INTERNATIONAL ECONOMIC REVIEW Vol. 40, No. 3, August 1999 TRANSFERABLE LICENSES VERSUS NONTRANSFERABLE LICENSES: WHAT IS THE DIFFERENCE?* BY KALA KRISHNA AND LING HUI TAN †1 Pennsyl  ania State Uni  ersity, U.S.A. International Monetary Fund, U.S.A. This paper questions the presumption that transferable licenses are worth more and result in higher welfare. We show that the price of a transferable license may be lower than that of its nontransferable counterpart if the underlying quota is not very severe. However, transferability is preferable to nontransferability if consumer surplus and license revenue have equal weight in the welfare function. We also examine whether licenses will be monopolized by domestic producers with market power. The models have implications for several issues, including the design of pollution permits and how to maximize revenue from ticket sales. 1. INTRODUCTION Quantitative restrictions are usually implemented by means of issuing quota licenses and allocating these licenses in some way to various agents in the economy. What are the consequences of making these quota licenses transferable as opposed to nontransferable? Most economists would argue that transferable licenses result in higher license prices and improved welfare. The economic intuition behind this seems compelling: If transferability is allowed, licenses will go to agents who value them the most, and this will result in a higher license price. Moreover, since transferable licenses will be allocated ‘‘properly’’ by the market under perfect competition while nontransferable ones need not be, welfare defined as the sum of license revenue and surplus will necessarily be higher under transferability, irre- spective of the weight attached to revenue relative to surplus. The difference between transferable licenses and nontransferable licenses is of considerable importance in the policy arena. For example, there is a continuing active debate in the environmental economics literature over the idea of allowing industrial polluters to transfer pollution rights granted to them by the standard-set- * Manuscript submitted June 1996; revised September 1997; final draft April 1998. † E-mail: kmk 4@psu. edu. 1 We are grateful for comments from Andrew Postlewaite, an anonymous referee, seminar and conference participants at the Winter School, Delhi School of Economics, the Recent Developments in International Economics Conference, Aix-en-Provence, France, University of Konstanz, Germany, The University of Colorado, Boulder, The University of British Columbia, Vancouver, Canada, McGill University, Montreal, Canada, and Cornell University, New York. We also would like to thank C. Yavas for her excellent assistance. Kala Krishna gratefully acknowledges support from the National Science Foundation under Grant No. SBR-9320825. 785