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Chapter 17 Incentive-Based Regulation: Practice Incentive-Based Regulation: Practice.

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Presentation on theme: "Chapter 17 Incentive-Based Regulation: Practice Incentive-Based Regulation: Practice."— Presentation transcript:

1 Chapter 17 Incentive-Based Regulation: Practice Incentive-Based Regulation: Practice

2 Introduction: Cap & Trade Cap-and-trade programs have helped reduce the costs of phasing out both leaded gasoline and the production of CFCs Victory has been less clear in reducing urban air pollution Initial results of the cap-and-trade program to reduce sulfur dioxide have been quite favorable Europe is leading on global warming with the ETS cap & trade program; northeastern and western states have passed laws requiring similar programs. Bush administration has proposed a cap & trade system for mercury in the US Cap-and-trade programs have helped reduce the costs of phasing out both leaded gasoline and the production of CFCs Victory has been less clear in reducing urban air pollution Initial results of the cap-and-trade program to reduce sulfur dioxide have been quite favorable Europe is leading on global warming with the ETS cap & trade program; northeastern and western states have passed laws requiring similar programs. Bush administration has proposed a cap & trade system for mercury in the US

3 Introduction: Pollution Taxes Classic pollution taxes are used very little in the US with the exceptions of fees levied on sewage and solid and hazardous waste Several European countries have had broader experience with taxes, but none relies on them as an exclusive means of pollution control Classic pollution taxes are used very little in the US with the exceptions of fees levied on sewage and solid and hazardous waste Several European countries have had broader experience with taxes, but none relies on them as an exclusive means of pollution control

4 Reducing Lead in Gasoline To reduce lead in gasoline, the EPA tightened lead standards EPA instituted its lead banking program to ease the $3.5 billion compliance costs Gasoline refiners reducing lead beyond the standard could bank the difference in lead credits –The credits could then be used or sold later To reduce lead in gasoline, the EPA tightened lead standards EPA instituted its lead banking program to ease the $3.5 billion compliance costs Gasoline refiners reducing lead beyond the standard could bank the difference in lead credits –The credits could then be used or sold later

5 Results of the Lead Banking Program More than 50% of refiners participated 15% of all credits were traded 35% were banked for future use Costs savings from the program likely exceeded the cost savings of less ambitious EPA programs –Saved 10% over a CAC approach The program helped achieve the more stringent lead standards cost-effectively More than 50% of refiners participated 15% of all credits were traded 35% were banked for future use Costs savings from the program likely exceeded the cost savings of less ambitious EPA programs –Saved 10% over a CAC approach The program helped achieve the more stringent lead standards cost-effectively

6 Underlying Factors of this Success Because all refiners were granted permits based on their performance, market power did not emerge Markets were not thin, since trading was nationwide Because the permits were shrinking, the issue of permit life did not emerge Hot spots did not persist Monitoring and enforcement did not suffer since lead content in gasoline was already reported by refiners on a regular basis Because all refiners were granted permits based on their performance, market power did not emerge Markets were not thin, since trading was nationwide Because the permits were shrinking, the issue of permit life did not emerge Hot spots did not persist Monitoring and enforcement did not suffer since lead content in gasoline was already reported by refiners on a regular basis

7 Chlorofluorocarbons In 1988, the EPA introduced a similar trading program for chlorofluorocarbons (CFCs) CFCs are being phased out globally with relative success Congress also imposed a tax, which has encouraged consumers to switch to substitute products In 1988, the EPA introduced a similar trading program for chlorofluorocarbons (CFCs) CFCs are being phased out globally with relative success Congress also imposed a tax, which has encouraged consumers to switch to substitute products

8 Trading Urban Air Pollutants Attempts to implement tradable permit systems at the local level for criteria air pollutants have a mixed record The nation’s two marketable permit experiments –EPA’s Emissions Trading Program –L.A. Basin’s RECLAIM and mobile emissions trading programs Attempts to implement tradable permit systems at the local level for criteria air pollutants have a mixed record The nation’s two marketable permit experiments –EPA’s Emissions Trading Program –L.A. Basin’s RECLAIM and mobile emissions trading programs

9 Emissions Trading Program Initiated in 1976, allows limited trading of emission reduction credits for five criteria air pollutants –VOCs –Carbon monoxide –Sulfur dioxide –Particulates –Nitrogen oxides Credits are earned for controlling emissions beyond the standard –These credits can then be traded or banked for use in one of three trading programs Initiated in 1976, allows limited trading of emission reduction credits for five criteria air pollutants –VOCs –Carbon monoxide –Sulfur dioxide –Particulates –Nitrogen oxides Credits are earned for controlling emissions beyond the standard –These credits can then be traded or banked for use in one of three trading programs

10 Trading Programs The three trading programs are –Offsets Designed to accommodate the siting of a new pollution sources in non-attainment areas –Netting policy Allows trading within a single plant: has had a significant impact on compliance costs –Bubble policy Allows trading within a limited geographical area The three trading programs are –Offsets Designed to accommodate the siting of a new pollution sources in non-attainment areas –Netting policy Allows trading within a single plant: has had a significant impact on compliance costs –Bubble policy Allows trading within a limited geographical area

11 Problems with the EPA Programs Many economists underestimated real-world complications associated with permit markets –Thin markets greatly reduced the effectiveness of emissions trading –Hot-spot problem with non-uniformly mixed pollutants –Increased transaction costs under the bubble program Many economists underestimated real-world complications associated with permit markets –Thin markets greatly reduced the effectiveness of emissions trading –Hot-spot problem with non-uniformly mixed pollutants –Increased transaction costs under the bubble program

12 RECLAIM Regional Clean Air Incentives Market in California is a textbook cap-and-trade system –By 1998, SO 2 emissions were just slightly below 1993 emissions –Tremendous excess supply of permits (for political buy-in) led to a slow start –RECLAIM requires continuous emissions monitoring and electronic reporting –California energy crisis in 2002 increased NO x permit prices so much that California returned to a CAC program. RECLAIM highlighted a new complication with cap & trade: the potential for PRICE VOLATILITY. Regional Clean Air Incentives Market in California is a textbook cap-and-trade system –By 1998, SO 2 emissions were just slightly below 1993 emissions –Tremendous excess supply of permits (for political buy-in) led to a slow start –RECLAIM requires continuous emissions monitoring and electronic reporting –California energy crisis in 2002 increased NO x permit prices so much that California returned to a CAC program. RECLAIM highlighted a new complication with cap & trade: the potential for PRICE VOLATILITY.

13 Reported Emissions and Allowances Under RECLAIM

14 California’s Clunkers Stationary sources can purchase and scrap highly polluting vehicles and obtain pollution credits to avoid clean- air upgrades at their plants –Increases hot spots; environmental justice concerns. –Strong incentives for, and problems with fraud. Stationary sources can purchase and scrap highly polluting vehicles and obtain pollution credits to avoid clean- air upgrades at their plants –Increases hot spots; environmental justice concerns. –Strong incentives for, and problems with fraud.

15 Marketable Permits and Acid Rain Sulfur dioxide and nitrogen oxide are transformed while in the atmosphere into sulfuric and nitric acids Problems: –Damage to water and forest resources –Erosion of buildings, bridges and statues –Reduced visibility –Sickness and premature death in humans Sulfur dioxide and nitrogen oxide are transformed while in the atmosphere into sulfuric and nitric acids Problems: –Damage to water and forest resources –Erosion of buildings, bridges and statues –Reduced visibility –Sickness and premature death in humans

16 Acid Rain Legislation The 1990 Clean Air Act capped emissions at 1986 levels. Permits were grandfathered. –Broad, nationwide markets, prevent market power –SO 2 NO x are uniformly mixed on a regional basis, so no major hot-spots –The permits confer no tangible property rights, but industry can expect at least another decade’s worth of trading –Mandated the installation of continuous monitoring equipment –Provided some compensation for job losses The 1990 Clean Air Act capped emissions at 1986 levels. Permits were grandfathered. –Broad, nationwide markets, prevent market power –SO 2 NO x are uniformly mixed on a regional basis, so no major hot-spots –The permits confer no tangible property rights, but industry can expect at least another decade’s worth of trading –Mandated the installation of continuous monitoring equipment –Provided some compensation for job losses

17 Performance of the Acid Rain Market –Emissions from participating plants have fallen sharply since 1995; very little non-compliance –Ambient levels of SO 2 have declined –Based largely on health benefits, the acid rain program easily passes an efficiency test –Emissions from participating plants have fallen sharply since 1995; very little non-compliance –Ambient levels of SO 2 have declined –Based largely on health benefits, the acid rain program easily passes an efficiency test

18 Performance of the Acid Rain Market Big surprise: dramatic cost savings –Not due primarily to short run cost- effectiveness from inter-firm trading. –Instead due to “long run” changes in technology (which actually happened quite quickly…) –Most firms switched to low sulfur coal or developed new fuel blending techniques rather than installing expensive scrubbers Big surprise: dramatic cost savings –Not due primarily to short run cost- effectiveness from inter-firm trading. –Instead due to “long run” changes in technology (which actually happened quite quickly…) –Most firms switched to low sulfur coal or developed new fuel blending techniques rather than installing expensive scrubbers

19 Inter-Firm Permit Trade Under the Acid Rain Program

20 Latest Developments: Europe –The European Trading System: Continent-wide Cap & Trade as part of Kyoto compliance Allows for “offset” trading with developing countries as part of the Clean Development Mechanism Concerns about monitoring and enforcement –The European Trading System: Continent-wide Cap & Trade as part of Kyoto compliance Allows for “offset” trading with developing countries as part of the Clean Development Mechanism Concerns about monitoring and enforcement

21 Latest Developments:US California (and western states) –Legislation requiring Cap & Trade for CO2 has passed– details still being worked out. Eastern states Regional Green House Gas Initative (RGGI) –Caps C02 emissions from the electricity sector; many states moving towards 100% auction of permits. Bush Admin proposal for cap & trade for mercury from coal plants –Major concerns about potential hot spots –Not a very stringent cap California (and western states) –Legislation requiring Cap & Trade for CO2 has passed– details still being worked out. Eastern states Regional Green House Gas Initative (RGGI) –Caps C02 emissions from the electricity sector; many states moving towards 100% auction of permits. Bush Admin proposal for cap & trade for mercury from coal plants –Major concerns about potential hot spots –Not a very stringent cap

22 Pollution Taxes in the United States An increasing number of municipalities have begun experimenting with “unit pricing”, instead of a lump sum fee, to reduce waste flows One study found that unit pricing –Reduced generated waste by 10% –Reduced waste flow to landfills by 30% –Reduced waste management cost by 10% –The communities also increased curbside recycling An increasing number of municipalities have begun experimenting with “unit pricing”, instead of a lump sum fee, to reduce waste flows One study found that unit pricing –Reduced generated waste by 10% –Reduced waste flow to landfills by 30% –Reduced waste management cost by 10% –The communities also increased curbside recycling

23 The Seattle Stomp Seattle’s unit pricing program was studied between 1985 and 1987 Seattle raised rates substantially over the years of the study In response, Seattle residents increased trash compaction in what came to be known as the “Seattle Stomp” This suggests that without a good substitute (curbside recycling), waste disposal is fairly price inelastic Seattle’s unit pricing program was studied between 1985 and 1987 Seattle raised rates substantially over the years of the study In response, Seattle residents increased trash compaction in what came to be known as the “Seattle Stomp” This suggests that without a good substitute (curbside recycling), waste disposal is fairly price inelastic

24 Pollution Taxes in Europe Germany, France, and the Netherlands have instituted effluent charges for water pollutants Effluent systems are grafted on to CAC systems, which mandate standards and control technologies Germany, France, and the Netherlands have instituted effluent charges for water pollutants Effluent systems are grafted on to CAC systems, which mandate standards and control technologies

25 Lessons from Europe In all cases, taxes were introduced at low levels and then slowly raised The real value of taxes has not been eroded by inflation European countries typically direct the funds raised from pollution taxes into investments in improved water quality The German tax system seems to have generated greater monitoring and enforcement efforts by regulators In all cases, taxes were introduced at low levels and then slowly raised The real value of taxes has not been eroded by inflation European countries typically direct the funds raised from pollution taxes into investments in improved water quality The German tax system seems to have generated greater monitoring and enforcement efforts by regulators

26 Indirect Pollution Taxes One strategy to reduce pollution is to tax it indirectly by, for example, taxing pesticides Indirect pollution taxes can generate counterproductive results– a pesticide tax for example, might discourage new, relatively benign products from entering the market. The potential for unintended perverse effects means that a direct tax on the pollution from pesticides is preferred to an indirect tax on the product. Direct pollution taxes are theoretically appealing, but indirect taxes are often more feasible. One strategy to reduce pollution is to tax it indirectly by, for example, taxing pesticides Indirect pollution taxes can generate counterproductive results– a pesticide tax for example, might discourage new, relatively benign products from entering the market. The potential for unintended perverse effects means that a direct tax on the pollution from pesticides is preferred to an indirect tax on the product. Direct pollution taxes are theoretically appealing, but indirect taxes are often more feasible.

27 Indirect Taxes on CO2

28 Other Incentive-Based Approaches User fees for public lands Environmental bonds Insurance and liability requirements Electric Power: Environmental adders and production subsidies –Adders: Taxes used in the project selection phase that are never actually collected User fees for public lands Environmental bonds Insurance and liability requirements Electric Power: Environmental adders and production subsidies –Adders: Taxes used in the project selection phase that are never actually collected

29 “Adders” in electricity planning


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