Market Forces

Carbon trading grows up

Cross-posted from Reuters AlertNet.

When someone robs a bank, nobody challenges the legitimacy of banks. They suggest instead that the bank find better security. Why should carbon markets be any different?

Wednesday last week the European Commission (EC) discovered cyber thefts of carbon allowances valued at around €30 million from accounts in a handful of member states. It promptly halted all trading in its nearly €130 billion/year market until the holes could be plugged, accounts could be cleared, the stolen allowances could be traced by their unique identifying numbers, and culprits could be identified.

The fact that some trading registries are apparently less secure than your Facebook account is a clear problem and points to serious underinvestment in market infrastructure and security.

It certainly does not call into question, however, the idea of carbon trading, although some opponents of carbon markets have taken that step. These people range from outright climate deniers—those who can’t even admit we have a global warming problem—to those who believe that markets aren’t the most efficient way of addressing climate change, to those who can’t capitalize on the carbon market’s opportunities.

Let’s be clear: Putting a firm limit on carbon pollution, and providing polluters with flexibility in determining how to reduce pollution—including through transparent trading of pollution allowances—is fundamentally the best way to combat global warming pollution.

This basic fact is not changed by a €30 million theft of carbon credits that might have been prevented through a €10 thousand investment in security software and better computer hardware. Although not perfect, markets are the most rational and efficient way of allocating resources toward filling a specific need. Every stock exchange on the planet faces attempted cyber attacks, and most are well equipped to deal with them.

A day after the theft was discovered, the EC released a wholly separate, long-awaited decision to stop accepting pollution credits generated by destroying trifluoromethane, HFC-23, and nitrous oxide. Opponents of carbon markets seized on this announcement as further evidence that carbon trading markets aren’t working.

But actually, the EC’s decision to stop accepting these credits is the right move. HFC-23 was originally developed as an alternative to ozone-depleting chlorofluorocarbons. HFC-23 is a potent global warming gas, and destroying it helps the climate.

However, trading in HFC-23 credits creates perverse incentives. With a high enough price for carbon credits, it could make economic sense to build factories that produce HFC-23 for the sole purpose of destroying the gas and collecting credit for doing so. A better way for dealing with HFC-23 would be to subsume it under the successful Montreal Protocol, which is working to repair the hole in the ozone layer.

The coincidence of the EC’s decision to stop trading HFC-23 credits and the temporary suspension of trading on the heels of the carbon allowance theft, gave opponents of trading the opportunity to launch a two-pronged critique of carbon markets. But barring HFC-23 credits from entering the EU system can only be applauded—it’s entirely in the spirit of putting a firm upper limit on carbon pollution.

These two events highlight the carbon opportunity for the EC going forward. The emissions trading system has already proven its worth as the centerpiece of European efforts to cut global warming pollution. By improving the technical security of its trading program, the EC can assure investors that no more emissions allowances will be purloined.

And by closing its carbon market to credits from one-off HFC-23-type projects of dubious environmental value, and instead linking the EU market with jurisdictions that establish high-quality cap-and-trade systems, the EC can strengthen its own market and challenge others who are developing similar policies—from New Zealand to Tokyo to California, and beyond—to follow suit.

In the end, that’s all that counts—and the only thing the planet truly notices.

Posted in Cap and Trade Watch, International, Politics / Comments are closed

The long and the short of energy efficiency

David Owen asks a provocative question in the current New YorkerIf our machines use less energy, will we just use them more? He more or less says yes. The real answer comes in two parts.

For now—over days, weeks, months, and even years—energy efficiency will decrease energy use and emissions. Screw a compact fluorescent light (CFL) bulb into a socket that used to hold an incandescent and your energy use will go down. Chances are you won’t leave the lights on four times as long just because light now costs a quarter.

Over time—years, decades, centuries, and millennia—more energy efficient lights and appliances will indeed mean that more people use more of them. CFLs make light more affordable. That doesn’t matter to the typical U.S. household, where few light sockets remain unused because of energy costs. But globally—and over time—it does make a difference.

The Jevons Paradox

William Stanley JevonsOwen goes back to 1865 and William Stanley Jevons who at 28 came up with what has later been called the “Jevons Paradox”:

It is wholly a confusion of ideas to suppose that the economical use of fuel is equivalent to a diminished consumption. The very contrary is the truth.

Jevons is right, of course. We have seen dramatic increases in energy efficiency over centuries while energy use has gone up by orders of magnitude.

Does that mean we shouldn’t increase energy efficiency? Of course not. We just need to be clear about what we are getting in exchange.

Energy over the millennia

Sperm WhaleBy the mid-1800s, the latest and greatest in lighting technology was spermaceti, a fat from the head of sperm whales. It cost around $1,500 a barrel in today’s dollars and its price was only going to go up as whales became ever scarcer. Since then, we have seen gas lights come and go and by now electric lights cost less than a thousandth as much as the equivalent in lighting power back then.

That’s not a recent phenomenon. Bill Nordhaus went back to 500,000 BC. Lighting cost a million times [PDF] as much then as it does today. Needless to say, we are using much more of it now.

Another word for this phenomenon is “technological progress.” That’s really what’s behind the whale oil story, and we want more of it. There is still plenty of energy poverty [PDF] in the world. We clearly want affordable, clean energy for as many people as possible.

Of course, misguided “progress” has also led us to a planet on the brink of breakage. We need to limit greenhouse gas emissions—and do so sooner rather than later.

Will energy efficiency save the climate?

Should we look to energy efficiency as a way to do some of that? Absolutely. Energy efficiency is cheap, quick, clean, and often underutilized.

McKinsey has looked for zero-cost energy efficiency opportunities in the United States and has found possible savings of above 20 percent of total demand in 2020.  Those savings, could go a long way toward meeting commonly discussed climate policy goals.

But won’t those energy savings just mean that we are using more energy eventually? History has shown it to be true after all.

In the short run—over days, weeks, months, and even years—the Jevons Paradox manifests itself in a well-documented “rebound effect” of around 10 percent. On average, you would indeed leave your CFL on for a bit longer than you would an incandescent. We lose a tenth of energy savings to increased use. (Owen cites the 10 percent figure but then goes on to overstate some of the implications dramatically.)

That leaves 90 percent in true savings and points to the clear win-win potential of energy efficiency measures.

Not by energy efficiency alone

In the long run—over years, decades, centuries, and millennia—cleaner and cheaper energy also means more people will be using more of it.

Does that mean energy efficiency is bad? Of course not. Energy inefficiency is another term for waste. And we clearly want less of that. But the problems our planet faces are too large to address through waste reduction (“reduce, reuse, recycle”) alone.

To get emissions down in the long run, there’s no escaping the (gasp) inconvenient truth that we must limit pollution directly—ideally though a declining cap on total emissions.

A cap on emissions—and the ensuing price on carbon pollution and race to invent cleaner energy sources—is the only mechanism we know that can break the link between emissions and energy use.  It limits the former and makes clean energy cheaper relative to fossil fuels.

Posted in Markets 101, Technology / Comments are closed

“The rule of consensus doesn’t mean unanimity”

Cancun closed with a bang, not least because Mexican Foreign Secretary and Cancun talks chief Patricia Espinosa declared that, “The rule of consensus doesn’t mean unanimity.”

Patricia EspinosaThat sentence alone should occupy legal scholars for years to come. Most economists would only applaud. Getting 190-odd countries to agree on anything is extremely difficult. Unanimous consent is almost always out.

If the Espinosa consensus stands, it will certainly insert some new vigor into the UN climate talks. It proved to be crucial to breaking the logjam in Cancun, which would otherwise have been held up by Bolivia as the lone dissenter. (Bolivia is now appealing Espinosa’s decision.)

The building blocks for a global deal are still elusive. Cancun punted on some of the most important issues. Some other crucial ones like Avoiding Deforestation (REDD+) and the basic building blocks for a Green Climate Fund saw some real progress.

Head over to EDF’s Climate Talks blog for a rundown of the most important issues.

In the end Michael Levi has it exactly right:

The Cancun agreement should be applauded not because it solves everything, but because it chooses not to.

It focuses on what the UN does well, and avoids the rest.

That, and the Espinosa consensus—if it withstands Bolivia’s appeal—may well be the most important legacies of Cancun.

Posted in International, Politics / Comments are closed

There They Go Again, Part Two: Mercury

Sometimes cap and trade isn’t the best solution. Call me a purist, but I want my kid’s amniotic fluid to be toxin-free. In the case of mercury, direct regulation is the best way to go.

It also shows that carbon can have some good uses after all. Activated Carbon Injection can reduce mercury pollution from power plants by 90 percent. It’s clean(er), readily available, already deployed large scale, and affordable. Now it’s up to EPA to set the proper rules.

Steve Cochran tells the full story. Second in a series.

Posted in Politics, Technology / Comments are closed

First steps for the California carbon trading market

Whoever said cap and trade is dead hasn’t been paying attention to the news in California.

Recently, the first trade of a greenhouse gas emissions permit in the Golden State took place, signaling the beginning of what experts project to be a robust carbon market—and the largest in the U.S. given the absence of a nation-wide policy (note that the Regional Greenhouse Gas Initiative (RGGI), the first mandatory market-based effort in the U.S. with 10 participating Northeastern states, applies to utilities, while California’s program will also apply to industry and in later years, transportation).  The trade takes place hot on the heels of the defeat of Proposition 23 in the November elections.

Although the compliance market won’t launch until 2012, Barclays Bank and NRG Energy completed the first allowance trade:  a forward contract which guarantees the delivery of allowances valid for use in the California market at the start of the program at a locked-in price (around $11-$11.50 according to Point Carbon).  By helping provide certainty about the future, these types of trades allow firms to make smart business planning decisions, such as which energy technologies to invest in.  Experts at Barclays as well as at San Francisco-based CantorCO2 expect that other early trades are soon to follow, as firms look for ways to reduce risk and start transitioning to a clean energy economy.

Ensuring the integrity of the carbon market…

State regulators have been able to provide sufficient certainty about how the market will be structured and the timeline for regulatory action to allow for this early launch of the California market.  However, it will be important to nail down sooner rather than later the nitty-gritty specifics of how the market will be regulated in order to ensure that trading occurs in an efficient and transparent way (note that the California Air Resources Board (CARB) is currently accepting comments on a detailed rule proposal).

The financial crisis we just lived through should provide ample incentive for us to make sure to get the rules right and for ensuring tough enforcement and strong oversight — for example, by requiring all carbon trading to be done on registered exchanges, rather than over the counter.  On that point, it’s worth noting that the recently passed Dodd-Frank Financial Reform legislation requires the Commodities Futures Trading Commission (CFTC) to lead an interagency study on how best to regulate the carbon market.  (Carl Royal’s 2009 testimony from the House Energy & Commerce Committee hearing on the American Clean Energy and Security Act and our own fact sheet provide some more arguments).

The path forward for CA

California’s cap-and-trade program will cover the power and industrial sectors starting in 2012 and the transportation sector (including cars and fuels) beginning in 2015.  Time and time again, California and other regional initiatives, like RGGI, continue to lead the nation on sensible energy and climate policy (and stay tuned for developments in the Western Climate Initiative (WCI) as well as New Mexico).  Time for Washington to catch up.

Posted in California, Cap and Trade Watch, Markets 101 / Comments are closed

How environmental economics saved Christmas

Art Carden has a great piece on the Grinch saving Christmas,

using Pigouvian taxes and the bargaining business.

But it reminds us again that even Coase missed the mark,

when it comes to things outside of Whoville’s small arc.

So to Art’s welcome take on a Yuletide tradition,

We humbly append a climate-change addition:

Since Whoville Whos’ chanting affects only the Grinch,

Bargaining is the solution that works in a pinch.

Climate’s a problem that affects the whole planet,

Coasian bargaining is much too small to span it.

A price on carbon is the better path,

all we need now is the political math.

Failing that, to be sure, we have the EPA,

not a first-best choice, still it may win the day.

To save the world’s Whovilles, we need a solution

that in the end puts a firm limit on carbon pollution.

Cap and trade is the most certain way

to give every Who joy on this and future Christmas Days.

Posted in Cap and Trade, Politics / Comments are closed