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Trading Emissions Rights

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The European Union initiated its Emissions Trading Scheme in 2005. This was the first large-scale such trading scheme in the world. The idea was to reduce the greenhouse emissions of Europe’s industries in a market-rational manner, and to offer the rest of the world an example of how that is done.

The ETS is also known as the cap-and-trade system. That phrase suggests the good news/bad news split for markets. Bad news: there are regulatory caps on the total amount of specified gases that may be released. Good news: any particular installation can buy allowances from others to cover otherwise prohibited emissions. As a basic matter of economic theory, these allowances should be traded toward their highest and best use, ensuring that the system over all is more efficient than any command and control approach to the problem could be.

Does it work? And for whom?

The system has in fact drawn imitation, in both New Zealand and in Australia. In the U.S., California has its own cap-and-trade program.

The system seems to exist largely at the expense of electricity ratepayers. That feature of the system gives it the appearance of something that is not sustainable.  

At least two recent studies speak to this point. The Oxford Institute for Energy Studies has published a white paper that declares in its very title that “electricity markets are broken” and asks whether they can be fixed. It concludes flatly that “there is no possibility of a long-term self-sustaining low carbon market based on the mixture of sources envisaged by governments.”

Separately, the Manhattan Institute has posted an “issue brief” entitled: “What Happens to an Economy When Forced to Use Renewable Energy?” This brief, by Robert Bryce, a senior fellow, seems directly relevant to what really counts as socially responsible investing. After all, it is a priori reasonable that investing in a way that helps keep electrical rates reasonable is both wise and sustainable. 


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