At this point it seems highly likely that a climate and energy bill will make it out of Congress this year. Whatever the final form of the legislation that makes it to the President’s desk includes, it’s likely to be similar to the American Clean Energy Security Act of 2009, more commonly referred to as the Waxman-Markey bill. That piece of legislation passed its first major hurdle with the approval of the House Energy and Commerce Committee on May 21 and has been referred to a number of other committees including Ways and Means, Agriculture, and Natural Resources for their input.
It’s also almost certain that the final law will also include a cap and trade program for carbon emissions, with the ultimate goal of dramatically reducing those emissions by 2050. Not surprisingly there have been criticisms of such proposals with some opponents referring to the idea as “cap and tax.”
While there’s no denying that there will be significant costs involved, there are also numerous benefits, and I’m not just talking about for the environment.
On June 2, Gabelli & Company held a cap and trade symposium in New York that attempted to address some of the opportunities provided by the creation of a cap and trade system and a market for emission credits.
“In putting a price on carbon you create a market for carbon,” observed John Segrich, who heads the Gabelli green research team and is co-portfolio manager for the Gabelli SRI Green Fund. “What some people have concluded is that carbon could potentially be the largest commodity market in the world, and certainly when there’s a market created there’s going to be opportunity.”
Among the speakers at the Gabelli event was Dr. Richard Sandor, CEO of Chicago-based Climate Exchange, which operates the Chicago Climate Exchange and Chicago Climate Futures Exchange, as well as the European Climate Exchange in London, the Montreal Climate Exchange, enVex in Sydney, Australia, and the Tianjin Climate Exchange in China. (Climate Exchange plc, the holding company for the various exchanges has a market capitalization of about $500 million and is listed on the AIM exchange in London.)
A Wealth Creation Opportunity
Although his stated topic was the market for emission credits, Sandor started his remarks by declaring that what he wanted to address was wealth creation. “I want to put forth the proposition to all of you that the value proposition of the 21st century will be yet another commoditization and that is the commoditization of air and water,” he said.
To make his case he pointed to the work of Nobel prize-winning economist Ronald Coase on property rights, which led the FCC to a more efficient method of allocating the electromagnetic spectrum based on property rights. “He basically pointed to the fact that trading can lead to a more efficient solution than simply command and control,” Sandor explained.
Experience in Europe and elsewhere has shown that markets provide greater environmental effectiveness than command-and-control regulation because they turn pollution reduction into marketable assets. In an excellent example of letting market forces work, this system provides real financial benefits for improving environmental performance.
Because cap-and-trade gives pollution reduction a value in the marketplace, the system prompts technological and process innovations that reduce pollution down to or beyond government-mandates levels.
Sandor’s European exchange has been running since 2005. He says that in the first year trades averaged 500 or 600 tons a day. “Then it jumped to 1,700, it jumped to 4,000, it jumped to 11,000, and this year we’re averaging about 21,000 a day. The European carbon markets’ open interest of 600,000 contracts is approaching [that of] soybeans. This is not a market of tomorrow. We trade roughly $8 billion a month at today’s prices.”
He went on to note that the U.S. could become the world’s largest market for carbon trading, although with China recently having surpassed the U.S. for total emissions that could be debatable, although the market will certainly be larger than Europe. “We emit and will therefore be covered under the Waxman bill,” says Sandor, “roughly 6 billion tons; three times the size of Europe.”
A Cap and Trade Success
Many people may not realize it, but we’ve had a well-functioning emissions credit trading program in this country for almost 20 years and from all the evidence it’s made a significant difference to the environment. A cap and trade program covering emissions of sulfur dioxide (SO2), identified as a primary cause of “acid rain,” was instituted as a program within the 1990 Clean Air Act Amendments.
“It was radical. It was bitterly fought about,” recalls Sandor. “Everybody said it would destroy the U.S. economy (and that) it would destroy utilities–basically the same kind of dialogue that surrounds the debate on carbon trading.”
As we all know, placing a limit on SO2 didn’t destroy the U.S. economy. According to the Environmental Defense Fund (EDF) the expected market price/ton for SO2 allowances was between $650 and $850, but the actual market has averaged between $100 and $200.
In the first decade after the acid rain cap and trade program went into effect, 100% compliance by utilities in reducing SO2 emissions was achieved. According to EDF, power plants took advantage of the allowance banking provision to reduce SO2 emissions 22% (7.3 million tons) below mandated levels for the first phase of the program.
Prior to the passage of the law, the EPA estimated that the annual cost of the fully implemented program would be about $6 billion, but according to estimates from the Office of Management and Budget the actual costs have been only $1.1 to $1.8 billion, while mean ambient concentrations of sulfur dioxide have been cut almost in half nationwide.
The market-based approach upon which the U.S. Acid Rain program is based has effectively demonstrated that environmental protections and economic well-being are not mutually exclusive.
Next month, we’ll get deeper into how carbon cap and trade actually works.