Managing Pollution Risk Through Emissions Trading

FCN Working Paper No. 1/2012

45 Pages Posted: 18 Jun 2012

See all articles by Gaurav S. Ghosh

Gaurav S. Ghosh

Pennsylvania State University - College of Agricultural Sciences - Department of Agricultural Economics and Rural Sociology

James S. Shortle

Pennsylvania State University - College of Agricultural Sciences - Department of Agricultural Economics and Rural Sociology

Date Written: January 1, 2012

Abstract

We compare two tradable permit markets in their ability to meet a safety first environmental target at least cost when some polluters have stochastic, correlated, and non-measurable emissions. In both markets, the point source permit defines the allowable level of the observed (deterministic) point source pollution load. The permit for unobservable and stochastic nonpoint source pollution cannot be defined in this way. One market bases the nonpoint permit on expected nonpoint pollution and uses a trading ratio between the two pollution types to manage stochasticity. This model follows existing point-nonpoint markets for water quality trading. The second model defines the nonpoint permit as a multi-attribute good, where the attributes inform the market about the stochasticity of the underlying pollution load. The multi-attribute permit market is demonstrated to out-perform the trading ratio market. This result is an artifact of polluters directly pricing stochasticity in the former market but not in the latter, where stochasticity is only controllable under highly restrictive conditions.

Keywords: Emissions trading, Environmental policy, Market design, Nonpoint pollution, Water Quality

JEL Classification: D02, D62, D81, Q52, Q53, Q58

Suggested Citation

Ghosh, Gaurav S. and Shortle, James S., Managing Pollution Risk Through Emissions Trading (January 1, 2012). FCN Working Paper No. 1/2012, Available at SSRN: https://ssrn.com/abstract=2086420 or http://dx.doi.org/10.2139/ssrn.2086420

Gaurav S. Ghosh (Contact Author)

Pennsylvania State University - College of Agricultural Sciences - Department of Agricultural Economics and Rural Sociology ( email )

University Park, PA 16802-3306
United States

James S. Shortle

Pennsylvania State University - College of Agricultural Sciences - Department of Agricultural Economics and Rural Sociology ( email )

University Park, PA 16802-3306
United States

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