2.2 Regulation
The use of regulatory mechanisms is very common in environmental policy. For example, legislation or a rule might specify the maximum amount of SO2 that a factory can emit over a given period of time. In Figure 1 we represent aggregate pollution as QR. The regulation is not efficient because MB > MD. Information on marginal costs is necessary to setting an efficient regulation.
Regulations can be expressed in many ways. For example, a regional rule might require the use of “best available technology” (BAT) coupled with an emissions reduction target. Figure 2 shows the status quo level of emissions reduction is ES. Let us assume that the rule requires a BAT such that ER is achieved. There are many ways to control pollution and we should be concerned that the least cost available technology (LCAT) a term that also includes technique and management. If LCAT is not used then X-inefficiency (labelled a) exists and the industry is paying a higher cost than necessary per unit of emission reduction.[3] Relative to the efficient level of pollution reduction, there are two costs: unnecessary costs associated with the use of BAT and the cost (b) of not specifying the optimum (E*) correctly (Pearce, 2000).
Many governments throughout Asia have opted for CAC over the use of MBIs. Weak enforcement and widespread exemptions have resulted in declining environmental quality (Markandya, 1998). The ratio of proposed cost to least cost reductions in air pollution emissions (particulates and SO2) is 10 for the People’s Republic of China and 3 for India. In the case of achieving water quality targets in the People’s Republic of China (reducing total suspended solids, chemical oxygen demand and biological oxygen demand) annual cost savings of 70 % are achieved relative to regulation. Table 1 provides more evidence on the ratio of CAC to least cost. The studies are somewhat dated but nevertheless illustrate the potential magnitude of losses to the economy. For example, a ratio of 6:1 tells us that the total cost of a CAC regulation is six times more expensive than the least cost approach. This suggests that resources allocated to pollution abatement could be released for use elsewhere in the economy.
The cost of pollution regulation is often difficult to determine. McClelland and Horowitz (1999) estimate the marginal cost of pollution abatement for pulp and paper plants in the US. Pulp and paper is the largest water polluting industry. Actual emissions of biochemical oxygen demand were found to be about 50% of the amount allowed under the Clean Water Act. Why industry incurs the additional costs is not known, although uncertainty and non-smoothness in production are likely causes. Industry attributes the over-compliance to its “good neighbour” policy.
| Study and Year | Pollutants | CAC Benchmark | Ratio – CAC to least cost |
|---|---|---|---|
| Atkinson and Lewis (1974) | Particulates | State plan | 6.00 |
| Roach et al (1981) | SO2 | State plan | 4.25 |
| Hahn and Noll (1982) | Sulphates | State plan | 1.07 |
| Krupnick (1983) | NO2 | Standard | 5.96 |
| Seskin et al (1983) | NO2 | Standard | 14.40 |
| McGartland (1984) | Particulates | State plan | 4.18 |
| Spofford (1984) | SO2 | Uniform % reduction | 1.78 |
| Particulates | Uniform % reduction | 22.0 | |
| Maloney and Yandle (1984) | Hydrocarbons | Uniform % reduction | 4.15 |
Source: Tietenberg 1996
Notes
- [3]The term X-inefficiency is derived from Leibenstein (1966).
