Key points

  • The three main categories of market-oriented environmental policies are pollution charges, marketable permits, and better-defined property rights.
  • The advantage of market-oriented environmental tools is that, because of their incentives and flexibility, they can achieve any desired reduction in pollution at a lower cost to society than command-and-control regulation.

Market-oriented environmental tools

Market-oriented environmental policies create incentives to allow firms some flexibility in reducing pollution. The three main categories of market-oriented approaches to pollution control are pollution charges, marketable permits, and better-defined property rights.
A pollution charge is a tax imposed on the quantity of pollution that a firm emits. A pollution charge gives a profit-maximizing firm an incentive to figure out ways to reduce its emissions—as long as the marginal cost of reducing the emissions is less than the tax.
A marketable permit program is a program in which a city or state government issues permits allowing only a certain quantity of pollution. These permits to pollute can be sold or given to firms free.
A clarified and strengthened idea of property rights can also strike a balance between economic activity and pollution. For instance, a policy that provides private landowners with an incentive to protect endangered species on their land can be an effective environmental protection tool.
You can learn more about each of these specific types of market-oriented approaches in Types of market-oriented environmental tools.

How effective are market-oriented environmental policy tools?

Environmentalists sometimes fear that market-oriented environmental tools are an excuse to weaken or eliminate strict limits on pollution emissions and instead allow more pollution. It is true that if pollution charges are set very low or if marketable permits do not reduce pollution by very much then market-oriented tools will not work well.
But command-and-control environmental laws can also be full of loopholes or have exemptions that do not reduce pollution by much, either. The advantage of market-oriented environmental tools is not that they reduce pollution by more or less; it is that because of their incentives and flexibility, they can achieve any desired reduction in pollution at a lower cost to society.

Applying market-oriented environmental tools

Market-oriented environmental policies are a tool kit. Specific policy tools will work better in some situations than in others. For example, marketable permits work best when a few dozen or a few hundred parties are highly interested in trading, as in the cases of oil refineries that trade lead permits or electrical utilities that trade sulfur dioxide permits.
However, for cases in which millions of users who have no strong interest in trading emit small amounts of pollution—such as emissions from car engines or unrecycled soda cans—pollution charges will typically offer a better choice.
Market-oriented environmental tools can also be combined. Marketable permits can be viewed as a form of improved property rights. Or the government could combine marketable permits with a pollution tax on any emissions not covered by a permit.

Summary

  • The three main categories of market-oriented environmental policies are pollution charges, marketable permits, and better-defined property rights.
  • The advantage of market-oriented environmental tools is that, because of their incentives and flexibility, they can achieve any desired reduction in pollution at a lower cost to society than command-and-control regulation.