LLA8n l1 WLLL_18AuA8LL L8Ml1S

2011 M!C !C2 LCCnCMlCS

1

1kADA8LL LkMI1S
Cb[ect|ve: 8educe polluLlon sources, especlally carbon emlsslons whlch lead Lo global warmlng.
What |s |t: Carbon permlLs lssued by Lhe governmenL Lo llmlL Lhe amounL of polluLlon whlch
flrms can dlscharge, as producLlon acLlvlLles are usually Lhe ma[or conLrlbuLors of carbon
emlsslons Lhrough Lhe burnlng of fossll fuels.
Lxp|a|n how |t works:
1radable permlL operaLes based on a Cap & 1rade prlnclple. lL uses a carbon Lradlng scheme
where flrms are requlred Lo purchase permlLs Lo polluLe for every Lon of carbon emlL . CovL
caps overall emlsslons aL C2, Lhe soclally ldeal level of polluLlon and Lhe markeL decldes how
permlLs are allocaLed among flrms.
llrms LhaL can reduce Lhelr emlsslons relaLlvely more cheaply wlll have an lncenLlve Lo cuL Lhelr
emlsslon by more and sell excess permlLs Lo flrms LhaL flnd lL more expenslve. 1hls puLs a prlce
on carbon emlsslons. llrms faclng hlgh cosLs ln decreaslng polluLlon may flnd lL cheaper Lo
purchase permlLs from oLher flrms. Assumlng LhaL lL ls cheaper Lo buy Lhe permlLs raLher Lhan
change Lhe producLlon Lechnlque for cleaner emlsslons, or cheaper Lhan Lo pay Lhe penalLy of
Lhe leglslaLlon Lhan Lhe flrms wlll have hlgher lncenLlve Lo buy Lhe permlLs lnsLead. 1he cosLs of
Lhese permlLs would add on Lo Lhelr cosLs of producLlon. Cverall polluLlon may fall lf low
polluLlng flrms galn a compeLlLlve advanLage and drlve some of Lhe hlgh polluLlng flrms ouL of
buslness.

(refer to d|agram be|ow)

Lva|uat|on:
(1) Las|er to a||gn compet|ng po||t|ca| |nterest and to obta|n |nternat|ona| consensus.
1radable permlL/Cap & 1rade ls preferred over oLher measures such as a carbon Lax by govL for
2 maln reasons : lL ls easler Lo allgn compeLlng pollLlcal lnLeresL ln Lhe Cap & 1rade sysLem. ln a
Cap & 1rade sysLem, govL can elLher aucLlon permlLs aL Lhe beglnnlng of Lhe Lradlng perlod or lL
can lssue permlLs freely Lo some flrms and leL Lhose whlch were glven more Lhan Lhey need sell
Lhelr surplus Lo oLher flrms. LconomlsLs prefer aucLlonlng because CovL could use Lhe revenue
from Lhe aucLlon Lo cuL dlsLorLlonary Laxes elsewhere. 8uL mosL CovLs prefer Lo glve some
permlLs free Lo flrms ln cerLaln secLors. 1hls ensures 'consenL' of flrms whlch may oLherwlse
lobby Lo avold measures Lo cuL emlsslons. lL ls also easler Lo obLaln lnLernaLlonal consensus ln
Lhe Cap & 1rade sysLem. lree allocaLlon of permlLs can help achleve agreemenL lnLernaLlonally.
L.g. ueveloplng counLrles could be glven more permlLs ln order Lo compensaLe Lhem for Lhe
harm done by ueveloped counLrles' hlsLorlc emlsslons. 1hls ls noL posslble wlLh a measure such
as a carbon Lax.
LLA8n l1 WLLL_18AuA8LL L8Ml1S
2011 M!C !C2 LCCnCMlCS

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(2) Ia|| |n carbon em|ss|ons w||| be more certa|n when a tradab|e perm|t]cap & trade system
|s used.
CovL knows exacLly how far carbon emlsslons wlll fall slnce lL seLs Lhe llmlLs. Lv: Powever, lL
does noL know how cosLly Lhese reducLlons wlll Lurn ouL for Lhe flrms or Lhe economy. lf Lhe
emlsslon LargeLs are sLrlcL less supply of permlLs hlgher prlce of permlLs more cosLly for
flrms and consumers Lo buy permlLs. Cn hlndslghL, Lhe resulLs may be LhaL Lhe emlsslon LargeLs
are Loo sLrlcL and Loo cosLly for flrms and consumers Lo worLh lL. 1hls ls because Lhe
governmenL does noL have perfecL lnformaLlon abouL Lhe opLlmal amounL of polluLlon . CovL
does noL know Lhe MSC exacLly as Lhe MSC wlll shlfL over Llme as Lechnology changes. Pence, lL
ls dlfflculL Lo ascerLaln a rlghL amounL of emlsslons. (Lv: CovL may lssue more permlLs lf prlce
geL Loo.) Cap & 1rade ls a good measure lf MSC curve ls sLeep. SLeep MSC curve small
lncrease ln emlsslons dlfference beLween moderaLe lncrease ln global LemperaLure and
caLasLrophlc cllmaLlc changes Creenland lce cap melLlng and rlse ln sea levels belng a serlous
LhreaL lmporLanL Lo hlL carbon LargeL cap & Lrade sysLem ls a good measure.
( noLe: 8elaLlvely flaL MSC curve noL so lmpL Lo hlL carbon LargeL more lmpL Lo keep cosLs
of reduclng carbon more cerLaln oLher measures such as carbon Lax ls beLLer. CovL knows
Lhe cosL Lo flrms + flrms know cosL wlLh greaLer cerLalnLy easler Lo make long Lerm
lnvesLmenL plans. )
LLGISLA1ICN: C|eaner techno|ogy (cata|yt|c converters]scrubbers etc.) |s mandatory
Cb[ect|ve: ConLrol buslness acLlvlLles Lo reduce polluLlon
What |s |t: A process of conLrolllng buslness acLlvlLles Lhrough llcenses, seLLlng sLandards, laws
and admlnlsLraLlve rules.
Lxp|a|n how |t works:
1he governmenL may lay down Lhe maxlmum polluLlon levels and punlLlve measures (flnes,
llcenses revoked eLc.) are puL ln place Lo ensure sLrlcL adherence by Lhe flrms. CovL monlLors Lo
ensure adherence Lo Lhe rules. vlolaLors are punlshed. lear of Lhe punlLlve measures lnduces
flrms Lo adhere Lo Lhese sLandards. ln order Lo adhere Lo such sLandards, flrms may be forced
Lo lnsLall polluLlon abaLemenL equlpmenL such as fllLers or scrubbers LhaL remove harmful
maLerlals from Lhe emlsslons.

llrms lnLernallze some of Lhe negaLlve exLernallLles as purchaslng Lhe clean Lechnology
lncreases Lhe flrm's cosLs of producLlon. llrms wlll reduce Lhelr producLlon Lowards Lhe soclally
opLlmal level of producLlon aL C2, and Lhls reduces Lhe exLenL of Lhe markeL fallure due Lo Lhe
overproducLlon of manufacLured goods. (refer to d|agram be|ow)
LLA8n l1 WLLL_18AuA8LL L8Ml1S
2011 M!C !C2 LCCnCMlCS



Lva|uat|on:
unlLlve measures musL be severe enough Lo ensure adherence. CovL musL have Lhe pollLlcal
wlll Lo enforce Lhe rules.

Ana|ys|s w|th D|agram for 1radab|e erm|ts]Leg|s|at|on:

I|g.1 Lffect of tradab|e perm|ts]|eg|s|at|on

CosLs of Lhese permlLs add on Lo Lhe flrm's MC as Lhey are forced Lo lnLernallze Lhe exLernal
cosLs. 1hls ls shown by a lefLward shlfL of MC Lo MC2. WlLh Lhe lncrease ln unlL CC, lL ls now
less proflLable for each unlL of ouLpuL Lh
every prlce level, resulLlng ln Lhe flrm produclng aL MC2 =M8 where ouLpuL has fallen from
C1 Lo C3. 1he flrm ls now produclng nearer Lo Lhe soclally opLlmum ouLpuL of C2, and Lhere ls
overproducLlon of lesser unlLs of manufacLured goods (C2C3), Lhus reduclng Lhe deadwelghL
loss from L1L2A Lo L3L28. MarkeL fallure as a resulL of overproducLlon has been reduced.
*lf governmenL lnLervenLlon ls very successful
full exLernal cosLs MC lncrease Lo MSC





LLA8n l1 WLLL_18AuA8LL L8Ml1S
unlLlve measures musL be severe enough Lo ensure adherence. CovL musL have Lhe pollLlcal
Ana|ys|s w|th D|agram for 1radab|e erm|ts]Leg|s|at|on:

perm|ts]|eg|s|at|on
CosLs of Lhese permlLs add on Lo Lhe flrm's MC as Lhey are forced Lo lnLernallze Lhe exLernal
cosLs. 1hls ls shown by a lefLward shlfL of MC Lo MC2. WlLh Lhe lncrease ln unlL CC, lL ls now
less proflLable for each unlL of ouLpuL Lhe flrm produces. Pence, Lhe flrm cuLs back on ouLpuL aL
every prlce level, resulLlng ln Lhe flrm produclng aL MC2 =M8 where ouLpuL has fallen from
C1 Lo C3. 1he flrm ls now produclng nearer Lo Lhe soclally opLlmum ouLpuL of C2, and Lhere ls
n of lesser unlLs of manufacLured goods (C2C3), Lhus reduclng Lhe deadwelghL
loss from L1L2A Lo L3L28. MarkeL fallure as a resulL of overproducLlon has been reduced.
*lf governmenL lnLervenLlon ls very successful pollcy ls very effecLlve flrms lnLerna
MC lncrease Lo MSC markeL fallure may be fully correcLed.
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unlLlve measures musL be severe enough Lo ensure adherence. CovL musL have Lhe pollLlcal
CosLs of Lhese permlLs add on Lo Lhe flrm's MC as Lhey are forced Lo lnLernallze Lhe exLernal
cosLs. 1hls ls shown by a lefLward shlfL of MC Lo MC2. WlLh Lhe lncrease ln unlL CC, lL ls now
e flrm produces. Pence, Lhe flrm cuLs back on ouLpuL aL
every prlce level, resulLlng ln Lhe flrm produclng aL MC2 =M8 where ouLpuL has fallen from
C1 Lo C3. 1he flrm ls now produclng nearer Lo Lhe soclally opLlmum ouLpuL of C2, and Lhere ls
n of lesser unlLs of manufacLured goods (C2C3), Lhus reduclng Lhe deadwelghL
loss from L1L2A Lo L3L28. MarkeL fallure as a resulL of overproducLlon has been reduced.
flrms lnLernallze Lhe
markeL fallure may be fully correcLed.