Experience with Market-Based Environmental Policy Instruments

Abstract

Environmental policies typically combine the identification of a goal with some means to achieve that goal. This paper, prepared as a chapter draft for the forthcoming Handbook of Environmental Economics, focuses exclusively on the second component, the means--the instruments--of environmental policy, and considers, in particular, experience around the world with the relatively new breed of economic-incentive or market-based policy instruments. I define these instruments broadly, and consider them within four categories: pollution charges; tradable permits; market barrier reductions; and government subsidy reductions. By defining market-based instruments broadly, I cast a large net for this review of applications. As a consequence, the review is extensive. But this should not leave the impression that market-based instruments have replaced, or have come anywhere close to replacing, the conventional, command-and-control approach to environmental protection. Further, even when and where these approaches have been used in their purest form and with some success, such as in the case of tradeable-permit systems in the United States, they have not always performed as anticipated. In the final part of the paper, I ask what lessons can be learned from our experiences. In particular, I consider normative lessons for: design and implementation; analysis of prospective and adopted systems; and identification of new applications.