Economics of Pollution Control

The amount of waste products emitted determines the load upon the environment. The damage done by this
load depends on the capacity of the environment to assimilate the waste products

Pollutants for which the environment has little or no absorptive capacity are called stock pollutants
Pollutants for which the environment has some absorptive capacity are called fund pollutants
Defining the Efficient Allocation of Pollution
Stock Pollutants
The efficient allocation of a stock pollutant must take into account the fact that the pollutant accumulates in
the environment over time and that the damage caused by its presence increases and persists as the pollutant
accumulates. The damage caused by the presence of this pollutant in the environment is further assumed to
be proportional to the size of the accumulated stock. As long as the stock of pollutants remains in the
environment, the damage persists.
This damage is a cost that society must bear, and in terms of its effect on the efficient allocation, this cost is
not unlike that associated with extracting minerals or fuels. The efficient quantity of X (and therefore, the
addition to the accumulation of this pollutant in the environment) would decline over time as the marginal
cost of the damage rises. The price of X would rise over time, reflecting the rising social cost of production.
To cope with the increasing marginal damage, the amount of resources committed to controlling the
pollutant would increase over time. Ultimately, a steady state would be reached where additions to the
amount of the pollutant in the environment would cease and the size of the pollutant stock would stabilize.
At this point, all further emission of the pollutant created by the production of X would be controlled
(perhaps through recycling). The price of X and the quantity consumed would remain constant. The damage
caused by the stock pollutant would persist.
Fund Pollutants
The Marginal Abatement Cost Curve
Marginal control costs commonly increase with the amount controlled.

Marginal abatement costs can be:

1.

The costs of reducing pollution (e.g. costs of scrubbers, labor needed to maintain them,
etc.).

2.

The opportunity costs of lowering consumption or production.

The marginal abatement cost curve is downward sloping, and equals zero at the level of
unconstrained emissions.

Firms choose the easiest ways to reduce pollution first.

It may flatten if economies of scale are present.

Things affecting the position of the MAC:

o

Technology

To add together the MAC of individual firms, we use a horizontal summation.

o

Note that this follows from what Field calls the equimarginal principle to minimize total
abatement costs, choose the lowest marginal abatement costs first, even if it means one firm
does more than the other.

Intuition: we do the simplest (the cheapest) abatement first.

The Marginal Damage Function

Generally, the marginal damage caused by a unit of pollution increases with the amount emitted.

Our goal is to develop policies that lead to an optimal level of pollution.

o

Recall that the optimal level of pollution is not zero.

We need to consider the marginal costs and marginal benefits of pollution.

The marginal damage function shows the damage done by an additional unit of pollution.
o

It is upward-sloping.

The slope normally gets steeper as emissions increase.

However, it may level off if there is a point where no more damage can be done
(e.g. all the pond life is dead).

We can look at damage in one of two ways:

1.

Emissions damage functions -- the marginal damage done by additional flows of

emissions.

2.

Ambient damage functions -- the marginal damage done by additional

concentrations of pollution in the ambient environment.

The area under the marginal damage function shows the total damages.

The type of pollutant affects the shape:

o

Flow pollutant For a flow pollutant, the MDF does not change over time (if other things
remain equal).

Stock pollutant MDF is flat, and shifts up over time, because the stock keeps getting
larger

Things that affect the position of the MDF include:

o

Population

Time of year

The Efficient Level of Pollution

The optimal level of pollution is where the MDF and the MAC curves intersect. Here, the
additional benefits from pollution control are just equal to the additional costs.
o

In these examples, the marginal benefits are the marginal damages avoided by increased
abatement.

Note that this is not where total benefits equal total costs. If that were the case, net
benefits would be zero. Rather, we maximize net benefit by equating marginal benefits and
marginal costs.

Some examples:
1.

How would the desired level of pollution control change if a new technology is
discovered that improves the efficiency of scrubbers for power plants?

A new technology lowers the marginal abatement costs curve. Since

abatement is cheaper, we should do more of it. The efficient level of
pollution falls.

2.

How does the desired level of pollution change between summer and winter if the
pollution leads to greater problems in the summer (e.g. ground level ozone)?

Here, the marginal damage function is higher in the summer than in the
winter. As a result, we want less pollution (e.g. more abatement) in the
summer.

The diagram suggests that under the conditions presented, the optimal level of pollution is not zero.
An alternative approach would be to internalize the marginal damage caused by each unit of emissions by
means of a tax or charge on each unit of emissions (see Example 14.1)

Cost-Effective Policies for Uniformly Mixed Fund Pollutants

The damage caused by these pollutants depends on the amount entering the atmosphere. In contrast to
nonuniformly mixed pollutants, the damage caused by uniformly mixed pollutants is relatively insensitive to
where the emissions are injected into the atmosphere. Thus, the policy can focus simply on controlling the
total amount of emissions in a manner that minimizes the cost of control.

Figure 14.3, is drawn by measuring the marginal cost of control for the first source from the left-hand axis
(MC1) and the marginal cost of control for the second source from the right-hand axis (MC2).
The cost of achieving a given reduction in emissions will be minimized if and only if the marginal costs of
control are equalized for all emitters.
Cost-Effective Pollution-Control Policies
Emissions Standards. In the economics literature this approach is referred to as the command-and-control
approach. An emissions standard is a legal limit on the amount of the pollutant an individual source is
allowed to emit.

Government maximizes society's return to a public good when MB = MC

o

If MB > MC, government should increase one more unit of a public good

If MB < MC, government should decrease a public good by one unit

Example: Government passes a tougher environmental law

o

Benefits

Less pollution

People and the environment may be healthier from less pollution

Cost

Firms are required to comply with law

Firms' costs are higher

Cost-benefit analysis for public projects can be complicated. Easy to manipulate numbers.

Emissions Charges. An emissions charge is a fee, collected by the government, levied on each unit of
pollutant emitted into the air or water. The total payment any source would make to the government could
be found by multiplying the fee times the amount of pollution emitted.

Control authorities base the emissions standards on specific technologies. As new technologies are discovered
by the control authority, the standards are tightened. These stricter standards force firms to bear higher
costs. Therefore, with emissions standards, firms have an incentive to hide technological changes from the
control authority.

Cap-and-Trade. Under this system, all sources face a limit on their emissions and they are allocated (or sold)
allowances to emit. Each allowance authorizes a specific amount of emissions (commonly 1 ton). The control
authority issues exactly the number of allowances needed to produce the desired emissions level. These can
be distributed among the firms either by auctioning them off to the highest bidder or by granting them
directly to firms free of charge (an allocation referred to as gifting).

Cost-Effective Policies for Nonuniformly Mixed Surface Pollutants

For these pollutants, the policy must be concerned not only with the weight of emissions entering the
atmosphere, but also with the location and timing of emissions.
Ambient standards are legal ceilings placed on the concentration level of specified pollutants in the air, soil,
or water. They represent the target concentration levels that are not to be exceeded. A cost-effective policy
results in the lowest cost allocation of control responsibility consistent with ensuring that the predetermined
ambient standards are met at specified locations called receptor sites.
Since emissions are what can be controlled, but the concentrations at R are the policy target, our first task
must be to relate the two. This can be accomplished by using a transfer coefficient. A transfer coefficient (ai)
captures the constant amount the concentration at the receptor will rise if source i emits one more unit of
pollution.

We are now in a position to define the cost-effective allocation of responsibility. A numerical example
involving two sources is presented in Table 14.1. In this example, the two sources are assumed to have the
same marginal cost curves for cleaning up emissions. This assumption is reflected in the fact that the first two
corresponding columns of the table for each of the two sources are identical. The main difference between
the two sources is their location vis--vis the receptor. The first source is closer to the receptor, so it has a
larger transfer coefficient than the second (1.0 as opposed to 0.5). The objective is to meet a given
concentration target at minimum cost. Column 3 of the table translates emissions reductions into
concentration reductions for each source, while column 4 records the marginal cost of each unit of
concentration reduced. The former is merely the emissions reduction times the transfer coefficient, while the
latter is the marginal cost of the emissions reduction divided by the transfer coefficient (which translates the
marginal cost of emissions reduction into a marginal cost of concentration reduction).

The cost-effective allocation would be achieved when the marginal costs of concentration reduction (not
emissions reduction) are equalized for all sources. In Table 14.1, this occurs when the first source reduces six
units of emissions (and six units of concentration) and the second source reduces three units of emissions
(and 1.5 units of concentration).

Policy Approaches for Nonuniformly Mixed Pollutants: This framework can now be used to evaluate
various policy approaches that the control authority might use. We begin with the ambient charge, the
charge used to produce a cost-effective allocation of a nonuniformly mixed pollutant. This charge takes the
form:

where ti is the per-unit charge paid by the ith source on each unit emitted, ai is the ith sources transfer
coefficient, and F is the marginal cost of a unit of concentration reduction, which is the same for all sources.

Because of trans-boundary aspect of pollution countries may enter into agreements with each other to fix
pollution problems

Problems
o

Free rider problem - Game theory is extensively used in trans-boundary pollution problems.

Prisoners dilemma

Two countries: United States and Canada

If both countries choose tough environmental laws, their GDPs grow at 1%

If one country has soft environmental laws and the other has tough, then industries with the
weak laws have a cost advantage.

They can produce more output, increasing GDP they grow at 6%

If both countries have soft environmental laws, then their GDPs growth at 5%

United States choice is to choose between tough or soft environmental laws.

o

The dominant strategy is to choose the soft environmental laws, given Canada has a choice.

The reason is GDP is larger

Canadas choice is to choose between tough or soft environmental laws.

o

The dominant strategy is to choose the soft environmental laws, given the United States has
a choice.

The reason is GDP is larger

We should be at Cell A, but we always end up at Cell D

Civic duty
Civic duty - people and firms may voluntarily reduce their pollution

Why do firms voluntarily reduce their pollution? Implicit client pressure

Examples
o

General Electric's commitment to reduce CO2 emissions

GE's CEO thinks this will be profitable.

British Petroleum (BP) is investing in green technologies

GE hopes to be a technology leader if regulations are put in place.

Solar panels at gas stations

United States and Europe have a strong movement for Being Green
o

Allows firms to differentiate products

Some consumers are willing to pay a premium for green products.

Examples: Organic foods - uses no chemicals like pesticides and fertilizers

Preempting tougher regulation

Industry tries to act first before government passes tougher environmental laws

Investor pressure

Green investors may prefer socially responsible firms

All investors may be concerned about liability from environmental pollution

Example:

Chemical Manufacturers Association started 'Responsible Care Program'

Started because of the 1984 Union Carbide storage tank leak in Bhopal,
India.

42 tonnes of toxic methyl isocyanate (MIC) gas were released

Approximately 8,000 -10,000 died within 72 hours

25,000 have since died from gas-related diseases.

The Montreal Protocol

Example of a successful international agreement.

o

Signed in 1987 by members of the United Nations to phase out substances that are harmful
to the earth's ozone layer

Since the 1970s scientists have documented the depletion of the ozone by
chlorofluorocarbons (CFCs), commonly used for refrigeration and as solvents and aerosol
propellants

Phase-out the use, production, and exports of chlorofluorocarbons (CFCs)

Used as a coolant in refrigerators and air conditioners

CFCs destroy the ozone layer in upper atmosphere

o

Contains chlorine that destroys the ozone by turning it back into O2

Publicity surrounding the ozone hole over Antarctica provided public pressure.

An amendment of the Montreal Protocol was made in 1990 by 93 nations, including China and
India, who had not previously participated, to eliminate the use of CFCs, carbon tetrachloride, and
halon gases by the year 2000 and eliminate the production of methyl chloroform by 2005
o

This 1990 amendment also established the Montreal Protocol Multilateral Fund to help
developing countries become less dependent on ozone-depleting chemicals. A $260 million
fund was established to help finance the transition to HCFC

Wanted to reduce leakages - countries that did not sign would start producing CFCs

In November 1992 delegates from all over the world met again in Copenhagen, Denmark, to further
revise the Montreal Protocol and accelerate the phase-out of ozone-damaging substances and regulate
three additional chemicals
o

Some of those provisions were as follows: phase out production of CFCs and carbon
tetrachloride by 1996

Ban halons by 1994 (the production of halogen was ended in 1994 in most industrialized
nations and is expected to be halted in China, Korea, India, and the former Soviet Union
by 2010)

End production of methyl chloroform by 1996

Control the use of hydrochloroflurocarbons (HCFCs)

Eliminate them by 2030; and increase funding for the Multilateral Fund (between $340 and
$500 million by 1996).

Since the Copenhagen Amendments there have been other amendments, such as the Montreal
Amendment of 1997, which adjusted the timetable for phase out of some substances and modified
trade restrictions, including the creation of a licensing system to attempt to decrease the black
market in ozone depleting substances

Beijing Amendment in 2002, which closely monitors bromochloromethane and the trade of
hydrochloroflurocarbons

As of July 2002, 175 nations have ratified the Montreal Protocol. However, while countries have
volunteered to control ozone-damaging chemicals, individual companies can still produce the
banned chemicals for essential uses and for servicing certain existing equipment

Why the Montreal Protocol was successful?

o

Most international agreements are not successful

Leakages

Cheating

Only six main companies produce CFCs, so monitoring simple.

Clean technological substitutes have developed quickly.

This helped keep the costs of compliance low.

One substitute, hydrochlorofluorocarbons (HCFC) also depletes the ozone layer,

but at a slower rate.

It will be phased out by 2030

Note - both CFCs and HCFCs are greenhouse gases

The United States passed a tax on CFCs

o

Producers paid $1.37 per pound for CFCs in 1990

$5.35 per pound in 1995

Kyoto Protocol
In December 1997, representatives of 160 nations met in Kyoto, Japan, in an attempt to produce a new and
improved treaty on climate change. Major differences occurred between industrialized and still developing
countries with the United States perceived, particularly by representatives of the European Union (EU), as
not doing its share to reduce emissions, especially those of carbon dioxide.
The Kyoto Protocol was adopted in Kyoto, Japan on the 11th of December, 1997, but not enacted or
enforced until the 16th of February, 2005. The protocol was adopted to help combat the adverse effects of
climate change, or global warming. The UNFCCC (United Nations Framework Convention on Climate
Change), an international environmental treaty, states the goal of the Kyoto Protocol as the stabilization of
greenhouse gas concentrations in the atmosphere at a level that would prevent dangerous anthropogenic
interference with the climate system.
The Kyoto Protocol's main goal is to reduce the presence of 4 harmful greenhouse gases (GHG's):
1.

Carbon Dioxide

2.

Methane

3.

Nitrous Oxide

4.

Sulphur Hexafluoride

These gases belong into two groups, both of which are being targeted by the protocol:
1.

Hydrofluorocarbons

2.

Perfluorocarbons

The goal is to reduce emissions by 5.2%, compared to 1990 levels. That doesn't sound unreasonable to us,
especially considering that shipping and international aviation emissions are not included in that percentage.
The requirements would be different for each country and would have to begin by 2008 and be met by 2012.
Since its inception, the Kyoto Protocol has generated a great deal of controversy. Richer nations have argued
that the poorer, less developed nations are getting off easy. The developing nations, on the other hand, have
argued that they will never be able to catch up with the richer nations unless they are allowed to develop
with the same degree of pollution as that which let the industrial nations become rich in the first place.