Klaus Eisenack (Humboldt Universität), joint with Achim Hagen (Humboldt Universität)
We compare the regulation of a pollutant with a price or a quantity instrument if the political decision making is driven by a lobby contest between the polluting industry and an environmentalist lobby group. We derive a sufficient condition under which both types of regulation lead to an equivalent outcome. If the equivalence does not hold, both types of regulation lead to different levels of emissions, lobby efforts and welfare. For a functional form without equivalence, we show that lobbying over a price instrument always leads to over-regulation. In contrast, lobbying over quantities leads to under-regulation. In terms of welfare, the price instrument performs better if the pollutant causes high marginal damages, whereas for low marginal damages the quantity instrument leads to higher welfare. Our results indicate that in a politico-economic environment with lobbying, the instrument choice of prices versus quantities can have important implications for the interest groups as well as for the environment and welfare.