A Laboratory Investigation of Compliance Behavior Under Tradable Emissions Rights: Implications for Targeted Enforcement

Abstract

This paper uses laboratory experiments to test the theoretical observations that both the violations of competitive risk-neutral firms and the marginal effectiveness of increased enforcement across firms are independent of differences in their abatement costs and their initial allocations of permits. This conclusion has important implications for enforcing emissions trading programs because it suggests that regulators have no justification for targeting their enforcement effort based on firm-level characteristics. Consistent with the theory, we find that subjects' violations were independent of parametric differences in their abatement costs. However, those subjects that were predicted to buy permits tended to have higher violation levels than those who were predicted to sell permits. Despite this, we find no statistically significant evidence that the marginal effectiveness of enforcement depends on any firm-specific characteristic. We also examine the determinants of compliance behavior under fixed emissions standards. As expected, we find significant differences between compliance behavior under fixed standards and emissions trading programs.

Keywords: enforcement, compliance, emissions trading, permit markets, standards, command-and-control

JEL Classification: C91, L51, Q58