Compliance Strategies Under Permits for Emissions

Production and Operations Management, 2008

33 Pages Posted: 2 Aug 2007 Last revised: 29 Oct 2015

See all articles by Ravi Subramanian

Ravi Subramanian

Georgia Institute of Technology - Scheller College of Business

Sudheer Gupta

Simon Fraser University

F. Brian Talbot

University of Michigan - Stephen M. Ross School of Business

Date Written: October 1, 2007

Abstract

We characterize the trade-offs among firms' compliance strategies in a market-based program where a regulator interested in controlling emissions from a given set of sources auctions off a fixed number of emissions permits. We model a three-stage game in which firms invest in emissions abatement, participate in a share auction for permits, and produce output. We develop a methodology for a profit-maximizing firm to derive its marginal value function for permits and translate this value function into an optimal bidding strategy in the auction. We analyze two end-product market scenarios - independent demands and Cournot competition. In both scenarios we find that changing the number of available permits influences abatement to a lesser extent in a dirty industry than in a cleaner one. In addition, abatement levels taper off with increasing industry dirtiness levels. In the presence of competition, firms in a relatively clean industry can, in fact, benefit from a reduction in the number of available permits. Our findings are robust to changes in certain modeling assumptions.

Keywords: Environmental Compliance, Pollution Permits, Market-Based Mechanisms, Auctions, Game Theory

Suggested Citation

Subramanian, Ravi and Gupta, Sudheer and Talbot, F. Brian, Compliance Strategies Under Permits for Emissions (October 1, 2007). Production and Operations Management, 2008, Available at SSRN: https://ssrn.com/abstract=1004330

Ravi Subramanian (Contact Author)

Georgia Institute of Technology - Scheller College of Business ( email )

800 West Peachtree St.
Atlanta, GA 30308
United States

Sudheer Gupta

Simon Fraser University ( email )

Burnaby, British Columbia V5A 1S6
Canada

F. Brian Talbot

University of Michigan - Stephen M. Ross School of Business ( email )

701 Tappan Street
Ann Arbor, MI MI 48109
United States

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