LS21- Trade Pollution Permits

Question 1

Trade Pollution Permits

Answer 1

A cap/limit is on the amount of carbon emissions a firm can produce over a period of time.

The govt allocates pollution permits to firms, allowing firms to pollute up to a certain point, dictated by the permit

These permits can be traded- if a firm is exceeding its limit of emissions, it can purchase more permits in order to pollute more and keep production constant. A firm that doesn’t pollute up to its permit can sell these permits in order to generate more revenue for the firm.

A firm can be fined if it pollutes above the permitted level, creating an incentive to purchase permits, or pollute less. The revenue gained from selling surplus permits is also an incentive to pollute less.

Question 2

Advantages of ETS

Answer 2

• Creates an incentive for firms to pollute less - if they exceed limits, they will face fines, loss in revenue; if they pollute below limit, no fines and can gain revenue by selling permits
• Incentive to invest in cleaner and greener capital- can reduce their long term costs by allowing them to reduce pollution and thus sell more permits

Question 3

Disadvantages of ETS

Answer 3

• Information gap- too many permits issued- no incentive to pollute less; too little permits issued- firms struggle with production, reduces revenue and international competition
• Producers may pass added costs onto consumers, particularly if the good/service is inelastic leading to a fall in consumers surplus
• Opportunity cost for government in regulating and monitoring the scheme
• Competitiveness reduces- some countries dont have ETS so their firms can afford lower costs, meaning they have more competitive international prices