Transcript Chapter 17

Chapter 17
The
Economics of
Environmental
Protection
Copyright © 2008 Pearson Addison-Wesley. All rights reserved.
In this chapter you will learn to
1. Describe how an externality can be internalized, and how
this can lead to allocative efficiency.
2. Explain why direct pollution controls are often inefficient.
3. Explain why market-based policies such as emissions
taxes and tradable pollution permits can improve
economic efficiency.
4. Describe and evaluate some of the most common
arguments against market-based environmental policies.
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The Economic Rationale for
Regulating Pollution
Pollution as an Externality
The production of most goods generates some pollution that
imposes costs on other members of society.
The socially optimal level of output is at the quantity where all
marginal costs, private plus external, equal the marginal
benefit to society.
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Negative Externality
Pollution is a negative externality.
- the social marginal cost of production exceeds the
private marginal cost of production.
One solution is to internalize the externality – a process
that results in a producer of consumer taking the account
of a previously external effect.
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Figure 17.1 A Pollution Externality
in a Competitive Market
With a negative
externality, MCs
exceeds MCp...
… with the result
that too much
gets produced.
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Internalizing Externality
The socially optimal level of output is where the social
marginal costs -- private plus external -- equal the marginal
benefit to society.
How can this be achieved?
If the externality can be internalized (by making the
producers bear the full external cost), allocative efficiency
can be achieved.
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Figure 17.2 The Optimal
Amount of Pollution Abatement
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Pollution-Control Policies
Direct Controls
Direct control is a form of environmental regulation that either:
• stipulates the use of specific technology, or
• prohibits certain polluting behaviour altogether.
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Problems with Direct Control
The use of direct controls is usually economically inefficient:
- because the MC of abatement is not equated across
different firms
Direct pollution controls are inefficient because they do not
minimize the cost of a given amount of pollution abatement
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Figure 17.3 The Inefficiency of
Direct Pollution Controls
Direct pollution
controls usually
do not minimize
the cost of a
given amount
of pollution
abatement.
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Figure 17.4 The Efficiency of
Emissions Taxes
With a tax of $t per
unit of pollution
emitted, the tax
becomes the firm’s
marginal benefit of
pollution abatement.
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Efficient amount of pollution
Set the emissions tax equal to the size of the marginal
external cost
- this fully internalizes the externality
But the information required to know the optimal tax rate is
often unavailable.
APPLYING ECONOMIC CONCEPTS 17.1
Garbage Collection and “Pay-As-You-Throw”
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Tradable Emissions Permits
The government could issue (or auction) a given number of
tradable emissions permits.
This kind of problem is also called “cap and trade.”
The price of the permit is the MB of abatement.
Firms will abate pollution until the MB equals the MC.
Pollution is abated at minimum cost.
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Figure 17.5 The Efficiency of
Tradable Emissions Permits
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Pollution Permits
With an emissions tax, government must determine the
optimal tax rate.
With pollution permits, the market for permits determines the
equilibrium permit price, but government needs to set the
total amount of permits.
So how does the government set the optimal quantity that
leads to the optimal equilibrium price -- the one that fully
internalizes the externality?
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Figure 17.6 The Market for
Tradable Emissions Permits
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Technological Change
Government regulation tends to respond only slowly to
changes in technology or market conditions.
Improvements in abatement technology will lead to a
reduction in the demand for emissions permits and thus a
reduction in their equilibrium price.
The total cost of a given amount of pollution abatement will
still be minimized.
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Tradable Emission Permits
The U.S. Experience with Tradable Emission Permits
The cap and trade approach has been implemented in:
– California’s 2006 greenhouse gas reduction program
– Kyoto Protocol’s strategy for greenhouse gas reduction
Problems with Tradable Emissions Permits
Technical difficulties in measuring pollution and in designing
mechanisms to ensure that firms and households comply
with regulations.
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The Politics of Pollution Control
Several groups argue against the use of market-based
environmental policies
- especially tradable pollution permits
But the growing concern about global warming and the
debate over the Kyoto Protocol have led to more discussion
and growing acceptance of the basic principles.
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Producers
Emissions taxes or permits are costly, and firms naturally
complain.
These policies, if implemented, signal the end of a free ride
that firms have been taking at society’s expense.
Firms also argue that such policies reduce overall welfare
because of reduced output and employment:
- but reduced output of the polluting products is part
of the solution that increases welfare!
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The General Public
Some people have a moral opposition to giving anyone the
“right” to pollute.
There is also opposition to having some firms reduce pollution
less than others. Shouldn’t they reduce by equal amounts?
But the relevant question is: How can society best reduce
pollution?
Emissions taxes and tradable emissions permits lead to
pollution reduction with the least cost.
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Environmentalists
Some argue that clean air and water are above monetary
evaluation and should be treated in special ways.
They often don’t see how private firms could ever be induced
to do what is desirable for society. As a result, they tend to
prefer the use of direct controls.
Economists can emphasize that market-based schemes are
often more efficient than other policies -- which means more
pollution abatement with a given amount of resources.
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Summary
The efficient solution to pollution involves internalizing the
externality.
If properly designed, such market-based environmental
policies can reverse the effects of the pollution externality.
However, there is considerable opposition among some
environmentalists and some of the general public to marketbased environmental policies.
Tradable emission permits also generate skepticism due to
the failure to appreciate how markets work to allocate
resource efficiently.
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