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Market Failure and Political Failure

PARIS – Markets can fail. But, as has been demonstrated in areas like air pollution, traffic congestion, spectrum allocation, and tobacco consumption, market mechanisms are often the best way for governments to address such failures. So why are such mechanisms now in retreat?

Consider markets for emissions allowances, in which firms that can cheaply cut air pollution trade with those that cannot. A decade ago, the idea that such markets could achieve desired environmental goals at relatively low cost was widely recognized and implemented. Today, however, politics is killing “cap and trade.”

In the United States, the highly successful cap-and-trade system for sulfur-dioxide emissions has effectively vanished. In Europe, the Emissions Trading System (ETS), the world’s largest market for carbon allowances, has become increasingly irrelevant as well. On both sides of the Atlantic, market-oriented environmental regulation has in effect been superseded over the last five years by older “command-and-control” approaches, by which the government dictates who should use which technologies, in what amounts, to reduce which emissions.

Cap and trade was originally supposed to be a Republican idea in the US: its backers were those who considered themselves pro-market, not those who considered themselves pro-regulation. Most environmental organizations initially opposed it, with many believing it immoral for corporations to be able to pay for the right to pollute.