436 Lecture Note 3 SP16 - ECON 436 SP16 3.1 Lecture 3...

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3.1 ECON 436 SP16 Lecture 3 Outline Coase theorem, continued Policy design when MB and MD curves are known Pigouvian tax Per Unit Subsidy Regulation Incentives for innovation Coase theorem, continued In the last lecture we discussed why Coasian bargaining solutions are unlikely to occur in the large numbers case, that is, when there are a large number of polluters, a large number of victims, or both. The possibility of Coasian bargaining solutions would seem to be more promising in the small number case than in the large number case and in fact examples can be found of Coase-type outcomes in the real world. (For examples of the Coase theorem being applied when the polluter is a firm and there are relatively few victims, see the reading “Coase-type Outcomes” posted in the Other Course Materials section of the course web site.) However this is the exception rather than the rule, because even in the small number case the conditions for the Coase theorem to apply are usually not satisfied. First, instead of full information on the marginal benefit and marginal damage curves, victims usually don’t have reliable information on the polluters’ benefits and polluters don’t have reliable information on the victims’ damages. Because the information is asymmetric, both parties are likely to engage in strategic behavior (lying) in an attempt to increase their share of the potential gain, which makes it difficult to reach agreement. Second, there are social inhibitions against offering others money to alter their behavior, and the necessity of overcoming these inhibitions, and the potential of causing offense in the process, create transactions costs. And third, in many small number cases there is no formal determination of who has the property rights, the polluter or the victim. For an informative, and funny, discussion of the difficulties these issues, including the lack of a formal definition of property rights, pose for the operation of the Coase theorem see: ng_can_economics_reveal_who_deserves_the_space.html Because Coase-type
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3.2 ECON 436 SP16 negotiations will not in general solve the problem of inefficient levels of pollution, government intervention is likely to be required to attain efficiency. Policy design when MB and MD curves are known There are several different environmental policy instruments that government can choose among. They can be divided into two general categories: economic incentive (aka market-based) instruments and command and control instruments. Economic incentive instruments, such as pollution taxes, provide incentives for reducing pollution while leaving polluters free to choose the actual levels of pollution, whereas command and control instruments directly regulate the behavior of polluters.
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