Monday, February 4, 2008

COs standards looking likely, says big banks

According to a Wall Street Journal article three major investment banks, Citigroup, JP Morgan Chase, and Morgan Stanley collectively decided that it is likely that the US would adopt some form of carbon regulation in the near future. In order to protect themselves from the fallout of these new regulations, they are going to make it harder for coal fired power plants to get funding from them. They would choose to fund energy effieciency plans and renewable energy projects over traditional projects. And before any project receives funding they must prove that they could be "economically viable even under potentially stringent federal caps on carbon dioxide". The banks claim that their major motivation is financial but that they have also been under pressure from environmental groups, two of which helped design these new standards for funding. This is great! People are starting to think ahead in a big way!
The new funding standards include building into the financial plan the costs for carbon allowances or carbon removal. There is quite a bit of dispute right now about whether power plants should pay for allowances or get them for free (or a little of both) and how should the distribution be decided. It seems to me that this is something that no one can get right. Allowances were over-allocated in Europe which is causing trouble with the European carbon market. The same thing happened with the California RECLAIM trading market a couple years back. Hopefully we will learn from the mistakes of the past. But total allocations is not the only problem. The distribution is also difficult. Should relative allocations be decided using historical emissions (bad idea in my opinion) or total production (sometimes difficult to compare different processes or equipment although the better choice in my opinion). How quickly should the cap be reduced? These are questions that haven't been correctly answered yet. Am I leaving anything out?


Ross Tomlin said...

Although I am undecided about the merits of a carbon/cap-and-trade system (versus, say, an emissions tax), it's uplifting that several US financial institutions are jumping on the bandwagon. Detractors note that a cap-and-trade systems, in which a finite number of emission permits are bought and sold on the market, lack transparency or ease of administration. An emissions tax, on the other hand, would be markedly easier and less costly to administer and would provide more certainty to firms concerned about controlling costs. The number of producers of coal, natural gas, and crude oil is also relatively small and therefore would be much simpler to monitor than under a cap-and-trade system in which permit ownership changes hands and prices constantly fluctuate.

The Worldwatch Institute recently came out with a report on carbon markets gaining momentum (see below), particularly the EU-ETS mentioned in the original post. The EU-ETS is the largest carbon-trading market, and apparently it is helping the EU meet its emissions targets under the Kyoto Protocol. Although "tammyt" states that there are overallocation issues, Worldwatch reports that the EU-ETS's second trading phase in 2008 has witnessed, if anything, fewer permits to be traded, driving up prices. (Fair warning: I speak as though I fully understand the intricacies of carbon trading -- this is not exactly the case.) I would assume, then, that demand is on the rise, which one would think is good news.

Carbon markets can be either mandatory or voluntary -- but clearly the former would have a much greater impact on emissions control. As the Worldwatch report notes, the US, as the lone industrial nation not to ratify the Kyoto Protocol, is hindering those countries who are active on the carbon markets. Nevertheless, some states like California along with two Canadian provinces have tried to champion the cause.

Worldwatch Institute report

TammyT said...

Initially the European trading market looked to be a huge success, then in the middle of Phase 1 (2005-2007) they discovered that they had overestimated carbon emissions by over 50 tons and therefore had a surplus in credits. Prices dropped, as did confidence in the market. And the actual carbon emissions did not decrease through the first two years of the program. They have since dropped the caps and strengthened the phase 2 goals.
But I agree that an emissions tax would be much more straight forward and easier to implement. I'm still not convinced that makes it better. If people think that carbon markets are cheaper then they are going to be an easier sell. I have a bit of experience with two non-carbon emissions trading markets and the lack of transparency makes them extremely hard to get started. Nobody has a good idea of the costs associated with emissions and emissions reductions and so it's really hard to put a price on credits. And with the huge variability of the costs of emissions controls someone is likely to hold up the progress of any market with lawsuits. It might be more straight forward with carbon however. I'm not sure.
It does seem that a tax would simplify the process, but maybe once the carbon markets are established they'll do the job.

TammyT said...

Two corrects to my previous comment. There was an over-allocation of about 50 MILLION tons. According to an article in Review of Environmental Economics and Policy that number is actually 80 million tons and accounts for about 4% of the total allocations. I can't seem to find numbers to back up my statement that emissions did not actually decrease the first two years of the program. There were more credits available than were needed and a lot of questions as to what actual emissions were before the program started. If anyone can comment on this, please do.