The atmosphere is everybody’s property

In an article that appeared yesterday on Dollars & Sense as well as, Jim Boyce of UMass Amherst first breaks down all the climate policy we talk about into demand-side (encouraging energy efficiency, subsidizing renewables, investing in mass transit) and supply-side (putting a price on carbon emissions) approaches to reducing emissions. Then he does a really good job describing the latter: a carbon tax and a cap-based system, what they might look like, and how they differ. If you have trouble grasping these so-called ‘market-based’ climate solutions, this article is for your understanding of that debate. And if you already know all that stuff, the way Boyce explains it will probably be interesting and may even give you a new perspective on some aspects (it did for me).

A tax sets the price and allows the quantity of emissions to fluctuate. A cap sets the quantity and allows the price of emissions to fluctuate.

Then the piece goes on to advocate for a market-based policy that treats the atmosphere in a manner consistent with popular opinion: it’s a global commons — we all own it, so nobody should accumulate private wealth by profiting from using it as a waste dump. Even as we reduce emissions, there are huge profits to be made from burning fossil fuels. Let’s share them equally.

Notably, Boyce argues for applying the pricing system when fossil fuels “enter the economy” — when oil gets on a tanker or changes hands to slip into a pipeline; when coal leaves the mountaintop-removal operation or the strip mine; when natural gas leaves the fracking well. This method of pricing takes the costs straight to dirty energy companies and spreads them around the economy from there, such that goods whose production, distribution, or use involves a lot of carbon emissions will get much more expensive. So high-consumption wealthy regions can’t escape the economic costs by simply sending polluting industries to poorer areas. Instead, they might be forced to grapple with the big C: Consumption, the economic boogeyman we’ve been so reluctant to address.

In a world where emissions are ‘capped’, reducing consumption in rich nations would leave more atmospheric space for poor ones to consume and emit while they work to meet material needs and provide basic human rights. And if we split the revenues from auctions of limited carbon permits on an equal per-person basis, the least well-off members of society will benefit the most, since they contribute so little to climate change. Furthermore, over half the population would gain income greater than their increased expenditure from paying for the carbon in their lives, because shares of the global carbon footprint skew so heavily toward the wealthiest few.

Don’t take it from me. Read the damn article!


SolarCoin: trust and goodness in a digital currency

This is the second post of a blog series on Electricity-Backed Currency

Originally posted by Triple Pundit on April 15, 2014

SolarCoin is a decentralized digital currency that we can trade person-to-person over the internet, without PayPal or Visa playing middleman and charging fees. Each SolarCoin represents one megawatt-hour (MWh) of solar electricity generation.

In my first blog post on SolarCoin, I describe the two ‘proofs of work’ that back the currency: a cryptographic proof of work that secures the online currency and verifies transactions, and a proof of solar power production. That introductory piece also explains how one can claim or trade for SolarCoins, but leaves unanswered the question of why one would want to do that.

So, is SolarCoin valuable?

Money value

SolarCoin is a digital currency intended to reward producers of solar electricity. Image:

All currencies, including U.S. dollars and Euros, are valuable as long as a network of merchants, people and other organizations consider them valuable. But unlike the currencies with which we are required to pay our taxes, digital currencies must provide value as a complement to national currencies.

For SolarCoins to succeed as a means of exchange, we need to begin treating them like money. They must be in people’s hands — or digital wallets — and they must be used for purchases and exchanges.

This is how Bitcoin gained value. The first famous cryptocurrency provided a decentralized, free-flowing way to do business on the internet, so people started trading it like cash.

On a fundamental level, something has value if we think it’s important.

SolarCoins not only offer the trust associated with a block chain transaction database, but also the goodness of fossil-free, renewable energy. I think we can all agree trust and goodness are important.

Decentralized Trust

To understand how digital currencies create decentralized trust, just think of the way you know trust is defined. Trust is the firm belief in the reliability, truth, ability, or strength of someone or something, according to Merriam-Webster.

In this case, it is the firm belief that SolarCoins are reliable and secure, and that the online community that holds and trades the currency cannot cheat you out of your SolarCoins or devalue SolarCoins by creating too many.

It’s decentralized because we need no central authority. Money can change hands person-to-person, and there’s no way to cheat the system — each SolarCoin or other digital currency is a unique piece of digital property that simply moves from one digital wallet to another within minutes of a transaction.

A public ledger — the block chain — records every transaction ever made in SolarCoins, which makes it impossible to get away with double-spending. This digital database enables us to make trustworthy purchases and trades over the internet without entering credit card data or going through a bank. As a result, online transaction fees can drastically decrease.

Physical Trust

SolarCoins are backed by physics, not just the computing power necessary to create and secure them. Each one was originally granted to a producer of one MWh of solar electricity — a unit of energy whose value to society stays relatively steady over time.

By contrast, other digital currencies carry little intrinsic value beyond the mutual agreement that they have monetary worth. Bitcoin’s price has fluctuated wildly over the past several years in part because bitcoins are not tied to anything stable (though there are other good explanations for the currency’s volatility, detailed in this Washington Post article arguing that Bitcoin’s value will stabilize in the future).

Advocates of the gold standard — a system in which a currency’s value is based on a set amount of gold — believe that a tangible asset is essential to ensure long-term price stability of a currency. But unlike a precious metal, the commodity represented by Solar Coin provides real value to society. Electric power from the sun benefits the environment and raises standards of living in energy-poor regions.

Earth goodness

To elaborate the concept of goodness, SolarCoins may soon be worth something in part because of the environmental and energy benefits they represent.

Solar panels in Hanover, Germany. Photograph: Christoffer Riemer

Solar panels in Hanover, Germany. Solar power is worth more than coal power or nuclear power and SolarCoin monetizes the benefits of cleaner air and a cooler climate. Photograph: Christoffer Riemer

One MWh of electric power produced by solar photovoltaics releases no greenhouse gases other than the emissions from manufacturing solar panels, while burning fossil fuels like natural gas or coal releases 1,500 pounds or more of carbon dioxide-equivalent emissions per MWh generated — not counting the upstream emissions from extracting, refining, and transporting the fuels. Beyond reducing climate-changing carbon emissions, generating solar power does not cause air or water pollution.

Because solar panels produce electricity without side effects to human and ecosystem health solar energy can be produced right where it’s used. Consequently, thousands of tiny solar ‘power plants’ can make the electrical grid more resilient by reducing our reliance on massive, polluting power plants connected to cities by inefficient, expensive, and vulnerable transmission lines.

Energy goodness

Electricity availability is closely tied to prosperous living. In areas without widespread access to energy, solar panels can bring power to the masses.

Solar electricity often replaces energy sources like kerosene lamps, diesel generators, and wood-fired stoves when it’s installed in places without a dependable electrical grid. This transition allows communities to stop purchasing and burning costly fuels, increasing quality of life with reliable power and protecting human health from harmful emissions.

Scaling up

In summary, SolarCoin has inherent value in trust and goodness. It facilitates transactional trust between strangers, rewards producers clean energy, and frees everyday exchanges from the banking system.

Now SolarCoin just needs a huge network of people holding and using the currency. Check out last week’s blog post for instructions on how you can join the open community.

Next week’s post will show how SolarCoin can gain the popularity necessary for the currency to achieve significant monetary value. Stay tuned!

The EU Emission Trading Scheme: The Price Ain’t Right

Emission allowances in Europe are too cheap to prompt greenhouse gas reductions, but don’t ask the US government what the price of climate pollution should be, lest they mention the Social Cost of Carbon

This is the third post in a series about the EU ETS

Last week’s piece about the European Union Emission Trading Scheme (ETS) makes clear that persistently low prices on climate pollution prevent the carbon market from working effectively. That is to say, an emission allowance price that won’t budge above 5 Euros per metric ton of carbon dioxide will not drive investment in carbon-free innovation. Without a hurried global transition to low-emitting energy systems, the future looks bleak  —  our climate will become increasingly unstable and extreme.1

Market price

In a cap-and-trade system like the ETS, no central authority sets the price of greenhouse gas emissions. Instead the total number of allowances on the market sets a restrictive “carbon limit.”

Ideally, a scarcity of emission allowances would produce trades among emitting entities, with firms implementing the least costly emission-reduction strategies first. The price at which emitters trade allowances equals the cost of the last emission reduction necessary to meet the cap, according to economic theory.

So to drive up prices, the number of allowances must be reduced. In a closed system this lower cap would bring fewer emissions. The EU’s ‘backloading’ rescue plan employs this strategy by withholding carbon allowances until later in the decade.

Social Cost of Carbon

Nobody believes that €5 — or $6.80 U.S. — is the actual cost to society of one metric ton of carbon dioxide. But estimates of the true cost of greenhouse gas emissions vary widely.

If only figuring out the 'true' social cost of carbon were as easy as understanding a marginal benefit-marginal cost graph. *Source*: UK Eco Study

If only figuring out the ‘true’ social cost of carbon were as easy as understanding a marginal benefit-marginal cost graph. *Source*: UK Eco Study

Compare $6.80 to the latest revised estimates of the Obama Administration’s Interagency Working Group on the Social Cost of Carbon (SCC) — $37 per incremental metric ton of carbon emissions.

Note that $37 is simply the ‘cost of carbon’ that the group has chosen to publicize from the numerous results of an update to the SCC calculations. The SCC makes use of the averages of estimates from three integrated assessment models (IAMs) of climate projections, each run through five socio-economic reference scenarios.

The outcomes from the three IAMs are evaluated using three different discount rates, which are used to combine costs over time. The $37 estimate represents the average of all scenarios, discounted at 3 percent.2

I argue that the U.S. government’s calculation, though more than five times the price of carbon in Europe’s market, is still a very conservative estimate for four reasons.3

First, the chosen social discount rate is too high for assessing the costs of global climate change. For those familiar with discounting in a business setting, 3 percent may seem like a low rate — one that values the future highly at the expense of the present.4 But carbon dioxide emitted now will be causing atmospheric warming in fifty years; social costs and benefits that will affect the world far into the future are subject to a special social discount rate.

If you’re new to discount rates, you can think about them like an economist: costs that will be incurred further into the future carry less weight than immediate costs in today’s decisions (the same is true for future and present benefits). ‘Discounting’ future costs allows the SCC working group to unite today’s and tomorrow’s climate impacts into one Social Cost of Carbon.

But discounting can’t be applied equally to any analysis —  the rate at which future costs and benefits are discounted matters. A high discount rate gives the future less influence over today’s evaluations, because future values are ‘discounted’ a lot. On the other end of the spectrum, discounting at zero percent makes present and future costs equally important in economic analyses.

Researchers analyzing expected future values get to simply choose a discount rate they deem appropriate and defend as such. The following example demonstrates why we must acknowledge the importance of choosing carefully.

A few years back, Sir Nicolas Stern, a top adviser to the British government, and Yale professor William Nordhaus engaged in a polite-yet-heated intellectual dispute on this subject. Simply by applying different discount rates, Stern and Nordhaus used largely the same scientific data to prove that a ton of carbon should be priced at $85 and less than $10, respectively.5

The trillion-dollar question remains unanswered: At what rate should we discount the anticipated costs of global weirding when we play this name-a-carbon-price game? Only economics nerds like Stern and Nordhaus debate such matters. And they can’t seem to agree.

One group’s opinion is certain, though: if future generations had a seat at the carbon-pricing table, they would advocate a rate much lower than 3 percent. Yet-to-be-born people certainly would not favor employing a discount rate so high that it treats people 24 years from now as if their lives are worth half as much as ours today.6

So 3 percent is too high — discounting the values of the future that quickly might lead us to destroy the planet in pursuit of riches that can’t buy back a stable climate. But we must discount at least a little to account for the fact that present gains can be invested in making the future better. Today’s profits from a fossil fuel-based economy could hypothetically fund the development of tomorrow’s clean-energy technology.

I am not qualified to have an opinion on the optimal social discount rate for evaluating the economic impacts of the climate crisis on our children and grandchildren, but we all know what’s at stake. The future of the planet can’t be assessed in the same way as a typical investment, even a typical investment in public goods or social welfare.

For intergenerational issues, even guidelines from the Obama Administration’s Office of Management and Budget promote using a discount rate less than 3 percent. I guess that department of the executive branch never spoke with the group developing the SCC.

To reiterate my first point, social discount rates, in order to treat future people equitably, must be low enough that they allow consequences that won’t show up until decades — even centuries — from now to shape our present evaluations and actions.

Second, the $37 Social Cost of Carbon completely ignores catastrophic climate risk. The range of climate change risk scenarios is not distributed in such a way that lends itself to looking at the average when establishing a Social Cost of Carbon.

The chance that global warming may produce cataclysmic effects — outcomes in which the standard of living to which we’ve become accustomed in the modern world is no longer achievable — make it hard to justify simply taxing greenhouse gas emissions based on the average climate change-socioeconomic scenario and then continuing our business-as-usual pursuit of profit maximization.

Check out the 'long tail' costs of extreme climate change in the far-right column. *Source*: Interagency Working Group on Social Cost of Carbon, United States Government. May 2013 Technical Update of the Social Cost of Carbon for Regulatory Impact Analysis.

Check out the ‘long tail’ costs of extreme climate change in the far-right column. Also, notice how much the ‘average’ Social Cost of Carbon increases just by discounting at 2.5 rather than 3 percent. *Source*: Interagency Working Group on Social Cost of Carbon, United States Government. May 2013 Technical Update of the Social Cost of Carbon for Regulatory Impact Analysis.

In technical terms, the worst-case effects of climate change would cause a great deal more damage than the economic models’ 50th percentile predictions. Statisticians call this phenomenon a long tail. In practice, the abnormal distribution of impact scenarios suggests that we should proceed with caution.

Even the Obama Administration’s report acknowledges the risks of the most extreme climate scenarios by including an extra SCC value, in addition to the average result at each of three chosen discount rates. This fourth calculation illustrates “higher-than-expected economic impacts from climate change further out in the tails of the … distribution.”7

The fourth SCC figure is the models’ 95th percentile value, at 3 percent discounting. In May 2013, this estimate was $109 per metric ton — nearly three times the publicized “average” Social Cost of Carbon.8

This discrepancy illustrates the massive risk to which we expose our world and ourselves if we simply take the average of all projections when planning for the warmer future.9

The third reason that the Social Cost of Carbon estimate is too low has to do with the trend of all climate change estimates and projections — and the fact that reality has far outpaced most models. With each new Assessment Report, the Intergovernmental Panel on Climate Change (IPCC) has become more certain about the anthropogenic causes of our warming planet, and the group’s projections for the future are increasingly ominous and confident.

This pattern of worse and worse forecasts from the leading international body for climate change study should not be ignored. Why shouldn’t we expect the prognoses to continue their descent into the realm of doomsday prophecies?

One reason that the future predictions keep getting more dismal is that models must be repeatedly updated to take into account climate change impacts arriving earlier than even the worst-case scenarios of earlier studies. Sea-level rise and the diminishing of Arctic sea ice extent are just two items in the list of climate consequences coming on more quickly than had been previously projected by the IPCC.

Studies that underestimate the degree of future change are often called “conservative,” but I argue that with respect to climate change, the conservative way to predict the future would be to plan for the most catastrophic scenario. The Obama Administration should raise their SCC to avoid making the same mistakes as the IPCC.10

Lastly, even the “conservative” IPCC, in their Fourth Assessment Report, remarks that the Social Cost of Carbon “very likely…underestimates” the damages of climate change. And the US EPA itself admits, “The models used to develop SCC estimates…do not currently include all of the important physical, ecological, and economic impacts of climate change recognized in the climate change literature.”

Limitations of data availability and model construction render impossible the task of aggregating all of the costs of climate pollution, even if emissions could be accurately measured and the future could be accurately predicted. Moreover, some of the costs of climate change are difficult to quantify. What is the present-value total cost of future ocean acidification?

In fact, the economics literature that informs the SCC often omits severe expected climate-change impacts simply because they do not lend themselves to monetization. Species extinction, for example, is not easy to economically value, and thus is left out of many climate economics models.

Because data is imperfect and models ignore many non-market anticipated costs, we should heed the Precautionary Principle. We should acknowledge that it is in our collective best interest to accept and apply a greater social cost of carbon than our complex models calculate.

The European Corollary

If the US estimate of carbon emissions’ external cost is not comprehensive enough, forward-looking enough, ‘trendy’ enough, or vigilant enough — all of which skew the SCC figure toward inexpensiveness — then the almost-negligible price of an allowance in the European carbon trade must be far too low. Yet the ETS is a cap-and-trade system rather than an emission tax; nobody directly sets the price of carbon.

Do low prices mean that the cap-and-trade system failed? Or that it is working so well that emission allowances have become nearly worthless simply because total emissions stay under the ‘cap’ more cheaply than expected? Most economists would respond in the same way they answer most tough questions: “It depends.”

It depends how the  goals of the ETS are defined. It depends whom you ask. It depends on whether or not you believe in putting a price on pollution. It always depends on the discount rate.

President Truman once requested a “one-handed economist” because he was sick of hearing, “On the one hand, … On other hand, …” Well, this series of blog posts about the EU ETS may end up looking as if it were written by the Indian deity Durga — there will be a piece about every viewpoint.

The following addendum provides a glimpse into a once-prevalent perspective that has been regaining momentum recently: that the cost of ecological destruction cannot be expressed in dollars and cents. Certainly this argument deserves its own long-winded post; the next section is only a preview.

Non-monetizable harm

Evidently, using money as a metric assumes that anything can be traded for anything else. The idea that every cost and benefit in the world can be ‘dollarized’ provokes doubts from many non-economists (and from some scholars within the economics community).

Hard-to-quantify losses, like the aforementioned extinction, lead to an important dilemma. Assigning a dollar value to the survival of polar bears as a species suggests that for this amount of money society could be compensated for the end of that animal’s existence. Such a human-centric view offends people who think of the world from an ecological perspective.

On the other hand, if we exclude unmonetized damages from the societal cost of carbon — or exile them to the oft-ignored ‘caveat’ and verbal qualification appendices — then these costs are treated as effectively insignificant. In a capitalist world-economy, ‘priceless’ sounds a heck-of-a-lot like ‘worthless.’

  1. For a basic explanation of the ETS and its current predicament, check out my blog post “Band-Aid for a Broken Market.” 
  2. The Interagency Working Group ran each climate and socio-economic scenario combination with 2, 3, and 5 percent discounting. 
  3. “Conservative estimate,” in this case, means “way too low.” But remember that America is still the Land of the Free (right to pollute the climate) — the Social Cost of Carbon is, at this point, an intellectual exercise. 
  4. In the world of business, discount rates typically mirror the cost of capital or expected return on an investment of similar risk profile. For example, if I can invest my money somewhere guaranteed grow 5 percent yearly, then the future income generated by any other potential investment should be discounted at 5 percent per year, since I could just put all my money into the guaranteed-5-percent fund. 
  5. What’s more, they each had very convincing arguments defending their choice of discount rate. One sentence simplified summaries follow: Nordhaus, rather than deciding upon a rate at which we “should” discount future costs and benefits, used market interest rates to determine peoples’ actual time preferences. Stern, on the other hand, considers discounting with respect to climate change a moral issue, making a case that we should take intergenerational equity and sustainable development into account when examining alternate trajectories that diverge vastly and are highly uncertain. 
  6. According to the superscientific Rule of 72
  7. Interagency Working Group on Social Cost of Carbon. (2013). Technical Update of the Social Cost of Carbon for Regulatory Impact Analysis. United States Government. 
  8. Before the November 2013 revision, the official SCC was $38. Again, this number was based on the average of every ‘run’ of the models. The results were discounted at 3 percent. 
  9. For reference, a few sources (one more) calculate that every dollar-per-metric ton increase in the price of carbon dioxide emissions will result in a one cent-per-gallon hike in gasoline prices. According to that hypothesis, a carbon tax of $109 would add just over a dollar to the price of a gallon of gas, while pricing emissions at the level suggested by the Obama Administration’s SCC would raise gas prices by a third as much. That the U.S. Social Cost of Carbon estimate would have such a small effect on consumer prices plainly illustrates how absurdly cheap carbon is in the EU’s cap-and-trade system. 
  10. And of course the Social Cost of Carbon should be implemented as something more than a theoretical exercise. 

In Response to Mr. Brooks, Part 2

Gradual government will fail in a changing climate

Cross-posted on December 24, 2013 by The Bard CEP Eco Reader

Last week I posted a response to a column written by David Brooks, the sensible conservative voice of The New York Times. I agree with Brooks that some of us waste far too much of our lives worrying about politics.

His picnic example skillfully illustrates the important yet barely perceptible role government plays in shaping the environment in which we go about our everyday activities:

“Imagine you are going to a picnic. Government is properly in charge of maintaining the essential background order: making sure there is a park, that it is reasonably clean and safe, arranging public transportation so as many people as possible can get to it. But if you remember the picnic afterward, these things won’t be what you remember. You’ll remember the creative food, the interesting conversations and the fun activities.”

Yet I disagree with the columnist’s assertion that “the best government is boring, gradual and orderly.” The piece even mentions, “Governing is the noble but hard job of trying to get anything done under a permanent condition of Murphy’s Law.” Murphy’s Law says, “Anything that can go wrong, will go wrong.”

Brooks is mistaken. If Murphy’s Law applies I do not know when such a bogus axiom became a “Law”  then government must be much more than slow and orderly.

Had decisive action ruled the day after Hurricane Katrina, how many more people could have been rescued? Instead the local government delayed implementing their evacuation plan until the last possible moment, while the Federal government simply threw money and troops at the disaster, enraging local leaders by neglecting reality on the ground.

Liberty B24 bombers are assembled at the Ford Motor Company's Willow Run plant in 1943, as part of the Allies' World War II effort. *Source*: The Detroit News

Liberty B24 bombers are assembled at the Ford Motor Company’s Willow Run plant in 1943, as part of the Allies’ World War II effort. *Source*: The Detroit News

To relate this suggestion to my favorite topic, government must quit the slow, orderly background model and treat climate change like the crisis that it is. Before the United States entered World War II, President Franklin D. Roosevelt challenged American industry to become the “Arsenal of Democracy”; Detroit auto manufacturers stopped making cars and began to produce tanks, aircraft, and other military vehicles.

What if the Obama Administration declared war1 on global warming and told automakers that for the defense of the country  and the world  they must focus all their attention on zero-emission vehicles? What if our government helped make electric cars truly climate neutral by taking the radical step to require that electric utilities create a carbon-free grid by 2030?

The Department of Defense has, time and again, declared that climate change impacts pose significant threats to national and international security. The potential perils of a warming planet must be addressed proactively with war-like effort in order to prevent real military conflicts over land and resources.

The world looks to the U.S. for leadership, for worse or for worse. If our government is slow and focused only on keeping order, it will fail to keep order. Poor countries in regions most exposed to the effects of climate change will fight over necessities like clean water, food, and even land as sea level rise encroaches upon low-lying cities. More frequent and more energetic storms will come too quickly for traditional disaster response mechanisms to adequately protect and rebuild the infrastructure needed to maintain our standard of living in the developed world.

Proactive climate adaptation requires decisive government action and flexibility for adaptive management. In contrast, the “boring, gradual, and orderly” government described by Mr. Brooks is associated with reactive policymaking: rescue rather than evacuation, and then drafting new legislation to prevent the exact failure that has happened from recurring.2

Mr. Brooks’ big, plodding version of government accurately describes the federal government as it exists today. But if “government is properly in charge of maintaining the essential background order,” as Brooks writes, then Uncle Sam’s pace of operation will need to change drastically in the face of a changing climate.

Unless, of course, the U.S. Government is in charge of maintaining basic order for only affluent, politically empowered people. The state may be responsible for providing essential infrastructure and service to allow us to have our memorable meals in the great outdoors, but do poor people picnic in the park?

  1. Yes, Presidents can now declare war, Constitution be damned. 
  2. We take off our shoes for TSA screening at airports because someone once hid a weapon in his footwear, but rules rarely look forward to the next possible calamity. 

The EU Emission Trading Scheme: An American Perspective

Europe’s too-intricate-for-just-one-blog-post carbon market

The European Union Emission Trading Scheme (ETS) is a multinational carbon market. Policymakers created the ETS to economically incentivize cost-effective reductions in climate-warming emissions among over 11,000 of Europe’s biggest climate polluters.

This cap-and-trade system serves as an exemplary model for climate policy, right? Shouldn’t climate activists in the United States demand Congress adopt something similar? Even better, the U.S. could enact parallel legislation and then integrate the top American greenhouse gas emitters into the European trading system, setting the foundation for a global carbon market!

As Lee Corso would put it: Not so fast, my friend. Europe’s ETS can hardly be considered the prototype for a functioning market-based climate change solution.

Cheap to pollute

European companies must have permits for their emissions, but the price is not steep. *Source*: European Commission.

European companies must have permits for their emissions, but the price is not steep. Source: European Commission.

For one, the current price to purchase a permit sits just under €5. Each permit, or allowance, is good for the release of one metric ton of carbon into our atmosphere.

For the corporations that own the large industrial facilities and power plants of the European emissions trading market, that’s pocket change. Five Euros per metric ton will not drive investment in the technologies necessary to create a low-carbon energy system.

Outsourcing emissions

Moreover, the smokestacks covered by the ETS account for less than half of total greenhouse gas emissions from the 28 European Union countries. And even if a cap-and-trade system could hypothetically include every emitter in the EU, carbon leakages would remain an intractable issue without an all-inclusive international market.

Put simply, if the climate pollution emanating from one region is subject to a predetermined limit, and in this way a price is placed on emissions, then high-emitting activities like steelmaking will simply relocate to areas outside of the system — places where emissions remain uncapped and thus free.

Side effects

The EU Emissions Trading Scheme has even more shortcomings: The system has brought about massive fraud as well as windfall profits for huge emitters. More importantly, it has indirectly caused human rights abuses to some of the world’s most vulnerable people thanks to the fundamentally flawed concept of carbon offsets.

Total ETS emissions have fallen sharply since the system was put in place in 2005, but how much of that decrease is related to the 2008 dip in economic output? Chart: Environmental Defense Fund. GDP data: World Bank. EU emissions: A. Denny Ellerman, “The EU ETS: Path to the Future or Dead-end?” European Environment Agency. 

Total ETS emissions have fallen sharply since the system was put in place in 2005, but how much of that decrease was caused by the economic recession? Chart: Environmental Defense Fund. GDP data: World Bank. ETS emissions: A. Denny Ellerman, “The EU ETS: Path to the Future or Dead-end?” European Environment Agency. 

Yet the system seems to be working from a perspective focusing narrowly on industrial climate pollution. Total emissions from the installations regulated under the ETS have fallen since the system was first implemented in 2005. In fact, greenhouse gas emissions among participants in the system have decreased even faster than the cap has tightened.

This drop in emissions within the system has led to an oversupply of allowances. Consequently, the ETS price to emit greenhouse gases has plunged far below the level that might reflect such emissions’ cost to society. In technical terms, the externality is nowhere near ‘internalized’ into the market price of goods whose production entails significant climate pollution.

Even with an emissions trading system in place, Europeans don’t pay for the global warming costs of the things they buy.

An American perspective

For an American like me, it’s worth taking a look at Europe’s complicated carbon market.

The day will arrive at last when climate legislation becomes politically feasible in Washington, DC. Before we rush to the conclusion that complex cap-and-trade systems will successfully reduce greenhouse gas emissions in the most cost-effective way possible, as prevailing economic theory promises, we should evaluate every aspect of the European scheme in place, from efficacy to unintended consequences.

Assessing the world’s largest illustration of the most popular policy solution to global climate change warrants thorough examination. Which means more blog posts — a series on the economics, narratives, and divergent views of the EU ETS.