Should we tax or let firms trade emissions? An experimental analysis with policy implications for developing countries

central america eeu sweden | Climate change Policy design

Should we tax or let firms trade emissions? An experimental analysis with policy implications for developing countries

In this paper we use laboratory experiments to test the theoretical predictions derived by Villegas-Palacio and Coria (2010) about the effects of the interaction between technology adoption and incomplete enforcement. They show that under Tradable Emissions Permits (TEPs), and in contrast to taxes, the fall in permit price produced by adoption of environmentally friendly technologies reduces the benefits of violating the environmental regulation at the margin and leads firms to improve their compliance behavior. Moreover, when TEPs are used, the regulator can speed up the diffusion of new technologies since the benefits from adopting the new technology increase with the enforcement stringency.

Our experimental results confirm these theoretical predictions. While the aggregate emissions do not statistically differ between the two policy instruments, the fraction of firms violating the regulation and the aggregate extent of violation are lower under TEPs than under emission taxes regardless of the monitoring probability. Hence, in contrast to previous studies, our results indicate that TEPs would appear to be a feasible policy alternative in weak regulatory contexts.

EfD Authors

PhD Jessica Coria Research Fellow
PhD Clara Inés Villegas Palacio Research Associate

Keywords

Centers

central america
eeu sweden

Type of publication

Discussion paper

Reference

Coria, Jessica; Villegas-Palacio, Clara; Cárdenas, J.C, Should we tax or let firms trade emissions? An experimental analysis with policy implications for developing countries Workin Paper in Economics 516, Dept of Economics, University of Gothenburg, 2011.

Environment for Development

Environment for Development