Environment and Energy Economics

Members of the NBER's Environment and Energy Economics Program met February 27-28 in Cambridge. Research Associate H. Spencer Banzhaf of Georgia State University and Program Director Catherine Wolfram of University of California, Berkeley organized the meeting . These researchers' papers were presented and discussed:

Jacquelyn Pless, MIT

Are "Complementary Policies" Substitutes? Evidence from R&D Subsidies in the UK

Governments subsidize R&D through a mix of interdependent mechanisms, but subsidy interactions are not well understood. Pless provides the first quasi-experimental evaluation of how R&D subsidy interactions impact firm behavior. Pless uses funding rules and policy changes in the UK to show that direct grants and tax credits for R&D are complements for small firms but substitutes for larger firms. An increase in tax credit rates substantially enhances the effect of grants on R&D expenditures for small firms. For larger firms, it cuts the positive effect of grants in half. Pless explores the mechanisms behind these findings and provide suggestive evidence that complementarity is consistent with easing financial constraints for small firms. Substitution by larger firms is most consistent with the subsidization of infra-marginal R&D expenditures. Pless rules out some alternative explanations. Subsidy interactions also impact the types of innovation efforts that emerge: with increases in both subsidies, small firms steer efforts increasingly towards developing new goods (i.e., horizontal innovations) as opposed to improving existing goods (i.e., vertical innovations). Accounting for subsidy interactions could substantially improve the effectiveness of public spending on R&D.

Christopher R. Knittel, MIT and NBER, and Shinsuke Tanaka, Tufts University

Driving Behavior and the Price of Gasoline: Evidence from Fueling-Level Micro Data (NBER Working Paper No. 26488)

Knittel and Tanaka use novel microdata on on-road fuel consumption and prices paid for fuel in Japan to estimate short-run price elasticities of demand for gasoline consumption. They have three main findings. First, their elasticity estimates of roughly -0.37 are in orders of magnitude larger than previously estimated using more aggregate data. Second, they are one of the first to separately estimate both the price elasticities of miles driven (-0.30) and on-road fuel economy (0.07). Lastly, the researchers find that on-road fuel economy is determined by recent prices than distant past prices paid, suggesting limited habit formation of fuel-conserving driving behaviors.

Joseph E. Aldy, Harvard University and NBER, and Sarah C. Armitage, Harvard University

The Welfare Implications of Carbon Price Certainty

The functioning of real-world pollution markets suggests that firms face persistent price forecast errors in making abatement decisions. The residual uncertainty in allowance trading means that pollution markets may fail to deliver cost-effective abatement, in contrast to price-based policies where firms set marginal abatement cost equal to an emission tax. Aldy and Armitage develop a theoretical model of firm behavior in an allowance trading market that accounts for price uncertainty and dynamic investment in abatement. They show how the additional cost of forecast errors under quantity-based programs can be incorporated into a standard Weitzman-style analysis. Finally, the researchers simulate the potential magnitude of forecast errors in cap-and-trade markets using parameters calibrated to historical and modeled climate policies. Future work will examine the interaction between allowance price uncertainty and abatement cost uncertainty.

Joseph S. Shapiro, University of California, Berkeley and NBER

The Environmental Bias of Trade Policy

Shapiro documents a new fact, then analyzes its causes and consequences: in most countries, import tariffs and non-tariff barriers are substantially lower on dirty than on clean industries, where an industry's "dirtiness" is defined as its carbon dioxide (CO2 ) emissions per dollar of output. This difference in trade policy creates a global implicit subsidy to CO2 emissions in internationally traded goods and so contributes to climate change. This global implicit subsidy to CO2 emissions totals several hundred billion dollars annually. The greater protection of downstream industries, which are relatively clean, substantially accounts for this pattern. The downstream pattern can be explained by theories where industries lobby for low tariffs on their inputs but final consumers are poorly organized. A quantitative general equilibrium model suggests that if countries applied similar trade policies to clean and dirty goods, global CO2 emissions would decrease by several percent annually, and global real income would not change.

Andres Gonzalez Lira, University of California, Berkeley, and Ahmed Mushfiq Mobarak, Yale University and NBER

Slippery Fish: Enforcing Regulation under Subversive Adaptation

Attempts to curb illegal activity through regulation gets complicated when agents can adapt to circumvent enforcement. Economic theory suggests that conducting audits on a predictable schedule, and (counter-intuitively) at high frequency, can undermine the effectiveness of audits. Gonzalez Lira and Mobarak conduct a large-scale randomized controlled trial to test these ideas by auditing Chilean vendors selling illegal fish. Vendors circumvent penalties through hidden sales and other means, which are tracked using mystery shoppers. Instituting monitoring visits on an unpredictable schedule is more effective at reducing illegal sales. High frequency monitoring to prevent displacement across weekdays to other markets backfires, because targeted agents learn faster and cheat more effectively. Sophisticated policy design is therefore crucial for determining the sustained, longer-term effects of enforcement. A simpler demand-side information campaign generates two-thirds of the gains compared to the most effective monitoring scheme, it is easier for the government to implement, and is almost as cost-effective. The government subsequently chose to scale up that simpler strategy.

Lutz Sager, Georgetown University

The Global Consumer Incidence of Carbon Pricing: Evidence from Trade

Carbon pricing is often seen as regressive, disproportionately burdening low-income consumers. Sager shows that higher prices following a carbon tax would be mildly regressive in industrialized countries, mildly progressive in developing countries, and steeply regressive across countries. Refunding revenues with national carbon dividends would reverse all three findings. Carbon taxes plus dividends would be globally progressive, even without international transfers. The approach to estimating the consumer incidence of carbon pricing uses bilateral trade data and features non-homothetic consumers who differ both between and within countries. The supply side includes substitution of inputs along global value chains.

Janet Currie, Princeton University and NBER; John L. Voorheis, U.S. Census Bureau; and Reed Walker, University of California, Berkeley and NBER

What Caused Racial Disparities in Particulate Exposure to Fall? New Evidence from the Clean Air Act and Satellite-Based Measures of Air Quality (NBER Working Paper No. 26659)

Racial differences in exposure to ambient air pollution have declined significantly in the United States over the past 20 years. Currie, Voorheis, and Walker link restricted-access Census Bureau microdata to newly available, spatially continuous high resolution measures of ambient particulate pollution (PM2.5) to examine the underlying causes and consequences of differences in black-white pollution exposures. They begin by decomposing differences in pollution exposure into components explained by observable population characteristics (e.g., income) versus those that remain unexplained. The researchers then use quantile regression methods to show that a significant portion of the "unexplained" convergence in black-white pollution exposure can be attributed to differential impacts of the Clean Air Act (CAA) in non-Hispanic African American and nonHispanic white communities. Areas with larger black populations saw greater CAA-related declines in PM2.5 exposure. The researchers show that the CAA has been the single largest contributor to racial convergence in PM2.5 pollution exposure in the US since 2000, accounting for over 60 percent of the reduction.

Avraham Ebenstein, Hebrew University of Jerusalem, and Michael Greenstone, University of Chicago and NBER

Childhood Exposure to Particulate Air Pollution, Human Capital Accumulation, and Income: Evidence from China

Ebenstein and Greenstone examine the impact of childhood exposure to total suspended particulate (TSP) air pollution on human capital development and later labor market success. The analysis relies on a regression discontinuity design (RDD) generated by China's Huai River Policy, which provided subsidized coal for indoor heating during the winter to cities north of the Huai River but not to those to the south. The key findings are that children born just to the north of the Huai River were exposed to TSP concentrations that were about 50% higher, completed 0.83 fewer years of education, and earned 12%-22% lower incomes as adults, relative to children born just to the south. All findings are robust to using parametric and nonparametric estimation methods to adjust for distance from the Huai River, different kernel types, and alternative bandwidth sizes. The estimation of the income effects uses a RDD to quasi-experimentally vary TSP exposure, while also adjusting for all current city-level determinants of incomes by comparing migrants who are born just to the north and south of the Huai River.

Alex Hollingsworth, Indiana University, and Ivan J. Rudik, Cornell University

The Social Cost of Leaded Gasoline: Evidence from Regulatory Exemptions

Leaded gasoline is still widely used in the United States for aviation and automotive racing. Exploiting regulatory exemptions and a novel quasi-experiment, Hollingsworth and Rudik find that leaded gasoline increases ambient lead concentrations, elevated blood lead rates, and elderly mortality. The estimated effects indicate the social cost of a gram of lead added to gasoline is over $1,100. The results are the first causal estimates linking adult mortality to leaded gasoline, highlight the historic value of banning on-road leaded gasoline, demonstrate the costs of continued regulatory exemptions, and provide policy-relevant cost estimates of lead emissions at the lowest ambient levels to date.

Justin Marion and Jeremy D. West, University of California, Santa Cruz

Dirty Business: Principal-Agent Problems in Hazardous Waste Remediation

Governments often privatize the administration of regulations to third-party specialists paid by the regulated parties. Marion and West study the resulting conflict of interest for hazardous waste sites in Massachusetts, where the responsible parties must hire private firms to quantify environmental contamination. They find significant bunching of site severity scores just below thresholds that determine the intensity of government oversight throughout the remediation. The researchers show this client favoritism in evaluations is enabled by discretion afforded to evaluators. Favoritism is associated with inferior remediation quality and is most pronounced in lower socioeconomic status neighborhoods, highlighting a novel channel for inequities in pollution exposure.

Geoffrey Heal and Wolfram Schlenker, Columbia University and NBER

Coase, Hotelling and Pigou: The Incidence of a Carbon Tax and CO2 Emissions (NBER Working Paper No. 26086)

A carbon tax has been widely discussed as a way of reducing fossil fuel use and mitigating climate change, generally in a static framework. Unlike standard goods that can be produced, oil is an exhaustible resource. Parts of its price reflects scarcity rents, i.e., the fact that there is limited availability. Heal and Schlenker highlight important dynamic aspects of a global carbon tax, which will reallocate consumption through time: some of the initial reduction in consumption will be offset through higher consumption later on. Only reserves with high enough extraction cost will be priced out of the market. Using data from a large proprietary database of field-level oil data, the researcheres show that carbon prices even as high as 200 dollars per ton of CO2 will only reduce cumulative emissions from oil by 4% as the supply curve is very steep for high oil prices and few reserves drop out. The supply curve flattens out for lower price, and the effect of an increased carbon tax becomes larger. For example, a carbon price of 600 dollars would reduce cumulative emissions by 60%. On the flip side, a global cap and trade system that limits global extraction by a modest amount like 4% expropriates a large fraction of scarcity rents and would imply a high permit price of $200. The tax incidence varies over time: initially, about 75% of the carbon price will be passed on to consumers, but this share declines through time and even becomes negative as oil prices will drop in future years relative to a case of no carbon tax. The net present value of producer and consumer surplus decrease by roughly equal amounts, which are almost entirely offset by increased tax revenues.

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