This isn’t just about carbon … it turns out that cap and trade could be the largest economic redistribution program the US has ever seen.
I attended a symposium a few weeks ago at Evergreen State College about preparing our communities for climate regulation. The keynote was a thought-provoking talk about the economic implications of cap and trade system design by Peter Dorman, an economist and professor at Evergreen. This post is based largely on his talk.
In the United States, after years of local climate action pursued in the absence of federal involvement, we are suddenly standing in the midst of an unprecedented opportunity. We need climate action, we need economic intervention, and we have federal leadership that just might understand how deeply they are interrelated.
It seems certain that federal action on climate will involve a cap and trade system. It is of primary importance that citizens understand what’s at stake in its design. This policy will impact citizens as individuals, and our economy as a whole. Personally, I have not had a full appreciation of the economic changes this one mechanism could bring. As Dorman points out, global economic growth has been driven by increasing carbon densities for 2000 years – that is the size of the historical trend we are attempting to shift. Cap and trade will trigger a massive transfer of dollars from certain losers to certain winners. We can be confident that the economic implications of system design are not lost on those parties.
“Harry and Louise x 25”
Here is a wonderful cautionary tale: in 1993, we had a young, passionate new president with a mandate to change the way the US dealt with health care. It was part of the platform he ran on, and people had hope that it would finally happen. But the administration failed to anticipate the strength of the opposition (mainly the insurance industry), who responded with an expensive and well-organized ad campaign - centered around the fictional couple Harry & Louise - aimed at frightening citizens away from supporting the policy. The plan went down like a lead zeppelin. What was at stake? Twelve billion dollars in potential losses, back when $12 billion was real money.
The annual estimated value of carbon permits in the first year of a nationwide cap and trade program is $300 billion. We have seen nothing yet… and I see that we are unprepared for that fight. We expect our exciting new administration to lead on this, and it may. But do we dare pit an Obama administration against the combined fury of the oil, coal, gas, and chemical industries (and agriculture, and automobiles, and etc…)? Who represents the counter-force to industry in this? Us. How do we ensure that our voice is heard?
A large part of the problem is the emphasis in current media stories on setting the targets – what percent reduction by what year. Dorman charges that this is entirely the wrong emphasis; climate science continues to evolve, so whatever targets we set now will be revisited later, more than once. The targets need to be set, but we don’t need to get them exactly right, right now. But the opposite is true for what matters: the architecture of the mechanism. Once put in place, it will be – must be – hard to change. If it is easy to change, it will keep changing and a market will never develop. Yet if we make it hard to change and design it badly, it will fail.
The Architecture of the Western Climate Initiative
Dorman turned his attention to laying out his criteria for what good policy architecture for cap and trade looks like. He then used those criteria to inspect the Western Climate Initiative (WCI). Eric de Place, senior researcher at the Seattle-based Sightline Institute, has written an excellent series on the WCI, including discussion of implications. It’s a must-read for anyone interested in digging deeper than I will go here.
The main question as it is currently asked is one of setting the scope of the permits – who will fall under the regulations of a cap and trade scheme? This tends to be done – it is in WCI – by economic sector. But sector-by-sector emissions rights are an inherently political decision about the relative value of industries. The danger here is that clout trumps science. That’s a fail.
“US to Auction 100 percent of Emissions Permits, in Cap and Invest System”
So if it’s not the emissions targets, and it’s not the industries affected, what is the big question that we should be asking? What should the media headline include? We should be discussing the two most important points of system design: the percentage of emissions permits that will be auctioned, and how auction revenue will be disbursed.
These are the big stories, because the success or failure of a cap and trade system depends on getting these things right. According to Dorman, the best system will be fair, efficient, and transparent; will address the issue of price spikes (price signals are good, price spikes are bad); will auction 100 percent of credits/ permits; will recycle all auction revenue to the public; and will not allow offsets.
I’ll unpack these statements, briefly, one at a time:
1. Fair, efficient, and transparent
This is accomplished by making the regulations as comprehensive and upstream as possible. In practice this means regulating carbon as it enters the United States, so that the market – rather than politicians – determines who gets to emit how much.
2. Price spikes
In Dorman’s view, regulatory mechanisms for anticipating and addressing price spikes don’t need to be included in the cap and trade regulation itself. After all, price increases are part of how cap and trade works. But there needs to be some means of addressing prices that have escalated beyond a social/political standard.
3. 100% auction
The way a cap works is to drive down emissions by driving up prices of permits that allow the holders to emit. As those prices are transferred to consumers, we decrease our carbon consumption – this is how the carbon market works. So as Dorman says, rising energy prices will mean money leaving our pockets … where will that money go? There are two options: if the permits are given away, the money stays with the businesses, as profits; if the permits are auctioned, the money is reclaimed by the government. It is useful to think of cap and trade (in its function) as a sales tax. Prices for goods and energy will rise, and the impact will be regressive, hitting the poorest hardest. How will these impacts be dealt with? With revenue from the auctioning of permits. No auction, no revenue.
4. Revenue Recycling
If there is revenue, it should be returned to households — that’s revenue recycling. There are many differing opinions about how to best spend this money, with some advocating investment in specific programs, and some encouraging redistribution to the workers and businesses most affected. Dorman’s point here was interesting – that if we expect this program to survive, it must be exceptionally fair, with all of the money being recycled, in an equal amount to every citizen.
5. No offsets
Voluntary offsets are good. They represent efforts by citizens and businesses to pay for emissions-reducing projects. But as part of a cap and trade system, Dorman argues that “they create incentives for both the companies buying the offsets and the companies whose investments are being subsidized by the offsets to exaggerate their carbon benefits, and their additionality can never be fully determined.” (Additionality is itself a concept that not everyone supports, but that’s another post.)
Now, keeping these arguments in mind, let’s examine how the WCI design recommendations address each one:
1. The WCI is sector-based; non-comprehensive and downstream. Dorman described the process as a “free-for-all wrangle between business sectors to determine who gets to burn the most carbon.” Sightline’s de Place is more optimistic, reminding me that the WCI will cover more emissions than either the RGGI or the EU cap and trade market (recently written up here). In that sense, the WCI is fairly comprehensive. However, its shortfalls are that different business sectors are treated differently, with phased-in timelines, differential auction rates, and other unequal treatment.
2. The WCI only requires that 10 percent of the permits be auctioned, meaning up to 90 percent could be given away. See the point above about the importance of auctioning all the permits.
3. Up to 49 percent of reductions can be offset. Ditto for offsets.
4. The stakeholders throughout the process have been predominantly businesses. An indication, in Dorman’s opinion, of whose opinion mattered in crafting this agreement.
5. The economic analysis performed on the WCI focused on impacts to business. The more important question of economic impacts on households was not measured. This stands in clear contrast to what Dorman calls the “most elementary economic principles for evaluating a public policy” i.e. its impact on average citizens.
So how much does this matter to households? To you and me? If, as Dorman put it, life before cap and trade has been about trying to get meaningful action, then life after will be all about dealing with the many implications of higher prices for damn near everything.
In an analysis by Boyce & Riddle in 2007 on the distributional impacts of carbon regulation on households, researchers found the following: with no revenue recycling, the lowest economic quintile lost about 10 percent of their income due to higher prices. With revenue recycling, they gained nearly 15 percent, while the highest quintile lost only about 2.5 percent.
This isn’t just about carbon… it turns out that cap and trade could be the largest economic redistribution program the US has ever seen.
Now it’s important to point out that the WCI is not the final word – the states are crafting their own systems. And while we hope that they go further, recent news stories do not make me hopeful here in Washington. But even that is not the final word – I started this post discussing a federal cap and trade system. But we risk much if we pin our hopes on the federal government correcting our mistakes.
We talk about this kind of legislation as though we knew what we were talking about. But 2050 is 40 years away. We should be thinking hard about where and how much we can compromise. We need to be thinking about policy sustainability. We’re attempting to put in place a program on the scale of Social Security. We have to get it right.
Justus Stewart is an urban planner and designer living in Seattle. He currently works on climate planning for local governments. Justus’ main interest is the overlap and interrelation of fields usually held as separate.
Photo of smokestacks, credit: flickr/Broken Haiku, Creative Commons license.
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(Posted by Justus Stewart in Columns at 11:16 AM)
Originally
from Worldchanging: Bright Green
by Justus Stewart
reBlogged
on Jan 1, 1970, 8:00AM
Originally by Justus Stewart from Worldchanging: Bright Green on January 1, 1970, 9:00am
Posted under reblog environment
