Explain Cap and Trade [Alan]

There are two approached currently under discussion at state and national levels for controlling greenhouse gas emissions.  The expression “putting a price on carbon” usually refers to the carbon fee or tax approach but the cap approach has the same effect and is also included under that “putting a price on carbon” approach.

While the expression “putting a price on carbon” is unfortunate in that it states only that we will address carbon, in general the phrase means greenhouse gases rather than just carbon, and targets greenhouse gases assesses in term of their carbon dioxide equivalent (recall that this is the Global Warming Potential of gases measured in terms of their impact relative to carbon dioxide which is defined as 1.

Whether the approach is based on a fee/tax or a cap the principle is that the fossil fuel should be targeted ‘upstream’ rather than ‘downstream.’  This means targeting the fossil fuel as it enters the energy economy of the state or nation (maybe the extraction point or the point of entry into the state/nation).  The reason for doing this is that there are far few entities upstream than downstream (which mean end users like you and me).  The assumption is that those targeted (oil refineries, for example) will pass the imposed cost down the line.

The Fee/Tax Approach involves placing a tax on the fossil fuel per ton based on the amount of carbon dioxide (equivalent) emitted during its use.  The tax is imposed upstream (as discussed above) and generates revenue for the state or national Treasury.  In tax and dividend (the Citizens Climate Lobby approach) the funds raised are returned to taxpayers in the form of a dividend.  Other approaches use the funds raised to offset taxes (allow reduction in say income or corporate taxes) or to stimulate renewable energy alternatives to the fossil fuel.  The expectation is that taxing the fossil fuel will encourage users to switch to renewable sources that don’t carry that tax and thus become relatively more economically favorable.  The tax rate is raised thus indirectly increasingly penalizing fossil fuel use until the target emission level is achieved.

Some problems with this approach are:

  • In Oregon, the constitution requires that any proposal to raise revenue requires a 3/5ths vote of the two chambers to pass.
  • A study at Portland State University concluded that even a tax of $160 per ton would be insufficient to achieve the voluntary goals established by HB3543 in 2007 and contained within current state proposals.
  • In a growing economy polluters or customers may elect simply to accept the tax as the cost of doing business and not alter their behavior.
  • Although British Columbia has this approach, no state in the U.S. has adopted it, so whoever starts would be the guinea pig.

The Cap and Trade Approach involves placing a limit on greenhouse gas emissions measured in terms of their carbon dioxide equivalent emitted during its use.  This emissions limit or cap (hence the concept of Cap)  is lowered annually until a target emissions level is reached – thus limiting emissions directly.   Entities that release emissions above a threshold level (25,000 metric tons of carbon dioxide equivalent in the case of the current Oregon proposal) must submit allowance for each ton of pollution they emit.  These allowances are basically purchased at an auction – thus there is competition among polluters in bidding for allowances and the cost of allowances is subject to classic market place economics of supply and demand.  Presumably, as the cap is lowered, the competition for these allowances will increase and the price will rise.  The price of these allowances will make renewable energy sources more competitive and encourage polluters to switch to such resources.  If a polluter reduces pollution and does not need all the allowances they purchased, these can be traded, or banked for use in a later compliance period (year).  Hence the concept ‘Trade.’

Funds raised from the sale of the allowances can then be used in parallel ways to the tax listed above under the Fee/Tax approach.  One option is the dividend return to taxpayers, another is using funds to allow reduction in other taxes (income or corporate), and a third is using the funds to stimulate (invest in) renewable energy.

Some Problems with this approach are:

  • It targets only the major polluters so smaller polluters escape the limit except insofar as they purchase materials produced by major emitters (fuel, for example).  In Oregon, the targets are the 100 or so major emitters of ‘only’ 80% of the state’s emissions.
  • Most Cap programs allow carbon offsets whereby polluters can meet some proportion of their reduction requirement by investing in projects that either promote renewable energy, increase energy use efficiency, promote conservation, or promote extraction of greenhouse gases from the atmosphere. While such offsets do not necessarily directly reduce emissions, they can stimulate activities that are very beneficial (wind turbine farms, solar farms, or forests, for example).  The solution to this is to limit offsets to a small percentage of the total emissions reduction requirement.

There are many other wrinkles and complexities associated with both approaches.  A copy of the current Oregon ‘Cap and Invest proposal,’ the Clean Energy Jobs Bill can be found at http://socan.eco/OregonLegislativeSessions2017-2018/ under 2018 where a two-page summary can also be found.

One problem with many programs currently in effect is that they only address carbon emissions resulting from the combustion of the fossil fuel and ignore emissions resulting from the extraction, processing, or transport/transmission of the resource.  This is particularly critical in the case of natural gas where leakage occurs at extraction (especially shale-fracking), processing, and transmission under pressure through pipelines.  Since natural gas is some 90% methane and methane has a high Global Warming Potential, this leakage is important.  What is needed to overcome this shortcoming, is complete Life Cycle Analysis of emissions from cradle (extraction) to grave (combustion).