Why Cap-and-Trade Won’t Backfire

There was a great study done some years back involving daycares in Israel that introduced a modest financial penalty for kids over-staying their welcome. Once parents were being fined for it, tardy pick-ups increased.

This editorial from Justin Danhof published by the Christian Science Monitor falsely compares this policy to a cap-and-trade system of regulating carbon emissions. It’s a case of a little knowledge being a dangerous thing. The study became well-known when it was cited in the New York Times Bestseller Freakonomics, and deservedly so. However, the study is not proof that pecuniary incentives always backfire, if that were true the entire world would grind to a halt: Fines would encourage motorists to park in handicapped spots. Higher wages would make people work less. Chaos would engulf the Earth.

All that the study showed was that a weak financial incentive is less powerful than the strong sense of embarrassment people feel when inconveniencing their child’s care professionals, people who are ‘practically family’. The opinion piece’s claim that greenhouse gas emissions would rise is ludricous. It is after all a ‘cap’-and-trade system. The cap is set at whatever level desired, and producers buy the pollution rights. If you set the cap above the current level, then pollution might rise, but obviously capping emissions below the present level is not going to raise emissions.

In fact, the carbon cap-and-trade system would not at all be like the fixed penalty being charged by the day care. In one case, you are limiting the supply of a good so that companies have to pay market value to use it. This is likely preferable to other pollution regulations: per firm emissions controls, mandating that specific filtering technology being used, or even to a regular per unit tax because it encourages the innovation and allows the most efficient producers and the most important goods to use the most resources. Contrast this with a nominal fee that meant nothing to the parents at the day-care. Plus, while a corporation likely will not have a personal relationship with the people being helped by pollution controls, the child-care providers that are practically family. Being late to daycare comes with a very, very heavy embarassment cost, whereas consumers do not really know the intricate details and externalities of manufacturing processes unless the most efficient firm pays for commercials to brag about their low environmental impact.

There’s a reason why economists (the same discipline whose research Mr. Danhof cites) love the idea of creating a strict, well-enforced cap-and-trade system for regulating greenhouse gases. The market system is great at getting resources to people with the best ideas. It is frankly not very well-considered comparison to use the daycare study for the basis of comparison simply because it involves money. Obviously an editorial is just an opinion, but the author’s out of context citation rather than supporting his assertion or showing his knowledge of the field, simply betrays his ignorance. If Mr. Danhof was hoping to provide relevant criticism of the cap-and-trade movement, he might have looked into how governing agencies will determine the caps.


One Response

  1. […] Mr. Obama was asked about how he would regulate coal power plants. He essentially said that his goal was not to stand in the way of coal power plants, that by and large he would not target coal-fired power plants. Instead, Mr. Obama advocates an aggressive greenhouse gas cap-and-trade program, a system that is unbiased, because it applies to all firms, and that instead of going against the market mechanism, taps into it in order to reduce pollution (see this previous cap-and-trade post). […]

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