Economic Incentives Key to Handling Climate Change

Economic incentives can help businesses, governments, and the people achieve emission reduction and climate change goals.

Business activity accounts for the vast majority of global greenhouse gas emissions from one perspective or another. Just 100 companies are responsible for 71% of global emissions. The need to reduce global emissions is enormous, but the perception that emission reductions will hurt the bottom line, reduce product quality, or otherwise interfere with “business as usual” undermines climate initiatives.

Economic incentives to handle climate change propose a new paradigm in climate management by working on the principle that reducing greenhouse gas emissions is good for everyone: governments, businesses, and people who benefit from a healthier world without the multitude of risks of climate change.

Economic incentives push businesses to look at the “triple bottom line”. That is, business that is better for the environment, society, and the financial growth of a company. Here are key economic incentives which can be more widely implemented to handle climate change:

Emissions Tax

Emission taxes are one of the simplest forms of economist disincentives to promote reduction of carbon emissions. These taxes can be applied at a variety of points in the production cycle of fossil fuels, as well as for all other types of emissions from wastewater to solid waste. Emission taxes are currently the most widely used economic climate change incentives.

Emission taxes, fees, or charges are generally applied per unit of pollution emissions or waste. The drawback of the emissions tax model is it assumes compliance and cannot guarantee a specific amount of emission reduction. The advantage is that only those who pollute will be penalized.

Examples of emissions taxes include water user fees, solid waste disposal fees, wastewater discharge fees, and other pollution taxes. 


Cap-and-trade, or capped allowed systems, set a maximum allowed emission. The distribution of allowances varies by country, location, and industry. Allowances can be given to firms either based on historical pollution levels, “for free”, or sold in auctions. Because distribution based on past emissions favors larger firms, auctioning is considered the most transparent allocation method and is preferred in the European Union. 

Regardless of distribution model, once the allowances are allocated, firms must either reduce their emissions or purchase allowances from other firms. Emissions trading has become a way for businesses to limit emissions by purchasing extra allowances or  “carbon credits”.

The overall benefit of the cap-and-trade model is it forces businesses to work collaboratively to achieve specific national and international emissions targets. Unlike emissions taxes, cap-and-trade encourages businesses to be proactive in emissions reductions or purchase additional allowances from other businesses who are under target.

Emission Reduction Credits

Emission reduction credits (ERCs) are limits put in place in proportion to business activity. Unlike cap-and-trade, there is no overall market limit. Emission limits are set so that pollution cannot exceed a specific limit, such as grams of CO2 per mile for motor vehicles. As the market expands, emissions will increase in proportion to the set limits.

Businesses can earn credit for emissions below the specified rates. These ERCs can be sold to other businesses for a profit, intersecting with the cap-and-trade model. ERCs can also be used to offset production in other parts of the business. 

Generally, there are geographic limitations on ERCs. ERCs earned in California cannot be sold to a business in New York. Even with this limitation, the ability to sell or save ERCs makes them a valuable business asset in the push for emission reductions and climate protection. 

Subsidies for Emission Control

Another key economic incentive for handling climate change are subsidies on activities deemed environmentally friendly. These subsidies include grants, low-interest loans, and tax benefits that use economic “bonuses” rather than taxes or limits. 

Examples of subsidies for climate change:

  • Grants for hazardous substance containment.
  • Grants for erosion control.
  • Low-interest loans for small farmers.
  • Grants for land conservation.
  • Grants for recycling programs.
  • Tax incentives for installation of renewable energy sources such as wind, solar, or geothermal.
  • Tax incentives for green vehicles.
  • Tax incentives for Energy Star products.

These subsidies are often combined with a deposit-refund system. On a small scale, beverage containers with a $0.10 deposit that is returned when the bottle is recycled is an example of this system. Large scale deposit-refund systems are seen in tax incentives and other rebates to encourage emission reductions and environmentally friendly business practices.

Putting it All Together

As the enormous pressure of climate change becomes evident, the push for emission reductions across business sectors will only increase. Taken together, economic incentives have the power to encourage businesses to reduce overall emissions for both climate and financial benefits in pursuit of the triple bottom line: good for people, the planet, and for business. Economic incentives can help businesses, governments, and the people achieve emission reduction and climate change goals. 


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