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2.3 Environmental Policy

The number of uncertainties described earlier should not be a reason for inaction. This is in line with the so-called 'Precautionary Principle' as expressed in Article 3 of the Convention on Climate Change which reads as follows: The parties should take precautionary measures to anticipate, prevent or minimize the causes of climate change and mitigate its adverse effects. Where there are threats of serious or irreversible damage, lack of full scientific research should not be used as a reason for postponing such measures, taking into account the policies and measures to deal with climate change should be cost-effective so as to ensure global benefits at the lowest possible cost” (UNFCCC, 1997).

Indeed policy makers facing a panel of experts with divergent beliefs have to deal the situation as a case of decision-making under pure uncertainty. According to Woodward and Bishop (1997), their restatement of the Arrow-Hurwicz theory demonstrates that rational choice criteria under this kind of uncertainty have to focus on the extremes of the state space and not on the average as typically assumed under the expected utility hypothesis. That means that we should not look for averages or compromises rather than consider the best and the worst of the credible scenarios. Given that in future more information will be available, one of the two sides of the climate change debate will turn out to be right. If the more pessimistic scenario is right then acting on the low case will be a failure of today's decision making. On the other hand, if we act on the extreme scenario and in future we realize that the low case is right then it means that the society has overinvested (Ackerman & Heinzerling, 2004). The cost may be substantial and may also effect future generations.

Under this pressure, various industry sectors have been considering many possible measures including operational, technical and market-based options. From the environmental economics' point of view, climate change is the greatest and widest-ranging market failure ever seen, presenting a unique challenge for economics. Without entering into detail, markets may fail to achieve the optimal outcome when an externality exists, that is when the actions of a firm impact on those not directly involved. That is exactly what happens in the case of air pollution. In environmental policy-making, policies are often classified in market-based, command-and-control and voluntary instruments. This section will focus on the possible ways to internalize the cost of externalities according to standard economic theory. The role of incentives such as taxes, trading schemes and command-and-control will be analyzed. Operational and technical measures are not discussed here as they are covered in other chapters of this book.

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