Pollution Control
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Regulating Pollution
Rationale for Regulation:
Economic
Regulation:
refers
to
government
intervention in private actions of firms and individuals.
Two theories of regulation:
Public Interest Theory and Interest Group Theory
Public Interest Theory: main purpose of regulation is
the promotion of public interest.
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Regulating Pollution
Rationale for Regulation:
Interest Group Theory: main purpose of regulation is
the promotion of narrow interest of particular groups in
a society such as individual industries.
Major point of
approaches is:
distinction
between
these
two
Public Interest Theory is the normative Theory (which
seeks to explain what should happen in an ideal world)
while the Interest Group Theory is the positive theory
(which seeks to explain why the world works as it does)
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Regulating Pollution
Under Public Interest Theory three general reasons
justify for government regulation:
a.Imperfect competition
b.Imperfect information
c.Externalities
Imperfect Competition or Natural Monopoly:
Role of the government, in the presence of natural
monopoly, is to control prices in order to protect the
consumers and prevent collusion and restrict mergers
that may create excessive market power in the hands
of the monopolists.
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Regulating Pollution
Imperfect Information:
Here the role is to establish a set of liability rules to
encourage the provision of safety-related quality.
Direct intervention in the
acceptable levels of quality.
market
specifying
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Regulating Pollution
Externalities:
Main problem is with the provision of public goods
and bads because private provision of these goods
(with the element of publicness: non-rivalry and nonexcludability) is inefficient.
In the case of public bads, the usual approach is for
government to define a set of institutions and
regulation to govern provision of these public bads,
e.g., the government establishes a set of regulations
to restrict the production of pollution.
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Regulating Pollution
Externalities:
Interest Group Theory of regulation maintains that
rent-seeking is the primary rationale for regulation.
Rent-seeking involves private individuals or firm using
the government to guarantee extra profits (rent)
through government mandated restrictions on
economic activity.
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Regulating Pollution
A Political Economy Model of Regulation:
The basic problem of environmental regulation involves
the government trying to induce a polluter to take socially
desirable actions, which ostensibly are not in the best
interest of the polluter.
The main problem, therefore, is determination of exact
level of pollution which is best for the society.
In reality the government faces pressures from consumers
and polluters.
Figure 1 presents a highly stylized schematic diagram of
the interactions among government, polluting firms and
consumer citizens.
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Regulating Pollution
$, £
Legislature
Votes
(State
Ownerships)
B
$, £
Stock, Bond
Holders
$, £
Regulations
Board of
Directors
$, £
Wage, payments for goods
Managers
Goods
Consumers
/Citizens
Judiciary
Employees
Government
The Firm
Figure 1
Bads/P
ollution
The Polity
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Regulating Pollution
The Government as shown in figure 1, consists of
three branches: the Legislature, the Judiciary and the
Regulators
Legislature passes laws defining what the regulators
are to do in controlling pollution.
Regulators are charged with the responsibility of
implementing the legislature's laws
Judiciary: the actions of the regulators are tempered
by the judiciary.
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Regulating Pollution
The firm consists of several pieces:
the Board of Directors, Managers, Employees,
Stock and Bond Holders.
The Board issues directives to the managers; the
managers issue directives to employees who produce
the product of the firm as well as pollution.
The key point is that regulators direct the Board to take
certain actions, but the Board is removed, by several
steps, from the employees who actually generate the
pollution.
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Regulating Pollution
There arises Principal-agent problem due to inability
of the EPA (the principal) to completely control the
polluter (the agent).
The firm may not be a passive entity but may in fact
influence legislation, through lobbying or financial
incentives (shown by the line B)
The third component of the figure, the consumers
direct votes and other influence to the legislature (line
A) while at the same time sending money to the firm in
exchange for the goods consumed.
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Regulating Pollution
Two important lessons can be drawn from the figure:
1. There are many imperfect links between the
legislature and the pollution generating process.
2. The legislation does not necessarily act as an
efficient benevolent maximizer of social well being.
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Regulating Pollution
• Inclusion of Line B: indicates regulation with
endogenous politics.
• Omission of Line B indicates regulation with
exogenous politics.
• Positive interest group theory is consistent with
endogenous politics model of regulation
• Environmental regulation is susceptible to interest
group theory
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Basic Regulatory Framework: Command and Control
A. Command and Control:
Under this method the regulator specifies the
steps that individual polluters must take to solve a
pollution problem.
The essence of this method is:
1. The regulator collects the information necessary to
decide the physical actions to control pollution
2. The regulator then commands the polluter to take
specific physical steps to control the pollution.
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Basic Regulatory Framework: Command and Control
Command and Control can take several forms.
1. By example.
For example “the Clean Air Act”.
Further more, the specific pollution control equipments
requirement can be specified or alternatively the
regulation may specify an emission limit for particular
types of plants and particular pollutants.
2. Command and Control may be combined with
significant fines and penalties associated with noncompliance. This, however, differs from the economic
incentives to abate pollution on two salient points.
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Basic Regulatory Framework: Command and Control
2.a. Restricted choice for the polluters as to what
means will be used to achieve an appropriate
environmental target
2.b. A lack of mechanism for equalizing marginal
control costs among several different polluters.
3. The best analogy for Command and Control is the
system of central planning (existed in the former
Soviet Union).
However major problem of this is the enormous
requirement of information.
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Basic Regulatory Framework: Command and Control
Advantages:
a. More flexibility in regulating complex environmental
process and much greater certainty in how
much pollution will result from regulations.
b. It simplifies monitoring of compliance with a
regulation.
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Basic Regulatory Framework: Command and Control
Disadvantages:
a. The regulatory system may be very costly to administer
as informational costs are high.
b. It may reduce incentives to find better ways to control
pollution
c. Difficulty in satisfying the equi-marginal principle, i.e. it is
almost impossible for command and control regulations
to ensure that the marginal costs of pollution are
equalized among different polluters generating the
same pollution.
d. Finally, the greatest problem with the Command and
Control principle is that the polluter pays only for
pollution control not residual damage form the pollution
that is still emitted even after controls are in place
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Basic Regulatory Framework: Economic Incentives
Economic incentives provide rewards for polluters to
do what is perceived to be in the public interest.
Three basic types of economic incentives include:
fees, marketable permits and liability.
Fees:
Fees involve the payment of charge per unit of
pollution emitted. When a polluter must pay for
every unit of pollution emitted, it becomes in the
polluter’s interest to reduce emission.
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Basic Regulatory Framework: Economic Incentives
Marketable Permit:
A marketable permit allows polluter to buy and sell the
right to pollute.
Trading induces a price or value on a permit to
pollute, thus, causing firms to see polluting as an
expensive activity.
Less pollution means fewer permits need be bought.
Similarly, there is an opportunity cost of emitting, i.e.
by not emitting the firm can sell more permits.
A graphical illustration of the marketable permit is
shown in figure 2.
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Basic Regulatory Framework: Economic Incentives
Marketable Permit:
Assume a situation where two polluters exist and we
are interested in allowing 100 units of pollution in total.
Let’s start by giving each firm 50 permits.
The equilibrium price of permit is p*.
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Basic Regulatory Framework: Economic Incentives
Figure 2: Marginal savings from polluting functions for two firms. MS1, Marginal
savings from emitting, firm 1; MS2 Marginal savings from emitting, firm 2; e*,
equilibrium holding of permits; p*, equilibrium price of permits.
Firm 2
Firm 1
MS1
MS2
P*
0
100
e*
Firm 1 holdings
50
50
Starting Point
Firm 2 holdings
100
0
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Basic Regulatory Framework: Economic Incentives
Liability: The basic idea is that if you harm someone,
you must compensate that person for damage.
Let us take an example of Hazardous waste storage
facility (‘dump’). The dump can do things to minimize
the risk of hazardous wastes leaking in to the
environment through ‘Precaution’. (i.e. if the dump
takes a great deal of precaution the risk of a leak will
be low).
But precaution is expensive and ceteris paribus, the
dump would prefer to take little precaution. Damage to
society also depends upon the level of precaution.
(this is illustrated in Figure 2).
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Basic Regulatory Framework: Economic Incentives
Liability:
In figure 2, both costs to dump and damage to society
are shown as functions of the level of precaution. The
socially desirable level of precaution is x*, at which the
marginal costs of taking more precaution are just offset
by the reduction in marginal damage from taking more
precaution.
Here, negligence liability works in the sense that the
threat of being held responsible from accident
damages is often a sufficient incentives for firms to
take the socially desirable amount of precaution.
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Basic Regulatory Framework: Economic Incentives
Figure 3: An Illustration of precaution and liability
Firm
Costs of precaution
D(x)
Expected
accident cost
from precaution
D(x)
x*
Precaution (x)
MC (x*) = - MD (x*)
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Basic Regulatory Framework: Economic Incentives
Advantages of Economic Incentives: Compared to
the Command and Control Measures, Economic
Incentives has following advantages.
1. Informational requirements are less significant
2. Economic incentives provide an incentive for a
polluter to innovate, finding cheaper ways of
controlling pollution.
3. Economic incentives involve the polluter paying for
control costs as well as pollution damage. Therefore,
there is no implicit subsidy to the industry.
4. For many economic incentives the equi-marginal
principle holds true.
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Basic Regulatory Framework: Economic Incentives
Disadvantages of Economic Incentives: Major
disadvantages of Economic Incentives are as follows:
1. Developing an economic incentive that efficiently
and perfectly takes complexities in environmental
transformation into account can be very difficult.
2. Given the political conditions, it is very difficult to
adjust the level of incentives (level of fee, number of
marketable permits issued) when there is great deal of
uncertainty associated with the environmental
problem.
3. Sometimes Instituting tax (on emission) may be
very difficult as it involves transfer of massive amount
of wealth from firms to the government.
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Complication for Environmental Regulation
A.Space and Time
Pollution regulation is complicated by the physical
environment that interposes itself between polluters
and consumers (illustrated in figure 4).
There are differences between pollution and ambient
concentration of the pollution.
Generally, it is the ambient concentration that causes
damages not the pollution.
However, ambient concentration are imperfectly
connected with the emission, which need to be
regulated.
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Complication for Environmental Regulation
A.Space and Time
This brings space and time into concern of the
regulators. Generally, sources of pollution nearby
will generate more damage than sources located in
distant suburbs.
Time, though less important than space, also exert
significant
influence
in
environmental
transformation. There is hour-to-hour, day-to-day
and season-to-season variation in pollution.
Capturing these time and space factors in to decision
making is a bit difficult.
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Complication for Environmental Regulation
Natural Environment
Environmental Regulator
Producers
Consumers
Emissions
Emissions
Environmental transformation
(transport, decay, combination and deposition)
Ambient levels of pollution
Damage
(to producers, consumers and ecosystems)
Figure 4
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Complication for Environmental Regulation
B. Efficiency versus Cost Effectiveness
Efficiency (with regulation) calls for emissions that
balance the costs of emissions control with the
damage from ambient pollution, fully taking into
account the complexities relating emissions to
damage.
Cost effectiveness with regulation refers to a set of
environmental regulation that can achieve emission
target at the least cost possible.
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Complication for Environmental Regulation
C.
Ambient-Differentiated
Differentiated Regulation:
versus
Emission-
Targets of the regulator may be ambient targets or
emission targets. Choosing out this is a bit complicated.
Typically, a unit of pollution form one polluter will have a
different effect on ambient concentrations than a unit of
pollution from another polluter. An ambient-differential
regulation will control these two polluters differently,
based on their different contributions to ambient
concentrations.
An emissions-differentiated regulations will ignore the
differences between the two polluters, though the overall
level of emissions will still be controlled in such a way as
to achieve the ambient target.
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Basic Issues in Environmental Regulation
1. Debate over whether command and control or
economic incentives
2. Public sources of pollution and controlling them
3. Information, particularly private information polluters
may have that regulator needs
4. Risk and how to deal with the problems of risk. What
sort of regulations are appropriate?
5. Growing competition between jurisdiction vis-à-vis
environmental regulations
6. Incidence of regulations: who bears the burden (either
in cost or pollution damage)? Who reaps the benefits?
7. Innovations and technical change.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
Several issues complicate using incentives to control
pollution: Space, Time and Imperfect competition
I. Space :
A.Sources, Receptors and Transfer Coefficients:
Let us take an example of a river.
Two factories discharge organic waste (sewage) in to the
river
A municipal water supply takes water from the river
Factories are in the upstream of the municipal waste
supply
Further one goes downstream the smaller the effects from
pollution.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
A. Sources, Receptors and Transfer Coefficients:
Now to correctly regulate the two factories their individual
effects on the municipality have to be taken into account.
At this point, to take space in to account, let’s consider
two points: sources and receptors. A source is a point of
discharge of pollution (e.g. a factory). A receptor is a
point at which people care abut the level of ambient
pollution.
Although there are several receptors, in practice, we will
identify a small set of receptors where pollution levels
will be measured. Receptors are scattered over space
and serve as a good proxies for overall level of pollution.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
In general, there is some relationship between emission
at various sources, e1, e2 . . . ei and concentration of
pollution at any receptor j.
pj = fj (e1, e2, . . .,ei) + Bj
(1)
where, Bj background level of pollution at j (perhaps
zero).
In many environmental problems, the physical
environment is linear,
pj = ∑i aij ei + Bi
(2)
The coefficient aij is called the transfer coefficient. We
assume Bj = 0. In equation (2), if we change emission at
some source i by a little amount ( ∆ei), pollution will
change by aij∆ei
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Basic Regulatory Framework: Emission Fees and Marketable Permits
The transfer coefficient between the source i and the
receptor j is defined as the ratio of the change in
pollution at j to the change in emission at i .
aij = ∆ pj/ ∆ei
(3)
Equation (3) gives the conversion rate for emission to
ambient concentration.
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Basic Regulatory Framework: Emission Fees and Marketable
Permits
B. How much Pollution do we want?
Let’s start with what is the efficient level of pollution?
Efficiency involves equating marginal damage with
marginal savings to the firm from pollution
generation.
To link these we express marginal damage of a firm
as marginal damage per unit of emissions.
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Basic Regulatory Framework: Emission Fees and Marketable
Permits
B. How much Pollution do we want?
Let us term marginal damage per unit of emissions
from source I as the function MDEi (ei) which is
contrast to marginal damages per unit of ambient
pollution, MD(p)
MDEi is the ratio of the change in damage {D(p)} to the
change in emission at source i.
MDEi (ei) = {D (p + ∆p) – D (p)}/ ∆ei
= MD (p). ∆p/ ∆ei
= ai MD (p)
(4)
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Basic Regulatory Framework: Emission Fees and Marketable
Permits
As stated above, efficient amount of pollution requires
equating marginal savings from emission with marginal
damage. If there are i = 1, 2, …I sources of pollution,
then following must hold:
-MCi (ei) = MDEi (ei) = ai MD (p), for all i = 1, …, I
(5)
Now for any two sources m and n
MCm(em)/am= MCn(en)/an = MD (p)
(6)
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Basic Regulatory Framework: Emission Fees and Marketable Permits
MC/a is marginal cost per unit of ambient pollution.
i.e. marginal cost in terms of ambient pollution must be
equal to the negative of marginal damage.
Thus efficiency calls for all sources to have the same
marginal costs of emissions, normalized by the sources of
transfer coefficients.
If ‘a’ is high, MC of emissions should be larger.
Two conditions for efficiency:
1.Marginal cost of emission, normalized by he transfer
coefficient must be equalized for all sources
2.Normalized marginal cost must equal the negative of
marginal damage.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
C. Emission Fees:
We seek emission fees, ti, one for each firm i that yields
efficiency.
These are ambient differentiated fees. Whatever fee is
used, the firms will respond by minimizing direct costs
plus fee payments. This is equivalent to setting
marginal cost equal to negative of the fee:
MCi (ei) = - ti, for all sources of I
(7)
Thus the condition for efficiency can be re-written as,
tn/an = tn/am for all firms n and m (8)
And, tn = an MD (p) for any firm n
(9)
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Basic Regulatory Framework: Emission Fees and Marketable Permits
C. Emission Fees:
Equation (8) implies that emission fees levied on the
firms must be equal after normalizing by the transfer
co-efficient or control costs across firms are equal.
Equation (9), the second condition, implies that for any
firm marginal damage in emission units (MDE) must be
equal to the emission fee (t), or marginal pollution
damage and control costs are equalized.
Alternatively all firms face same emission fee per unit of
ambient pollution but to convert it to emission units, it
must be multiplied by appropriate transfer coefficient.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
Thus, it can be concluded that, ambient differentiated
emission fees can achieve efficiency.
However, it is too complicated to let emission vary from
location to location.
Normally most emission fees do not depend upon location
even though damage do.
Thus, is applying uniform emission fee inefficient when
damages depend on location?
Let us consider the following illustration done (with the
help of figure – 5).
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Basic Regulatory Framework: Emission Fees and Marketable Permits
In figure 5, marginal savings curve is assumed same for
every firm. As well as marginal damages, normalized by the
transfer coefficient.
t*1, t*2 are efficient taxes
e*1, e*2 are emissions from the two firms (which are
efficient)
uniform emission fee
vemissions from firm 1 or firm 2
t the shaded area are deadweight loss.
The optimal uniform tax is one that minimizes the total area
of the two triangles.
The loss from a uniform fee depends on the nature of the
marginal cost and damage functions.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
Fig. 5.a
t
MDE1 (e1)
MDE2 (e2)
t*1
t*2
MS (e)
0
e*1
e*2
e
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Basic Regulatory Framework: Emission Fees and Marketable Permits
Fig. 5.b
t
MDE1 (e1)
MDE2 (e2)
t*1
t*2
MS (e)
0
e*1
e*2
e
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Basic Regulatory Framework: Emission Fees and Marketable Permits
D. Marketable Ambient Permit:
An ambient pollution permit for a receptor “j” gives the
holder the right to emit at any location, provided the
incremental pollution at receptor ‘j’ does not exceed the
permitted amount.
Thus an ambient pollution permit system is a set of
permits, distributed to sources in a well-defined way of
computing the effects of emissions on ambient pollution at
receptors along with a right to buy and sell these permits.
Two Firms: Let’s consider the case of two firms and one
receptor. Suppose EPA issues L1 amount of permits to firm
1 and L2 ambient permits to firm 2 for a total of L = L1 + L2
permits.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
D. Marketable Ambient Permit:
Now after trading of permits, let L1 and L2 be the
number of permits eventually held by the firms.
i.e. L1 +L2 = l1 + l2 (1)
Equation (1) raises many questions:
a. What will the price of permits be?
b. How much will each firm emit?
Answering the second question first - a firm can emit
whatever is allowed by its permit holdings.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
Emission and ambient pollution levels are connected by
transfer coefficient.
i.e. a1e1 = l1 (2)
and a2e2 = l2
(3), provided all permits are used.
Suppose, the price of permits is π (an unknown). Then
how much pollution will be emitted?
However many permits a firm may hold, if the price of
permits is greater than the marginal savings from emitting
the firm will want to sell some permits and emit less.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
If the price of permit is less than the firms’ marginal
savings form polluting, buying permits is easier than
controlling emissions.
We try to find the price for which the desired emission
levels for each of the two firms corresponds to the number
of permits issued.
Total costs for each firm are:
TC1 (e1) = C1(e1) + π (l1 – L1), where Ci (ei) is the
direct
cost to firm i,
= C1 (e1) + π (a1e1 – L1) (4)
And,
TC2 (e2) = C2 (e2) + π (a2e2 – L2)
= C2(e2) + π (a2e2 –L2) (5)
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Basic Regulatory Framework: Emission Fees and Marketable Permits
In order to Minimize total costs each firm sets the marginal
total costs (MTC) to Zero, i.e.
MTC1(e1) = MC1 (e1) + a1π = 0
MTC2(e2) = MC2(e2) + a2π = 0
(6)
(7)
Which implies: MC1(e1)/a1 = MC2 (e2)/a2 = - π
Or, MS1(e1)/a1 = MS2(e2)/a2 = π
(8)
Equation (8) says that marginal savings normalized by the
transfer coefficient should equal to the permit price. This is
analogous to the working of ambient emission fee which
states that marginal savings normalized by the transfer
coefficient equals the same number for all firms.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
There is one additional equation that gives us
information.
Combining equations (1), (2) and (3) we get,
a1e1+a2e2=L
(9)
Equations (8) and (9) constitute three separate
equations in three unknowns (e1, e2 and π) and thus
can be solved.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
The same exercise can be extended to the multiple sources
and receptors and can be arrived at the solutions for ambient
pollution permits.
E. Zonal Instruments:
There is an intermediate territory between completely
undifferentiated emission fees or permits (where space is
ignored) and ambient fees or permits which are called zonal
fees or permits.
Unlike undifferentiated emission fee (where same fee would
apply to all polluters in a region irrespective of their effect on
ambient pollution level) in zonal system, a region or river
basin is divided in to zones – perhaps a few or perhaps many.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
E. Zonal Instruments:
Within each zone, the same emission fees applies and
different zones have different fees.
Under zonal marketable permits, within a zone, permits
are traded on one-for-one basis with none of the
complexities of ambient permits discussed in the
previous section.
However, if trades are made between firms that are in
different zones, trade is an ambient permit system with
different transfer coefficients for the different zones.
In both the systems, zonal instruments result in efficiency
gains.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
II. Time:
Time affects pollution abatement decisions (pollution
control measures in our case) as it affects different
types of pollutants, particularly for those that
accumulate.
The reason is obvious. When pollutants accumulate, the
damage from emissions today is not just the damage
today, but the damage in future time periods when
today’s emissions are still resident in the environment.
A.Stock Pollutant: pollutants that accumulate over time
are called stock pollutants.
We are generally concerned with the stock of
pollutants rather than today’s flow of pollutants.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
Definition of Stock Pollutant:
Assume a pollutant accumulated in the environment
According to the process
s(t) = δ s(t – 1) + e(t)
(1), where, s(t) is
the stock of the pollutant at any given time t, e(t) is
emissions of the pollutant and δ is the persistence
rate of the pollutant.
Further assume that pollution damage depends only
on s(t).
Then if δ >0 is a stock pollutant (with respect to the
time period). If δ =0, the pollutant is a flow (or fund)
pollutant.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
Equation (1) describes the dynamic process of
pollutant accumulation, δ indicating fraction of total
stock of pollutants left in the air after one time
period.
Alternatively, (1- δ) is the fraction of the stock that is
cleaned out of the environment in one time period.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
Examples of stock pollutants include Green House
Gases, Choloroflurocarbons (CFCs). Soot emitted
into the atomosphere are flow pollutants.
Efficiency of a Stock Pollutant:
Measuring efficiency of Stock Pollutant is a bit
complex which requires equalizing marginal cost of
emissions with the marginal damage of the pollutant
where the marginal damage will occur over a period
of time.
Let’s examine it with the help of a few equations.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
Suppose we are sitting in the present at time t = 1.
The net costs of pollution emission et, can be
expressed as
Net Costs = NC = ∑∞t=1 βt-1 {Ct (et) + Dt (st)}
(2)
where β is used to discount the future [equal to
1/(1+r) where r is the discount rate], indicating how
we should trade costs of today with costs tomorrow.
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Basic Regulatory Framework: Emission Fees and Marketable Permits
To determine the amount of emissions at any point in
time, et that minimizes the costs, we need to look at
the marginal of equation (2) with respect to et.
We can try to determine the best current level of
emission e1:
∆NC/∆e1 = ∑∞t=1 βt-1 {∆Ct (et)/∆et + ∆Dt
(st)/∆et} = 0
= ∑∞t=1 βt-1 {∆Ct (et)/∆e1 + [∆Dt
(st)/∆st ] (∆st/∆e1} = 0 (3)
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Focusing on the first term in braces in equation (3),
note that we need to worry about the marginal cost
only when t = 1. All costs for t = 1 are constants with
respect to e1.
Thus, ∆Ct(et)/∆e1 = 0 for t = 1.
Furthermore, inspection of equation 1 indicates that
the stock of pollution at time t is simply the sum of
previously emitted pollution, appropriately decayed:
δtso
st = et + δet-1 + δ2et-2 + …+ δiet-1 + …+ δt-1e1+
(4)
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Thus,
∆st/∆e1 = δ t-1
(5)
putting all of this together allows us to rewrite equation (5) as,
∆ NC/∆e1 = MC1(e1) + ∑∞t=1 βt-1 δt-1 MDt(st) = 0
or
MS1(e1) = ∑∞t=1 βt-1 δt-1 MDt(st)
(6)
Equation (6) indicates that for efficiency, we should set the
marginal savings from emitting a unit of pollution today equal
to the sum of all marginal damages that may occur in the
future, with those marginal damages discounted by two
factors: the discount factor (β) and the persistence rate of the
pollutant (δ).
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B. Temporal Variability:
There is temporal variability of pollution which varies
through time both because of temporally varying
emission rates as well as temporally varying
assimilative capacity.
Due to temporal variability of pollution, damages also
differs temporally. e.g. air emission in the winter may
be less worrying than summer emission in smog-prone
areas.
This requires that regulation could be time varying to
promote efficiency.
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III. Multiple Pollutants:
Generally, an environmental problem is caused by
several pollutants instead of a single one.
In the presence of multiple pollutants, controlling
pollution requires controlling all the pollutants
resulting in the pollution.
Each pollutants should be controlled taking into
account the cost of controlling it as well as the
contribution the pollutant makes to damage.
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III. Multiple Pollutants:
Efficient levels of pollution require the same two
conditions as set forth in equation (5) and (6).
That is, marginal savings from emitting the different
compounds must be equated taking into account the
transfer coefficients.
And these marginal costs must be equal to marginal
damage adjusted for the transfer coefficient.
For handling a pollution problem resulting from multiple
pollutants ambient permit system can be adopted.
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IV. Implementing Marketable Permits:
Emission fees are significantly simpler to implement
than marketable permits.
The major difficulty with the implementation of
emission fees is that they require a more active
regulatory authority to set and adjust their levels,
which is problematic to institute with.
Marketable Permits in this sense are more popular
than emission fees. It is widely used in USA.
However, Marketable Permits are beset with certain
problems.
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Problems of implementing Marketable Permits:
a. Initial Permit Issuance: The attainment of efficiency with
the distribution of marketable permits does not depend
on the fact that which firm initially receive the permits.
But problem arises regarding new entrant. Do the new
entrants receive free permits? If not, incumbents could
potentially use permits to retards permits.
b. Dominant Firms: The presence of dominant firms may
also influence initial allocation of permits resulting in loss
of some portion of the benefits derived from using
marketable permits.
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c. Market Thinness: Marketable Permits also do not
seem suitable in a situation where there is small
number of firm in the market. The major
disadvantage of market thinness is that equalizing
marginal control cost among firms may not be
achieved.
Although, the correct amount of
pollution will result but costs will be excessively
high.
d. Transaction Costs: In the presence of transaction
costs, trading of marketable permits may not result
the opportunity costs of emitting equal to the permit
price.
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There are three sources of transaction costs
associated with the marketable permits: search
and information costs, bargaining and decision
making costs and monitoring and enforcement
costs (Robert Stavins 1995).
V. Comparative Regulatory Analysis:
Empirical analyses show that there is gradual shift
from command and control measures to ambient
pollution permits because the latter is more easier
to implement than the former.