Carbon trading won't work
Experiments with the market scheme favored by Schwarzenegger
shows trading favors big polluters without curbing global warming
By Michael K. Dorsey
MICHAEL K. DORSEY, assistant professor on Dartmouth College's
faculty of science, teaches in the environmental studies program.
April 1, 2007
Economists, some environmentalists and a growing gaggle of
politicians are pushing a grand strategy that a market mechanism -
known as "carbon cap and trade" - can rescue us fastest
from a climate catastrophe. But early evidence suggests that such a
scheme may be a Faustian bargain.
Gov. Arnold Schwarzenegger is one of the chief proponents of the
market view. He has joined the governors of Washington, Oregon, New
Mexico and Arizona to create the Western Regional Climate Action
Initiative, which "sets the stage for a regional cap-and-trade
program" that he hopes will serve as a model for a national
program. The Kyoto Protocol, which went into effect in early 2005 (but
which the United States has not signed), also endorses this
Carbon cap and trade works this way: A group of nations (signatories
to the Kyoto Protocol) or a group of states (the five Western states
in Schwarzenegger's plan) cap their carbon emissions at a certain
level. Then a government agency, such as the European Union or the
California Environmental Protection Agency, issues permits to
polluting industries that tell them how much carbon dioxide they are
allowed to emit over a certain time.
Companies unable to stay under their cap can either buy permits, or
"emission credits," on a trading exchange, which allows them
to pollute more, or they will face heavy fines for exceeding their
carbon dioxide targets. Firms that are able to come in under their
caps can sell their excess credits on the exchange. Thus the right to
pollute is a commodity bought and sold in a market.
The idea of trading pollution rights was part of the reauthorized 1990
Clean Air Act. The program successfully reduced the amount of sulfur
dioxide emissions, which cause acid rain, largely because the sources
were few enough (about 2,000 smokestacks in the Midwest) that they
could be monitored effectively and because there was a national
system, administered by the federal Environmental Protection Agency,
to enforce the legally required limits, or caps.
Carbon trading on a global scale, however, amounts to an untested
economic experiment. The most ambitious carbon-trading experiment to
date began in the European Union in 2003. About 9,400 large factories
and power stations in 21 member states were targeted, and the EU
Greenhouse Gas Emissions Trading Scheme was established to trade
In January 2005, the EU governments distributed carbon credits -
permits to pollute - to the companies and power plants. The credits
were based in large part on what the firms estimated their annual
carbon dioxide emissions would be. Because these credits were given
out, not auctioned off, the firms did not pay for their pollution. Yet
they stood to make money by selling them.
The EU's official accounting of the companies' emissions, released in
April 2006, revealed that the companies' and power plants' actual
emissions came in below estimates. Some said the firms had inflated
their earlier emissions estimates, and thus all had credits to sell.
This situation produced a surplus.
Once it was known that the number of available permits exceeded
demand, prices slumped. Indeed, fear that there are too many permits
for sale (combined with concerns about the EU's regulatory
shortcomings) have effectively collapsed the market. A March 2007
report from Deutsche Bank Research noted that "many EU nations
are still a long way from delivering on their Kyoto Protocol
commitments to reduce carbon dioxide emissions."
Researchers at Open Europe, an economics think tank in Britain,
recently issued a report on the experiment. They concluded that the EU
Greenhouse Gas Emissions Trading Scheme represents "botched
central planning rather than a real market." As a result, the
report said, carbon trading has not resulted in an overall decline of
the EU's carbon dioxide emissions.
Worse, the early evidence suggested that the trading scheme
financially rewarded companies - mainly petroleum, natural gas and
electricity generators - that disproportionately emit carbon
dioxide. The pollution credits given to the companies by their
respective governments were booked as assets to be valued at market
prices. After the EU carbon market collapsed, accusations of
profiteering were widespread. In fall 2006, a Citigroup report
concluded that the continent's biggest polluters had been the winners,
with consumers the losers.
Larry Lohmann, who works with the Corner House, a research
organization in Britain, argues that carbon trading is little more
than a license for big polluters to carry on business as usual. For
instance, the Greenhouse Gas Emissions Trading Scheme was further
weakened by provisions that allowed big polluters to buy cheap
"offset" credits from abroad. A British cement firm or oil
company that lacked enough EU permits to keep on polluting could make
up the shortfall by buying credits from, say, a wind farm in India or
a project to burn landfill gas to generate electricity in Brazil.
"Such projects," Lohmann said, "are merely
supplementing fossil fuel Š not replacing it."
These problems may soon infect the cap-and-trade system of the five
Western U.S. states. In July 2006, Schwarzenegger and British Prime
Minister Tony Blair announced their intention to join together to
address global warming, possibly by linking emerging markets for
pollution credits in the U.S. with established ones in Europe.
U.S. industry and environmental leaders recently joined together under
the catchy name USCAP, for U.S. Climate Action Partnership. Among the
participants are Alcoa, Caterpillar, Duke Energy, DuPont, General
Electric, Pacific Gas & Electric, the Natural Resources Defense
Council and the Pew Center on Global Climate Change. The group called
for some form of carbon cap and trade, but its reduction targets, in
effect, would keep atmospheric carbon dioxide at roughly current
levels over the next five years.
The EU experience doesn't augur well for the effectiveness of a
global carbon-cap-and-trade scheme in a world characterized by growing
economic inequality and enormous differences in governmental capacity
to provide oversight, let alone regulation. The risk is that by the
time it's apparent such a scheme is not working, extreme climate
change will already be wreaking havoc.