Another Path to Cap-and-Trade

There’s been a lot of talk about California’s budget crisis and its dysfunctional political system–a wound that was entirely self-inflicted by the anti-tax brigade, which made it possible for one-third of one house of the legislature to block any increase in taxes. (See Ezra Klein for more.) But there’s another area where California is putting Washington to shame: climate change.

The Economic and Allocation Advisory Committee to the California Air Resources Board recently released its recommendations for how emission permits under the state’s cap-and-trade system should be allocated (summary here). The basic principles are that most of the allocations should be auctioned off, and about three-quarters of the proceeds should be given back to households in the form of tax cuts or dividend checks, allowing families to cope with any increases in energy prices that result from emissions caps. This, of course, is a far cry from Waxman-Markey, which starts off by giving most allocations to polluting industries, but is closer to the bill introduced by Maria Cantwell and Susan Collins in the Senate.

The difference seems to be that in California, the Global Warming Solutions Act of 2006 mandated the creation of a cap-and-trade system (to get California to 1990 emissions levels by 2020) and handed the implementation details to the California Air Resources Board, which commissioned a panel of economists, public policy people, and businessmen to work out the details. (The Board is not bound to accept their recommendation, however.) So this is a contrast between letting regulators set rules and having Congressmen set rules. (In our current Congress, the latter gives coal-state Democrats an effective veto, since the Republicans will not provide significant votes to any Obama administration proposal.) In other contexts I’ve argued that regulators should not have too much discretion, but here it may turn out to be a better approach.

By James Kwak

22 thoughts on “Another Path to Cap-and-Trade

  1. So the problem is that California’s taxes are too low?

    Just out of curiosity, how do those taxes compare to the other 49 states? Must be at the bottom of the list, I presume.

    I agree re: auctioning off cap & trade permits.

  2. James,

    I’m sorry, but I think you’re really going off the deep end. Your anti-right-wing tirades are starting to seem biased.

    California government is a mess, no doubt, but to say it was “entirely self-inflicted by the anti-tax brigade” is like saying our current recession was entirely self-inflicted by low interest rates. The “anti-tax brigade” is just one of the many causes. How about the idiots who voted against the gerrymandering proposition a few years ago. The polarization of the state Congress has just as much to do with the mess as does the anti-tax brigade. But this is just one example.

    Anyway, my main point is you need to chill out, take a deep breath, and stop blindly reacting to things from some pre-determined, left-wing point of view or you’re really going to start losing your credibility.

  3. James,

    I’m getting that you are seeing this process in the abstract as an example of the difference between Washington’s and California’s regulatory cultures. Actually AB 32 did not tell regulators to put in place a cap and trade system…during the scoping process a number of alternatives were supposedly discussed but the fix was in that cap and trade (sometimes called “crap and trade” among people who are involved in energy efficiency and renewable energy investing) would be selected because of the Kyoto process. California independent mindedness only goes so far.

    However you seem to be subscribing to the notion, widespread among some well-meaning groups, that having a cap and trade system at all is a good thing for the climate. Far better would be to have a carbon fee or tax that ratchets up on a predictable basis or, at least, nothing as of yet, in order not to give legislators and people like you the illusion that you are doing something about the climate by having a cap and trade system in place.

    As you are obviously aware of how corporate accounting works this should be clear to you: to predict your negative and positive cash flows into the future allows you to apply conventional investment evaluation instruments like IRR and NPV to investments.

    With cap and trade, a lot of unnecessary uncertainty will be created because the 2nd to nth year negative cash flow due to the carbon price will be unknown for investors. So the whole purpose of the carbon pricing paradigm is endangered by the instrument that is supposed to implement. Cap and trade in most of its proposed forms, via the unnecessary creation of variability in the carbon price, contradicts to a large degree the entire purpose of having a carbon pricing system. There are various damping mechanisms being proposed but this still leaves or creates more complexity.

    Baffling to me also, is the carte blanche that you, and a few other economically minded people seem to have given cap and trade. (Dean Baker is far more blunt here that it is a form of payoff to Wall Street to support climate legislation: I think this carte blanche can partly be attributed to the dictum “Make only big mistakes” because people are afraid to point out the sheer stupidity of what you are doing. Cap and trade is a giveaway to the industry that you and Simon on this blog are suggesting needs to be restructured and radically reformed. The variability of the carbon price and the opacity of the system itself under cap and trade is creating exactly the information assymmetries which Wall Street firms use to “create value” for themselves and to get distracted from serving firms delivering real products and services.

    The problem is that global warming is exactly a domain of action that needs long-term investment in real products and services: picking up and trading carbon “credits” as if in a financial supermarket is not how we are going to transform our energy and transport systems.

    So why don’t we NOT give cap and trade a pass and look closely at why this is being proposed as a means to save the planet when it is more about playing games at the margins. I am optimistic that we can eventually have a financial system that supports productive investment…but careless support for cap and trade gives that system another means to recreate the regime that you and Simon are trying to put an end to.

    I’ve written a number of critical pieces lately on cap and trade:

  4. I have to say, right after hammering the Republicans in the previous comment thread, this is one of the very few issues I agree with Republicans on. Those people in California really are in LaLa land. They have for years wanted tons more services and half the taxes. They exemplify all the bad stereotypes of the term “liberal”.

    I would argue many of the electorate of California are just about as clueless as Jim DeMint. By that I mean if you’re on either end of the spectrum, you need to get with the program. “You need to get with the program” expressed in a “Quit being an A-hole” tone.

  5. Yes, try to be more neutral will you James??? Don’t let the Republican party’s slow destruction of this country make you biased.

    Try to be more like the Wall Street Journal would you?????? Quiet partaker and enabler of national destruction to suck rents from the working man. It’s a much more dignified stance.

  6. I’m having a hard time deciphering if you’re being sarcastic Nemo. Per Capita, if you adjust for living costs (real estate), I’m sure they ARE quite low.

  7. Michael, what are the” real products and sevices” you are proposing? If you have a viable alternative..lets hear it. Just say “no” only works with drugs….

  8. I believe the liberals want” more services” and the right wingnuts want”half the taxes”, so maybe the electorate in california is being fairly represented.

  9. I haven’t read the Ezra Klein column link given above yet, so maybe I am talking from a ignorant standpoint—-BUT
    I think the problem is in California they have so many state services and complicated civil right laws, not to mention immigration (legal and illegal) costs. They are not matching that extreme high demand for government services (costs) with revenues (taxes).

    My favorite part of this fiasco was Governor Schwarzenegger’s letter to the California state legislature.

    Click to access AB1176_Ammiano_Veto_Message.pdf

  10. Cap and trade still allows emission of CO2.
    It does not address other greenhouse gases.
    It does not address the enormous increase in fresh water required to capture CO2.

    It does not solve the problem, and instead creates costs that us peons cannot afford to bear.

    The US should devote bailout money to developing a sustainable energy supply that does not emit CO2 within 10 years. This should be difficult, but the security benefits alone would be worth the massive investment required. It would also be the big ticket to a durable and robust economic recovery. Look at this:

    “We choose to go to the moon. We choose to go to the moon in this decade and do the other things, not because they are easy, but because they are hard, because that goal will serve to organize and measure the best of our energies and skills, because that challenge is one that we are willing to accept, one we are unwilling to postpone, and one which we intend to win, and the others, too.” JFK

    And we did it. Instead of vision like this, we get cap and trade.

  11. Don’t most states’ constitution ban deficit spending, at least for operating expenses.

    In my state, a politician would tell Ezra Klein to spend all the money he wants, as long as he can raise an equal amount of tax revenue.


    California is the sixth most taxed state as a percentage of income. Cost of living is extremely high in many areas (gas is regularly over $3 here in the bay area.) Housing costs are, as everyone knows, still very high in many areas. (We’ll see how long they survive the coming Option ARM holocaust.)

    I don’t think you can plausibly argue that California’s problems are revenue driven.

    OTOH, I’m a paleo-neo-libertarian-conservative-guns-gold-women-and-sheep nut job like Nemo, so why would I think that?


  13. I stand corrected. I was wrong.

    Still seems something funny. Something missing from the picture. Energy costs??? I think Enron (thanks to Phil Gramm and his wife) took California on a nice ride.

  14. In the case of solutions to climate change it is very simple: those investments that directly cut emissions. Energy efficient products, renewable electricity generators, infrastructure that supports a zero-emissions society.

    If you are interested, you can read the links I posted above where I suggest a couple alternatives to the paper shuffling associated with cap and trade. A carbon tax or fee would be good driver for these investments and would enable investors to better evaluate the carbon impacts of investments in real assets. Cap and trade screws that up.

    I think you are confusing what I am saying with the barrage of climate denial coming from other people. Not from me.

  15. Many environmental product shortages are caused by price controls that result from an accounting error of omission such as the lack of full cost accounting. The Random House College Dictionary defines cost as the price paid to produce, acquire, and/or maintain an asset. Missing in the definition is the cost of the price paid to remove the asset from societal use. For the purpose of illustration, the US generates a little more than 246 million tons per year that is transferred to a landfill (50%); recycle facility (25%), or incinerator (25%). If the incineration tipping fee of $65 per ton is used as a simple proxy for the cost to remove an asset from societal use is compared to the $35 per ton for landfill and recycling fees that represent a staged asset removal, a freeriding problem is created that is in excess of $5.4 billion. Freeriding in the form of an incomplete tipping fee reduces the incentive to produce commercially viable solid waste removal solutions. Quantitative solution shortages in the form of aerobic bioreactors and qualitative solution supply shortages in the form of landfill methane controls are the result of insufficient tipping fees to adequately reward eco-entrepreneurs.

  16. You guys like this cap and trade stuff? You guys are all AGW believers? Has anyone here actually looked at the actual science underlying AGW? Does Climategate mean anything to anyone here?

    Hate to tell you guys but . . . the data is a mess, the code was crooked, they perverted the peer-review proces and the AGWers are advocating a position rather than objectively reporting science. Look thru the emails, go read it for yourself. The big money that is supposed to be polluting the skeptics is actually polluting “the good guys.” Michael Mann – currently under investigation – was recently given $500k in stimulus funds. Wake up, you think “hide the decline” is out of context? Those jokers can’t even maintain a simple data set (for which they were paid millions in grant money!) that a first year college student could keep in good shape, yet we are to believe these same clowns that can’t write basic code and handle a simple database properly have fired up complicated algorithms to model a super complex climate system? Wow. Which amongst you wants to buy my bridge?

  17. I actually work in the sciences that measure climate change. It is real.

    “Climategate” may discredit a number of researchers, but it does not discredit the entire body of independently researched evidence behind it. There are a whole bunch of outstanding questions, but that climate changes over time is indisputable.

    And one cold winter is weather, not climate, and discounts the “global” part of climate.

    Look at the history of climate change denial:

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