This question can be answered by looking at the effects of tolls on transport costs and on the firm's use of road transport.
Effects of tolls on transport costs
Your main problem here is working out the impact of the tolls policy on overall traffic conditions. Presumably average speeds will increase and the frequency of delays will be reduced. Rather than restrict yourself to a single estimate it is probably better to consider a range of possibilities including any produced by government agencies. You might, for example, consider 5 per cent, 10 per cent and 15 per cent reductions in average journey times. These will produce savings in variable costs. Informed guesses using information from the Road Research Laboratory or transport organizations on the relationship between traffic conditions and running costs might permit you to write down ‘guesstimates’ of fuel savings, maintenance and wear and tear savings, as well as savings in wage costs.
Benefits to the firm are:
Reduced fuel consumption per mile.
Lower maintenance costs per mile.
Lower wage costs per mile.
Capital costs may also fall if it is possible to use a smaller fleet of vehicles for a given distance travelled per year now that each vehicle spends less time stationary in traffic jams.
The variable costs element is toll payments per mile. We assume here that the government has declared the level of charges that will be imposed.
Variable costs minus benefits will give an estimate of the net cost per mile entailed by the payment of tolls. This will obviously be lower, the greater the reduction in congestion you have assumed. On the other hand, the lower the figure for net cost per mile the less impact the policy is likely to have on traffic congestion. Thus you have a means of discussing the plausibility of the various assumptions about improvements in journey times. You might for example, consider the combination of an increase of 2 per cent in net costs per mile and the assumption of a 15 per cent reduction in journey times as being incompatible. Conversely a 100 per cent increase in costs per mile associated with a negligible change in journey times might also be considered unlikely.
Ultimately your preferred estimate will depend upon an implicit judgement about the price elasticity of demand for road transport.
Effects of tolls on the firm’s use of road transport
The type of product produced by the firm will be important here. There are three basic questions:
Is it possible to substitute alternative means of transport for road transport? Knowledge of the convenience and price of using rail, for example, will be necessary.
Are transport costs a significant component of total costs for the goods produced by the firm or are they a relatively minor item?
How sensitive is the demand for the firm's product to changes in its price or the reliability of delivery?
Suppose, for example, that your firm produces electronic components which are sent to many different locations so that rail is a poor substitute for the flexibility of road transport and the correct and careful handling of the product is important. Further, suppose that transport services make up a small proportion of value added, and that relatively small proportionate price increases will not reduce demand significantly. Clearly, these are circumstances in which the tolls policy is least likely to affect the firm's use of road transport but at the same time will not significantly harm the firm's commercial prospects.
Firms that can substitute rail for road transport at very low extra cost will also find themselves at a relatively minor disadvantage unless the demand for their product is extremely sensitive to price. The firms most adversely affected will be those transporting products for which demand is highly sensitive to price, for which alternatives to road transport are not feasible and for which transport costs make up a large proportion of value added.
The government's use of toll revenue
A final assessment of the impact of road tolls on the firm will depend upon the uses to which toll revenues are put. Clearly, different firms may be affected differently by different policy decisions.
A reduction in the rate of income tax will affect the firm through changes in demand for the product. Consumers will find themselves paying higher prices (of varying degrees) for goods, but being compensated with a fall in personal tax. The impact of previous income tax cuts might be used as evidence concerning these effects. You would need to know the total revenue from tolls and the possible extent of tax cuts thereby made possible.
Abolition of road fund licences would provide some compensation for large transport companies which would find their cost structure altered. Overhead costs would fall while costs of extra road use would rise.
Falls in business rates would spread the benefits over all businesses irrespective of their use of road transport. If your firm is in professional services, or some other area with low transport costs, the overall impact of a tolls policy combined with lower rates could be favourable.
Subsidies to rail services would be of greatest value to firms which would switch to rail anyway as a result of quite small changes in road costs. These firms would find their transport costs falling and would be net beneficiaries of the tolls policy.
In general the purpose of this question has been to indicate the complexity of the impact of taxes introduced for environmental purposes. Implicitly we have been considering an application of the theory of ‘tax incidence’. It can be seen that the redistributional consequences of environmental measures are not straightforward, and that business interests are unlikely to be similar across all industries and firms.
Road tolls and pollution abatement
In principle, a tax on road use is not suitable as a means of controlling emissions because it gives an incentive only to reduce the use of the road and not directly to reduce the carbon or nitrogen oxide content of exhaust gases. Clearly, use of the road is directly related to congestions, it is not directly related to other forms of pollution. A tax on the content of exhaust gases paid perhaps at petrol stations as part of the price of fuel would be a better targeted instrument in theory, although the problems of administration and enforcement would be considerable. It would be an incentive to drive cars with cleaner and more fuel efficient engines. As we saw in the text, however, governments have a tendency to use regulatory instruments such as introducing technical specifications which all new cars have to meet by a certain date.
There are several problems of interpretation associated with the polluter-pays principle (PPP).
Who is the polluter? Is the emitter always to be held responsible for pollution, or should the consumer of the goods which are produced using environmentally costly methods to be considered a polluter? If we take the common-sense position that a decision of the emitter causes the pollution, the polluter-pays principle would appear to be a declaration that taxes or other regulatory conditions should be imposed on this person. The emitter would ‘formally’ be responsible for paying taxes or meeting standards, but this would not mean that the entire burden of these measures should stay at that point. Presumably the emitter would raise the prices of goods, and consumers would bear some of the costs. Why it should be important that environmental measures are focused formally on the emitter is not clear.
What is the polluter paying for? The interpretation of the PPP given in the text is that environmental costs should be reflected in prices. This is more consistent with the view that the consumer is ultimately the polluter. But does the polluter have to pay for the environmental damage caused by his consumption patterns, the environmental improvements achieved by abatement techniques, or both? Consider a firm facing a Pigouvian tax on its emissions of pollution. It must pay either for the damage it does or for abatement technology. Presumably, as it increases output it will choose whichever is cheaper (either paying the tax or installing pollution abatement equipment in order to avoid paying it). Thus the marginal cost of a single unit of the output will reflect either the damage to the environment or the cost of avoiding it, whichever is cheaper, and if the firm gets its calculations right these costs should be about the same.
As a declaration about the ‘correct’ level of prices therefore, the PPP could be interpreted either in terms of payment for marginal environmental damage caused or payment for the means of avoiding it. As a statement about the overall burden of environmental policy, however, it matters whether firms actually have to pay for the damage they do or not. Facing a Pigouvian tax they would actually have to pay compensation for damage done, whereas merely paying for technical improvements imposed by regulators they would not.
The PPP can therefore be interpreted as either:
A declaration that prices to consumers should reflect all costs including environmental ones; or
A declaration that in total consumers of polluting products should pay for the environmental degradation they cause.
These ambiguities are apparent in the specific cases mentioned in the question.
The second option in Table 4.3 – ‘Industry should find the money by charging us higher prices …’ – is close to the PPP interpreted as a pricing principle.
The output reduction subsidy would result in higher prices to consumers (see Section 4.4.3 and therefore it might be argued that this mechanism is compatible with the PPP since it confronts them with the ‘correct’ prices. The problem is its distributional consequences which are very favourable to firms which effectively gain the benefits of environmental improvement in the form of monopoly profits created by output restriction. If the PPP is interpreted as meaning that emitters should not become better off as a result of pollution policy, the output reduction subsidy is clearly suspect.
Pollution rights would result in an efficient pattern of abatement between firms as we noted in the text. Further the prices of products would adjust to take account of the cost of the licences required for production. A licence system would therefore satisfy the PPP interpreted as a pricing principle. The distributional implications, however, depend upon the character of the licence system. If tradeable licences are simply granted to firms, their market value would make them a valuable asset and would imply that owners of firms are gaining a large proportion of the benefits from pollution reduction. It might be argued by some that this result is nearer a ‘polluter gains principle’ if the polluter is seen as the emitter. With the same number of licences a competitive bidding system would have quite different distributional properties but very similar results for product prices.
From the company's standpoint possible problems might include the following:
Environmental pressure in all coal-using countries might increase the price of low sulphur coal over time. This is not a big problem providing the use of low sulphur coal does not require the electricity generating industry to invest in any specific capital (but see (ii) below). It should then be possible to adopt another option as and when it becomes economical.
Estimates of the cost of imported coal may be inaccurate once the cost of port facilities and transport is considered. Further, if these facilities are heavily dependent on the continuation of coal imports, fears about future rises in the price of low sulphur coal may make the ports industry unwilling to invest. They would be the ones most likely to have to concede reductions in prices for their services (why?).
The generating industry might be concerned about security of supply from overseas, although disruptions are also possible when the source of supply is the UK.
From the point of view of the government, possible problems might be the following:
The social consequences in mining areas of the UK of further reductions in manpower and output would be adverse. Incomes would fall and unemployment would rise in particular areas.
The effects of economic developments on the balance of payments are often considered important in the area of industrial policy (see Module 6). This is often quite irrational and ignores the consequences for the rest of industry of more expensive electricity, but as a matter of political reality the issue is significant.
The basis of any defence must be that the grants and loans concerned are not part of environmental policy at all but are part of regional or social policy. To remove the subsidies for FGD plants would be to ask electricity consumers to pay not for pollution reductions (which could be achieved at low cost through the use of a different type of coal) but for the support of mining areas which would be more properly financed from general taxation.
The case for delay would not appear to be strong. Any such case would have to depend upon the arrival in the foreseeable future of a technology with fairly predictable cost characteristics which would render obsolete the present techniques. The new technology would then make any pollution reductions achieved by interim investment using established techniques extremely costly.
The information in Table 4.3 shows future options with considerable uncertainty associated with their likely cost.
A further point of some importance is that innovation in these areas does not happen automatically. Incentives are required if new technology is to be developed. It is one advantage of pollution taxes that they provide such a continuing incentive to discover new cost-effective methods of abatement. Regulations about emissions standards do not do this unless they include targets for future improvements. The fear that such higher standards may be imposed at a future date could encourage companies to look for innovations. The situation is once more a form of bargaining game in which negotiations over future environmental standards determine the policy of the firm towards environmental improvement and technological innovation. The Royal Commission (1984) on Environmental Pollution in their tenth report argue, for example, that the Central Electricity Generating Board would be prudent to experiment with sulphur abatement options.
It is in our view prudent to do this, not least to gain appropriate technical experience and to encourage relevant innovations in British Industry. Otherwise, international pressures may eventually dictate a significant reduction in emissions … with the adoption of expensive ‘crash programmes’ against a background of technical inexperience … (p. 147)
