Tradable Pollution Permits

Question 1

Advantages of pollution permits (6)

Answer 1

• increases costs of production and should reduce supply
• fixed amount of permits to match the pollution cap in the economy
• firms make decisions based on the lowest cost; investing in green technology or buying spare permits in the market
• with strict enforcement, pollution decreases
• Allocative efficiency reached and welfare is maximised
• Promotes long-run incentives; investing in green technology to not be burdened when permit prices rise and if firms are successful, they can profit from the sale of spare permits

Question 2

Limitations of pollution permits (3; enforcement, imperfect information for governments, need for international cooperation)

Answer 2

• governments have to decide whether or not the enforcement can be afforded; this problem is evident in developing countries. if the technology that measures CO2 emissions is not there, firms just will not follow the policy
• There is the assumption that governments have perfect info by valuing externalities in developing countries but in reality they dont. This can lead to cap level to be set too tight leading to unintended consequences. Regardless of the decision firms make, this increases their costs of production potentially leading to them leaving to a country w no policies on pollution - global emissions continue
• Climate change is a global market failure hence there is need for international cooperation; many developing countries don’t want to sign this as a poly as it increases costs of production for firms; this burdens them further hence, it is not fair