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Review of Environmental Economics and Policy Advance Access originally published online on July 7, 2008
Review of Environmental Economics and Policy 2008 2(2):152-174; doi:10.1093/reep/ren005
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© The Author 2008. Published by Oxford University Press on behalf of the Association of Environmental and Resource Economists. All rights reserved. For permissions, please email: journals.permissions@oxfordjournals.org

Instrument Choice in Environmental Policy

Lawrence H. Goulder* and Ian W. H. Parry**

* Stanford University, Resources for the Future, and NBER
** Resources for the Future

The choice of pollution control instrument is a crucial environmental policy decision. We examine the extent to which various environmental policy instruments meet major evaluation criteria, including cost-effectiveness, distributional equity, the ability to address uncertainties, and political feasibility. Instruments considered include emissions taxes, tradable emissions allowances, subsidies for emissions reductions, performance standards, mandates for the adoption of specific technologies, and subsidies for research toward new, "clean" technologies. We consider policies that address pollution externalities and policies that deal with market failures associated with efforts to invent or deploy new technologies. Several themes emerge. First, no single instrument is clearly superior along all the dimensions relevant to policy choice; even the ranking along a single dimension often depends on the circumstances involved. Second, significant trade-offs arise in the choice of instrument: for example, assuring a reasonable degree of distributional equity will often require a sacrifice of cost-effectiveness. Third, it is sometimes desirable to design hybrid instruments that combine features of various "pure" instruments. Fourth, for many pollution problems, more than one market failure may be involved, which may justify (on efficiency grounds, at least) employing more than one instrument. Finally, potential interactions among environmental policy instruments and among regulatory jurisdictions need to be carefully considered.

JEL Classification: L51, Q50, Q53, Q58, Q59

We are grateful to Dallas Burtraw, William Pizer, Suzanne Leonard, Robert Stavins, Tom Tietenberg, and an anonymous referee for very helpful suggestions and comments on an earlier draft.


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