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Prices vs. Quantities: Environmental Regulation and Imperfect Competition

  • Erin T. Mansur

In a market subject to environmental regulation, a firm's strategic behavior affects the production and emissions decisions of all firms. If firms are regulated by a Pigouvian tax, changing emissions will not affect the marginal cost of polluting. However, under a tradable permits system, the polluters' decisions affect the permit price. This paper shows that this feedback effect may increase a strategic firm's output. Relative to a tax, tradable permits improve welfare in a market with imperfect competition. As an application, I model strategic and competitive behavior of wholesalers in the Pennsylvania, New Jersey, and Maryland electricity market. Simulations suggest that exercising market power decreased local pollution by approximately nine percent, and therefore, substantially reduced the price of the region's pollution permits. Furthermore, I find that had regulators opted to use a tax instead of permits, the deadweight loss from imperfect competition would have been approximately seven percent greater.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 13510.

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Date of creation: Oct 2007
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Publication status: published as Journal of Regulatory Economics August 2013, Volume 44, Issue 1, pp 80-102 Prices versus quantities: environmental regulation and imperfect competition Erin T. Mansur
Handle: RePEc:nbr:nberwo:13510
Note: EEE IO
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  19. Mansur, Erin T, 2007. "Upstream Competition and Vertical Integration in Electricity Markets," Journal of Law and Economics, University of Chicago Press, vol. 50(1), pages 125-56, February.
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