Opinion – Why? Economês in good Portuguese: The problem of externalities and the rights to pollute

In previous texts in this series we explained what negative externalities are in the context of environmental economics, and we present some solutions to these problems: tax and subsidy. In today’s text, we are going to talk about another alternative to circumvent this issue: the introduction of rights to pollute.

The carbon credits market, which gained a lot of attention last year, in the COP-26 debates, is the best-known example of the introduction of rights to pollute. Its operation is based on carbon pricing, that is, on establishing a price (or cost) for carbon emissions into the atmosphere. The idea is that, when purchasing a carbon bond, the holder of the credits will have the “right to pollute”. These rights serve as the basis for countries’ emission reduction strategies.

During climate negotiations such as the COP, countries commit to different targets to reduce their CO2 emissions. In order to reach these goals within the determined deadlines, they can adopt national abatement strategies, that is, reduce the amount of pollution they generate, through different initiatives and public policies that result in incentives for companies to adopt clean technologies or for consumers to adapt their consumption patterns. With the carbon credit market, countries can also choose, instead of reducing their domestic pollution, to buy “credits” from other countries. Either way, the country can achieve its climate goals. In the second case, the contribution to reducing pollution comes from the fact that it pays another country which, in turn, will be reducing its emissions.

Thinking from the point of view of economic efficiency, it makes a lot of sense that nations that have the greatest capacity to contribute to climate mitigation actions gain for this. These credits make possible the so-called “flexibility mechanisms”, provided for in the Kyoto protocol: these mechanisms encourage countries and companies that have greenhouse gas emission reduction targets to achieve them more cost-effectively. That’s because pollution abatement will occur wherever it is cheapest, regardless of where it was generated. Furthermore, this type of strategy follows the “polluter pays” principle (that is, it makes the polluter responsible for bearing the costs resulting from pollution), by making more polluting nations pay in order to emit carbon.

In Brazil, the carbon credits market brings important challenges and opportunities. Opportunity because Brazil, thanks to its many natural resources, could be a great exporter of carbon credits on a large scale if it participated in this market. For many, participating in this market would even be the key to the country’s economic recovery. However, several challenges need to be overcome before Brazil can enter a global carbon market. In addition to political obstacles, necessary actions include developing systems for monitoring, reporting, verifying and reducing emissions, as well as implementing national markets for carbon credits.