3.0 What are Economic Instruments?
Many environmental problems arise because of externalities. Externalities are costs (or benefits) resulting from our activities which affect others but are not taken into account by the market. For instance, a factory which pollutes the air does not include the adverse effects on its neighbours' health and amenity as a cost on its operating statement. One way of resolving The pollution problem is to ensure that such "hidden" costs are internalised, or made obvious to the decision maker so that they are incorporated into the factory' manager's decision-making. Economic instruments provide one way of doing this.
A pollution tax is one economic instrument to ensure that the "polluter pays" and considers the effects of their actions on others and on the environment. Another approach involves transferable permits. In the case of air pollution, a regulating body would set a limit on air pollution in, for example, a city. This 'quota' of pollution would be divided into a specific number of permits, which polluters would be able to purchase if they wish to continue polluting. Those holding permits but who have reduced their levels of pollution can trade their extra unused permits to others who are still polluting. This provides an incentive to reduce pollution. If permits become scarce or too expensive, it then becomes financially worthwhile for others to invest in pollution control technology.
Permits can also be used to place a value on scarce resources, thereby encouraging their efficient use. If water is in short supply, water managers can estimate the total amount which can be sustainably extracted. This amount can be translated into a set number of permits issued to water users, who are then able to transfer permits for any water they are not using. This provides an incentive to increase the efficiency of water use, as more careful use of water means more is available to transfer or sell to another user.
Contact for Enquiries
MAF Information Services
Pastoral House
25 The Terrace
PO Box 2526
Wellington, NEW ZEALAND
Fax: +64 4 894 0721
Contact this person
