The Public Policy
Don’t Forget Cap and Trade
Lessons from the European “emissions trading” experience.
Amid the public outrage surrounding health care reform, another issue of equal importance for the average American has been nearly forgotten: the upcoming Senate debate on the Waxman-Markey “cap and trade” bill. This bill attempts to “cap” — that is cut — U.S. emissions of greenhouse gases by forcing all energy producers to pay for expensive emissions permits, which can be traded on the basis of need and cost. The idea is that making fossil fuel-based energy less affordable create incentives for investment in low-carbon energy supplies, or energy-efficient equipment, that otherwise would be prohibitively expensive.
Before the Senate vote, politicians and the public alike should consider the experience of the strikingly similar “emissions trading system” (ETS) in place in the European Union since 2005. The European version has succeeded only in raising energy costs to consumers, even as emissions continued to rise. Its entire approach is fundamentally flawed and even self-defeating for two main reasons. First, it is extremely difficult to judge how many permits should be created. Second, by initially allocating permits free of charge instead of by auction, both the European and the proposed American versions of ETS fail to impose the supposedly necessary costs on polluters, and thereby create perverse incentives for industry leaders and government bureaucrats alike.
To begin with, to judge how many permits should be created in order to achieve targeted cuts in carbon dioxide (CO2) emissions, regulators must make a series of projections about future economic growth and possible changes in technology. In Europe, they got their sums wrong. The number of permits created exceeded the amount of CO2 emissions, causing the price of carbon to collapse. Far from meeting target cuts, emissions within the EU actually rose during the first phase of ETS (2005-2007) by 0.8 percent. On the other hand, if too few permits are created, skyrocketing energy prices would bring the economy grinding to a halt, putting thousands out of work. Politicians are therefore more likely to err on the side of caution by speaking boldly but creating too many permits. This is what has happened in Europe.
The European ETS’s biggest flaw is that individual governments were allowed to give away permits as they chose. The free allocation of permits essentially amounts to the distribution of subsidies to businesses, which gives bureaucrats the power to pick winners and losers. Those bureaucrats, in turn, become prone to “capture” by rent-seeking interest groups. In Europe, the companies that won the most permits were those with the best connections and lobbying teams, rather than those that needed them the most. Smaller distributors, such as hospital trusts, were forced to buy permits from bigger utilities. The price fluctuations inherent in such a politically-created market have also led to a great deal of uncertainty and a decrease in infrastructure investment, with the result that, as the Economist noted recently, for example, Britain is likely to experience blackouts in just a few years.
Moreover, the EU approach created a perverse incentive for businesses to lobby for more permits than they needed so that they could profit by reselling them to those that lost out in the wheeling and dealing of the allocation process. As long as permits are allocated free of charge instead of auctioned, the market logic of the ETS is fatally undermined. As the legislation now stands, under Waxman-Markey, 85 percent of the permits are to be given away for free. This is unlikely to change (for the better); for this bill would never have been passed in the first place if not for the myriad give-aways (e.g. free permits, subsidies) lavishly bestowed upon so-called “stakeholders.”
To sum up, the failure of the European ETS should give pause to Senators considering a similar system for the U.S. Cap-and-trade will not result in emissions cuts. It will, however, greatly enhance the power of the government to regulate the economy. And it will lead to higher energy costs, as the costs of trading permits add to utilities’ cost of doing business.
Given these facts, why the strong push for cap-and-trade? The sad fact is that both President Obama and the Democratic Congress are misleading the public. Alternative measures such as a carbon tax have not been considered precisely because their costs are transparent and obvious to the public. By contrast, cap-and-trade allows the President and Congress to claim credit for “taking action” on global warming without acknowledging the real costs that entails — costs which the public, when informed of the facts, is rightly unwilling to accept.
About the Author
Iain Murray heads the Center for Economic Freedom at the Competitive Enterprise Institute and is the author of Stealing You Blind: How Government Fatcats Are Getting Rich Off of You.
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Melvin| 8.14.09 @ 7:44AM
There is a glimmer of hope for the world after all. The Australian Senate voted down Cap and Trade law by 42 to 30.
I wonder if our representatives have the gonads to do so as well.
Jim| 8.14.09 @ 8:04AM
Am I wrong, but aren't ALL GHG emitters capped?
Isn't this bill intended to cap/tax dairy farmers, beef & hog producers, builders, etc?
Beyond the GHG issue, isn't this Bill absolutely intrusive into the construction industry & even homeowner minor improvements?
Mark| 8.14.09 @ 8:18AM
What I am afraid of that this montrosity of a bill will pass the senate while everyone is concentrating on the health-care fiasco. In otherwords, divide the populous’ attention and conquer.
David in Houston| 8.14.09 @ 8:20AM
What people keep missing about Waxman-Markey is the parts of the bill that are extraneous to the cap and trade system contained in it. The cap and trade parts of the bill are bad enough on their own, but constitute only about 1/3rd of the bill's 1400 pages. The rest of the bill is a monstrous government intrusion into all manner of public life. The bill authorizes regulatory rulemakings in five separate departments of the federal government. There are at least 35 different sections of the bill that authorize either rulemaking or reporting activities by the EPA alone.
It is difficult to judge whether Waxman Markey or Obamacare are the single worst legislative proposals in American history, but regardless of which order they take, they certainly rank #1 and #2 on that list.
Pecos Pete| 8.14.09 @ 8:35AM
David in Houston: Ditto. You are right on! And, the danger is that the electorate will be exhausted by the health care debate and will simply give up on the cap n' trade bill.
Maybe the Whitehouse will put up a snitch web site for those of us opposing Waxman-Markey. Or more town halls featuring The One telling us not to worry about loss of freedom from more federal government oversight ... you know, cause it ain't true.
Robert Rosencrans| 8.14.09 @ 10:54AM
Most people don't know that the whole scheme of cap and trade was proposed in the 60's by a graduate student. Ironically he and the other student who conceived of this idea state (or stated) that it isn't the right solution for global warming.
http://www.theaustralian.news.com.au/story/0,25197,25926628-5013871,00.html
IN the 1960s, a University of Wisconsin graduate student named Thomas Crocker came up with a novel solution for environmental problems: cap emissions of pollutants and then let firms trade permits that allow them to pollute within those limits.
Now legislation using cap-and-trade to limit greenhouse gases is working its way through the US congress and could become law. But Mr Crocker and other pioneers of the concept are doubtful about its chances of success. They are not abandoning efforts to curb emissions. But they are tiptoeing away from an idea they devised decades ago, doubting it can work on the scale now envisioned.
"I'm sceptical that cap-and-trade is the most effective way to go about regulating carbon," says Mr Crocker, now 73 and a retired economist. He says he prefers an outright tax on emissions because it would be easier to enforce and provide needed flexibility to deal with the problem.
The lower house has passed cap-and-trade legislation. The Senate could take up a measure in September. But Republicans strongly oppose the idea, arguing it is a tax that will hurt the economy, and Democrats are struggling to come up with an approach that apportions the inevitable cost of a cap-and-trade system among different interests, from consumers to utilities to coal plants.
Mr Crocker, who went on to become a professor at the University of Wyoming, is one of two economists who dreamed up cap-and-trade in the 1960s. The other, John Dales, who died in 2007, was also a sceptic of using the idea to tame global warming. "It isn't a cure-all for everything," Mr Dales said in an interview in 2001. "There are lots of situations that don't apply."
Mr Crocker sees two problems in using a cap-and-trade system to address the global greenhouse-gas issue. The first is that carbon emissions are a global problem with myriad sources. Cap-and-trade, he says, is better suited for discrete, local pollution problems.
"It is not clear to me how you would enforce a permit system internationally," he says.
"There are no institutions right now that have that power."
Europe has embraced cap-and-trade rules. Emissions initially rose there because industries were given more permits than they needed, and regulators have since tightened the caps. Meanwhile, China, India and other developing markets are reluctant to go along, fearing limits would curb their growth. If they don't participate, there is little assurance that global carbon emissions will slow much even if the US goes forward with its own plan. And even if everyone signs up, Mr Crocker says, it isn't clear the limits will be properly enforced across nations and industries.
The other problem, he says, is that quantifying the economic damage of climate change -- from floods to failing crops -- is fraught with uncertainty. One estimate puts it at anywhere between 5 per cent and 20 per cent of global gross domestic product. Without knowing how costly climate change is, nobody knows how tight a grip to put on emissions.
In this case, he says Washington must adopt an approach that will be flexible over a long stretch of time as more becomes known about damages from greenhouse-gas emissions. Mr Crocker says cap-and-trade is better suited for problems where the damages are clear, such as acid rain in the 1990s, and a hard limit is needed quickly.
"Once a cap is in place," he warns, "it is very difficult to adjust." For example, buyers of emissions permits would see their value reduced if the government decided in the future to loosen the caps.
Joseph Aldy, a White House adviser on the environment, calls the argument a "straw man", saying a market-based cap is being designed with built-in flexibility. For example, a price ceiling on carbon allowances could prevent the program from becoming too big a burden on households and businesses and a floor would prevent a big loss in the value of permits. And unlike a tax, he says, a cap ensures carbon reduction.
Pollution has been a puzzle for economists for decades.
In 1966, Mr Crocker, still struggling to finish his thesis, sketched out the cap-and-trade idea to deal with air pollution produced by fertiliser plants in Florida. He first pitched the idea of trading at a conference in Washington. Working separately, Mr Dales in 1968 published a book, Pollution, Property and Prices, which used the same approach for farmers who were polluting Canadian lakes.
Their logic went like this: When governments capped smog emissions from power plants or the runoff of pesticides by farmers into local streams, it was indirectly putting a value on these emissions.
Some farmers and some power plants could reduce these emissions more efficiently than others, and some placed a higher value on them than others. By setting caps on pollution but then allowing the polluters to trade these rights, the economists theorised, the polluters themselves would figure out the cheapest way to meet new targets.
Another economist, David Montgomery, advanced their ideas in the 1970s, converting their theories into complex mathematical formulas to demonstrate they were also economically feasible. Mr Montgomery, too, is a sceptic of cap-and-trade for greenhouse gases. He prefers an outright tax.
"You get huge swings in carbon prices with a cap, which creates more volatility and uncertainty for business," he says.
Cap-and-trade got a big boost in 1990, when president George H.W. Bush signed amendments to the Clean Air Act that imposed new limits on emissions of sulfur dioxide that produces acid rain. Economists said the move let producers save billions of dollars and still hit their targets.
Still, Mr Dales and Mr Crocker never got much personal mileage out of the idea. Mr Crocker says he had such a hard time getting funding to further his research on the subject that he moved on to other matters. So far, he has stayed on the sidelines in the debate about cap-and-trade.
Dustoff| 8.14.09 @ 11:15AM
Guys, Sorry to change the topic. But check this out from England. Which I notice OUR papers are not saying ZIP.
++++++++++++++++++++++++++++++
The world's source for global temperature record admits it's lost or destroyed all the original data that would allow a third party to construct a global temperature record. The destruction (or loss) of the data comes at a convenient time for the Climatic Research Unit (CRU) in East Anglia - permitting it to snub FoIA requests to see the data.
The CRU has refused to release the raw weather station data and its processing methods for inspection - except to hand-picked academics - for several years. Instead, it releases a processed version, in gridded form. NASA maintains its own (GISSTEMP), but the CRU Global Climate Dataset, is the most cited surface temperature record by the UN IPCC. So any errors in CRU cascade around the world, and become part of "the science".
Professor Phil Jones, the activist-scientist who maintains the data set, has cited various reasons for refusing to release the raw data. Most famously, Jones told an Australian climate scientist in 2004:
Even if WMO agrees, I will still not pass on the data. We have 25 or so years invested in the work. Why should I make the data available to you, when your aim is to try and find something wrong with it.
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Son of Taz| 8.14.09 @ 3:54PM
Does anyone think it would be possible to have jerks like Waxman and Markey (another Mass jackass!) removed from office due to incompetence? Something like Capt. Queeg was in the Caine Mutiny.
Marc Jeric| 8.15.09 @ 5:51AM
1) There was first in the 1970's the global cooling scam (see e.g. Newsweek April 28 1975 on the Internet); the government-paid scientists (90% of them are rejects of private enterprise) recommended to fight the new ice age by sending our war planes to cover the polar ice with soot in order to increase solar heat and so prevent crushing of New York skyscrapers by the new glaciers;
2) When that did not work we had the global warming hoax in the 1990's, proclaimed by mainly the same government-paid scientists (Dr. Hansen of the NOAA, for example); to prevent the massive heating, fires, flooding of coastal cities, disappearance of Florida, California, and Caribbean islands, massive hurricanes, global famine, and other catastrophic events we should nationalize oil and gas and coal and electricity companies;
3) after 11 years of considerable cooling we are now faced with the climate change flimflam where whatever happens with our climate we should nationalize oil and gas and coal and electricity companies; and why not our banks, car and insurance companies while we are at it. To prevent this catastrophe the best vehicle presumably is international agreements enforced by the United Nations world government.
As for the influence of carbon dioxide as a greenhouse gas: on a normal day the atmosphere contains 10,000 ppm (parts per million) of water vapor and about 300 ppm of carbon dioxide. The government-paid scientists say that an increase of 100 ppm of CO2 over the next 50 years will result in a catastrophic warming. The thermal absorptivity of water vapor is 4 times larger than that of carbon dioxide; it follows that the CO2 increase will increase the overall thermal absorptivity of the mixture by about 1/4 of one percent. The production of methane from livestock flatulence and the rotting swamps (called "wetlands" by the environmentalists) vastly surpasses the influence of human-produced CO2.
There is the Global Warming Petition Project (see Internet) where 31,478 US independent scientists declared that there is no anthropogenic (human-caused) global warming; of these 9,029 are scientists with PhD degrees. Our environmentalists tried to sabotage this effort by submiiting phony names with phoney degrees - and then claimed the whole effort by the Petition scientists was a fraud. It took us 3 years and a lot of private money to verify the credentials of all the signatories and clean up the Petition of those saboteurs. See also Manhattan Declaration with more such signatories, plus a large number of scientific groups from other countries who state the same.
I am one of these signatories, MS and PhD degrees from UCLA, with majors in thermodynamics and heat & mass transfer.
I think to fight this communist attempt to secure a permanent hold on power should not be fought on the narrow grounds of more taxes - that is the losing proposition; where about 50% of the population is on some kind of welfare we will always be outvoted. The battle should be fought and won on the firm scientific basis.
SCAM - HOAX - FLIMFLAM!!!
Choey| 8.15.09 @ 11:20AM
I have the same concern as Mark. What kind of under the table dealing is going on with Taxman-Malarkey while our attention is diverted to the Obamacare atrocity. Is anyone watching?
It's the science, dummy.| 8.15.09 @ 6:23PM
Before Marc Jeric scores another goal for the wrong side, he had best trot down to the library and refresh his thermodynamic memory , for if he persists in quantitatively misrepresenting the infrared absorption spectrum of the Earth's atmosphere his " SCAM-HOAX-FLIMFLAM" mantra will inevitably be reflected upon him when others look up the data in question.
Don't take my word for it, reader--just get a copy of the AFCRL tables and do the integrals for yourself, or if the prospect of the mathematics fazes , borrow a thermal infrared viewer of the sort used to check houses for heat leaks and take two snapshots of yourself- one taken in plain air, and the other with an interposed puff of CO2 from a fire extinguisher. So strong is the vibrational absorption of CO2 that your warm glow will disappear from the screen, because your radiant heat has been trapped just as that from the earth is.
Gentlemen, make of the policy consequences what you will, but do no violence to the facts- there is all too much hype about climate change in circulation, but it cannot in the long run be countered by repeating disinformation or countenancing the seemingly invincible ignorance of folks who refuse to look at the guileless output of scientific instruments.
It is one thing to complain about poorly sited (and easily corrected) meteorological thermometers , and quite another to persist in sophomoric denial of mere physics.
Responsibility for losing the climate wars falls on those who stoop to stunts that attempted in the course of their oral exams would have cost them their Ph.D.'s -- parroting misinformation is indeed a losing proposition for in lending lends undeserved technical credibility to the forces of carbon taxation , it could pave the way to carbon prohibition,
Ken Roberts| 8.15.09 @ 7:21PM
You are right it will do nothing for the environment even if they gave them all away or charge out the whazoo for them, nothing will stop it unless we move to a different energy source such as atomic , no one wants that and there is the clean coal aspect as well , also to stop using coal would set half this country on welfare because half of us would not have a job. What should happen is drill any where we want and to build five or ten new refineries and work on getting to a different energy source, maybe even one that would be a boon to the economy and pollute less . With our present economy in the tank it is not recovering as said but merely spiking to fall again later. If the cap and trade bill passes we will see double digit unemployment and it will be all across the nation not just in some states. The coal mining is work that can not be replaced because of the location of the industry. Kentucky would become a ghost town and the western states would follow suit. cap and trade is a farce any way, it is not Co2 nor anything else that is causing warming it is not warming , notice the record cold temps across the nation it is cooler this year then any I can remember . How can grown men and women ignore this fact?
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G. A. Kevis| 8.16.09 @ 9:49AM
Flora 'need' CO2.
Fauna 'need' O2.
Cap and Trade would starve flora.
In turn flora would starve fauna.
In turn fauna population will decline.
In turn flora population will decline.
In turn - Earth will be devoid of flora and fauna.
All hands to the escape pods.
Leave behind Congress to - work things out.
Ken (Old Texican)| 8.16.09 @ 1:34PM
Gentlemen, thank you for your timely article.
Be assured...We will not forget.
Capping (rationing) energy usage by price rises will be met with as much outrage as healthcare takeover.
When gandma' can't afford the gas to go see her grandkids...whoo boy!
When a million (energy usage inspectors) begin invading our homes...whoo boy!
IF passed...cap and trade will be the shortest lived law, upon repeal, in our history.
Whoo boy!
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On evolution, my readings convince me of the soundness of the concept. Though I reject utterly his atheism, Richard Dawkins' books on evolution as a process are utterly persuasive. They're worth a read.
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