1. Market Failures Multiple market failures at issue “No single instrument is superior along all dimensions relevant to a policy choice.” Typical Market Failures Environmental Externalities Information deficits Capital limitations Network effects Inadequate internalization of the benefits associated with new technologies

2. Inducing Technological Change Policy Instruments – CO 2 Emissions Emissions taxes Tradable emissions permits/allowances Subsidies for R&D Subsidies for emissions reductions Performances Standards (emissions levels) Technology Mandates (e.g., renewable portfolio standards) IP: Patents, Trade Secrets

3. Inducing Technological Change Instrument Selection Criteria Economic efficiency (cost-benefit analysis) Cost-effectiveness (band for the buck) Fairness/Distributional benefits and costs Ease of administration (i.e., implementing, monitoring, enforcement) Minimizing/mitigating uncertainties Political feasibility

4. Clean Air Act: Mobile Sources 1970 Amendments mandated a 90% reduction in tailpipe emissions of VOCs and CO w/in 5 years; NO x w/in 6 years Congress extended deadline several times But between 1970 and 2000, NO x and VOC emissions dropped >95% Foundation: back-of-the-envelope estimation of reductions needed to protect human health

6. Clean Air Act: Mobile Sources 202(a)(1): The Administrator shall by regulation prescribe... standards applicable to the emission of any air pollutant from any class or classes of new motor vehicles or new motor vehicle engines, which in his judgment cause, or contribute to, air pollution which may reasonably be anticipated to endanger public health or welfare. 202(a)(2): Any regulation prescribed under paragraph (1)... shall take effect after such period as the Administrator finds necessary to permit the development and application of the requisite technology, giving appropriate consideration to the cost of compliance within such period

7. Standards v. Taxes/Cap & Trade Technology Standards: May be easier to administer More predictable results Lower information demands Taxes/Cap & trade Economic studies find costs 40-95% lower Dependent on heterogeneity among firms Differential declines with level of reductions Taxes dependent on price sensitivity Do not limit technology choice

8. Hybrid Approaches Mobile Sources – CO 2 emissions Enhance engine efficiency; technologies that reduce CO 2 emissions Reduce vehicle miles travelled Duplicate efficiency of emissions pricing while avoiding high administrative costs Mandate emissions-control technology Tax on gasoline

9. Hybrid Approaches – Virtues Threat to energy-intensive industries from relying on emissions pricing alone Distributional consequences (energy intensive industries, consumers) Credibility: high CO 2 taxes not viable Innovation market failures (spillovers) Potential synergies/enhanced efficiency Reduce emissions intensity of energy production Energy conservation (products, behavior)

10. Hybrid Approaches European Energy Taxes Denmark & Finland only country with a net reduction in CO 2 emissions Denmark’s Success “Danish policy makers made huge investments in renewable energy and subsidized environmental innovation.” Overcame: risk aversion of firms, countervailing sunk costs, and network effects Policies: direct subsidies, differential taxes, and tax benefits for voluntarily emissions reductions Monica Prasad, Taxation as a Regulatory Tool: Lessons from Environmental Taxes in Europe (2008).

13. European Energy Taxes