Financing Pollution Abatement: Theory and Practice

Pollution abatement financing, the mechanism of raising and allocating financial resources to prevent and control negative effects of environmental pollution, is one instrument of a complex policy approach aiming to correct market and administrative failures. The first part of the paper reviews theoretical issues influencing the financing framework including 1) the need for government intervention to correct externalities; 2) the effects of environmental policy and implementation approaches; 3) the connection with fiscal policies; and 4) the development of capital and financial markets. Reviewing the experience of the countries with the most developed economies (OECD), part two concludes that heavy reliance on command-and-control-based environmental regulations did not lead to cost-effective solutions in the past. In response, OECD countries increased the role of market-based mechanisms in the implementation of environmental policies. The paper reviews various subsidy schemes used to speed up private pollution abatement and to reduce the financial burden of compliance with new regulations and standards in the past decades. Part three discusses environmental policy and financing issues in transition economies. Part four reviews pollution abatement financing in developing countries. Finally the paper reviews the role of external financing, noting that donor assistance may supplement domestic resources, but cannot compensate for lacking domestic environmental financing systems.