Selling the Right to Pollute

smoke_stacksI decided I need a break from the finance side of the economy for awhile and start a discussion on the Obama Administration’s Cap and Trade initiative.  This is an extremely controversial plan and will basically cause political alignments of states and regions more than party affiliation.  Cap and Trade programs have been discussed in economic circles for some time but have never been seriously considered  anywhere but Europe, so let’s start with the basics of what may be an unfamiliar topic.  Several years ago, I was asked to sign my name to a list of economists supporting the initiative.  In the interest of open discussion, I’ll let you know that  I passed on request.

Cap and Trade Systems are also known as emissions trading or more traditionally, allowance trading.  The idea is that a company recieves an “allowance” to release a particular pollutant into the environment.  It can either hold the allowance and release the pollutant, sell the allowance and give up any right to release the pollutant, or buy others’ allowances and receive a higher allowance to release the pollutant.  In other words, the allowance would be a marketable asset that would be priced in a market.  This makes the approach “market-based’.

The goal of a Cap and Trade System is to steadily reduce the emission of the pollutant.  Int the case of the Obama Administration’s initiative, the pollutants are carbon dioxide and other greenhouse gas emissions.  Initially, some one has to decide the initial acceptable ‘allowance’.  This basically establishes the ‘cap’.   Here’s the description of the ‘cap’ given by the Center for American Progress.

Each large-scale emitter, or company, will have a limit on the amount of greenhouse gas that it can emit. The firm must have an “emissions permit” for every ton of carbon dioxide it releases into the atmosphere. These permits set an enforceable limit, or cap, on the amount of greenhouse gas pollution that the company is allowed to emit. Over time, the limits become stricter, allowing less and less pollution, until the ultimate reduction goal is met. This is similar to the cap and trade program enacted by the Clean Air Act of 1990, which reduced the sulfur emissions that cause acid rain, and it met the goals at a much lower cost than industry or government predicted.

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