CHAPTER 18 • Externalities and Public Goods 669 Dollars per unit of emissions MEC F IGURE 18.5 STANDARDS AND FEES Standard The efficient level of emissions at E* can be achieved through either an emissions fee or an emissions standard Facing a fee of $3 per unit of emissions, a firm reduces emissions to the point at which the fee is equal to the marginal cost of abatement The same level of emissions reduction can be achieved with a standard that limits emissions to 12 units Fee MCA 12 26 E* Level of emissions of abatement is less than the emissions fee Thus it pays to reduce emissions Below 12 units, however, the marginal cost of abatement is greater than the fee In that case, the firm will prefer to pay the fee rather than further reduce emissions It will therefore pay a total fee given by the gray-shaded rectangle and incur a total abatement cost given by the blue-shaded triangle under the MCA curve to the right of E = 12 This cost is less than the fee that the firm would pay if it did not reduce emissions at all Standards versus Fees The United States has historically relied on standards to regulate emissions However, other countries, such as Germany, have used fees successfully Which method is better? The relative advantages of standards and fees depend on the amount of information available to policymakers and on the actual cost of controlling emissions To understand these differences, let’s suppose that because of administrative costs, the agency that regulates emissions must charge the same fee or set the same standard for all firms THE CASE FOR FEES First, let’s examine the case for fees Consider two firms that are located so that the marginal social cost of emissions is the same no matter which reduces its emissions Because they have different abatement costs, however, their marginal cost of abatement curves are not the same Figure 18.6 shows why emissions fees are preferable to standards in this case MCA1 and MCA2 represent the marginal cost of abatement curves for the two firms Each firm initially generates 14 units of emissions Suppose we want to reduce total emissions by 14 units Figure 18.6 shows that the cheapest way to this is to have Firm reduce emissions by units and Firm by With these reductions, both firms have marginal costs of abatement of $3 But consider what happens if the regulatory agency asks both firms to reduce emissions by units In that case Firm 1’s marginal cost of abatement increases from $3 to $3.75, while Firm 2’s marginal cost of abatement decreases from $3 to $2.50 This cannot be