Political Economy of Instrument Choice

Abstract

The aim of the literature on the political economy of instrument choice is to provide insights into real-world instrument choices and to explain when and why particular types of instruments, such as quotas, standards, rules, pollution taxes, tradable permits, etc., are adopted to control environmental pollution and other externalities. The instrument choice is viewed as the outcome of a rational political decision-making process where the interests of voters, politicians, special-interest groups, and bureaucrats are traded off and mitigated. Much of the literature emphasizes that well-organized polluter special-interest groups play a dominating role. This is suggestive of a strong political bias against pollution taxes, tradable permits, and other incentive-orientated instruments but the suggestion is challenged by the increasing popularity of these instruments observed in recent decades in Europe (e.g., green-tax reforms in many countries and the European Union's market for greenhouse gas emission permits), in the United States (e.g., the Acid Rain Program) and elsewhere (e.g., the congestion-charging scheme in Singapore). More ambitious environmental goals, increasing marginal cost of public funds, and a greater emphasis on buying political acceptability through revenue recycling and free allocation of tradable permits provide some tentative answers to this challenge.