Abstract

Global policy to address causes of climate change must ultimately change human economic behavior. Institutions, formal and informal, are the social mechanisms through which human behavior is constrained, and therefore the logical object of any climate change policy study. Investigations into efficient institutional design tend to focus either on intensive case study or on game theory. These approaches share a common focus on interaction of persons or agents in a specific environment, absent a theoretical model of human behavior. They also tend to share a rejection of market analysis, working from a presumption of “market failure” because the market does not accurately reflect costs that are external to the market and that market participants do not immediately adjust their behavior to changes in costs at the margin. This presumption, which may be in error, leads to resort in the first instance to “command and control” regulation instead of responses based on micro-economic behavior. This article applies micro-economic theory to the question of what characteristics an effective institutional structure is likely to exhibit. It then applies that analysis to the structure of the obligations of the Kyoto Protocol. The analysis finds that the standard model of human economic behavior, adding consideration of transactions costs, provides powerful insights into how institutions might be most effectively designed for the purpose of reducing human emissions of greenhouse gasses (GHGs).