Cultural Persistence and Markets As Institutions: How Regional Institutional Pressures Maintained the SO2 Allowance Market in the U.S., 2006-2011

Following the trend of liberalization and deregulation in the 1980’s, the use of market-based policies such as cap-and-trade systems, credits, and transferable property rights has grown substantially. According to economists, these policies are efficient for the government because the role of the state is to simply establish the basis of market transactions for public goods by ensuring property rights, voluntary exchange, and common law liability rules (Anderson 2004). During this period, policymakers who embraced the free market legacy increasingly accepted the idea of market-based policies as a means of regulating logging and forestry (Tripp & Dudek, 1989), restoring ecosystems (Foster & Hahn, 1995; Hahn & Hester, 1989; Klier et al., 1997), setting quotas on tobacco and dairy products (McCann, 1996), and even controlling population growth (Daly, 1996).

The previous command-and-control policies have been criticized for imposing costs on entities that did not deviate from the existing social standards. Market-based policies aim to correct these economic externalities through pricing mechanisms —the intersection of supply curves and demand curves (Coase, 1960). The “external” costs associated with socially detrimental behaviors incentivize market participants to adequately (and voluntarily) exhibit socially desirable behaviors such as preserving public goods. Moreover, the market allows participants to determine the best way to meet the policy objectives with minimal state intervention. Assuming that market participants are profit-driven actors, the incentive structure embedded in the market becomes a critical means of achieving legal compliance.

While we know much about how markets are created, diffused, and transformed (Hiatt et al., 2009; Sine et al., 2005; Swedberg, 1994), we know considerably less about how they are maintained over time. Prior studies in neoclassical economics have mostly assumed that market persistence is determined by the needs for transactions that are based on monetary incentives. According to these scholars, markets and market mechanisms are independent from social structures. Recently, however, economic sociologists have begun to show how markets and market mechanisms preserve stability through social relationships and common understandings among actors about the social value behind the market (Fligstein, 2001; Ody-Brasier & Vermeulen, 2014; Swedberg, 1994; Zuckerman, 1999). That is, markets are socially constructed fields where repeated transactions occur between actors and their stakeholders who follow formal and informal rules (Fligstein, 2001; Fligstein & Calder, 2015).

Following this view on markets as social institutions, the present study aims to investigate what led coal-fired facilities to participate in a broken Sulphur Dioxide (SO2) allowance market that was challenged in 2006 by various stakeholders including legal institutions. After 2006, the broken confidence in the market led to significant drop in the price of the allowance significantly over time. Nevertheless, the market activities (buying and selling allowances) among coal-fired facilities remained quite stable over time. Admittedly, the monetary incentives linked with SO2 reduction did not disappear immediately even after the legal institutions finally decided to vacate the Clean Air Interstate Rule (CAIR), a revised trading rule proposed by the Environmental Protection Agency (EPA), in 2008. In addition to incentives and motivations at the facility level, however, I argue that the level of market confidence varied across states due to different regional social structures (institutional pressures), bolstering the value of the policy ˗ cultural cognitive frameworks based on proenvironmentalism.  

Using the Clean Air Market Database (CAMD) from 2006 to 2011, I show how the SO2 allowance market, when facing challenges from regulators and market participants, was able to sustain until the rule was finally revised in 2011. In particular, I investigate how regional institutional pressures, which buttressed proenvironmentalism, stimulated facilities to continue to engage in market activities that were no longer perceived as a legitimate market for preserving the environment. For example, my preliminary analyses show that some facilities located in regions with a strong regulatory pressure associated with renewable energy productions maintained to participate in the broken SO2 allowance market. Based on my initial interviews with some power plants, this is because the value of allowance was relatively well preserved in those proenvironmental regions. As Fligstein (2001) notes, market devices used in these policies are not only governed by formal rules but also by common cognitive frames and informal understandings shared in the field. Going one step further, I argue that market mechanisms are also dependent on geographic communities because participants are under the influence of their local institutional environment (Marquis & Battilana, 2009).                

This research has some theoretical contributions and practical implications. First, market mechanisms are not independent from social facts (Durkheim, 1982). Prior studies in neoclassical economics have largely overlooked how social mechanisms involve in markets. Their assumptions infer that markets will eventually neutralize the effect of local orders if supply and demand occurs at the global level. However, I find that market activities are also bounded by the local institutional environment because the value imposed upon goods or services are not universal. My results imply that pricing mechanisms that are used in market-based policies are affected by local social structures, both formal and informal; along with global social orders, local institutional environments concurrently shape actors’ behaviors and priorities (Lee & Lounsbury, 2015).     

Overall, this research suggests that as long as the cultural-cognitive elements hold, actors would accept the fact-like quality of an institution (Tolbert, 1988). From an institutional resilience perspective, despite the constant challenge from stakeholders, the underlying market logic of the policy was supported by the cultural-cognitive pillar that was buttressed by the local institutional pressures. When social structures support the cultural-cognitive dimension of a given institution, that institution will be resilient to disordering forces. This is because culture and collective cognition are the lens through which actors make sense of their circumstances and their environment (Scott, 2014). As Berger and Kellener (1964:2) notes, “every society has its way of defining and perceiving reality […through culture].” When common understandings and cognitive frames remain, even markets, a form of rational institution, would resist disordering forces by constantly aligning actors’ incentives structures with the social reality.