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Efficiency gains from integrated multipollutant trading

Carson Reeling, Cloé Garnache and Richard Horan

Resource and Energy Economics, 2018, vol. 52, issue C, 124-136

Abstract: Interest in expanding market-based approaches involving intra-pollutant trading (trading “like” pollutants) to allow inter-pollutant trading (trading “dis-similar” pollutants) is growing. Because many pollutants are regulated separately, designing inter-pollutant markets requires considering pre-existing regulatory constraints. We examine the optimal choices of inter- and intra-pollutant trade ratios when (i) some firms generate multiple pollutants affecting different media and (ii) permit caps are sub-optimal, having been exogenously specified by prior regulations. While the first-best outcome is unobtainable in this setting, we find inter-pollutant trading enhances efficiency by offering an additional policy instrument: the inter-pollutant trade ratio. Moreover, adjustments to intra-pollutant trade ratios reflecting the joint production of dis-similar pollutants can enhance efficiency. We also find realistic cases where inter-pollutant trading may universally improve environmental quality, easing concerns that trading across environmental media may harm one medium. An example of nitrogen trading in Pennsylvania’s Susquehanna River Basin illustrates our results.

Keywords: Instrument design; Multi-pollutant markets; Pollution permit markets; Second-best (search for similar items in EconPapers)
JEL-codes: Q53 Q54 Q58 (search for similar items in EconPapers)
Date: 2018
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