Endogenous Risk and Point-Nonpoint Uncertainty Trading Ratios
Richard Horan and
James Shortle
American Journal of Agricultural Economics, 2017, vol. 99, issue 2, 427-446
Abstract:
Point-nonpoint trading enables highly uncertain nonpoint pollution abatement to be substituted for relatively certain point source pollution abatement. Market designers use uncertainty trade ratios to address imperfect substitution between these commodities. Guidance from government agencies and other entities recommends large ratios that penalize trades for nonpoint abatement, and extant programs universally implement this guidance. Previous research has shown that the standard guidance is based on an inappropriate framing of the risk effects of substituting nonpoint for point source pollution abatement, and has demonstrated that the trade ratios should be set to encourage or discourage substitution, depending on whether the substitution is risk-reducing or risk-increasing. However, the Pigouvian pricing approach used to develop this result obscures the underlying economic calculus because it does not recognize or characterize the tradeoffs between abatement costs savings and environmental risk that must be considered in an economic evaluation of alternative ratios, and that would be key to explaining why ratios recommended by economic analysis would be preferred to received wisdom. We develop a new approach that explicitly identifies and characterizes the tradeoffs associated with the choice of ratio. The approach is examined both in first-best settings where trade ratios and initial permit allocations are jointly determined, and in second-best settings where permit allocations are taken as given. We provide a numerical analysis of trading in the Susquehanna River Basin in Pennsylvania to illustrate theory. We find theoretical and numerical support suggesting that smaller ratios may be optimal.
Keywords: Point-nonpoint trading; water quality; permit markets; emissions (search for similar items in EconPapers)
JEL-codes: Q53 (search for similar items in EconPapers)
Date: 2017
References: Add references at CitEc
Citations: View citations in EconPapers (6)
Downloads: (external link)
http://hdl.handle.net/10.1093/ajae/aaw088 (application/pdf)
Access to full text is restricted to subscribers.
Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.
Export reference: BibTeX
RIS (EndNote, ProCite, RefMan)
HTML/Text
Persistent link: https://EconPapers.repec.org/RePEc:oup:ajagec:v:99:y:2017:i:2:p:427-446.
Access Statistics for this article
American Journal of Agricultural Economics is currently edited by Madhu Khanna, Brian E. Roe, James Vercammen and JunJie Wu
More articles in American Journal of Agricultural Economics from Agricultural and Applied Economics Association Contact information at EDIRC.
Bibliographic data for series maintained by Oxford University Press ().