Western Climate Initiative: Stability reigns after Ontario exit as all current and future allowances sell

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Golden Gate Bridge. © CAN BALCIOGLU / Shutterstock Images.

“Stability” is the word of the day for California and Quebec’s joint August auction. All current and future allowances sold, indicating that despite last month’s abrupt de-linking with Ontario, the market can weather political turbulence and remain strong.

Auction quick takes

  • All 79,421,265 current allowances sold, clearing at USD $15.05, 52 cents above the $14.53 price floor and 40 cents higher than the May auction. The offered allowances include some that were previously unsold, but do not include any allowances from Ontario.
  • All of the 9,401,500 future vintage allowances offered sold at $14.90, 37 cents above the floor price. This is significantly higher than the volume sold at the May auction, due to a number of potential variables including the de-linking with Ontario. It also signals that there is high confidence in the California-Quebec auction past 2020 as these allowances aren’t available for use until 2021.
  • An estimated $798 million was raised for California’s Greenhouse Gas Reduction Fund, which will go to help improve habitat, clean up local air, and invest in frontline communities.
  • Quebec raised approximately $166 million USD to fund provincial climate investments.

And then there were two
While Ontario’s departure from the Western Climate Initiative represents a significant step backward, these results show that the move has not dramatically impacted the California-Quebec market, due to the quick response of the two partners.

On the same day Premier Doug Ford announced that his first step in office would be to end Ontario’s cap-and-trade program and that the province would not participate in the August WCI auction, California and Quebec froze the allowance accounts of Ontario trading entities to prevent dumping excess allowances into the market. This swift and decisive action caused secondary market prices to stabilize very quickly, and demonstrated that “de-linking”, although rare, can effectively happen in a responsible and measured way.

Aside from Ontario, there are a few other dynamics worth understanding that impact supply and demand.

  • California is four years ahead of schedule in meeting its 2020 greenhouse gas reduction target, but transportation emissions are currently ticking up, which might be contributing to demand. This demonstrates why it is important to have a market that allows businesses to plan ahead and send an early price signal. Buying allowances now raises the price now, but also incentivizes companies to reduce emissions now, which is good news for the climate.
  • The Trump administration has also proposed a rollback of the Clean Car Standard. While it is hard to see this dynamic having a direct impact on demand in this auction, if the federal government finalizes the proposed flatline of the federal program and purported revocation of California’s authority to maintain its separate program, there will likely be years of litigation to follow, which could cause uncertainty about transportation sector emissions. Even this potential uncertainty illustrates another important aspect of California’s cap-and-trade program as a backstop policy. If other policies cannot deliver expected reductions for whatever reason, cap and trade will be responsible for reducing overall emissions. Companies have the option to purchase allowances today at a lower cost as a hedge against a greater need in the future, increasing demand.
  • The August auction was also the first auction where the “24-month rule” may have played a meaningful role. Under this rule, allowances held by California that remain unsold for 24 months are either retired or moved to the Allowance Price Containment Reserve. A series of undersubscribed auctions in 2016 left a cache of unused allowances. But CARB can’t just sell off all of these allowances: they can only offer at auction previously unsold allowances when two consecutive auctions sellout, and they can only offer previously unsold allowances up to 25% of the volume of current allowances offered in an auction. The market has been aware of this rule since it was adopted last summer and subsequent auctions sold out for a variety of reasons. But due to timing, this is the first time a significant volume of allowances will be retired. The removal of these allowances from auction limits supply in future auctions, potentially causing companies to buy more now.

Up next
CARB is still in the process of drafting updated cap-and-trade regulations, which will be released for public review and comment soon. These regulations will reflect the cap-and-trade extension adopted last year and will be the “rules of the road” for the program post-2020. But in the meantime, today’s auction results demonstrate that despite Ontario’s current stance on climate policy, the WCI market is stable and will continue driving emission reductions.

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