Emissions trading without a quantity constraint
This paper examines the differences between standard “cap-and-trade” emissions trading plans and “credit” plans in which individual agents create credits by reducing emissions below a firmspecific baseline. The two are equivalent if the baseline is a fixed quantity, but not if the baseline is specified as a baseline emissions ratio times current output. In the latter case there is no exogenous constraint on aggregate emissions. It may be called the case of “(ratio-based) credit trading”. Examples include the Clean Development Mechanism (CDM) of the Kyoto Protocol and the Canadian Pilot Emissions Reduction Trading plan (PERT). Unlike the case of cap-and-trade, the theoretical properties of ratio-based credit trading plans are not well known. In the absence of a binding quantity constraint, it is even difficult to understand how an ERC plan can generate a positive price. This paper studies the difference between ratiobased credit trading and conventional “cap-and-trade” plans in the context of a very simple model. It also considers how the two plans might interact if, for example, credits from a credit plan could be applied to commitments under a quantity-based cap-and-trade plan, and applies its findings to current plans for credit trading, including PERT and the clean development mechanism. The paper demonstrates that ratio-based credit trading is more like a tax instrument than a quantity instrument. It shows that there is no incentive to trade in a ratio-based market in which all firms receive baselines computed using their “business as ususal” emission ratios. Combining ratio-based credit trading with “cap-and-trade” allowance markets effectively relaxes the quantity constraint in the cap-and-trade plan and reduces the price of traded allowances. In the long run, there will be no effective constraint on emissions. The results have strong implications for current policy. In particular, they suggest that mixing quantity-based and ratio-based emission trading plans is inappropriate.
|Date of creation:||1999|
|Date of revision:|
|Contact details of provider:|| Postal: |
Phone: (905) 525-9140 ext. 22765
Fax: (905) 521-8232
Web page: http://www.economics.mcmaster.ca/
More information through EDIRC
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Donald N. Dewees, 2001.
"Emissions Trading: ERCs or Allowances?,"
University of Wisconsin Press, vol. 77(4), pages 513-526.
When requesting a correction, please mention this item's handle: RePEc:mcm:deptwp:1999-13. See general information about how to correct material in RePEc.
If references are entirely missing, you can add them using this form.