Saturday, September 29, 2007

Marekt for Carbon Emission Permits

From the New York Times Online

This week a group representing the world’s leading banks urged the United States and other industrial nations to move rapidly to introduce a lightly regulated system for trading carbon emissions permits. Yet, the banks, failed to make a strong argument as to the reason why the U.S. and other industrialized nations should adopt this Kyoto style of idea. This essay will try to make the point, from an economic standpoint, that the U.S. should adopt a system for trading carbon emissions permits. However, to understand why industrialized nations should start trading these permits, it is first necessary to know the basics about this new system.

Under this newly proposed plan, all polluters are required to have permits in order to discharge pollution. Each permit will state the exact amount of pollution a business may emit. The key idea here though is that the permits can be freely transferred between firms. The control authority will allot the number of permits needed to reduce emissions to the preferred level. Any company that pollutes in excess of the allowed permit requirements would then be fined.

Now if the controlling body issued the permits very precisely and every company received the right amount of permits, there would be no reason for a market in emissions permits. However, it is not a perfect world, were there is perfect knowledge, so permits would need to be traded to make up for the over or under allocation of permits to certain companies. With this system, the world now would have a cost-effective allocation without having even the slightest knowledge about control costs. When using this system the affected governments can now meet there policy objectives while still allowing for greater flexibility in reducing pollution. However, with any new market, especially one on such a large scale, there are bound to be a few drawbacks.

The good news with this venture is that there is only one main negative aspect, which is foreseeable. The one problem that could arise would be if the industrialized nations over allocated their permits; this would lead to volatility and then a collapse in the price of permits. However, the problem is fixed when the controlling authority auctions its permits, thus ensuring that the permits are scarcer and costlier, than if the controlling authority just gave out a certain number to each company.

With only one drawback, which is easily rectified, the new market for pollution is possibly one of the best moves the U.S. and other developed nations could make in reducing pollution. The new market guarantees that businesses have flexibility to achieve the specified reduction in pollution at the lowest possible cost. Next, this new market would probably grow to the point were it would be the world’s largest commodity market, creating new wealth throughout the developed nations. Finally, pollution would be reduced, and in the grand scheme of things isn’t that what we wanted to achieve in the first place.

1 comment:

Larry Eubanks said...

I'm not sure I'm buying the idea of "overallocating" permits with a resulting "volatility" and a "collaspe" of permit prices.

Could there be something else going on, or another way, a more economic way to describe this stuff? If the number of permits meets the air quality goal, and then what follows is activities that used to pollute are offering permits for sale rather than polluting, then maybe this tells us previous government regulations were not even close to least cost?