A problem with market-based approaches to emission reductions

Michael Giberson

Market-based approaches to regulating emissions are the new conventional wisdom, according to Robert Stavins, and it would be hard to disagree. Among proponents of regulating greenhouse gasses in the United States, the big debate is over which of two market-based approaches to regulating emissions should be pursued: emission tax or cap-and-trade. Is anyone proposing “best available control technology”? Market-based approaches have become favored in part because of some high profile successes, notably the cap-and-trade program for SO2, seen as achieving its goal at a considerable cost savings compared to alternative approaches to regulation.

The primary strength of market-based approaches comes from the decentralizing of compliance decision-making, which enables each entity responsible for compliance to pursue the lowest-cost means of meeting the requirement. This strength, though, may also be the biggest problem with market-based approaches, at least when proponents of regulation hope to achieve goals beyond efficiently addressing externalities associated with emissions.

At TNR’s THE VINE, Bradford Plumer asks, “If Carbon Caps Are Coming, Why Mandate Renewables?“, and reports some of the responses he received.  Rich Sweeny asked the same question at Common Tragedies a while back.  In both cases it appears to be the case that proponents of greenhouse gas regulation are worried we might achieve the targeted reductions too easily, i.e. while still burning a lot of coal, not cutting back on consumption, and not garnering enough market share for renewable power. That is to say, some proponents of regulating greenhouse gasses hope to not only to reduce externalities, they have additional preferences about other people’s future energy choices that they want to control through the public policy process.

From Plumer:

Hummel explained that in wholesale electricity markets, the price of carbon would need to get very high—around $60/ton—before pushing dirty coal out onto the margins. So a renewable standard is a good way to manage a steady transition away from coal long before reaching that point.

In the comments responding to Sweeny’s discussion:

Cap and trade purists don’t seem to understand that there is something out here in the real world called an electricity market, and that under any politically viable national cap, coal use is barely touched.

Once we get beyond “internalizing the externality” in economists’ language, or more plainly, once the third party effects of actions are taken care of, the further ambitions of these regulation proponents sound like a bad mix of industrial policy and meddlesome preferences. The problem with market-based approaches, from the point of view of some folks, is that they don’t help enforce these further ambitions for social reform.

Actually, in my view, this “problem” is another great strength of the market-based approach.

Cap-and-trade and politics

Michael Giberson

From Environmental Capital, reports that selling all greenhouse gas emission permits under a cap-and-trade scheme may not be politically attractive:

Europe already saw what happened when it gave away emissions permits—utilities gobbled up more than 100 billion euros in windfall profits.

The pain for the consumer—i.e., the voter–will be the same whether the permits are sold or given away.

Writer Keith Johnson notes that “for the overall emissions-targets to work, prices would have to rise more in other parts of the economy to compensate” (if, that is, giving permits to utilities serves to limit power price increases).

Billions in profits for companies well represented in D.C. versus non-transparent price increases in unspecified other industries? I guess we can work out the political calculus easy enough.

And for readers who think this is a reason to prefer a carbon tax…, well, I’m not convinced that lobbyists or their congressional aides would keep their hands off the tax code, either.