In controlling emissions, there is an important difference between a command and control instrument and a tax instrument. Both require that the polluter pay the cost of attaining the emission reduction target. However, the tax instrument imposes an additional charge

(on the emissions which remain at the target level of pollutions); this is not paid under a command and control regime. The failure to incorporate damage costs into the price of the product can generate distortions or inefficiencies in the economy. Kolstad (2000), from which this problem is drawn, gives an example in the paper manufacturing industry.

Suppose that paper can be produced using pulp either from recycled paper (which is non-polluting) or from virgin timber (which is polluting). Compare the operation of a CAC instrument with a tax instrument applied to the manufacture of pulp from virgin timber, and show how this distorts (creates an inefficiency)

in paper production.