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Price-Based vs. Quantity-Based Environmental Regulation under Knightian Uncertainty: An Info-Gap Robust Satisficing Perspective

Author

Listed:
  • John K. Stranlund

    () (Department of Resource Economics, University of Massachusetts Amherst)

  • Yakov Ben-Haim

    () (Mechanical Engineering Technion, Israel Institute of Technology)

Abstract

Conventional wisdom among environmental economists is that the relative slopes of the marginal social benefit and marginal social cost functions determine whether a price-based or quantity-based environmental regulation leads to higher expected social welfare. We revisit the choice between price-based vs. quantity-based environmental regulation under Knightian uncertainty; that is, when uncertainty cannot be modeled with known probability distributions. Under these circumstances, the policy objective cannot be to maximize the expected net benefits of emissions control. Instead, we evaluate an emissions tax and an aggregate abatement standard in terms of maximizing the range of uncertainty under which the welfare loss from error in the estimates of the marginal benefits and costs of emissions control can be limited. The main result of our work is that the same criterion involving the relative slopes of the marginal benefit and cost functions determines whether price-based or quantity-based control is more robust to unstructured uncertainty. Hence, not only does the relative slopes criterion lead to the policy that maximizes the expected net benefits of control under structured uncertainty, it also leads to the policy that maximizes robustness to unstructured uncertainty.

Suggested Citation

  • John K. Stranlund & Yakov Ben-Haim, 2006. "Price-Based vs. Quantity-Based Environmental Regulation under Knightian Uncertainty: An Info-Gap Robust Satisficing Perspective," Working Papers 2006-1, University of Massachusetts Amherst, Department of Resource Economics.
  • Handle: RePEc:dre:wpaper:2006-1
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    File URL: http://courses.umass.edu/resec/workingpapers/documents/resecworkingpaper2006-1.pdf
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    References listed on IDEAS

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    1. Martin L. Weitzman, 1974. "Prices vs. Quantities," Review of Economic Studies, Oxford University Press, vol. 41(4), pages 477-491.
    2. Hoel, Michael & Karp, Larry, 2002. "Taxes versus quotas for a stock pollutant," Resource and Energy Economics, Elsevier, vol. 24(4), pages 367-384, November.
    3. James M. Malcomson, 1978. "Prices vs. Quantities: A Critical Note on the Use of Approximations," Review of Economic Studies, Oxford University Press, vol. 45(1), pages 203-207.
    4. Montero, Juan-Pablo, 2002. "Prices versus quantities with incomplete enforcement," Journal of Public Economics, Elsevier, vol. 85(3), pages 435-454, September.
    5. Stavins, Robert N., 1996. "Correlated Uncertainty and Policy Instrument Choice," Journal of Environmental Economics and Management, Elsevier, vol. 30(2), pages 218-232, March.
    6. Baumol,William J. & Oates,Wallace E., 1988. "The Theory of Environmental Policy," Cambridge Books, Cambridge University Press, number 9780521322249, March.
    7. L. Joe Moffitt & John K. Stranlund & Barry C. Field, 2005. "Inspections To Avert Terrorism: Robustness Under Severe Uncertainty," Working Papers 2005-3, University of Massachusetts Amherst, Department of Resource Economics.
    8. Philippe Quirion, 2004. "Prices versus Quantities in a Second-Best Setting," Environmental & Resource Economics, Springer;European Association of Environmental and Resource Economists, vol. 29(3), pages 337-360, November.
    9. Jean Jacques Laffont, 1977. "More on Prices vs. Quantities," Review of Economic Studies, Oxford University Press, vol. 44(1), pages 177-182.
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    Cited by:

    1. Clara Villegas-Palacio & Jessica Coria, 2010. "On the interaction between imperfect compliance and technology adoption: taxes versus tradable emissions permits," Journal of Regulatory Economics, Springer, vol. 38(3), pages 274-291, December.

    More about this item

    Keywords

    emissions control; environmental regulation; info-gap; Knightian uncertainty; robustness; satisficing;

    JEL classification:

    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • L51 - Industrial Organization - - Regulation and Industrial Policy - - - Economics of Regulation
    • Q58 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Environmental Economics - - - Environmental Economics: Government Policy

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