A Comprehensive U.S. Cap-and-Trade System: A Sensible and Practical Approach to Reduce Greenhouse Gas Emissions

Transcription

1 A Comprehensive U.S. Cap-and-Trade System: A Sensible and Practical Approach to Reduce Greenhouse Gas Emissions Robert N. Stavins Albert Pratt Professor of Business and Government John F. Kennedy School of Government, Harvard University Director, Harvard Environmental Economics Program Regulatory Policy Program Seminar: New Directions in Regulation Mossavar-Rahmani Center for Business & Government John F. Kennedy School of Government, Harvard University November 5, 2007

2 Climate Concerns Have Gone Mainstream Last Year This Year 2

3 Very Mainstream. 3

4 Recent Developments in Information About Climate Change, Climate Policy, and Business Response European GHG Emissions Trading Scheme begins Northeast states announce regional GHG initiative NOAA: 2006 warmest year on record for continental US California enacts AB 32 NOAA: Rate of Arctic warming unprecedented Jan Alcoa, BP, Duke, GE, NGOs, and other members of U.S. Climate Action Partnership (USCAP) jointly call for economy-wide climate regulations Merchant electricity generators trade association supports mandatory GHG caps 5 mandatory climate policy bills introduced in Congress IPCC: Unequivocal evidence of warming, 90% certainty that humans are main driver 5 western states agree to joint climate initiative U.S. House select committee on global warming established Supreme Court: EPA must consider regulating vehicle GHG emissions ConocoPhillips, Shell, PepsiCo, Alcan, AIG, General Motors, Chrysler, Ford, Xerox, NRG Energy, Exelon and Rio Tinto join USCAP Auto executives give support for cap-and-trade policy TXU buyout partners and AEP separately announce plans to invest in carbon capture and sequestration Senator Bingaman introduces bill for national cap-and-trade system Senators Lieberman & Warner introduce draft climate bill NYT: Summer saw recordbreaking loss of Arctic sea ice Pres. Bush hosts session on international climate policy Sept. - Dec. Feb. Mar. Apr. May June July Aug. Sep. 4

5 INTRODUCTION There s a growing impetus for a domestic U.S. climate policy to provide meaningful reductions in CO 2 and other greenhouse gases And general consensus among policy analysts that a market-based instrument targeting CO 2 emissions should be a central element While there are tradeoffs between two MBIs cap-and-trade system and carbon tax best and most likely approach for short to medium term in the United States is a cap-and-trade system Three criteria for policy assessment: environmental effectiveness, cost effectiveness, and distributional equity 5

6 Key Merits of a Cap-and-Trade and-trade Approach Provides a cost-effective means of achieving meaningful emissions reductions Offers an easy means of compensating for the inevitably unequal burdens imposed by a climate policy Provides a straightforward means to harmonize with other countries climate policies Avoids current political aversion in the United States to taxes Unlikely to be degraded in terms of environmental performance and cost effectiveness by political forces Has a history of successful adoption and implementation in the United States over the past two decades 6

7 Proposal for a U.S. Cap-and-Trade and-trade System Upstream, economy-wide CO 2 cap-and-trade system Economy-wide scope ensures greatest reductions at lowest cost Point of regulation (upstream) is independent of issue of point of allocation of allowances (upstream, midstream, or downstream) Confusion about upstream-downstream regulation in AB 32 and other discussions Low administrative costs (2,000 regulated companies) Offsets for carbon capture & storage Gradual inclusion of other greenhouse gases 7

8 Proposal for a U.S. Cap-and-Trade and-trade System (continued) Gradual downward trajectory of emissions ceilings over time Two time-paths of caps minimize disruptions and give time to adapt Stabilize CO 2 emissions at 2008 level over (NCEP I & II) Reduce CO 2 emissions 50% below 1990 level by 2050 (USCAP) Consistent w/ ppm (if all countries take commensurate globally c/e action) Costs significant but affordable (< 0.5% & < 1.0% of GDP annually) BAU average GDP growth through 2050: 2.901% Stabilization policy: 2.895% 50% reduction policy: 2.891% 8

9 Proposal for a U.S. Cap-and-Trade and-trade System (continued) Mechanisms to reduce cost uncertainty (price volatility) For cost uncertainty: banking, borrowing, multi-year compliance period For short-term price volatility: sensible cost-containment mechanism Alternative Compliance Fee Set at high level (not a de facto tax policy) Use funds exclusively for offsets maintains environmental integrity Or reduce future years caps proportionately 9

10 Proposal for a U.S. Cap-and-Trade and-trade System (continued) Allowance Allocation Initially, 50% of program s allowances allocated through auction and 50% through free distribution, moving to 100% auction over 25 years Economic analyses point to 15-20% (perpetual) free distribution to compensate firms for equity losses (note: economy-wide average) Free distribution targeted at entities most burdened by policy Limit potential inequities Bolster political support Auction generates revenue for worthwhile public purposes: Compensation of low-income consumers Research & Development Reduction of Federal deficit Reduction of distortionary taxes 10

11 Proposal for a U.S. Cap-and-Trade and-trade System (continued) Linkage with Other Tradable Permit Systems Linkage with state (CA) and regional (RGGI) systems: Should take their place to avoid duplication, double counting, conflicting requirements Decision on design of Federal system will likely pre-date implementation of state & regional systems If CA system more stringent and in place: subsidy for other states Linkage with systems in other countries In short term, linkage with emission reduction credit systems In long term, harmonization with other cap-and-trade systems (EU ETS) 11

12 Proposal for a U.S. Cap-and-Trade and-trade System (continued) Linkage with Other Countries Climate Policies Goals (cap) of system can be contingent on actions of other key countries (Presidential or Congressional determination required) Operation of system linked with actions of other key nations. Imports of specific highly carbon-intensive goods (in terms of mfg) must hold proportionate allowances (mirroring requirements on U.S. sources).. if from countries which have not taken comparable policy actions Applies only to primary highly energy-intensive commodities, such as iron & steel, aluminum, cement, bulk glass, paper, & fossil fuels. Exemptions could be provided for very low-emitting and poorest countries Binding only after ten years (give time for new int l agreement) Maintains level playing field between imports and domestic products, reduces leakage, and helps induce developing countries to take action. 12

13 Comparison with Alternatives Alternative to cap-and-trade most frequently considered by policy makers for CO 2 & other GHG reductions is standards-based policy Inferior to CAT (and carbon taxes) in terms of environmental effectiveness, cost effectiveness, and distributional equity Among some economists and other policy analysts, there is interest in use of carbon taxes Most of the critiques of cap-and-trade use straw-man caricatures Environmental effectiveness: tax does not guarantee achievement of emissions target (but provides greater certainty regarding costs) fundamental tradeoff Taxes provide automatic temporal flexibility; need to build in to CAT But, political economy forces strongly point to less severe targets if carbon taxes are used, rather than cap-and-trade not a tradeoff This is why environmental NGOs are opposed to taxes. 13

14 Comparison of Cap-and-Trade and-trade & Carbon Tax In principle, both can achieve cost-effective reductions. Distributional consequences of two approaches can be identical But political pressures on carbon tax system lead to exemptions of sectors/firms, which reduces environmental effectiveness and drives up costs Political pressures on cap-and-trade system lead to different allocations of allowances, which affect only distribution, not environmental effectives, not cost effectiveness So, some observers worry about propensity of political process under a CAT system to compensate sectors (through free allowances allocations) But a carbon tax is sensitive to the same pressures, and may be expected to succumb in ways that are ultimately more harmful. It is important to design policy that is optimal in Washington, not just from perspective of Cambridge, New Haven, or Berkeley. 14

15 To help identify key design elements of a scientifically sound, economically rational, and politically pragmatic post-2012 international policy architecture for global climate change, drawing upon leading thinkers from academia, private industry, government, and non-governmental organizations. 15

16 To get more information about the Project, please visit our website: or The Harvard Environmental Economics Program or 16