EEC12(2) - Chapter 12 Emission Prices and Fees Tradable...

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Chapter 12 Emission Prices and Fees Tradable Permits (Chapter 13) Slides based on Environmental Economics by Charles Kolstad (2011)
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Suppose a factory produces some good y and as a by-product also produces a bad, x An Emission Fee is a price or fee paid by a polluter to a regulatory entity for every unit of emissions the polluter emits. Socially optimal amount of pollution → produce all units of pollution for which MB (to society) = MC (to society) Polluters Response to Emission Fees
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The MB of pollution is the avoided costs of production that the firm would otherwise incur if it were not allowed to pollute The firm’s costs are increasing in y , but decreasing in x – that is, if the firm were to produce less x , say by installing abatement equipment, its costs would increase Thus, MC(x) is negative → can interpret this as the marginal savings (or MB ) from emitting one more unit of pollution → MS(x) = - MC(x) Polluters Response to Emission Fees
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How do Polluters respond to emission fees? If the emission fee is p and the polluter emits x units of pollution, the payment from the polluter to the regulator is px. If the C(x) is the production costs associated with emitting x units of pollution then TC(x)=C(x)+px Total cost is minimized whenever p= -MC(x)=MS(x)
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The MC to society from the polluting activity is the incremental damage (to health, environment, etc.) that results Suppose there are N people surrounding the factory that are exposed to damages from pollution – The marginal damage to each individual is MD i (x) a proxy for this is their willingness to pay to avoid this damage – i.e., their individual demand curve for abatement – The marginal social damage is Σ i MD i (x) → the vertical summation of the individual demand curves for abatement Socially Optimal Pollution : Marginal Cost of Pollution
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In a free market where the factory has the right to pollute and transaction costs are high, firms will maximize profit by undertaking a level of emissions equal to X MAX (i.e., they will not undertake any abatement at all) If the firm were forced to incur the marginal damage cost of emissions, it would result in the “correct” amount of pollution, X* Socially Optimal Pollution
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Pigovian Fees A Pigovian fee is a fee paid by the polluter per unit of pollution exactly equal to the aggregate marginal damage caused by the pollution when evaluated at the efficient level of pollution.
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Pigovian Fees By charging the firm p* per unit of emissions, the external cost is internalized
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By imposing the tax of p* per unit of pollution, this essentially internalizes the externality → the firm now considers (indirectly) the marginal
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This note was uploaded on 08/13/2011 for the course ECO 373 taught by Professor Maryamsami during the Summer '11 term at SUNY Stony Brook.

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EEC12(2) - Chapter 12 Emission Prices and Fees Tradable...

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