Carbon Pricing???
Carbon Pricing What role for complementary regulations? Nic Rivers Simon Fraser University
Outline • Why carbon pricing is preferred in theory • What role for complementary regulations – In theory – In practice
• Potential pitfalls of a regulatory approach
2
Benefits of carbon pricing • Cost effective – Equal marginal abatement cost for all regulated entities – Revenue from carbon price can be used to lower other taxes
• Incentive for innovation – Strong and continuous incentive for low-carbon innovation
• Minimal government involvement – Doesn’t involve government picking technologies
• Carbon pricing is in theory the most cost effective way to reduce carbon emissions 3
When carbon pricing should be supplemented • Measurement difficulties inhibit inclusion – Methane emissions from agriculture (about 10% of Canada’s emissions) – Fugitive emissions (about 9% of Canada’s emissions) – Landfill gas emissions (about 3% of Canada’s emissions)
• Principal-agent problems – Landlord owns equipment; tenant pays utility bills (about 1-5% of Canada’s emissions)
• Spillover in innovation markets – Firms cannot capture full benefit of inventions, and so invest less than is socially optimal 4
Economist’s ideal policy package • Carbon price (tax/cap and trade) for all fossil fuel emissions and measurable non-fossil fuel emissions (covers up to 85% of total emissions) • Supplemented with: – Process-based regulations for fugitive emissions • e.g., mandatory leak detection and repair
– Process-based regulations for landfill gas emissions • e.g., mandatory cap and flare / electricity generation
– Process-based regulations for agricultural emissions • e.g., nutrient management; tillage management
– Mandatory energy labels for rentals / building code regulations – Public investment in technology development and demonstration
5
Reality is somewhat different • Carbon price is broad, but supplemented with regulations – The proposed US Waxman-Markey bill covers 68-85% of emissions with a cap and trade system, but also includes: • Renewable portfolio standards • Vehicle emission standard • Building and appliance energy efficiency standards
– British Columbia’s Climate Action Plan covers 76% of emissions with a carbon tax, but also includes (among many other policies): • Zero emission electricity standard • Vehicle emission standard
• Carbon price only covers some emissions; regulatory policies cover other emissions – Canada’s (ex-)proposed Turning the Corner policy covers only 50% of emissions with a cap and trade system – European Union’s Emission Trading Scheme only covers 40-50% of emissions with a cap and trade system
6
Why the difference? • Significant carbon prices:
Do you support the introduction of a carbon tax?
– are politically difficult – may reduce international competitiveness of some sectors
• Regulatory policies may be more politically acceptable and may help reduce overall carbon price (even if they reduce overall cost effectiveness) 7 Source: Adapted from Environics, July 2008, Canadian Environmental Barometer.
Potential pitfalls of a regulatory approach that reduce effectiveness • Instead of a carbon price • Generally targets efficiency instead of emissions • Difficult to address all sources of emissions • Typically does not address lifecycle emissions
• Combined with a carbon price • Can distort emission permit market in a cap and trade system
8
Regulations generally address efficiency, not overall emissions GHG =
GHG Energy ⋅Output ⋅ Energy Output Efficiency regulation Emission standard Carbon price
• Regulations typically focus on energy efficiency only • May even increase overall demand for product • Carbon price stimulates GHG reductions through all avenues
9
Refrigerator regulations
Refrigerator ‘unit energy consumption’ dramatically reduced since 1972.
10 Source: Natural Resources Canada, US Energy Information Administration.
Refrigerator ownership But… 20 percent increase in per capita refrigerator ownership since 1990
11 Source: Natural Resources Canada, Survey of Household Energy Consumption, 2003
Refrigerator energy consumption
Modest reduction in energy demand
12
Regulations do not address all technologies
13 Source: Natural Resources Canada, 2006, National Energy Use Database
Regulations typically do not address lifecycle emissions • By focusing on technologies, rather than emissions, regulations can have counter-intuitive impacts • Example: – US Energy Policy Act 2005 requires 7.5 billion gallons of renewable fuel by 2012 (~4-5%) – Canada Bill C-33 requires 5% renewable fuel content in gasoline by 2010
• High energy prices have lead some ethanol refineries in the US to use coal • Grain ethanol refined with coal has higher lifecycle GHG emissions than gasoline
14
Source: Farrell, A. et al., 2006, Science.
Regulations can distort a cap and trade scheme • A cap and trade scheme sets an overall cap on emissions from multiple sectors • The marginal emission price is equal for all sectors • If a complementary regulation is then applied in one sector, all other sectors are able to emit more • Overall emissions are unchanged, but overall cost increases – e.g., Renewable portfolio standard in conjunction with cap and trade system
15
Emissions with cap and trade
GHG Emissions
Emissions before policy
Industry
Transport
Electricity
Transport
Electricity
But allows emissions from other sectors to increase. Overall emissions are unchanged, but costs increase.
GHG Emissions
Renewable portfolio standard further reduces emissions from electricity generation
Industry
Industry
Transport
Electricity
Industry
Transport
Electricity 16
Conclusions • To minimize overall cost: – a carbon price should be used to cover as many emission sources as possible – regulations should be limited primarily to difficult-to-cover sources
• In practice, public is opposed to high carbon prices, so: – carbon price is limited to a fraction of the economy, with regulations used to cover the remainder, OR – carbon price covers most of the economy, regulations used to reduce overall carbon price
• This creates possibilities for many pitfalls
17
Outline • Why carbon pricing is preferred in theory • What role for complementary regulations – In theory – In practice
• Potential pitfalls of a regulatory approach
2
Benefits of carbon pricing • Cost effective – Equal marginal abatement cost for all regulated entities – Revenue from carbon price can be used to lower other taxes
• Incentive for innovation – Strong and continuous incentive for low-carbon innovation
• Minimal government involvement – Doesn’t involve government picking technologies
• Carbon pricing is in theory the most cost effective way to reduce carbon emissions 3
When carbon pricing should be supplemented • Measurement difficulties inhibit inclusion – Methane emissions from agriculture (about 10% of Canada’s emissions) – Fugitive emissions (about 9% of Canada’s emissions) – Landfill gas emissions (about 3% of Canada’s emissions)
• Principal-agent problems – Landlord owns equipment; tenant pays utility bills (about 1-5% of Canada’s emissions)
• Spillover in innovation markets – Firms cannot capture full benefit of inventions, and so invest less than is socially optimal 4
Economist’s ideal policy package • Carbon price (tax/cap and trade) for all fossil fuel emissions and measurable non-fossil fuel emissions (covers up to 85% of total emissions) • Supplemented with: – Process-based regulations for fugitive emissions • e.g., mandatory leak detection and repair
– Process-based regulations for landfill gas emissions • e.g., mandatory cap and flare / electricity generation
– Process-based regulations for agricultural emissions • e.g., nutrient management; tillage management
– Mandatory energy labels for rentals / building code regulations – Public investment in technology development and demonstration
5
Reality is somewhat different • Carbon price is broad, but supplemented with regulations – The proposed US Waxman-Markey bill covers 68-85% of emissions with a cap and trade system, but also includes: • Renewable portfolio standards • Vehicle emission standard • Building and appliance energy efficiency standards
– British Columbia’s Climate Action Plan covers 76% of emissions with a carbon tax, but also includes (among many other policies): • Zero emission electricity standard • Vehicle emission standard
• Carbon price only covers some emissions; regulatory policies cover other emissions – Canada’s (ex-)proposed Turning the Corner policy covers only 50% of emissions with a cap and trade system – European Union’s Emission Trading Scheme only covers 40-50% of emissions with a cap and trade system
6
Why the difference? • Significant carbon prices:
Do you support the introduction of a carbon tax?
– are politically difficult – may reduce international competitiveness of some sectors
• Regulatory policies may be more politically acceptable and may help reduce overall carbon price (even if they reduce overall cost effectiveness) 7 Source: Adapted from Environics, July 2008, Canadian Environmental Barometer.
Potential pitfalls of a regulatory approach that reduce effectiveness • Instead of a carbon price • Generally targets efficiency instead of emissions • Difficult to address all sources of emissions • Typically does not address lifecycle emissions
• Combined with a carbon price • Can distort emission permit market in a cap and trade system
8
Regulations generally address efficiency, not overall emissions GHG =
GHG Energy ⋅Output ⋅ Energy Output Efficiency regulation Emission standard Carbon price
• Regulations typically focus on energy efficiency only • May even increase overall demand for product • Carbon price stimulates GHG reductions through all avenues
9
Refrigerator regulations
Refrigerator ‘unit energy consumption’ dramatically reduced since 1972.
10 Source: Natural Resources Canada, US Energy Information Administration.
Refrigerator ownership But… 20 percent increase in per capita refrigerator ownership since 1990
11 Source: Natural Resources Canada, Survey of Household Energy Consumption, 2003
Refrigerator energy consumption
Modest reduction in energy demand
12
Regulations do not address all technologies
13 Source: Natural Resources Canada, 2006, National Energy Use Database
Regulations typically do not address lifecycle emissions • By focusing on technologies, rather than emissions, regulations can have counter-intuitive impacts • Example: – US Energy Policy Act 2005 requires 7.5 billion gallons of renewable fuel by 2012 (~4-5%) – Canada Bill C-33 requires 5% renewable fuel content in gasoline by 2010
• High energy prices have lead some ethanol refineries in the US to use coal • Grain ethanol refined with coal has higher lifecycle GHG emissions than gasoline
14
Source: Farrell, A. et al., 2006, Science.
Regulations can distort a cap and trade scheme • A cap and trade scheme sets an overall cap on emissions from multiple sectors • The marginal emission price is equal for all sectors • If a complementary regulation is then applied in one sector, all other sectors are able to emit more • Overall emissions are unchanged, but overall cost increases – e.g., Renewable portfolio standard in conjunction with cap and trade system
15
Emissions with cap and trade
GHG Emissions
Emissions before policy
Industry
Transport
Electricity
Transport
Electricity
But allows emissions from other sectors to increase. Overall emissions are unchanged, but costs increase.
GHG Emissions
Renewable portfolio standard further reduces emissions from electricity generation
Industry
Industry
Transport
Electricity
Industry
Transport
Electricity 16
Conclusions • To minimize overall cost: – a carbon price should be used to cover as many emission sources as possible – regulations should be limited primarily to difficult-to-cover sources
• In practice, public is opposed to high carbon prices, so: – carbon price is limited to a fraction of the economy, with regulations used to cover the remainder, OR – carbon price covers most of the economy, regulations used to reduce overall carbon price
• This creates possibilities for many pitfalls
17
