Have Incentive Based Policies Been Oversold? The Case of Non-Point Source Pollution in the Neuse River Basin

This paper argues that past evaluations of the efficiency gains for command and control (CAC) versus incentive based (IB) environmental policies have been misleading. An analytical model of firm behavior in offering pollution permits for sale is used to demonstrate that the efficiency properties of a policy depend on how the policy design affects the excess demand (by other market participants) for permits. The importance of the argument to the estimated size of CAC/IB comparisons is illustrated with a large scale, nutrient balance model for the Neuse River Basin in North Carolina. The model includes both waste water treatment plants and non-point sources of nutrients and confirms the theoretical arguments.