Permits and the U.S. Acid Rain Program (ARP)

Acid Rain• Caused primarily by SO2 and Nox, which is

generated largely by coal fired plants• Harmful to trees, crops, and people (and

statues)

How we reduced it• Title IV of the 1990 Clean Air Act– The Sulfur Allowance Program

• National cap and trade (permits)• Legal allowances which allow owner to pollute a certain

amount (1 ton per permit)• Allowances can be bought or sold without restriction

anywhere in the US

– Program intended to cut sulfur dioxide and nitrous oxide emissions to half of their 1980 levels. Starting in 1995 all powerplant emissions were constantly monitored ($100,000 annual costs/unit).• 100% compliance from utilities

Why not command and control?• Simplest to implement – everyone reduces by a

set percent or amount (regardless of costs).• People/firms respond to incentives– With proper incentive structure in place, all firms

will choose to reduce pollution as long as the costs of abatement (reduction) < costs of polluting.

– Firms that find it less costly to reduce, reduce by more.

– Firms that find it more costly to reduce, reduce by less.

• Can achieve same reduction in pollution at lower cost to society!

Why not command and control?• Consider:– 10 small firms, producing 10 tons of emissions, costs of

abatement is $500/ton.– 5 large firms, producing 20 tons of emissions, costs of

abatement is $1,000/ton.– Efficient level is 100 tons.

• Command and control says all firms must reduce by 50%. Total cost is:– Small firms: $500/ton*5 tons*10 firms = $25,000– Large firms: $1,000/ton*10 tons*5 firms = $50,000

• $75,000 total• What’s a cheaper option?

Proof that permits are better• What if small firms reduced to zero?• $500/ton*10 tons*10 firms = $50,000• Same outcome (reduce by 100 tons) but

society saves $25,000• Unfair to tell all small firms to reduce to zero,

allow large firms to pollute.• Can arrive at that outcome without telling any

firm what to do through taxes (price restriction) or permits (quantity restriction)– Permits can be bought and sold among polluters.– Those that find it less costly reduce by more – sell

permits to those that find it more costly to reduce.

How permits work• What if gov’t provides 100 transferable permits to

small firms (abatement costs=$500/ton)• Would be willing to sell if they get at least $500 for

each permit (Sell Price>abatement costs).• Large firms are willing to buy if costs less than

$1,000/permit (Buy Price<abatement costs).• If price = $750 - large firms buy all 100 permits, small

firms reduce to zero; exactly what we wanted to happen.– Any transaction with price between $500 and

$1,000 is mutually beneficial.• What if all 100 permits given to large firms… • Does not matter how they are initially distributed!

Acid Rain Program History• Allowances were given to utilities rather than sold

(no way auction could pass Congress).• Allowances could be used or banked for use in future

years (or sold to other firms)– Important to have firms invested in the program for it to

succeed.• Done in two phases– In the early 1990s, analysts expected prices to be about

$250-350/ton in Phase I and $500-$700 in Phase II (generally under that price).• Initial permits went for $63.• Suggests abatement costs were lower than expected (innovation)

Price history

The effects of banking allowances• 2 million more permits were purchased in 2010

than total emissions.• Some purchased by environmental groups

(why?), others by investors (why?).• Most purchased by energy companies.– Can use them or sell them later– Know emissions will be higher later.

• If 1,000 permits are sold from American Electric Power to Ohio Valley Electric Corp for $100/permit, what do we know is true?

Has it worked?

• Yup.

SO2 Emissions, 1980 - 2007

NOx Emissions

Recently…• The price of a permit has been below $1.00

for the past 3 years. Went for as low as $0.17 this year. Why so low?

Specifics

• http://www.epa.gov/airmarkets/progress/ARP_1.html

• http://www.epa.gov/airmarkets/trading/2012/index.html

Studies suggest…• Cost savings from trading increased over time.– 13 – 37% of compliance costs by 2005.• Approximately $400 million

• Trading resulted in health related benefits nationally of nearly $570 million in 1995 and about $125 million in 2005.– Why?http://ch.lumina.com/uploads/

main_images/The%20Effects%20of%20Trading%20and%20Banking%20in%20SO2%20Allowance%20Market.pdf

• Electric costs didn’t increase as a result.

What about Carbon?• Environmental Economics – SP 2015

Air Quality in Ohio/Youngstown

• Ohio:– http://wwwapp.epa.ohio.gov/gis/mapportal/

• Youngstown:– http://www.mahoningvalleyair.org/

Breathe in fresh air!

International situation• Air quality has improved substantially in

virtually all developed countries over last 3 decades.

• Air quality has gotten much worse in most developing countries (especially India and China):

• http://www.youtube.com/watch?v=-1DNjJd2YfA• http://www.huffingtonpost.com/2012/03/02/china-air-quality-standards_n_1315874.html?

ref=green