Research - Subsides and Transferable Permits

SUBSIDIES AND TRANSFERABLE PERMITS

1. Subsidies

• Subsidies - incentive-based policy
• Obtain subsidy per unit of emissions reduction
• Or lump sum grants, loans or tax allowances[pic 1]
• If subsidy per unit emissions reduction is set at the same level as tax –instruments are symmetric [pic 2]
• If symmetry result true – subsidies attractive option for government – in fact untrue
• Will the polluter reduce emissions further than e*?

No as each extra unit of emissions reduction costs > subsidy

Only from e0 and e* - firm incentive reduce emissions. So per unit subsidy results same level of pollution control for an individual firm as an emissions tax

• So if subsidy rate is set - MAC = MD. Taxes and subsidies appear symmetric instruments

Economic efficiency and cost-effectiveness

• Difference taxes and subsidies – impact on polluters’ profits. Subsidy increases polluter’s profit - area d Tax reduce profits - a + b + c. This can influence firm’s choice leave/stay in industry. A marginal firm – average cost just equal MR (price) if obtain subsidy - stay in business and continue polluting if faced with tax – forced out
• Although subsidy encourages individual polluters to reduce emissions – keeps size of industry above socially desirable level
• Tax - encourages individual polluters to abate emissions and decrease the size of the industry.
• Under certain assumptions - subsidy may not only deter exit from the polluting industry but, even worse, may attract new firms into the industry (Baumol and Oates). So total emissions in industry increased
• Indeed - more effective subsidy for an individual firm to reduce emissions, the greater the increase in total industry emissions
• But can show subsidy may not distort size of an industry
• Apply subsidy to ‘close class’ of firms
• Overcome initial limitations, but.....

Dynamic Efficiency

• Polluter knowledge how regulatory might act. Subsidy introduced, paid on reduction from a benchmark level of emissions (polluter’s past emission records). So prior no incentive to lower emissions, maybe even to raise, new abatement technology unlikely to be introduced.
• If invest – possibility receiving lower subsidy rate in future if the regulator adjusts the subsidy rate to the new level where MAC = MD
• Contrasts with tax - investment in new technology can decrease tax costs

Fairness and Equity

• Polluters find subsidies fair, as they are being paid!
• Also polluters are not being forced to act in a certain way
• Subsidy schemes - voluntary by their very nature and therefore are not perceived as additional constraints by firms but contradict PPP, as it implies have a right to pollute the environment.
• Society must pay to take right away. Taxpayers may also find subsidies unfair, as the same result may be achieved without spending taxpayers’ money.

Enforceability

• Emissions need to be measured and monitored
• Otherwise possible polluters could claim extra subsidy. Also, if polluters are caught claiming extra subsidies, there will be sanctioning costs involved.
• Subsidies are often paid as part of contractual agreements (eg for installing a certain bit of abatement technology or for implementing certain environmentally friendly farming practices).
• For subsidies paid under such agreements, these schemes still have to be monitored, or else there is an incentive for participating individuals not to fulfil their contracts.
• The difficulty (and cost) of monitoring the scheme depends on the type of scheme:

Is the glass half full or half empty?

Historically Agri-Environmental Policy extols the positive outcomes of land management over the negative

PGP