In his article, "Why Taxes Don't Distort Emissions Trading" (Dec. 1, 1994, p. 37), Michael Thomas suggests that utilities should flow through the proceeds of emission allowance sales to ratepayers in the year of sale. His idea is that utilities can eliminate any net effect on current income taxes by matching the increased revenue (emissions sales proceeds) against a revenue decrease (lower rates charged to customers). Slam dunk. End of story. Unfortunately, it's not so simple. The Thomas "wash" theory disregards ratemaking realities and the legislative intent of the Clean Air Act Amendments of 1990 (CAAA). It ignores the practicalities of allowance trading and fails to take account of the corrective tax legislation proposed by Allegheny Power System and the Chicago Board of Trade, and endorsed last year by the National Association of Regulatory Utility Commissioners.
The truth is that the federal tax system seriously interferes with the intended operation of the emission allowance market.