BOX 5-2
Design Versus Performance Versus Cap and Trade

Traditionally, stationary sources have been regulated through the imposition of emission standards or limitations. The CAA defines such a standard or limitation “as a requirement established by the State or the Administrator which limits the quantity, rate, or concentration of emissions of a source to assure continuous emission reduction, and any design, equipment, work practice or operational standard promulgated under this Act.” Although many specific programs regulate stationary sources in the CAA, the basic approaches that have been adopted to achieve emission reductions fall into three broad categories: technology specification standards (or design standards), performance standards, and the newer use of cap-and-trade requirements.

A design standard mandates that a set of design or technological options (for example, installation of particle traps in smoke stacks) must be adopted by the managers of the regulated facilities to meet emission targets. Although this approach has the potential to achieve substantial reductions in air emissions, it has been criticized as being overly inflexible and cost-ineffective. For example, even though there is often a substantial disparity in the marginal costs of emission reductions among facilities affected by the same technology standard, technology-specification standards do not allow market forces to use this disparity to minimize the overall costs of the desired level of emission reductions (Hahn and Stavins 1992; Stavins 2002). Moreover, because firms must use the technologies specified in the standard, the approach does not encourage individual firms to pursue ways to reduce emissions through potentially more effective alternative technologies and front-end process adjustments.

In contrast to a design standard, a performance standard simply specifies a maximum allowable rate of emission from a given type of source or facility, and the managers of the facility are free to choose any combination of technologies and operational practices to meet the standard. In principle, this approach provides an individual facility with greater flexibility to discover the most cost-effective way to meet the emission standard. Although the flexibility exists in theory, in practice the performance standard is normally set at the level that can only most readily be achieved by a known technology. Thus, unless readily available alternatives can meet the standards to the satisfaction of the regulators, there is likely to be a tendency for facilities to default to the known technology, thus also limiting the achieved by selection of parameters within that technology (for example, size of options for the affected industries. In that case, the necessary level of control is the control technology and flow rates of reactants).

The performance standard can set different degrees of control for different sources—low-emission sources may have a lower control requirement than high-emission sources. However, regulators faced with setting a performance standard often compromise, setting a standard at a lower level than the one that can be achieved by many facilities so that the facility with the largest uncontrolled emissions will not face an impossible task of control. As a result, marginal costs of emission reductions often continue to vary substantially among facilities. Further, once a performance standard is achieved at a facility, there is little incentive to discover more efficient ways of achieving the same or greater emission reduction,

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