Externalities and the environment

Public sector solutions to externalities

Externalities and the environment Public sector solutions to externalities

DEFINITION OF TERMS
Externalities- are actions of an individual or firm that have an effect on another individual or firm for which the latter does not pay or is not paid
Incentives (economic)- policy instruments that provide continuous inducements, financial or otherwise, to sources of pollution to reduce their releases of pollutants or make their products less polluting. Private costs- the cost of providing goods or services as it appears to the person or firm supplying them. It excludes any external harm caused to other people or the environment Social costs - the total cost of any activity. This includes not only private costs, but also external costs, which fall on other people, who are not able to exact any compensation for them
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Externalities and the environment Public sector solutions to externalities

FALLACY or TRUTH
An individual or firm should never be allowed to impose a negative externality on others.
There is a SOCIAL COST associated with negative externality (pollution), but its cost is FINITE. The task of government is to help the private sector achieve the socially efficient level of pollution, to make individuals and firms act in such a way that they are induced to take into account the effects of their actions on others.

Externalities and the environment Public sector solutions to externalities

Public sector solutions to environmental externalities:

market-based solutions which attempt to influence incentives to ensure economically efficient outcomes
Fines & taxes Subsidies for pollution abatement Marketable permits

Direct regulation to limit externalities (mandatory emissions standards for automobiles)

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Externalities and the environment Public sector solutions to externalities

Public sector solutions to environmental externalities:

Inducing innovation by imposing extremely stringent standards (cars must get at least 40 miles per gallon) Information disclosure to create pressure for the public to produce products with less external effect

Externalities and the environment Public sector solutions to externalities

Price Demand

Marginal social cost (including marginal cost of pollution)

MARKET-BASED SOLUTIONS Market Equilibrium With and Without Fines

Private MC E C

In the absence of a tax on Pollution tax per pollution, firms will set price unit = MC of equal to private MC.
pollution A

There will be excessive production, Qm.

Qm
Output of steel

Qe

By setting a tax equal to the marginal pollution cost, efficiency is obtained.

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Externalities and the environment Public sector solutions to externalities

A properly calculated fine or tax presents the individual or firm with the true social costs and benefits of its action. Fines of this sort, designed to make: marginal private cost equal marginal social cost marginal private benefits equal marginal social benefits are called CORRECTIVE TAXES or PIGOUVIAN TAXES.
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Externalities and the environment Public sector solutions to externalities

Price for pollution (fine)

MC of pollution abatement

Marginal social cost of pollution (marginal benefits of pollution abatement)

MARKET-BASED SOLUTIONS Efficient Control of Pollution

The efficient level of pollution can be attained either: by charging firms a fine of f* per unit of pollution or by imposing a regulation that firms have a pollution abatement level P*.
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f*

P*

Level of pollution abatement

Externalities and the environment Public sector solutions to externalities

Price Marginal social benefit of pollution abatement Marginal private benefit of pollution abatement

MARKET-BASED SOLUTIONS Pollution Abatement Subsidy

S U B S I D Y

By subsidizing the purchase of pollution Marginal cost abatement equipment of pollution abatement (by the difference b/n:
marginal social benefit of pollution abatement and marginal private benefit),

Qe

Quantity of pollution abatement equipment per unit output

an efficient level of expenditure on pollution abatement can be attained.

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Externalities and the environment Public sector solutions to externalities

Price Marginal social cost before subsidy

Marginal social cost after subsidy Marginal private cost before subsidy Marginal private cost after subsidy (for pollution abatement)

MARKET-BASED SOLUTIONS Market Equilibrium with Pollution Abatement Subsidies

Even after the pollution abatement subsidy, the equilibrium level of output of steel is still inefficient. The firm fails to take into account the extra costs of public subsidies for pollution abatement associated with increased output of steel as well as the marginal social cost and remaining pollution.
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Marginal benefits (demand curve)

Qe Efficient level of output with no subsidy

Qo Efficient level of output with subsidy

Qm

Qs Output after subsidy Output of steel

Output before subsidy

Externalities and the environment Public sector solutions to externalities

MARKETABLE PERMITS
An increasingly popular market-based solution involves marketable permits, which limit the amount of pollution that any firm can emit. Under this system, firms will be willing to: Sell permits so long as the market price is greater than the MC of reducing pollution Buy permits so long as the market price is smaller than the MC of reducing pollution. In equilibrium each firm will reduce pollution to a level such that the MC of pollution is equal to the market price of the permit.
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Externalities and the environment Public sector solutions to externalities

DIRECT REGULATION TO LIMIT EXTERNALITIES

Most economists believe that market-based solutions provide the most promise for curbing environment externalities,
BUT government traditionally has relied upon direct regulations: Performance based regulation that focuses on final outcome (on automobile emissions) Input regulations (focused on standards, practices and inputs) which result in inefficiency.
Provides greater certainty, strong incentives to meet the regulatory standards, but no incentive to reduce pollution below the standard, regardless how low the cost is to do so
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Externalities and the environment Public sector solutions to externalities

INNOVATION
Do firms need to be forced to innovate? If government believe that, for example imposing taxes on fuel will not suffice in order to reduce pollution, they might try to induce innovation by imposing environmental standards Example: Standard for carbon dioxide emission for cars In practice, the success of this strategy has been mixed.

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Externalities and the environment Public sector solutions to externalities

INFORMATION DISCLOSURE
The government require firms to disclose how the firms product may harm, for example, the environment The intention of the information is to create pressure from the public to produce products with less external effects Example: information about dangerous chemicals or information about the effect of the global warming

But sometimes people will just put enormous pressure on the firm to eliminate the chemical if listed as dangerous without any assessment of the costs or benefits of doing so.
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Externalities and the environment Public sector solutions to externalities ASSESSING ALTERNATIVE APPROACHES TO CONTROLLING EXTERNALITIES
PERFORMANCE-BASED
More efficient when performance can be measured

INPUT-BASED
Costs of monitoring inputs may be lower

REGULATIONS
Provide greater certainty, strong incentives to meet the regulatory standards, but no incentive to reduce pollution below the standard, regardless how low the cost is to do so

MARKETABLE PERMITS

FINES
-fine related to costs of pollution provide appropriate incentives -but there may be greater uncertainty about the actual level of pollution

SUBSIDY FOR POLLUTION REDUCTION

Both can result in efficient reduction in pollution levels -Provide greater certainty about the level of pollution - faces difficult problems in allocating initial permit rights - further problem if the costs of pollution depend on where it occur Both can induce reductions in pollution levels and even achieve efficient levels of pollution abatement. But the level of production of the pollution-inducing industry will be too high, since the firm will not take into account full costs- including costs of pollution abatement. Firms prefer pollution abatement subsidies.

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Externalities and the environment

Protecting the environment: The role of the government in practice

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Externalities and the environment Protecting the environment: the role of the government in practice

PHILIPPINE ENVIRONMENTAL LAWS

Chain Saw Act of 2002 Republic Act No. 9175Philippine Plant Variety Protection Act of 2002 Republic Act No. 9168Mt. Kanla-on Natural Park (MKNP) Act of 2001 Republic Act No. 9154Wildlife Resources Conservation and Protection Act Republic Act No. 9147National Caves and Cave Resources Management and Protection Act Republic Act No. 9072Ecological Solid Waste Management Act of 2000 Republic Act No. 9003Philippine Clean Air Act of 1999 Republic Act No. 8749Implementing Rules & Regulations of the Philippine Clean Air Act of 1999Philippine Fisheries Code of 1998 Republic Act No. 8550Animal Welfare Act of 1998 Republic Act No. 8485Agriculture & Fisheries Modernization Act of 1997 Republic Act No. 8435The Indigenous Peoples Rights Act of 1997 Republic Act No. 8371An Act for Salt Iodization Nationwide (ASIN) Republic Act No. 8172Coconut Preservation Act of 1995 Republic Act No. 8048The Water Crisis Act of 1995 Republic Act No. 8041Philippine Mining Act of 1995 Republic Act No. 7942Amendment to the Agrarian Reform Code Republic Act No. 7907High-Value Crops Development Act of 1995 Republic Act No. 7900Strategic Environmental Planfor Palawan Act Republic Act No. 7611National Integrated Protected Areas System Act of 1992 Republic Act No. 7586Seed Industry Development Act of 1992 Republic Act No. 7308Tax Laws Incorporated in the Revised Forestry Code Republic Act No. 7161People's Small-Scale Mining Act of 1991 Republic Act No. 7076Toxic Substances & Hazardous & Nuclear Wastes Control Act of 1990 Republic Act No. 6969An Act Creating the Laguna Lake Development Authority (LLDA) Republic Act No. 4850 EXECUTIVE ORDER NO. 927 FURTHER DEFINING CERTAIN FUNCTIONS AND POWERS OF THE LAGUNA LAKE DEVELOPMENT AUTHORITY.LAGUNA LAKE DEVELOPMENT AUTHORITY RESOLUTION NO. 33 Series of 1996 APPROVING THE RULES AND REGULATIONS IMPLEMENTING THE ENVIRONMENTAL USER FEE SYSTEM IN THE LAGUNA DE BAY REGIONLanao del Sur National Parks Republic Act No. 4190National Water & Air Pollution Control Commission Act Republic Act No. 3931Prohibition Against Cutting of Trees in Public Roads, Plazas, etc.

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Republic Act No. 3571An Act Amending Section Thirty-Six of P. D. No. 705, Otherwise Known as "The Revised Forestry Code of the Philippines" Batas Pambansa Bilang 701An Act Amending R. A. No. 5474, As Amended by R. A. No. 6145 (Re: Prohibiting the Catching, Selling, Offering to Sell, Purchasing any of the Fish Species Called "Gobiidae" or "Ipon"). Batas Pambansa Bilang 58Withdrawal of Lead in Gasoline Presidential Decree No. 2001Small-Scale Mining Law Presidential Decree No. 1899Amendment to the Revised Forestry Code Presidential Decree No. 1775Environmental Impact Statement System Presidential Decree No. 1586Plant Quarantine Law of 1978 Presidential Decree No. 1433The Coral Resources Development & Conservation Decree Presidential Decree No. 1219Philippine Environment Code Presidential Decree No. 1152Philippine Environmental Policy Presidential Decree No. 1151The Water Code of the Philippines Presidential Decree No. 1067National Pollution Control Commission Presidential Decree No. 984Marine Pollution Decree of 1976 Presidential Decree No. 979Code on Sanitation of the Philippines Presidential Decree No. 856Penalty for Improper Garbage Disposal Presidential Decree No. 825Amending Certain Sections of (R.A. 4850), Otherwise Known as the "Laguna Lake Development Authority Act of 1966." Presidential Decree No. 813Revised Forestry Code of the Philippines Presidential Decree No. 705Philippine Fisheries Code of 1975 Presidential Decree No. 704Revised Coast Guard Law

Presidential Decree No. 601Pertaining to the Preservation, Beautification, Improvement and Gainful Utilization of the Pasig River, Providing for the Regulation and Control of Pollution of the River and Its Banks in Order to Enhance Its Development, Thereby Maximizing Its Utilization for SocioEconomic Purposes. Presidential Decree No. 274 EXECUTIVE ORDER NO. 54 CREATING THE PASIG RIVER REHABILITATION COMMISSION EXECUTIVE ORDER NO. 65 AMENDING EXECUTIVE ORDER NO. 54, SERIES OF 1999 An Act to Reserve to the Philippine Legislature the Disposition of the Waters of the Public Domain for the Utilization and Development of Hydraulic Power. Act No. 4062The Fisheries Act Act No. 4003An Act to Protect Wild Flowers and Plants in the Philippine Islands and to Prescribe Conditions Under Which They May be Collected, Kept, Sold, Exported, and for Other Purposes. Act No. 3983Prohibition Against Cutting of Tindalo, Akli & Molave Trees Act No. 3572Guidelines on Biological & Genetic Resources Eexecutive Order No. 247 [1995]) - President Fidel V. RamosTask Force Pawikan Executive Order No. 542 (President Ferdinand E. Marcos)Environmental Impact Statement System Areas/Types of Projects Proclamation No. 2146Subic Watershed Forest Reserve Law Proclamation No. 926 (President Corazon C. Aquino)Quezon National Park - Proc. No. 740|Proc. No. 594|Proc. No. 2Preferential Treatment of Small Fisherfolks [15-km.Mun. Water] DENR Administrative Order No. 03Regulations for the Conservation of Marine Turtles Bureau of Forest Development Circular No. 08

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