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Trading on Carbon: How Markets Will Save the World

Utilities should plan for U.S.-wide CO2 emissions restrictions that will be more effective than state efforts.

Fortnightly Magazine - January 2007

industry, producers must have confidence that production costs associated with meeting ETS requirements will be understood by local regulators, who have the power to deny end-user price increases. It is ironic that the first phase of a U.S. ETS certainly will cover large fixed-point sources because “the energy sector has been considered to have the best possibilities to pass on costs for the allowances to the consumers and hence the allocation to this sector is often more restricted than the allocation to other sectors.” 10

The U.S. ETS will, like the EU ETS, initially cover large, fixed-point sources. While these sources may account only for a small proportion of overall CO 2 emissions, they will be the initial targets because they are best suited to monitoring and abatement. It is in the interest of electricity producers to advocate for as wide a net as possible, so that the economy as a whole helps to pay the price for CO 2 reductions, and so that electricity producers have a deeper trading market.

A Global Plan and Timeline

Reducing atmospheric CO 2 concentrations will require a worldwide, centuries-long effort. For a U.S. ETS to have any effect on long-term CO 2 concentrations, it will have to act as a first step in implementing a wider regime that covers all geographies and industries. From this standpoint, a reduction in CO 2 emissions is just as valuable regardless of where it occurs. This gives regulators incentives to link worldwide ETS, so that resources can be spent where they will have the most impact.

The ability to gain credits through offsets will help to limit the costs of abatement. By linking a U.S. ETS to the Kyoto Joint Implementation and CDM programs, companies greatly will expand their options for gaining emission credits. Linking the U.S. ETS to other programs and offering offsets greatly would increase support for an ETS since other players, such as agricultural companies, renewable energy producers, and brokers, would benefit.

At this time, it is unclear how the United States will set the top level cap and timeline for emissions reductions. Many other industrialized countries have settled on the Kyoto goals for reducing CO 2 emissions to 1990 levels by 2012. While this has helped to set a baseline and a goal, this expectation is unrealistic. U.S. regulators will have to choose a baseline that will lead to both significant CO 2 reductions while also rewarding recent actions by producers to reduce emissions. It should be expected that a baseline will therefore be set at a level determined by historical emissions at least 10 years in the past.

The top-level timeline for reduction will be a large factor in determining the overall cost to the industry and economy for meeting the new cap, but will have much less effect on determining individual winners and losers. While it will be the producers who face the initial business disruption and costs, it is ultimately the energy users and the consumers of their products who will face price increases. From this perspective it is easy to understand