Last week Massachusetts and Rhode Island pulled out of the northeastern states CO2 emissions agreement. The cause appears to be Governor Mitt Romney's presidential ambitions (Greenhouse Gas Pact ...):
Gov. Mitt Romney of Massachusetts, a Republican who is expected to run for his party's presidential nomination in 2008, pulled his state out of the agreement yesterday, hours before the deadline for reaching an agreement, and just before announcing that he would not run for a second term next year.
He said in a telephone interview yesterday that Massachusetts corporate leaders had told him that the pact did not protect businesses and customers from increased energy costs that would result if emissions caps were imposed.
By painting the regional initiative as hurting business, Mr. Romney seemed to seek to distance himself from other potential rivals for the Republican nomination, including Mr. Pataki and Senator John McCain, who have supported programs that control heat-trapping gases.
Based on the Times article my immediate reaction is that Governor Romney really, really wants to be President. But an in-depth article in the Boston Globe (Emission Control*), that quotes all the right peoples (e.g., "According to Thomas Tietenberg, a professor of economics at Colby College and a leading emissions trading authority, ''I would put a safety valve in all emissions trading programs ...'") has me thinking that Governor Romney has a good point (although, maybe not good enough to trash the NE climate pact which, while it won't do much to reduce U.S. greenhouse gas emissions, is a nice pressure cooker for the Bush administration).
One of the sticking points, it seems, is the lack of a price cap in the NE trading plan. A price cap guards the market participants, in this case electric utilities and their consumers, against price spikes. If the emissions permit price rises too high, the government steps in and sells permits at a predetermined cap price. Given the newness and lack of experience with CO2 emissions trading markets a price cap seems like a good idea -- reducing some uncertainty, always a good thing, and still reducing emissions (if the cap price is not set business-friendly low, which is what the environmentalists might be afraid of). Apparently, MA and RI want a price cap and every other state does not.
The price cap acts like an emissions tax, an incentive-based environmental policy that, ahem, economists have been advocating for a lot longer than emissions trading (an alternative name for this blog is "Pigouvian Taxation" ... A.C. Pigou was the economist who first recommended taxing negative externalities like pollution). One of the benefits of an emissions tax is that it generates revenue, not in and of itself a good thing, but check this out (from the BG article):
William Pizer, an economist at the environmental research institute Resources for the Future, has carried out comparative studies of carbon taxes and emissions trading schemes. ''A carbon tax,'' he says, ''has efficiency gains, because we can use the money it raises to cut taxes on things we like, like labor and capital'' by taxing something we don't, namely pollution.
In other words, cut the income tax, cut the capital gains tax, and implement a carbon tax to replace the revenue (avoid a huge budget deficit, the risk of a Chinese selloff in dollar-denominated bonds, a spike in interest rates and ... calamity ...) and ... bonus! ... greenhouse gas emissions fall as well.
One reason that emissions taxes are frowned upon by business firms is that they cost a bunch of money. An emissions permit trading system allows firms to make money if the initial permit allocation is a freebie, not auctioned like in the EPA's Acid Rain Program.
So, the emissions-permit-trading-with-a-price-cap plan seems to be the best of both worlds. Business likes it if the permits are given away, creating a tradeable asset and allowing the firm to make money, and everyone else should like it because emissions fall as long as the price cap is not set at a bogus-ly low level:
As Pizer puts it, ''A price cap of $10 a ton [of carbon], which Romney has discussed, when the expected market price is $2 to $3, leaves a lot of volatility in the market.'' Prices, in other words, could still climb high enough to make it well worth a firm's while to cut emissions.
In other words, if the price cap is set so that it only kicks in during a true price spike, like if Enron was manipulating energy prices or a speculative bubble develped or if environmentalists began buying and hoarding permits (gasp), and not at a level where business firms would have little incentive to reduce emissions, then there is not much to not like about a price cap.
*Note: From Peter F. via Tim P. Thanks!