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Environmental Regulation Public Economics Paper 7

Motivation. The first welfare theorem:. Complete markets. Perfect information. Perfect competition. Power plants. Chemicals. Automobiles. . . Two distortions. Two distortions. Instrument to deal with the externality.Instrument to deal with the market distortion.. Two instruments are required to

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Environmental Regulation Public Economics Paper 7

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    1. Environmental Regulation Public Economics Paper 7 Lecture 6 Imperfect competition and environmental regulation

    2. Motivation

    3. Two distortions Instrument to deal with the externality. Instrument to deal with the market distortion.

    4. Outline Pigouvian (or green) taxes and product market distortions: perfect competition monopoly Tradable permits market power in the permit market.

    5. A simple monopoly model Demand is linear. Emission of waste is proportional to output. Private marginal cost is constant. Social marginal cost is constant.

    9. The model

    10. Industry structure and optimal emission taxes Competitive industry t* = D� => complete internalization. Monopoly Unified regulation=> complete internalization Divided regulation => under-internalization Oligopoly short-run (fixed number of firms) => under-internalization. long-run (free entry) => over-internalization possible.

    11. Monopoly Unified regulation

    15. Second-best emission tax

    17. Practical implications Informational requirements huge. Political non-starter.

    18. Tradable permits

    19. Firms with market power in the permit market

    20. Firms with market power in the permit market Target not reached at least cost. The initial allocation of permits matters.

    21. Practical implications Monopolistic behavior expected => try to estimate the (net) demand of the firm and give it the permits it needs. Even if LPC does not hold, there are likely to be large cost savings relative to CAC regulation. Initial allocation of permits has to be way off to have significant efficiency implication.

    22. Summary When polluters have market power, monopoly and environmental regulation should ideally be dealt with simultaneously. The second-best emission tax should in principle vary with industry structure. When polluters have market power in a permit market, the LCP does not hold and extra care should be taken in allocating the permits.

    23. What is next? Imperfect governments instrument choice political acceptability constraints

    24. Good idea? In general, no need to adjust. In specific cases there may be a case for adjustment.

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