Price Elasticities of Demand and Air Pollution Control

IN the economic lilterature on externalities, two separate approaches to pollution control are distinguished; (1) government regulations to enforce control and (2) tax and subsidy schemes to stimulate voluntary abatement.' The dichotomy, however, is not always sharp. Enforced con'trols impose changes on economic activities which may increase costs and induce voluntary shifts away from pollution intensive activities. For example, a limitation on the sulfur content of industrial coal might stimulate the substitution of cleaner burning natural gas. In addition, the higher production costs associated with the shift to low sulfur coal or to natural gas may add to the prices of related outputs, reducing the demand for these products. In turn, substitutions among outputs may occur which will further alter the levels of production and consumption activities from what they would be in the absence of pollution control. Cost-effectiveness models for achieving environmental goals generally ignore induced voluntary abatement. As a consequence, the proposed solutions may be incorrect in that (a) the environmental goals would be exceeded and (b) the total cost of control would not be a minimum cost. This paper presents an air pollution control model in which both required control activity and the induced voluntary adjustments in consumption and production levels are taken into account. II The Cost-effectiveness Model with Fixed Production and Consumption Levels