The near-unanimous view of economists is that the best way to deal with pollution externalities is by pricing them, generally through a pollution tax or cap and trade program. Yet, policy makers still prefer to reward “good” behavior rather than impose costs on bad behavior. Economists grumble, but policy makers respond that we mustn’t let the perfect be the enemy of good steps in the right direction. There’s something to that, but a number of recent debates illustrate how these substitutes for pricing pollution can go off the rails, often doing much less good or even overall harm.
The fundamental problem is not that green energy has positive spillovers — running your A/C on solar power doesn’t make others better off — but that brown energy has negative spillovers. Thus, when we subsidize green instead of taxing brown, we end up making electricity too cheap overall.
— Severin Borenstein, Bad Incentives For Green Choices, Energy Economic Exchange, 8 July 2013