Pollution Regulation of Competitive Markets

Krishnan S. Anand () and François C. Giraud-Carrier ()
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Krishnan S. Anand: David Eccles School of Business, University of Utah, Salt Lake City, Utah 84112
François C. Giraud-Carrier: Goddard School of Business and Economics, Weber State University, Ogden, Utah 84408

Management Science, 2020, vol. 66, issue 9, 4193-4206

Abstract: We develop a model of oligopolistic firms that produce partially differentiated products and generate pollution as a byproduct. We analyze and compare two types of pollution regulation: Cap-and-Trade and Taxes. Firms can respond to regulation by any combination of pollution abatement, output reduction, emissions trading (under Cap-and-Trade), or payment of pollution taxes (under Taxes). We prove that well-chosen regulation can, besides reducing pollution, actually improve firms’ profits relative to laissez-faire (unregulated markets), and simultaneously improve consumer surplus and welfare. Thus, regulation Pareto-dominates laissez-faire under a wide range of plausible conditions. These results are driven by an unintended consequence of pollution regulation: Competing firms can use the regulation to tacitly (and credibly) collude to reduce production and improve their profits. We show that the degree of competition plays a critical role in determining the economic consequences of pollution regulation. Our results suggest that the regulator’s primary consideration should be the impact of regulation on consumers rather than producers.

Keywords: pollution regulation; cap-and-trade; taxes; competition (search for similar items in EconPapers)
Date: 2020
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Citations: View citations in EconPapers (45)

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