Market-based instruments

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Market-based instruments (MBIs) are policy instruments that use price or other economic variables to provide incentives for polluters to reduce harmful emissions. They seek to address the market failure of negative environmental externalities either by incorporating the external cost of production or consumption activities through taxes or charges on processes or products, or by creating property rights and facilitating the establishment of a proxy market for the use of environmental services.

Market-based instruments are also referred to as economic or price-based policy instruments. MBIs include charges, subsidies, marketable (or tradeable) permits and others including deposit/refund systems, eco-labelling, licenses, and property rights (economics). For instance, the European Union Emission Trading Scheme is an example of a market-based instrument to achieve better environmental outcomes (in this case reducing greenhouse gas emissions).

Market-based instruments differ from other policy instruments such as voluntary agreements (actors voluntarily agree to take action) and regulatory instruments (whereby public authorities mandate the environmental performance to be achieved or the technologies to be used), although implementing an MBI also commonly requires some form of regulation.

Market based instruments can be implemented in a systematic manner, across an economy or region, across economic sectors, or by environmental medium (e.g. water). Individual MBIs are instances of environmental pricing reform.