Carbon Cap vs. Carbon Tax

Are we on the verge of a new flowering of climate-friendly entrepreneurship spawned by a carbon cap? Fred Krupp, a lawyer and President of Environmental Defense Fund, thinks so. He writes:

“A revolution is on the horizon: a wholesale transformation of the world economy and the way people live. This revolution will depend on industrial technology…and will almost certainly create the great fortunes of the twenty-first century…We can offer a pot of gold to those who develop new ways to generate carbon-free energy and new technologies to remove carbon from our smokestacks and atmosphere.”

Krupp has some credibility; he helped birth an emissions-cap-and-trade system against “acid rain” in the early 1990s. The Clean Air Act of 1990 and regulations under it set upper limits on total sulphur dioxide emissions from fossil fuel-fired power plants, then distributed pollution allowances among individual plants. The limits inspired an emissions-trading system; a power plant which did not use its full SO2 allocation could sell part to another plant, which then added the purchased credits to its own quota and continued to pollute beyond its original allowance. Trading gave power plant owners dollar incentives to cut SO2 emissions; if emissions were less than a plant’s cap, the owner could sell his excess carbon credits to less-adept or less-fortunate owners for whatever prices the market would bear. Acid rain from SO2 emissions went down.

Krupp argues that a cap-and-trade system extended to greenhouse gas emissions is our best way to slow global warming. His solution:

“The U.S. Congress must set a legal and steadily declining limit on global warming pollution. The allowance will be divvied up among emitters, or auctioned by the government to raise revenues…those who can reduce global warming further will profit by selling those reductions in an open market.”

He rejects the carbon tax approach to slowing hydrocarbon consumption and global warming for weak reasons:

“The most critical failing of a tax is that it requires lawmakers to guess how high that tax must be in order to drive emissions down far enough to ensure the planet’s safety.”

Wouldn’t lawmakers also need to guess in setting initial pollution limits in a cap-and-trade system? And just think of the fun legislators could have passing out the allowance.

It’s a good assumption that entrepreneurs will create emission-saving innovations once it becomes clear that fossil fuels are, and will continue to be, progressively more expensive due to carbon taxes. One carbon tax advantage is that society would avoid gifts to the brokers, traders and investment bankers who serve as high-paid intermediaries in a cap-and-trade system. Imagine their trading opportunities with a cap-and-trade system which has millions of carbon dioxide-emission sources, as opposed to mere thousands of SO2-emitting power plants. But political reality says that a cap-and-trade gold mine would attract more Wall Street political support than a carbon tax, and Wall Street is valued for financing election campaigns. And right now, neither a cap-and-trade nor a carbon tax has much chance of passage in the U.S. Congress.

(Krupp quotations taken from Earth: the Sequel – The Race to Invent Energy and Stop Global Warming)