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Public Policy: Using Market-Based Approaches Pollution can be reduced at the minimum cost Stavins (2001) notes that imposing a blanket reduction across all firms may force some firms to control pollution through unduly expensive means. 45 Typically the cost of controlling emissions varies greatly among firms, and so the appropriate technology in one instance is likely to differ from others. Market-based instruments allow the desired environmental outcome to be attained at the lowest cost to society by providing incentives for the greatest reductions in pollution to be made by those firms that can achieve reductions most easily. This is achieved without the government having to obtain information regarding firms’ compliance costs. Rapid discovery of the appropriate price By contrast with a system of taxes (discussed below) tradable permits allow a market mechanism to be used without incurring a risk of excessive pollution through the setting of too low or too high a tax level. Permits can be set at a fraction of current pollution levels or current production levels: the latter formed the basis of the successful acid rain program in the US, as it avoided penalising those firms that had already invested more heavily in pollution reduction. EMPIRICAL EVIDENCE The benefits of marketable permits in reducing pollution at the lowest cost have been largely confirmed by empirical research. Carlson, Burtraw, Cropper and Palmer (2000) assess the impact of the market for transferable sulphur dioxide emission allowances among electric utilities introduced in the US by the 1990 Clean Air Amendments using econometric estimates of marginal abatement cost functions for affected power plants. 46 They find that technical changes and lower input prices were the main sources of cost reduction rather than trading per se, but that in the long run allowance trading may still result in annual cost savings of $700-800 million relative to a command and control alternative. They compare potential cost savings in 1995 and 1996 with actual emissions costs, and find that most gains from trade were unrealised for the first two years of the program. Although potential savings were not realised in the early stages of this programme, research suggests that an efficient market for the trading of sulphur dioxide permits was nonetheless able to develop. Joskow et al (1998) find close alignment of permit prices and significant volumes of trade after 1994, suggesting the operation of a relatively efficient market. 47 They also note that the 45 Stavins, R. (2001) ‘Lessons from the American Experiment with Market-based Environmental Policies’, RFF discussion paper 01-53. 46 Carlson, Burtraw, Cropper and Palmer(2000) ‘Sulphur dioxide control by electric utilities: what are the gains from trade?’, RFF discussion paper 98-44-REV. 47 Joskow, P, R. Schmalensee and E. Bailey (1998) ‘The Market for Sulphur Dioxide Emissions’, The American Economic Review 88(4). 58
annual EPA auctions were successful in bringing parties to the market and helping to establish a range of market valuations, prerequisites for the development of private market trading activity. Newell and Rogers (2003) assess the US tradeable permit scheme for reducing lead in gasoline. In this scheme in the 1980s, permits for lead levels were assigned to refineries that could either trade these between themselves or ‘bank’ them for later use. 48 They conclude that the program was effective in meeting environmental objectives, and that allowing permit banking contributed to the speed with which these objectives were obtained. The market-based program provided incentives for more efficient adoption of lead-removing technology relative to a uniform standard, and thereby minimised the costs of the lead phase down. Although the potential for cost savings is substantial, the extent to which these have been realised varies widely across different schemes, suggesting that design is critical to success. Hahn (1989) assesses the evidence on experience with marketable permits in this light and finds that the capacity to monitor and enforce a scheme can dramatically affect its performance. 49 Where monitoring is easy within the existing regulatory infrastructure and there is agreement from the outset about the allocation of property rights, realised cost savings will be closer to their theoretical potential. These features characterised the lead permit trading programme in the US, which enjoyed a high level of trading activity and savings in excess of $228 million from the permit banking rule alone. This performance is in contrast to the Wisconsin Fox River water permits scheme, which saw only one trade during the first six years of operation and therefore minimal cost savings despite the potential for $7m per annum. Savings from the US emissions trading programme have amounted to billions of dollars, but they have arisen mainly from the internal trading of permits. Increased external trading would lead to greater savings still, but is discouraged by high transactions costs. APPLICATIONS Section 7 – Market-Based Mechanisms Marketable permits have been used mainly in the field of pollution control. In this system, a limit is set on total emissions levels. This level can then be altered over time to meet the required emissions target. This system has been used in a number of different environmental control schemes since the 1970s. During the 1970’s, the Environmental Protection Agency (EPA) in the US, in compliance with the Clean Air Act of 1970, set standards to protect public health for ozone, sulphur dioxide, lead, particulate matter, nitrogen dioxide and carbon monoxide. It designated metropolitan areas that did not comply with these 48 Newell, R. and K. Rogers( 2003) ‘The market-based lead phasedown’, RFF discussion paper 03-37. 49 Hahn, R. (1989) ‘Economic Prescriptions for Environmental Problems: How the Patient Followed the Doctor’s Orders’, Journal of Economic Perspectives 3(2). 59
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DTI ECONOMICS PAPER NO.14 Public Po
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DTI ECONOMICS PAPER NO.14 Public Po
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Contents Acknowledgements vi Forewo
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Contents Section 11 Emissions Tradi
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Foreword There is increasing intere
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SECTION 1 Introduction and summary
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Public Policy: Using Market-Based A
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Page 22 and 23: SECTION 2 Using market mechanisms U
Page 30 and 31: SECTION 3 Lessons for the design an
Page 40 and 41: SECTION 4 Introduction This part of
Page 50 and 51: SECTION 7 Market-Based Mechanisms W
Page 78 and 79: SECTION 8 Framework for assessing m
Page 81 and 82: Part IV Case Studies 73
Page 83 and 84: ● the Green and White papers behi
Page 85 and 86: A prison failing to deliver on its
Page 87 and 88: Table 9.3 Companies providing priso
Page 89 and 90: Section 9 - Competitive Tendering o
Page 91 and 92: detect any deviation from a collusi
Page 93 and 94: at HMPS began as an equal mix of th
Page 95 and 96: (e.g. lighting). This impact could
Page 97 and 98: MARKET POWER The full benefits of c
Page 99 and 100: However, it should be noted that te
Page 101 and 102: on competition is uncertain. The ab
Page 103 and 104: Controlling for problems of asymmet
Page 105 and 106: Procurement process design One way
Page 107 and 108: however, financial deductions are m
Page 109 and 110: Section 9 - Competitive Tendering o
Page 111 and 112: The Independent Monitoring Board at
Page 113 and 114: Figure 9.1: Difference between the
Page 115 and 116: ‘While there were staff in the pu
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design the invitation to tender and
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Section 9 - Competitive Tendering o
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and demand conditions. Second, we d
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DEMAND Anyone can apply to a local
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● Rent deposit guarantee by the l
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The Green Paper stated the Governme
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It was not an objective of ODPM or
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DESCRIPTION OF MARKET MECHANISM The
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Once the outcome is determined, fee
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DEVELOPMENTS OVER TIME The major mo
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Concerns about capacity constraints
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from those already located within t
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In several areas, registrations by
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Controlling for information problem
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extent though, it was competition b
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Section 10 - Choice-Based Letting i
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levels are reducing and new tenants
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desired effect of limiting points-c
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efficiency savings in some areas. T
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SECTION 11 Emissions Trading Introd
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Section 11 - Emissions Trading coex
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Section 11 - Emissions Trading emis
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A more detailed and diagrammatic de
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The costs of monitoring and reporti
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INITIAL ALLOCATION OF PROPERTY RIGH
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only 242 in the second year. The di
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COST-EFFICIENT EMISSIONS REDUCTIONS
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consultants to Defra of £11 per to
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Participation has helped us to rais
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Section 11 - Emissions Trading emis
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SECTION 12 Issues in the implementa
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