Environmental problems have become in the last decades a topic of large interest. Economists have analyzed the issue from different perspectives, in an attempt to find the most effective solution for the preservation of the environment. Although significant progress has been made, there is still much room left for further improvement both in the quality of the scientific debate and in the choice of practical policy tools.environmental problems, market solutions, public goods, tradeable permits

Bogdan Glăvan

English

Research Papers in Economics

  41 
 
 
ELIMINATING ENVIRONMENTAL PROBLEMS: FROM 
DISCRETIONARY POLICY TO MARKET SOLUTIONS 
 
Bogdan Glăvan
∗ 
 
Abstract 
Environmental problems have become in the last decades a topic of large 
interest. Economists have analyzed the issue from different perspectives, in an 
attempt to find the most effective solution for the preservation of the environment. 
Although significant progress has been made, there is still much room left for 
further improvement both in the quality of the scientific debate and in the choice 
of practical policy tools. 
 
 
1.  Introduction 
 
Environmental problems have become in the last decades a topic of large 
interest. Economists have analyzed the issue from different perspectives, in an 
attempt to find the most effective solution for the preservation of the environment. 
Although significant progress has been made, there is still much room left for 
further improvement both in the quality of the scientific debate and in the choice 
of practical policy tools. 
This paper intends to put in a proper perspective the debate over 
environment protection, making a short review of the history of ideas concerning 
this subject. It argues that the property rights paradigm represents the most useful 
approach to environment issues. 
 
2.  How to deal with environmental problems 1: present 
environmental policy 
 
Public discretionary solutions to contain environmental problems include 
taxation and tradeable permits 
 
A.  Taxation 
Taxes are one of the oldest forms of pollution control. The idea of the 
Optimal Pigovian Tax is simple: internalize costs of pollution. This can be done 
                                           
∗ Bogdan Glăvan is Associate Professor of Economics at the Romanian American University in 
Bucharest. 
Romanian Economic and Business Review – Vol. 2, No. 4   42 
by imposing a tax of t on each unit produced. As pleasant as this approach might 
look like, it is nearly impossible to calculate the optimal rate of taxation because 
external costs are subjective and their measurement is therefore impossible. There 
is also the public choice argument against such a policy. Special interest groups, 
like climatologists, economists and environmental groups would gain from 
increased government intervention in the environment and will dictate 
government policy in the future. Further, as a pragmatic issue, taxes cannot be 
applied internationally. But in fact, some countries are polluted to a large extent 
by foreign countries (for example, 85% of Norway’s pollution comes from 
England). Thus, the attempt to reduce environmental problems by taxation is 
challenged by serious factors. 
 
B.  Tradeable permits 
Another solution to reduce pollution consist in the issuance of Tradable 
Permits (TP). It combines the features of a public measure (the target for pollution 
reduction is first established by the state; the state also establishes a specific 
regulatory framework for exchanging TPs) with those of a private solution (TPs 
are exchanged on the market and a free price emerges, indicating the costs to be 
borne by the polluter). 
The concept of the pollution permit has become an increasingly popular 
topic of discussion for environmentalists in recent years, although the idea has 
been in existence since at least 1960s. 
The government issues permits in exactly the number needed to produce 
the desired emission level. They give or sell its holder the right to pollute for a 
certain amount and they are freely transferable; they can be bought and sold on 
the market, even internationally, thus they act as property rights. 
Establishing a market in tradeable pollution permits leads to a reduction of 
environmental problems because it becomes costly to continue to pollute. Firms 
that cannot achieve the targeted level have the option to purchase a permit from 
those companies that managed to reduce their level of pollution beyond the 
amount required by the government. Businesses can either buy permits or invest 
in technology to reduce pollution emissions - whichever approach saves them 
money. As such, companies are stimulated to find ways to decrease pollution. 
On such a market, the demand for permits could increase for speculative 
or precautionary reasons. For example environmental organizations and 
environment friendly groups could use their own resources to by permits in order 
to hoard them. Thus, the number of emission permits available for industrial 
buyers will be limited, which will determine a drastic reduction of polluting 
activities (and perhaps their relocation).  
For the system to be effective there needs to be common acceptance of the 
legal framework for the trading of permits and regulation of the amount of 
pollution produced. The Kyoto Summit on Climate Change  (held in December   43 
1997) witnessed a decisive move towards a greater use of internationally traded 
pollution permits – based on the idea that each country is required to achieve a 
specific percentage reduction in pollutants such as C02.  
Potential problems with traded pollution permits:  
•  How are permitted levels of pollution decided? If based on current 
production levels they may be no advantage for firms that have already 
taken steps to control their pollution emissions  
•  Traded permits may see pollution being concentrated in certain 
geographical areas. At the Kyoto Summit, developing countries were not 
required to make reductions in pollution – but could be given credits for 
“certified reductions” in pollution that could be then traded with other 
countries. This might allow countries such as the United States to buy up 
pollution permits from LDC's (including many form high polluting 
countries in Eastern Europe) – and avoid the need to reduce pollution 
themselves  
•  There are likely to be high administrative costs associated with monitoring 
pollution emissions – particularly if the number of firms involved is very large.  
Tradeable permits represent only second-best solutions to the problem of 
pollution or species exhaustion. “This system could, in some cases, be somewhat 
more efficient than those currently employed, although it leaves a great weight on 
bureaucratic intervention to fix, for example, prices and the total amount of 
pollution or fishing which can be carried out… Second-best solutions are parallel 
to those ‘market socialism’ reforms that were so deep a failure in the former 
communist countries of Eastern Europe” (de Soto, 1997, p. 186).  
 
3.  How to deal with environmental problems 2: free market 
environmentalism 
 
Arguments for creating new property rights in the environment are 
generally based on arguments that market failure caused by externalities requires 
corrective government intervention, or that the market failure itself is solely due 
to inadequately specified property rights and it can be fixed by completely 
specifying private property rights in the environmental goods. 
Complete specification of property rights would resolve environmental 
problems by internalising costs and relying on the incentives of private owners to 
conserve resources for the future.  
The key to gaining agreement on a substantial and effective international 
climate change agreement is to better align the currently disparate incentive 
structures of the players. The incentive structure can be built as a result of a 
political process, or as the effect of the market process. The political process tends 
in its very nature to externalize  costs through the coercive mechanisms of   44 
collective decision. Instead, the market process has the merit of internalizing the 
employment costs of resources and eliminating the free riding phenomenon. 
Authors such as Terry Anderson and Donald Leal (2001) have 
documented numerous examples of environmental goods that can be and are 
supplied successfully in private markets, and empirical researchers examining 
state-centered models of environmental management have highlighted numerous 
cases of government failure. For land-based environmental assets such as forests 
and minerals, for example, evidence suggests that private-property solutions are 
highly successful in generating the necessary incentives that encourage resource 
conservation and help to overcome the problems of “free riding” associated with 
open-access conditions (De Alessi 2003). Thus, the record of forest management 
in Sweden under a predominantly private regime has been noticeably more 
impressive than the record of forest management under government ownership in 
the United States, Canada, and Great Britain. Similarly, the private ownership of 
wildlife in countries such as Botswana has had markedly more success in 
protecting stocks than government-sponsored trade bans on ivory products that 
have been put in place over much of Africa (Sugg and Kreuter 1994). 
“A true market system would include both components-a price system and 
recognition of property rights. Tradeable permits alone are an incomplete solution. 
There is, however, a true market solution that depends on the price system without 
violating property rights. The first step is to establish a system of clearly defined 
and enforceable property rights. Once clearly defined, market forces will take over 
and determine the optimal level of pollution. If a firm creates pollution without 
first entering into an agreement, or if the parties cannot come to am agreement 
fixing the cost and degree of pollution, then the court system could be used to 
assess damages. Such a system provides an incentive for companies to reduce the 
amount of discharge or bear the full cost of their actions.” (Block and McGee, 
1994)) 
Therefore, the free market solution for environmental problems is 
privatisation. Since pollution problems occur because of a lack of defined 
property rights, broad-scaled privatisation of the public sector would clearly solve 
this dilemma. If most public goods were privatised, the property right structure 
was clear and pollution problems could be solved on an interpersonal base.  
 
Comparison between different strategies to contain environmental problems 
 
  Taxation  Tradeable Permits  Property Rights 
Costs Maximum  Variable  Dependent  on  individuals’ 
preferences 
Level of 
emissions 
Depends on how rate 
is set 
Capped, but it may fall 
due to flexibility in 
response 
Dependent on individuals’ 
preferences 
Certainty  Mixed as tax unlikely  Depends on consistency     45 
to fall but can be 
raised more easily 
than other forms of 
regulation can be 
changed 
of administration, 
built/in review 
arrangements and 
whether changes are 
compensated 
Other issues  Can be seen as 
revenue raising 
device. 
Can be conflict 
between objectives, 
ie, less pollution 
means less revenue 
Impossible to 
calculate optimal 
taxation 
Cannot be applied 
internationally 
Difficult to extend 
trading inter-regionally 
Resolves ethical issues 
associated with 
environmental problems 
 
 
References 
 
Block, Walter and McGee, Robert. 1994. “Pollution Trading Permits as a  
Form of Market Socialism and the Search For a Real Market Solution to 
Environmental Pollution.” Fordham Environmental Law Journal VI(1): 51-77. 
Cait, Murphy. 2002. Hog Wild for Pollution Trading. Fortune, September 2. 
Guerin, Kevin. 2003. “Property Rights and Environmental Policy: A New 
Zealand Perspective.” New Zealand Treasury Working Paper 03/02. 
OECD. 2002. “Implementing Domestic Tradeable Permits: Recent 
Developments and Future Challenges.” OECD Proceedings. 
De Soto, Jesus Huerta, 1997, “Entrepreneurship and the Theory of Free 
Market Environmentalism” in Leube, K., Petroni A. and Sadowsky J. eds., An 
Austrian in France. Festschrift in honour of Jacques Garello, Torino, La Rosa 
Editrice. 
 
 
 
 
 
 
 
 
 
 
 
 

Entrepreneurship and the Theory of Free Market Environmentalism”

Hog Wild for Pollution Trading.

Implementing Domestic Tradeable Permits: Recent Developments and Future Challenges.” OECD Proceedings.

Pollution Trading Permits as a Form of Market Socialism and the Search For a Real Market Solution to Environmental Pollution.” Fordham Environmental Law

Property Rights and Environmental Policy: A New Zealand Perspective.” New Zealand Treasury Working Paper 03/02.

Eliminating environmental problems: from discretionary policy to market solutions

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Eliminating environmental problems: from discretionary policy to market solutions

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