Auctioning carbon permits

Ecological Economics has some worthwhile clips exploring the idea of auctioning permits to emit greenhouse gases. This is a refinement of the general notion of capping emissions and letting emitters buy and sell the permits amongst themselves (and presumably to speculators and investors and others interested in the market).

The weight of learned economic opinion has generally come down in favour of taxing carbon emissions instead of having a cap-and-trade system as the primary way of reducing greenhouse-gas emissions both globally and in any given country. In carbon taxes’ favour:

  • They can be made universal, not just applied to “heavy emitters” that you’d then need to define
  • They can be applied at source, whenever people or companies buy carbon-based fuel, rather than requiring somebody to monitor emissions in some way
  • They’re less easily subjected to political fiddling, where a politician tries to protect a particular factory, say, in his or her constituency

In short, they’re simpler to administer and therefore impose fewer costs on the economy.

But what I think is a crippling weakness in carbon taxes is that it’s difficult to predict what effect they’ll have. We have a pretty good idea what our targets for future carbon-dioxide emissions need to be, but how to connect those targets to precise tax levels remains a black void. Three cents on a litre of gasoline? Thirty cents? Five dollars on a tonne of coal? Fifty dollars?

If we know what our emissions targets are, though, we know how much carbon dioxide (and equivalents) to issue permits for. The market can do the rest, if it’s allowed to work.

That’s been the problem with capping and trading so far. The only place it’s been tried even half-seriously, in Europe, they issued way too many permits, the prices crashed, and the system’s been very little use. Nobody can make money by slashing emissions and then selling their excess permits because the things aren’t worth anything.

But if you start by auctioning permits, rather than handing them out to whoever you think will need them, you let the market sort the initial stage out, too. Companies that want to pollute can estimate for themselves what they think their pollution is worth to them in increased productivity, and go out and pay that price for their pollution rights — unless they find that polluting is worth so much more to other people that they’ve hit the market first, at higher prices.

This would hurt in the early going, and possibly very badly. Companies that are now using their essentially free right to emit CO2 to inefficient ends would get wallopped really, really hard. Some would go bust immediately. But with the rest, we could be confident that the emissions we do allow would be supporting the most efficient economic activity possible.

But even economics-conscious politicians have to keep winning elections, and the short-term pain would be so great — and would definitely be predicted to be so great — that it probably wouldn’t be politically feasible unless we reach a point of climate crisis so acute that even people who aren’t really paying attention start to notice.

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One response to “Auctioning carbon permits

  1. It doesn’t have to be that way. You could have permits that gradually kick in. For example, the rights could say: at 0 years this permit allows 10 CO2 tons emissions, at 5 years 9 tons, at 10 years 8 tons at 15 years, 8 tons ect. down to at 25 years 5 tons and then constant after that. You could also have the government initally hand out too many rights and then slowly buy them back. Both proposals would eliminate cap shock, which you described, that would be harmful to the economy.

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