Lecture note 5: economic instruments

Lecture note 5 (Cont.) ECONOMIC INSTRUMENTS Tradable emission permits To create a market for pollution rights. A permit to emit a unit of a specific pollutant (Ton, kg) Each permit entitles its holder to emit one unit of the waste material specified in the right. Permits are transferable: can be bought and sold Two functions of Gov. authorities: Determine the total allowable permits Decide the mechanism to distribute the initial pollution permits Tradable permits Cost Tons of SO2 emitted/ year Firm 1 300 100 Total 300 permits/year One permit: allowed to emit a ton of SO2 Initial issued: 150 permits/firm Firm 1: Point R (MAC=500) Firm 2: Point S (MAC= 2500) 150 1000 MAC1 R E S 2500 MAC2 150 0 100 300 Tons of SO2 emitted/ year Firm 2 500 0 Advantages of Tradable emission permits Least intervention Cost effective, especially when many parties involved Provide observable market prices for environmental services. Applied to wide range of environmental problem Disadvantages of Tradable emission permits Appropriate mechanism to distribute permits Ineffective when there are few participants Can be accumulated by firms for the purpose of deterring entrants