Market based instruments to address climate change - Part II

Following on from my last post on the lecture at ITC by Professor Stavins, here are some of his thoughts on designing effective climate policies.

Why overlapping environmental policies are a problem

Stavins asked whether in the face of economic wide policies on climate change (e.g. a cap and trade scheme), it was effective to have a single sectoral policy (like standard setting for buildings and appliances). Citing his NBER working paper (with Lawrence Goulder) Interactions between State and Federal Climate Change Policies, he observed that when the federal policy sets limits on aggregate emissions quantities, or allows manufacturers or facilities to average performance across states, the emission reductions accomplished by a subset of U.S. states may reduce pressure on the constraints posed by the federal policy, thereby freeing facilities or manufacturers to increase emissions in other states – this leads to serious emissions “leakage”. Has anyone examined how this argument is applied in the EU context where renewable energy feed in tariffs might conflict with national carbon policies? He found that there were some positive to have standards for example to address the principal/agent problem of landlords having no incentive to invest in roof insulations for their tenants.

“Linkage is the way to deal with leakage”

He was optimistic about “bottom-up” approaches to climate policy. We are now seeing decentralized approaches like the EU ETS and the Australian carbon tax. These can be linked through equivalence schemes (like with private standards). There is pressure to do that to reduce overall costs, market power and price volatility. Systems are already linked when they are both linked through use of the CDM offsets.

On Kyoto Protocol

A discussion ensued on the limitations of reporting production based emissions under the Kyoto Protocal which does not capture consumption based emissions. For example, an Annex 1 country may meet its Kyoto Protocol targets but during that period have "outsourced" emissions to China (see Stanford University’s work on this). Stavins however felt that production based inventories provided "political leverage" and that a relatively small group of countries (20) reaching an agreement would capture around 80% of emissions.

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