Trading Pollution: How Pollution Permits Paradoxically Reduce Emissions

In an effort to reduce pollution, the government tried two policy prescriptions under the Clean Air Act Amendments of 1990. The first—command and control—mandated that each power plant lower its pollution by a determined amount. However, different firms face different cost curves and, because information is dispersed, policymakers don’t always know those costs. The second policy prescription—tradable pollution permits—empowered firms to use knowledge of their cost curves to buy or sell pollution permits as needed. Under this policy, the invisible hand of the market helped discover the lowest cost way of reducing pollution. 

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