Market Based Instruments For Environmental Policy In SAP MED Countries

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Market Based Instruments For Environmental Policy
In SAP MED Countries

• 9-10th November 2001, Spilt, Croatia
• Prepared by
• Anil Markandya and Alistair Hunt

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Analytical Tools

• Social Costs - the sum of private and external
  costs
• Social Benefits the sum of private and external
  benefits
• Externalities - arise because of market, policy
  or institutional failures
• Public Goods good is public if exclusion not
  possible. Free riding problem.

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Open Access Resources

• Available to everyone to use with uncontrolled
  access.
• Typical examples of open access include ocean
  fisheries, and some types of forest.
• Problem is typically that property rights to the
  resource are either not defined, or if defined,
  not well enforced.

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Optimality of Private Decisions

• Possible problems with private decisions
• Excessive level of production
• Excessive exploitation of natural resources
• Insufficient provision of public goods
• Efficient level of pollution

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Excessive exploitation of natural resources

• Open access forest
• In the decision of how many acres of forest to
  cut, the decision-maker ignores the costs on
  other users of the forest.
• The forest is over-exploited as a result.

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Excessive exploitation of natural resources
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Efficient level of pollution
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Environmental Instruments

• Property rights
• Command and control regulation
• Economic, Fiscal and Financial Instruments
• Pollution Charges
• Tradable Permits
• Other charge systems

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Property rights

• absence of property rights means polluters dont
  pay for externalities.
• simple solution to externalities would appear to
  be to create property rights.
• Issue of to whom should private property rights
  be allocated
• Coase theorem - optimum is reached whoever is
  allocated the property right.

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Property Rights (2)

• Conditions that must be satisfied for Coase
  Theorem to apply
• possible to define precisely the property rights
• property right must be enforceable, and
  transferable
• parties to the transaction must be well defined
• owning the property rights must be able to
  capture all values associated with the
  environmental asset they own
• transaction costs must be small

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Command and control regulation

• traditional approach to environmental protection
  e.g. emissions standards.
• Standards define environmental targets and
  establish the permissible amount or concentration
  of particular substances or discharges into air,
  water, land, or consumer products.

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Emission Standards

• Types of standards include
• ambient environmental quality standards,
• effluent or emission standards,
• technology-based standards,
• performance standards,
• product standards, and
• process standards,
• technological specifications for the performance
  or design of equipment.

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Permits

• granting or withholding of permits, licenses, or
  other authorizations is another important tool
  for controlling pollution.
• facilitate the enforcement of environmental
  programs by including in one document all of a
  facilitys pollution control obligations.
• may be withdrawn or suspended.
• fee collection

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Command and Control

• gives the regulator maximum authority to control
  where and how resources will be spent to achieve
  environmental objectives.
• Under ideal conditions
• the regulator would be able to identify precisely
  the marginal abatement cost and marginal damage
  functions of each polluter.
• impose a ceiling on emissions of each polluter
  corresponding to the optimal level of pollution.

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Command and Control
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Command and Control

• Problems
• the regulator does not know the firm-specific
  marginal abatement cost and marginal damage
  functions.
• emissions standards in practice share the
  following principal characteristics
• Standards are defined on the basis of the best
  available or economically achievable technology
• Standards are often defined and tailored to
  specific industries (for the same pollutant,
  standards are typically different across
  industries)
• Standards are often different for old sources of
  pollution and new sources of pollution, generally
  being more stringent for new sources
• Standards are usually uniform.

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Command and Control

• Problems (cont)
• high costs for pollution control leave little
  opportunity for flexibility in meeting given
  ambient quality standards.
• little incentive for innovation in pollution
  control technology once the standards are
  achieved.
• non-point source pollution, solid waste disposal,
  and global environmental problems cannot be dealt
  with in this way.

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Economic, Fiscal and Financial Instruments
Pollution Charges

• The principle behind pollution charges and
  tradable emissions permits is simply to create
  such a price for the external cost of pollution.
• The level of the charge which equates the
  marginal abatement cost and the marginal damage
  functions is referred to as the Pigovian charge.
• Under ideal conditions, the regulator could
  identify the marginal abatement cost and marginal
  damage functions and would impose a charge
  corresponding to the optimal level of pollution
  for each and every polluter.

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Economic, Fiscal and Financial Instruments
Pollution Charges
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Economic, Fiscal and Financial Instruments
Pollution Charges

• Problems
• firm specific cost and damage functions not known
  to the regulator.
• pollution charges tend to be uniform
• pollution charges not at their optimal level.

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Economic, Fiscal and Financial Instruments
Tradable Permits

• Markets created in which actors can buy "rights"
  for producing pollution or where they can sell
  these "rights" to other actors.
• Desired level of environmental quality translated
  into permits. Permits are then distributed to
  firms either by auctioning or grandfathering.
• Problem hot spots

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Economic, Fiscal and Financial Instruments
Tradable Permits
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Other Charge Systems

• User charges
• Product charges
• Administrative charges
• Tax differentiation

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Choosing among instruments

• Cost-effectiveness uniform pollution charges and
  tradable permits allow the desired objective to
  be reached at a lower cost than uniform emissions
  standards.
• Dynamic incentives certainly exist under economic
  instruments.
• Implementation issues. None of the instruments
  possess a distinctive advantage in terms of
  implementability.

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Choosing among instruments

• Flexibility. While there is a tendency to group
  together economic instruments, tradable permits
  may benefit from an important advantage over
  pollution charges in terms of flexibility.
• While pollution charges and tradable permits
  appear considerably superior, the
  command-and-control has overwhelmingly been the
  preferred method of intervention. Reasons
• Perception of economic instruments as licenses
  to pollute
• impact on competitiveness

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Disclosure Instruments

• Community influence
• Market influence
• Appropriate regulation for developing countries
  may incorporate these five key features
• Information Intensity
• Orchestration, not Dictation
• Community Control
• Structured Learning
• Adaptive Instruments

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Instruments In Practice

• Transport Charges and Taxes in Developing
  Countries
• Petrol taxes are the most common, with most
  countries obtaining a large share of government
  revenues from duties on petrol. Although these
  taxes, are largely applied for revenue purposes
  with no overall environmental objective, their
  imposition will reduce consumption, and thereby
  have some beneficial environmental effect.
• Differential taxation on leaded and unleaded
  petrol has been introduced in many countries as a
  consequence of concerns over the health impacts
  of leaded petrol, including detrimental affects
  on IQ in children.
• Road pricing has been successfully used in
  developing countries to reduce congestion, with
  examples of Singapore in the late 1970s and
  Santiago in the 1990s. Geographical
  considerations such as the number of points of
  entry to the town are also important in
  determining whether such a program can be a
  success.

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Instruments In Practice

• Natural Resource Charges
• Some taxes and charges have been raised on
  natural resources, such as minerals and forests
  in all countries. How can the taxes have an
  environmental dimension?
• Often the present structure does not consider the
  environmental impact of the commodities involved
  e.g. in China, the tax on coal is only 0.3 yuan
  per ton in relation to the less environmentally
  damaging natural gas which is taxed at 2 yuan per
  thousand cubic metres.

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Instruments In Practice

• Water Charges
• Water charges have been introduced in many
  countries. These have the dual objective of
  combating environmental degradation, including
  over-exploitation, and cost-recovery for
  infrastructure. A lack of enforcement and other
  implementation problems have reduced the
  environmental impact of such charging systems.
  But some successes also.
• Colombia has introduced a system of charges on
  organic emissions in its waterways. The scheme
  has been implemented in seven regions of the
  country, with each region allowed to vary the
  rate until the target reduction has been
  achieved, at which point the charge is frozen in
  real terms. The scheme has resulted in
  significant reductions in emissions -- in the
  Rio Negro, for example, BOD discharges fell by 52
  percent in the first six months of the plan and
  overall organic discharges in the areas covered
  have fallen by 18 percent in the first year.
  This is seen as a real success story, with
  assessed charges being significant and collection
  rates high.

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Instruments In Practice

• Water Charges
• In the Philippines regulators at Laguna Lake, the
  second largest inland water body of South East
  Asia have resorted to an environmental user fee
  to control industrial pollution (World Bank,
  2000). There is a fixed fee, plus a charge per
  unit of emissions with two rates, one for
  emissions below the permitted amount and one for
  emissions above. Rates have been set so that
  incentives are there for making reductions, at
  least for firms with low abatement costs. After
  two years of the programme, BOD discharges from
  the pilot plants to which it was applied have
  fallen by 88 percent. The revenues from the
  scheme have helped the regulating authority
  improve its monitoring and improvement.

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Instruments In Practice

• Waste Charges
• Sewage tariff based on organic matter sine 1983
  in Sao Paolo and Rio de Janiero
• Landfill charges include a land fill tax in UK
• Industrial Pollution
• Charges on air and water emissions in China,
  Ecuador, Malaysia and most East European
  countries.
• Often rates are too low to have an incentive
  effect.
• Revenues frequently earmarked for environmental
  purposes.
• Cannot work for non-point sources or in hot
  spots.

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Instruments In Practice

• Subsidies
• Rebates for charges when investment is
  undertaken.
• Accelerated depreciation of pollution abatement
  equipment and rebates on import taxes for such
  equipment.
• Problem is to finance the subsidy and prevent
  misuse.
• Possible beneficial applications include
  subsidised LPG/ Gas or other fuels to people
  using fuelwood and causing deforestation.
• Another beneficial application has been in
  recycling schemes, where reductions of waste have
  been substantial (but maybe the schemes have been
  too successful in some cases).

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Instruments In Practice

• Charges on Inputs and Outputs.
• Only instrument for some pollution problems (e.g.
  non-point)
• Examples are taxes on leaded gasoline, oil tax
  based on sulfur content, tax on fertilizers,
  pesticides. Etc.
• Tax on the input does not allow for possibility
  that end-of-pipe cleaning is taking place. (this
  can be accommodated, however).
• Does not allow for spatial variation.
• Such taxes can be a major source of revenue
  (Green Taxation).

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Instruments In Practice

• Permit Trading Schemes
• Transferable development rights in US and Puerto
  Rico
• Fishing permits in Mexico, New Zealand.
• Possible carbon trading schemes
• US sulfur and Nox Trading schemes
• Potential has yet to be realized, especially in
  developing countries