Tradable permit schemes for congestible facilities with uncertain supply and demand

Abstract

It is well known that price and quantity regulation are not equivalent under uncertainty. This asymmetry has been a factor in the debate about whether to use taxes or Tradable Permit Schemes (TPS) for controlling greenhouse gas emissions. We analyze the allocative efficiency of a TPS for a congestible facility such as an airport, a road, a recreational area, or a museum that experiences supply and demand shocks. The number of permits issued cannot depend on the state. We compare the efficiency of a TPS and a congestion fee when the level of the fee is similarly constrained to be the same across states. When demand and cost curves are linear, a fee outperforms a TPS for several combinations of additive and/or multiplicative demand and cost shocks. More generally, the ranking depends on the nature and magnitude of demand and cost shocks, the elasticity of the cost function, and whether or not the permit requirement always binds. A TPS tends to perform well when first-best usage levels are similar across states. Analogously, a fee is relatively efficient if first-best fees are similar across states.