Analysis of Cap and Trade Issues - Essay Example

Cap and trade allow for tradable pollution permits. A tradable permit policy sets specific targets on total emissions and allows reallocation or auctioning of pollution permit allowances to industry polluters to meet their objectives. Companies that are able to limit their emissions more cost-effectively have the incentive to avoid purchasing more permit allowances and even sell their permit allowances in excess to polluters with higher demand of compliance. Under this type of approach, emissions are set by the cap, however, the overall costs for compliance may be uncertain.

With regards to Cap and Tax, a regulatory system is set that provides incentives for polluter companies to find cost-effective mechanisms for controlling their emissions. Firms will therefore pay taxes for their emissions if at all it is cheaper or reduces their emissions to avoid the imposition of tax for their damages to the environment. In cases of taxes to regulate emissions, the cost of compliance is known, but the levels of emission may be rather uncertain.

Economic benefits of using a command and control approach

A command and control approach sets forth Emissions standards that are generally more stable as compared to carbon market controls. It is undeniable fact that trading markets, more so for carbon emissions can be unpredictable. Profiteering requires stability with fairly secure investment decisions. With preset Emissions standards, companies can plan and diversify their investments into more energy-efficient technologies that results in emission of emitting less carbon.

Economic Benefits Of Using A Market-Based Approach Through Cap And Trade

A key benefit of the market mechanism is that it gives incentives for innovative continuous emissions reduction.  In cases of inflation, market mechanisms are advantageous because they allow automatic adjustments to new prices and as such no legislative action is needed.

Relationship between the Coase Theorem, Pigouvian tax, and the cap and trade issues

The Coase Theorem allows assignment of property rights to pollution and thus gives leeway for markets to correct pollution externalities.

The Pigouvian taxation on the other hand allows companies/plants) to choose the levels of pollution that help them maximize their revenues (profits).

Externalities that play a role in CO2 reduction Policies

An externality refers to a cost or a benefit of activities that result in damages to others with no compensation delivered to such third parties by those who create them. A number of positive and negative externalities play major roles in the ultimate regulatory decisions. The most significant of these is the average increase in the temperatures of the Earth's surface with detrimental effects on agricultural activities. Nevertheless, it is to be remembered that it is through the emission of such harmful gases into the atmosphere that actually results in some of the basic commodities that man needs to survive (Daigneault, and Steve, 2008).

It is important to note that reduction of greenhouse gases globally is impossible without the participation of every single nation. The deliberations that ended in the signing of the Kyoto protocol were a step in the right direction that should never be forfeited. Most importantly, the inclusion of the United States is deemed helpful in drawing up the expected pollution levels of every nation. Otherwise, the world's greenhouse gas emission levels may end up causing more disasters than currently the case.