Question

Former President Obama favors a mandatory reduction in US CO2 emissions of 80% by2050, with a tradable permit system used to allocate CO2 emissions across firms. By comparison, former Vice President Al Gore favors a green tax on CO2 emissions to reduce US emissions. Answer parts a through d as yes or no questions, but you must also provide some explanation of your reasoning.

(a) In principle, can both the tradable permit system favored by Obama, and the tax

system favored by Gore reduce pollution efficiently?

(b) Given a fixed pollution reduction goal, does the optimal tax rate equal the price that

would arise from allowing firms to trade permits?

(c) If a policy to reduce pollution is least total cost, does it necessarily achieve the

efficient level of pollution?

(d) If a policy achieves the efficient level of pollution, does it necessarily make every one

better off?

Answer 1

a)No. It is considered that tradable permit system is more useful especially in situations where it is prohibitively expensive to fully understand the quantum of emissions by different industries. However, it may also lead to wealthy companies polluting a lot, buying permits of other companies who may be more effective in containing emissions. It is necessary therefore that companies may alternatively invest in reducing carbon emissions and issue their own tradable permits in lieu of it. However, application of green tax system may not work because a) it is a negative instrument to generate desired behavior. b) It is difficult to measure the quantum of emissions to justify the net tax applicable.

Usually, the mostly cited success of tradable permit systems is about acid rains in 90's when control over emission of sulphur dioxide was obtained through it.

However, when it comes to fixing historical responsibilities, a system which measures emissions accurately needs to be developed in future and taxation fixed around the amount of historical accumulation of carbon emission from a particular company, becomes an important area to be explored.

b) No, as the experience has indicated for a long time, the carbon trading permits market remained bearish. The emission targets were easily met. Therefore, despite low prices, the emission targets were met and therefore fixed pollution reduction goal was achieved at a cheaper price. However, under taxes, it will be uniformly applied.

c) Yes.

d) No, the policy may not make everyone better offeven if it achieves efficient level of pollution as the ability to measure actual emissions as well as historical emission is limited.