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# Econ 201 Chpt 10 PowerPoint PPT Presentation

Econ 201 Chpt 10 . Summary: Taxes, Standards and Tradable Permits. Remedies for Negative Externalities. Standards Permissible level of emissions for each factory in an industry (each industry gets same target), or

Econ 201 Chpt 10

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## Econ 201Chpt 10

Summary: Taxes, Standards

### Remedies for Negative Externalities

• Standards

• Permissible level of emissions for each factory in an industry (each industry gets same target), or

• Targets how much emissions must be reduced by each factory (again, same target for all)

Taxes

• Direct tax on emissions

• Indirect on input/output if there is a direct correlation between input/output and pollution

• E.g., tax on gasoline, coal based on sulfur content

• Gives each firm the “right” to pollute to a certain level

• Firms are allowed to trade/sell permits

### Two Big Questions

• What is the optimal level of pollution?

• How should it be allocated among its sources (firms)?

### How Do We Set the Standard?

Equate MC of damage

To MC of abatement

### Comparing Standards

• Essentially all 3 approaches can theoretically be set to achieve an optimal standard

• MC[damages] = MC[abatement]

• In practice

• Hard to obtain accurate data on damages

• Standards have been set arbitrarily in all 3 cases

### Evaluating the Efficiency of Allocation?

• Economic Efficiency

• Does the policy result in meeting the standard in a least-cost manner?

• What are the monitoring, enforcement and other administrative costs?

• Flexibility: responding to changes in market dynamics, e.g., inflation, changes in demand?

### Comparison of Approaches

• Standards

• Can produce optimal level of pollution

• But setting same standard for all firms (and are not productively efficient, e.g. min cost)

• To set individual quotas: requires knowledge of each firm’s costs

• Provide no incentive for firms to reduce pollution below current “authorized” levels

• Not only have to monitor emissions

• Enforcement costs: legal proceedings (time delays and expense)

• Not very flexible: regulatory process for changing standards

• Can not respond easily to changes in market conditions

• Require rewriting legislation, establishing new standards

### Comparison of Approaches

• Standards

• Are most useful when:

• Problem is short-lived (“burn” bans for high pollution days)

• Optimal level is zero

### Comparison of Approaches

• Taxes

• Can produce “optimal” amount of pollution at minimum costs and lower administrative costs

• Kneese (1977): comparing taxes versus standards found that desired quality costs half as much using taxes

• Automatically allocates pollution levels among firms based on their costs

• Provides incentive for firms to reduce pollution levels through technological innovation

• Easy to adjust/”tune” to “right” level

• But does not respond without change to tax rate

• Tax revenues can be used finance admin costs

Standard

Firm 2

Lower Costs

### Comparison of Approaches

• Cost efficient

• Firms will purchase permits from more efficient firms if permit cost < abatement (technology) costs

• Technological incentive to reduce pollution

• Marginal cost of abatement = permit cost

• Similar to taxes

• Require less information about the firms’ cost

• Better able to handle “spatial” variation in pollution

• Fewer permits auctioned in bad areas

• Adjust “automatically” for changes in inflation and growth

• E.g., Ca RECLAIM experience

• If auctioned -> revenues for admin costs