Cap and Trade in California

Data from US EPA

Cap and Trade is officially lunched in California, the first auction of carbon allowances was yesterday.The state deemed the auction a success as 23.1 million carbon allowances for 2013 sold at $10.09- the lowest market clearing price.  Back in 2006 enabling legislation (AB 32) was passed to create California’s carbon cap and trade system that was launched Wednesday despite last minute appeals by business associations to the Governor. The California Air Quality Control Board has set an annual limit, the cap, on the carbon dioxide (CO2) emissions produced by large factories, power plants and oil refineries in the state. The cap is scheduled to decline 1% in the first two years and 3% each year after that so that CO2 emissions in the state will be reduced in a systematic fashion.

 

Though the requirement does not go into effect until January 1, 2013, yesterday, after 6 years of planning and program design, California had its first auction for 62.6 million metric tons of CO2 called carbon allowances (23.13 metric tons for 2013 and 39.45 metric tons for 2015) on  an electronic trading market. Sold were 23.1 million carbon allowances for 2013 in addition to 5.6 million allowances for 2015. The state will operate the market each quarter so that companies subject to the regulation can purchase carbon allowances.  Each business must hold the number of allowances determined by the state, based on the standard emissions from their type of business or facility, so while this program was developing there was no incentive to install technology to reduce CO2 and there was an incentive to maximize annual production. At first,  all the allowances are free for power plants and 90% of the allowances are free for businesses, but the number of allowance that  are free will decrease to 75%  in 2015 and go down from there. The total CO2 emissions for the state were only about 2% over 1990 levels in 2010 (though they had been considerably higher before the recession).

Regulators and the Legislature hope and believe that gains in energy efficiency spurred by the program will outweigh any higher costs. Certainly switching from coal power generation to natural gas fired power generation can reduce CO2 generation by utilities by 44% according to data from the US EPA.  The idea for a cap and trade program was modeled on the European Union’s Kyoto accord system. Though Europe has reduced the generation of CO2 within its borders, the consumption of carbon has not according to “The Carbon Crunch: How We’re Getting Climate Change Wrong-and How to Fix It” by Dieter Helm. In a world whose atmosphere is interconnected a cap and trade program appears to have the perverse incentive to drive energy intensive industries outside its borders.

With the Koyoto accord in place CO2 emission worldwide continued to grow. In 2011 the top four world generators of CO2 emission from fossil fuels were in descending order China, the United States, the European Union and India who edged out Russia to take the number four slot. This is a vastly different picture than existed in when the Koyoto Treaty was first contemplated and now China’s newly elected President Hu Jintao has vowed to double the country’s gross domestic product and per capita income by 2020 from 2010 levels during his term of Presidency. This means an increase in electricity production using predominately coal fired power plants in China.

From 2010 to 2011 China increased their emissions of CO2 the mostcontributing almost three quarters of the total global increase, with its emissions rising by 720 million metric tons, or 9.3% to 8.46 billion metric tons of CO2, primarily due to higher coal consumption. India’s emissions rose by 140 million metric tons or 8.7% to 1.75 billion metric tons. CO2 emissions in the United States in 2011 fell by 92 million metric tons of CO2, or 1.7% to an estimated 5.32 billion metric tons. California’s carbon market represents 342 million metric tons less the portion of transportation that are automobiles or about 4%-5% of the net CO2 emissions for the United States. Only commercial and industrial facilities that emit more than 25,000 tons of CO2 each year are subject to the cap.

Companies subject to the cap and trade regulations have four choices. The first is the intended goal; reduce CO2 emissions by improving energy efficiency, utilizing lower carbon fuels, carbon capture or other technologies. The second option is to buy carbon allowances from California at the market determined rate. California will profit under the program by selling the California carbon allowances that each company subject to the regulation will need to continue to operate in California.  The idea of the carbon allowance market is to both to price the carbon allowance and raise revenue for the state. The third option is known as "carbon offsets." Companies can pay other organizations to reduce greenhouse gases within the United States. The fourth option is to reduce CO2 producing operations within the state. California is hoping that the transfer of production to other locations will not occur, but the experience in Europe and the United Kingdom has not shown this. Taxing the carbon content of products might be a more direct method to control CO2 generation and more effective method of reducing CO2 production worldwide and would certainly generate badly needed revenue for California.