Pollution, Externalities and Policy Instruments to tackle pollution

Haripriya Gundimeda

All economic activities either impinge on or are affected by natural and environmental resources. Activities such as extraction, processing, manufacturing, transport, consumption and disposal not only change the stock of natural resources, but also add stress to the environmental system besides adding waste to environment. A countrys environmental resources = f(structure of its economy, production technologies in use and environmental policies). While some problems may be associated with lack of development (e.g., inadequate sanitation &clean drinking water), others are exacerbated by growth of economic activity (e.g., air and water pollution).

Environmental degradation is usually aggravated by development that typically occur as countries industrialize: Growing cities, increasing traffic, rapid economic development and industrial growth, all of which are closely associated with higher energy consumption, which often leads to degradation. In the case of India, against an economic growth of 163% in past 20 years, the pollution load increased by more than 475%. During the period from 1975 to 1995 industrial pollution grew by 247%, whereas vehicular pollution load shot up phenomenally by 650%.

Unit
GDPa

1975c
104,9680

1995c
276,1320

% growth 163 650 247 478

Ve h i c u l a r Pollution Loadb I n d u s t r i a l Pollution Loadb Total Pollution Load

R s . Millions Metric tons Metric tons Metric tons

771,610 (57.3) 575,081 (42.7)

1346,691

5789630 (74.4) 1995636 (25.6)

7785,266

Source: Anonymous (1999), When Wealth is not Health in Down to Earth, Vol. 7, No. 17, Jan. 31: 32-40.

 None of the rivers in India is meeting the desired quality standards and in the past six years the situation has hardly changed. In fact in some of the polluted rivers like Sabarmati, Tapi, Ganga and Godavari, the violation of standards was observed close to over 90 per cent of the sites monitored. Since rivers are sink for agriculture run-offs and municipal waste also, the violation of standards cannot be entirely attributed to industrial pollution.

 The data indicates that in many rivers say Ganga in UP, Yamuna in Delhi, Damodar, Subarnerakha, Betwa, Noyyal, Bhavani etc. industries contribute most to the water pollution. Though industrial pollution may account for less than 25% of the pollution load in most of the rivers, the kind of effluent waste generated by industries makes the rivers highly toxic e.g. in Ganges, Yamuna etc. (SOE, 1999: 100).

Effluent Generation by few large industries in Damodar Basin

Unit IISCO cold rolling mill and coke oven plant Durgapur Projects Ltd. Hindustan Steel Philips Carbon Black Carew & Co. Jamadoba Washry Chandrapur Thermal India Explosives Ltd. Total Quantity (million Kl/ day) 29,523 14,000 4,730 1,600 150 18 12 4 50,038 % contribution 59.00 27.98 9.45 3.19 0.29 0.04 0.02 0.01 100.00

Why pollution occurs?

Environment a public good Lack of well defined property rights for environment Market failure Externalities

Externalities are an unintended (and uncompensated) side effects of one persons or firms activities on another. Examples: 1) Health effect of smoke emissions from vehicles in Chennai, Delhi 2) Health effect of smoke emissions from Indraprastha Thermal power plant in Delhi 3) Health effect of discharging untreated effluent from SSIs in Delhi.

Because of interdependence in production or consumption. The utility of individual i depends not only on his consumption but also on the consumption of another individual: Ui = Ui(Xi, Xj) & Pi = Pi(Xi, Xj) NOTES: A) These damages are unintentional per se as they are typically difficult to avoid. B) This interdependence must also be a non-market dependence to qualify as an externality.

1) Congestion caused by a vehicle on other drivers - unintentional and difficult to avoid. 2) Air Pollution caused by power plants - unintentional and difficult to avoid 3) If many people are in queue to buy water or medicine this may lead to in price. Can this be Called as EXTERNALITY? No it is perpetuated through market mechanism. Hence not an external effect.

This approach supposes that ownership rights or markets are missing for the particular resource. Example: If there were private ownership of air, then people would have to buy the right to pollute it with smoke. If ownership rights of a citys air (e.g., Delhi or Chennai or Kanpur etc.) is given to (or owned by) few individuals and then vehicle owners will have to pay to these individuals to pollute.

Two Types: 1) Depletable 2) Non-depletable Manure from horse is depletable. Because if one person takes, other cannot. Odour of Manure is non-depletable. Because exposure of one does not reduce exposure of other individuals. #(Vehicular air pollution or Odour from Solid waste are non-depletable)

Two Types of COSTS: 1) Private Costs 2) Social Costs Ex. - w.r.t. Vehicular Air pollution in Delhi/Chennai Private Costs - Cost of Owning a vehicle, Fuel (petrol/diesel/LPG), maintenance cost etc. Social Costs - Effect of pollutant on other people, my vehicle causing congestion for others + Private costs. When SOCIAL COSTS > Private Costs Negative Externality

Marginal Social Costs Marginal Private Costs

Costs, Benefits

Po Pa Demand

To

Ta

Traffic Volume

Examples of Negative Externality 1) Pollution of Ganges or Yamuna by upstream activities 2) Transboundary Pollution 3) Soil Erosion caused by excessive and type of agriculture 4) Floods caused by Deforestation 5) Garbage (NIMBY) 6) Use of pesticides in agriculture affecting downstream water bodies

Positive Externalities: When Social Benefit > Private Benefit Examples of Positive Externality 1) R&D by a firm for Cancer / SARS drug 2) New filter for cars to reduce emissions 3) Forestation in hilly regions affecting water supply in the plains.

Since Social Costs are more than Private Costs - if the persons causing social costs are asked to bear part of the social costs (i.e., their contribution of social costs), this externality problem will be solved. i.e., Internalising the Externality HOW DO WE Internalise the externality? Using Policy INSTRUMENTS (CAC, EI/MBI or Suasive) In case of Vehicular Pollution - By asking them to switch to cleaner fuel (Diesel run - buses in Delhi to CNG or - Vikram to electricity run Safa in KM)

Standard externality argument provides the answer. #If polluters are forced to pay this environmental cost also, this would internalise the externality. For example: if users of polluting transport are forced to pay an amount equivalent to the environmental cost, it will result in cleaner vehicles and smaller traffic volume and hence reduced air pollution.

Traditionally, environmental regulation instruments are classified according to

How much pollution to abate? Need for regulator to monitor emissions

Former category is concerned with CAC and MBI. The latter involves Direct and Indirect instruments. #Direct instruments are emission standards, emission fees and market permits; and #Indirect instruments are environmental taxes, technology standards etc.

3 Types Command and Control (CAC) or Environmental Regulations Market based instruments (MBI / EI) creating markets using existing markets Engaging the Public / Involving Participation

Number of criteria Static Cost Efficiency Is the PI least costly from firms point of view? Dynamic Cost Efficiency (AC/t) Does it give adequate incentive to a firm to continuously innovate so as to pollution? Goal Fulfillment Will the PI fulfill the goal for which it is intended? e.g., mercury reduction Administrative Costs What will be the administrative costs of implementing?

Criteria contd. Barrier to Entry Will the implementation of PI create barriers for entry of new firms
e.g., standards are usually for newer firms/units, thereby protecting older plants. Older vehicles not covered under EURO II norms.

Polluter Pays Principle Is the polluter paying for the externality? Politics of Implementation (Acceptability) Is it acceptable to all the parties concerned?

Command and control

Market based

Technology and Standard specifications Licenses and Registration Legislation

Clear outcomes

Taxes Subsidies Charges Trading schemes Voluntary agreements Informative measures

Advantages Flexibility in regulating complex environmental processes Greater certainty in how much pollution will result from regulation Simplifying monitoring of compliance with a regulation

Limitations High Information costs Reduced incentives to find better Ways to control pollution Weak incentives for innovation Difficulty in satisfying equimarginal principle Polluter pays only for pollution Control and not the residual damage from the pollution that is still emitted after controls are in place

Advantages
Informational requirements are less significant Provides an incentive for a Polluter to innovate Involve polluter paying for Control costs and damage Can be applied widely (even with SMEs) Least cost solution Flexibility to make improvement when & where necessary Equimarginal principle holds

Limitations Tax
A blunt instrument & may result in modest environmental improvement Does not guarantee an environmental outcome Long lead times & high rates may be needed before prices affect behavior
Tradable permits

Complexity Anticompetitive behavior Less suitable for smaller firms

All these problems Overall Failure. Situation not specific to India - Common to other developing countries e.g., Philippines, Indonesia Failure of formal regulation Fresh thinking Information disclosure & rating as the tools for industrial pollution control Third wave of environmental policy (Tietenberg, 1998)

Advantages Can achieve higher Commitment from the parties Involved than an imposed Requirement Can be good for negotiating Enhancements above a legislative minimum Can secure early buy-in-before formal regulation is required

Disadvantages Not usually appropriate for managing serious risks For sectors dominated by SMEs May be required to set up the agreement Significant difficulties in communication & enforcement Unlikely to be successful unless effective penalties are in place to deal with under performance

Informative measures
Advantages Flexible tools which can be developed to address Issues as they arise Programs may involve Two-way communications Resulting in sharing of Knowledge between firms and the regulator Best ways to influence the behavior of SMEs Disadvantages

To be effective programs May require substantial Resources Initiative can raise expectations of the input by the regulator

Applicability of instruments
Command and control
Applicable for a wide range of environmental objectives particularly suited to address localised issues such as air, water and ground water pollution and controlling noise and odour Required to underpin other instruments such as trading and voluntary agreements to backstop prevent free riders Trading schemes also require regulatory regimes to describe And prescribe the boundaries and mechanisms of operation

 Most appropriate where the target sector can switch to alternative, readily available, less polluting practices or goods Works best when relatively modest price signals will have a significant impact on the market When simple broadly applicable rules can be applied avoiding multiple exemptions, discounts or special

Trading schemes applicability

Appropriate where there is a range of options to achieve environmental improvement at a range of costs so that operators are able to choose the best option for their situation Most suitable for environmental objectives that are global in impact such as GHGs Schemes require the traded item to be measurable This allows the validation of initial allocations and subsequently reported data Trading is effective where there is high liquidity

 Most suitable in industries where a small number of relatively major companies with the ability to deliver performance agree to achieve a small number of clearly identifiable outcomes Useful to have a trade offs in the form of lighter touch regulation vs. regulatory requirements Adds to the motivation to achieve the targets in the negotiated agreement

 Relevant especially for new initiatives Or where direct regulation does not apply When the target audience are diffuse When there are sector specific issues that are quite different to the general situation

Public Disclosure / Ratings - MEP

Benefits of Ratings.
Citizens - improved information for better negotiation Stockmarkets - improved valuation Regulator - Boosts credibility Firms - pro-active approach (PROPER; GRP; Eco-watch)

Gold

World Class clean technology Waste minimization & polln prevention measures

Green > legally required standards for env. Protection Good maintenance and environmental work Blue Red At legally required standard < legally required standards

Black Serious environmental damage no polln

Change in firms ratings because of PROPER

Rating Gold Green Blue Red Black Total June 1995 0 5 61 115 6 187 Dec. 1995 0 4 72 108 3 187 Dec. 1996 0 5 94 87 1 187 Change (%) 0 0 54% - 24% - 83%

Instruments used for industrial pollution

Subsequent examples show the relevance of pure transport policies. Examples of Singapore Norway and California, US

 Land Zoning (Minimises the need for X-portation of both people & goods.) Good Public X-portation Parking Fee actively differentiated Strict Fuel standards - Lead phase out & Sulphur Strict Vehicle Standard and Inspection & Maintenance standards are enforced Off-peak car scheme reduces fees somewhat for vehicle use only on weekends (and some other nonpeak days). (Identification of off-peak vehicles by red license plates)

Transport Management in Singapore

 Import duties for cars and Registration fees are extremely high (This discourages the ownership of personal vehicles). Fees are reduced when a new car replaces an old one. Under Vehicle Quota system - potential car owners must purchase a vehicle entitlement at a monthly auction (86,831 COE for 2001-02). Note: If de-registration then no. of COE Electronic Road pricing charges motorists for road use according to vehicle, time of day and target level of congestion. In 1998 - system was automated with introduction of smart cards (Allows electronic payment and avoid toll delays)

X-port Management in Singapore Contd.

Toll Fees in Different zones Singapore (US $)

Evidence: Road Pricing in Norway

Norway has road pricing in three of its largest cities Oslo, Bergen and Trondheim In 1991 - Trondheim (3rd largest city) with a population of 1,40,000 implemented a Toll Ring around the city - used by entering motorist Frequent drivers use electronic card and infrequent drivers use coin machines. High Rates during 6.00-10.00 a.m. Traffic by 10% during rush hours, while trips at other times Revenues used for Road infrastructure, public Xport, and pedestrian & bicycle facilities.

Evidence: Congestion Pricing in California

To decrease congestion, a congestion toll is established on two of the six lanes in each direction of State Route 91 in California. The lanes were opened on December 27, 1995 Differential Tolls varying from 75 cents to 3 $. No toll on High Occupancy Vehicle (HOV) - vehicles that carry 3 or more people (Similar to Micro-buses in Kathmandu).

Differential Toll Schedule in California

Benefits of congestion pricing in California

In 1997, Average daily weekday traffic (ADT) in toll lanes approached 30,000 vehicles (13% of total ADT). In six months after opening the express lanes, the typically peak trip delay on the freeway from 30-40 minutes to 10 minutes. Besides reducing congestion, it facilitated to meet air quality and energy conservation goals.

Traffic Management in an intersection

Instruments to curb vehicular Pollution MBI CAC Instruments

Type
Engine/ Vehicle

Direct
Emission Fees (4)

Indirect
Tradable Permits (4)

Direct
Emission Standards e.g., EURO I, II (2) Technology Standards, e.g. Catalytic Converters (3)

Indirect
Compulsory Inspection and Maintenance of emission control system e.g., PUC (4) Mandatory Use of less polluting vehicles / change in engines e.g., gasoline to CNG (2) Compulsory Scrappage (0)

Differential Vehicle Taxation (1) Tax allowance for new vehicles (1)

Fuel

Differential Fuel Taxation (1) High Fuel Taxes (1)

Fuel Composition e.g. Pre-mixed 2T (1) Phasing out of high Polluting Fuels e.g., Unleaded petrol (1) Physical Restraint of Traffic (4) Designated Routes (4)

Fuel Economic Standards (1)

Speed Limits (4)

Traffic

Auctioning traffic routes e.g. Chile (4)

Congestion Charges e.g., in Singapore (4) Parking Charges (4) Subsidies for less Polluting Modes (0)

Restraint on Vehicle Use e.g., in Singapore, Mexico (0) Lanes for buses, 2-wheelers and cars etc. (4) Better Public Transport (0)

Gap between Europe and India w.r.t. EURO Norms

Three Major Pollution Sources in general Stationary or Point e.g., from Industries Non-stationary or Mobile or non-point e.g., from vehicles, farms etc. Indoor air pollution

Emission Sources from Vehicles

Three Major Emission Sources in general Emission from Gasoline Vehicles (2-stroke / 4-stroke) Emission from Diesel Vehicles Impact of fuel quality on emissions

Emission from Gasoline Vehicles

2-stroke engine requires 2% concentration of 2T oil. A modest 1% increase of oil may lead to 15% in SPM besides visible smoke (CPCB, 1999). Controlling pollution from them can generate significant environmental benefits. Mandating USE of 2T Oil (CAC) can be one instrument - e.g., in India

Emission from Diesel Vehicles

Smoke from diesel vehicles:
White smoke (due to cold start idling and at low loads) Blue smoke (burning of lubricating oil and additives) Black smoke (a result of incomplete combustion and consists of fine soot/particulates)

Black smoke is problem with engines not well tuned Proper and Regular maintenance of diesel vehicle Black smoke Mandating Regular maintenance (CAC) can be another instrument.

Impact of fuel quality on emissions

In diesel vehicles - a high density causes smoke, CO and NOx emissions. in Cetane number (i.e, measure of ignition quality of diesel) smoke emissions. Sulphur content of diesel SPM and SO2 emissions. Mandating low sulphur diesel or fuel with high centane number (CAC) can be other instruments.

 There are three stages through which vehicular emissions can be controlled
Stage I - Pre-combustion stage - where quality of fuel can be upgraded. Stage II - Combustion stage - where engine modifications are required. Stage III - Post-combustion stage - where exhaust treatment devices like catalytic converters are required.

 As a consequence the policy

instruments can be oriented at any of these stages and can be directed towards * Producers (vehicle or fuel) or * Dealers (petrol pump /vehicle dealers)

Besides there are non-technical instruments that can be aimed at Consumers They may require behavioural adaptations in the mode of transport (from car to bus)
Stage 0

or necessitate periodic maintenance check to minimize pollution levels

Stage IV

Instruments to curb vehicular Pollution MBI CAC Instruments

Type
Engine/ Vehicle

Direct
Emission Fees (4)

Indirect
Tradable Permits (4)

Direct
Emission Standards e.g., EURO I, II (2) Technology Standards, e.g. Catalytic Converters (3)

Indirect
Compulsory Inspection and Maintenance of emission control system e.g., PUC (4) Mandatory Use of less polluting vehicles / change in engines e.g., gasoline to CNG (2) Compulsory Scrappage (0)

Differential Vehicle Taxation (1) Tax allowance for new vehicles (1)

Fuel

Differential Fuel Taxation (1) High Fuel Taxes (1)

Fuel Composition e.g. Pre-mixed 2T (1) Phasing out of high Polluting Fuels e.g., Unleaded petrol (1) Physical Restraint of Traffic (4) Designated Routes (4)

Fuel Economic Standards (1)

Speed Limits (4)

Traffic

Auctioning traffic routes e.g. Chile (4)

Congestion Charges e.g., in Singapore (4) Parking Charges (4) Subsidies for less Polluting Modes (0)

Restraint on Vehicle Use e.g., in Singapore, Mexico (0) Lanes for buses, 2-wheelers and cars etc. (4) Better Public Transport (0)

Source: Dasgupta, 2001

A person equates the marginal private costs of operating a vehicle with the benefits (s)he derives.

Costs, Benefits
Pa Ta Traffic Volume Demand

Marginal Private Costs

Marginal Social Costs Marginal Private Costs

Traffic Volume with only private costs = Ta (Pa) Traffic Volume with incl. of Social Costs = To (Po) Ta>To (Pa< Po)

Costs, Benefits

Po Pa Demand

To

Ta

Traffic Volume