cost
              the efficient level of         – TEC: Total emissions
                                                                               greater than or less
              emissions we call it              charges (“tax bill”)           than the total
              a “Pigovian tax/fee”           – TB: Total benefit from          damage at e*?
                                                damages averted.

                                                                                 Equimarginal principle
                    Setting the tax                                        • Major strength of emissions charges:
                                                                             – IF same tax rate applied to different
                                                                               sources with different MAC functions

                                                                               (and each reduces it emissions as
• To induce the socially efficient                                             predicted such that MAC = tax)
  level of emissions (e*) it is not
  necessary to charge for each                                                 THEN, MAC will be equalized across
  unit of emissions – we could
  just impose charge on                                                      Cost effectiveness achieved (i.e.
  emissions beyond e1.                                                        emissions reduction of 20 tons/month
                                                                              achieved in least costly way.)
• Note: the total social cost of
                                                                             ***Does the regulator have to know the
  the emissions charges                                                        MAC functions for a tax to be cos
                                                                                   C u c o s o        a o     cost-
  (a+b+c+d) i zero since f
  ( b      d) is       i    from                                               effective (satisfy equimarginal
  society’s standpoint it is just                                              principle)?
  a transfer from the firm to
  government.                                                                ***Is 15 units of abatement from A and 5
                                                                               units of abatement from B the efficient
                                                                               outcome (i.e. the one that maximizes
                                                                               net benefits inclusive of damages)?

                 Nonuniform Emissions                                         Zoned emissions charge
    Differences in the marginal damage curve

                                                                       • Best response to many firms with different MD curves:
                                                                         zoned emissions charge
  • In reality a unit of pollution from one source                        – Within each zone one tax rate applied
    may cause greater damage than a unit from                             – Assume: the effect on Urban Area, and thus the tax, decreases
    another source                                                          with distance.
                                                                             • Is the equimarginal principle still satisfied within a zone? Between
  • BUT identifying the marginal damage curve                                  zones?
    for every source would be highly costly.                           • Increasing # of zones: Tradeoff between increasing
                                                                         administrative/information costs and increasing cost-

                       Incentives to innovate
                                                                          Incentives to innovate are greater under
Work in pairs:                       Story: Initially at MAC1. After
                                     costly R&D, develop new method,
                                                                             emissions charges than standards
• Baseline (MAC1): what level of     move to MAC2. Emissions charge
  emissions is chosen and what is    is constant at t.
  the total compliance cost?
    – TCC1 = TACMAC1 + TEC1 = ?                                        • R&D efforts will lead to a bigger reduction in
                                                                         pollution-related costs for firms (abatement plus
• After innovation (MAC2): what
  level of emission is chosen and                                        taxes) under emissions charges than under
  what is the TCC?
    – TCC2 = TACMAC2 + TEC2 = ?
• What is the firm’s benefit
  (incentive) for innovating (cost
                                                                       • Under emissions charges: a firm will
    – TCC2 – TCC1 =?                                                     automatically reduce its emissions as it finds
• Standards: Suppose instead of
                                                                         ways to shift its MAC function downward (not
  tax t, we have performance                                             necessarily the case under standards).
  standard e1… what is the firm’s
  incentive to innovate?

             Enforcement costs                                                  Subsidy policies
• Most non-point (diffuse) sources of                                        • Payments to reduce pollution (less of a bad)
    ll ti        t be      l t d through
  pollution cannot b regulated th      h
  emissions charges – too costly to monitor                                  • Price supports (e.g. agriculture) (more of a
   – E.g. pollutants in street runoff, agricultural                            “good”).
                                                                             • Deposit-refund systems
                                                                                 – Subsidy is the refund (deposit funds the subsidy

                                                                             • Subsidy removal

                        Subsidies                                                     Subsidy removal example:
• Pollution context: public authority pays polluter a
  certain amount per unit for every unit reduced                                       Below-cost timber sales
  (starting from some benchmark level).                                      • The commercial activity of moving timber from U.S. public lands into
   – Subsidy generates an incentive in the form of an                          the marketplace frequently costs the Federal government more than
     opportunity cost for polluting                                                       return.
                                                                               it gets in return (implicit subsidy)
                                                                                 – Form of subsidy: (most frequently) credits to private lumber companies
      • if polluter emits a given unit of pollution it forgoes the subsidy         for road building.
        payment.                                                                 – 1964 Forest Roads and Trails Act
                                                                                     • allows the Forest Service to credit logging companies for their expenses in
                                                                                       constructing the logging roads they need to access timber
• Subsidies to reduce pollution are not common.                                      • companies deduct road construction expenses (credits) directly from the
                                                                                       amount they pay the Forest Service for the timber they extract.
  Why?                                                                           – Since government alleviates part of the resource extraction cost it
   – Violates “polluter pays” principle                                            effectively subsidizes the removal of timber.
   – Can potentially lead to more pollution:
                                                                             • Removal of these subsidies could foster environmental protection
      Subsidies decrease levels of pollution by individual firms              and save taxpayers up to (an estimated) $1.2 billion over five years.
       BUT increase overall industry profits encourage new
       entrants into industry  more production  potentially more
       pollution.                                                            (Stavins, 1998)


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