The Pollution Game: A Classroom Exercise Demonstrating the Relative Effectiveness of Emissions Taxes and Tradable Permits

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This classroom exercise illustrates the strengths and weaknesses of various regulatory frameworks aimed at internalizing negative externalities from pollution. Specifically, the exercise divides students into three groups - the government regulatory agency and two polluting firms - and allows them to work through a system of uniform command-and-control regulation, a tradable emissions permit framework, and an emissions tax. Students have the opportunity to observe how flexible, market-oriented regulatory frameworks can outperform inflexible command-and-control. More importantly given the ongoing debate about how best to regulate carbon dioxide emissions, students can also observe how the introduction of abatement-cost uncertainty can cause one market-oriented solution to outperform another.