Review of a paper by Kjell Arne Brekke and Olof Johansson-Stenman (2008)
Taking into account economic behavior in the environmental economic political process could change the impact of economic measures
Cap and Trade, Pigouvian Taxes; Kyoto Protocol yesterday, Paris Agreement today. Why does environmental policy never work? As economists struggle for developing new economic models to address environmental threats, our planet fights to survive. What is the main obstacle to environmental economic policy? In this sense, one word is essential: implementation.
Economists talk about environmental damages (Greenhouses emissions, SO2, etc.) as social costs: harms that affect the society as a whole, but that are not relevant in private economic choices (hence the title “negative externalities”). The reason is that clean production is costly and not efficient, both for firms and for the government. Measures to protect the environment, such as taxes and restrictions on production, raise the cost of production for firms, and their implementation is difficult for political reasons.
Therefore, when it comes to decision making, firms and countries tend to consider only their own costs and benefits, ignoring negative externalities: why should one country care about trans-border emissions, when it is a global matter and when the others do not?
Someone would then argue that international agreements are necessary to enforce environmental regulations, in order to address this moral hazard problem. However, when it comes to transnational regulation, global commitments are even harder to be enforced. In this context, is there any possibility left of “saving the planet”?
It has been demonstrated that, even if not considered in the private costs-benefits analysis, environmental damages matter at a psychological level.
Economic agents do not consider all the environmental measures that restrict economic private profits equally. The key difference lies in the way those measures influence the “environmental moral” (Frey, 1999): the intrinsic motivation for pro‐environmental activity. In this view, if we look at all the diverse economic measures each government can take, we find that not only do they differ in terms of economic and administrative efficiency, but also in terms of the impact that they have on people’s environmental moral. As a result, some measures are more likely to be implemented than others (Pollitt and Shaorshadze, 2011).
Frey (1999), for example, argues that both “tradable permits” (that allow firms for the production of a maximum emission as determined by the government) and “Pigouvian taxes” (on the generator of negative externalities) have two opposing effects on consumers. Not only the higher price that derives from their implementation discourages the aggregate demand, but the individual intrinsic environmental moral also goes down (crowding‐out effect).
Moreover, it has been demonstrated that low and high rate environmental taxes on emissions are more effective than the moderate ones in encouraging individuals to accept the environmental policy. In fact, with low taxes, consumers may be persuaded that the reason why they are being taxed is only moral, and they would be more positive to pay. On the other hand, high Pigouvian taxes make harmful behavior prohibitive: therefore, the economic effect dominates the crowding-out effect. Furthermore, according to Goodin (1994), tradable permits will reduce consumers’ motivation even more than taxes, because they may convey the impression that it is acceptable to sin as long as one pays the price for it.
However, since most of the climate policies address firms rather than final consumers, behavioral economics has a very limited influence on the choice of the level of production. On the other hand, public perception of the effect of these instruments is still relevant for policy because, when the public perceives that taxes and tradable permits are morally superior, governments may find it politically easier to implement them.
Similar results are valid internationally, in the context of global agreements. Given that humans are less self-serving than the “economic man”, cooperation has been demonstrated to be possible. However, it must be conditional and require the existence of sanctioning mechanisms (Kjell Arne Brekke and Olof Johansson-Stenman, 2008).
In BE there is a wide experimental literature focused on individual decisions, trying to understand under what conditions people cooperate, even when it is not in their own material interest. Conditional cooperation is usually the answer, suggesting that many people (in our case, countries) choose to cooperate only if others do too (Gächter, 2007). In addition, the evidence suggests that people are more willing to contribute to social causes when they think others are doing the same (Levitt and List, 2006).
In conclusion, what makes negotiations effective? We could summarize the best practices in three Ps:
Principles are essential to persuade people that they are paying for a moral reason. In this way, the individual intrinsic environmental moral also goes up and dominates the private cost bias.
They are fundamental for the long-term effectiveness. Kyoto protocol, for example, without including any penalty, lacked effectiveness, and commitments had never been really implemented.
Since we are dealing with global externalities, everyone should commit. Only a global solution could be the best response to a global problem.