10 Things the Senate Should Know About Cap and Trade in Europe

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What we call Cap and Trade, (and what China is now considering)  has already just been tried out in Europe, to meet Kyoto. They called theirs the EU Emissions Trading System. China will call theirs “Limit and Incentivize”. Regardless of whether we call it: capping or limiting emissions and trading or incentivizing to fund the switch to renewable energies – It worked.

In the first three-year phase; European carbon emissions dropped 300 million metric tons of carbon, according to a study by The German Marshall Fund; Ten Insights from Europe on the EU Emissions Trading System. US carbon emissions rose, during those three years from 2005 through 2007.

Here’s what we can learn from those who have gone ahead of us in forging Cap and Trade policy to reduce fossil energy use and increase renewable energies. The German Marshall Fund (remember The Marshall Plan?) has put together these ten tips from their experience.

The main takeaway? Don’t worry.

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Just as it does now in this country, the debate had raged in Europe back in the 1990’s when the EU was considering implementing its trading system to reach the Kyoto goals. Fear ruled them then, as it does us now. These are not new questions. Yet The European Union Emissions Trading System was developed and began operation in 2005 and it has not turned out too badly. These are the first three years’

Lessons learned:

1. Don’t worry too much. Even imperfect policy worked to get carbon emissions down.

2. But you could design Cap and Trade to be “fixable” as you go, anyway, and adjust as you go.

3. Get an accurate count of projected emissions or carbon prices will be lower than expected.

4. Be bold because switching from fossils will be much cheaper than everyone thought.

5. Most industries will profit from renewable energies with net benefit to the overall economy.

6. Tailor individual solutions for the few industries that are genuinely at risk.

7. Minimize incumbent sector impacts, even while boosting profitability of renewable energies.

8. Be tough on industries with the potential to clean up, go easy on those who can’t.

9. Keep free allocations down, auction as much as possible.

10. Avoid a general carbon tax at the border, do a separate one for the few industries that really need one.

The EU experience so far was that costs were overestimated, and lower emissions have proven easier to achieve than expected, through efficiency and renewable energy. Capping carbon simply meant that emitting it was no longer free.

The best indicator of how easy or difficult it is to meet the cap is found in the carbon price. Other direct policies to increase energy efficiency and renewable energies, also reduced the carbon price, because as it became cheaper to use renewable energy, dirty energy lost the only value it had; being cheaper. While this means it cost less than projected to change, beyond a certain point the lower-than-expected price reduces incentives for low-carbon innovation and investments.

The most important lesson:

Setting the total Cap or allowance based on an accurate count of emissions was the single most important decision, the study found. Too loose and it would not be enough to trigger a change from business as usual; too tight and it made for a desperate dash for more expensive technologies and faster retirement of existing capital, increasing the cost of the legislation as a whole.

The EPA has moved to count total emissions; the first step in deciding what that Cap should be.

Like our regional pilot Cap and Trade program RGGI, which saw a precipitous drop in carbon prices because it was so easy to meet the targets, the U.K. had in 2002 launched a pilot trading scheme in which incentives were paid to companies that cut the most carbon. Their carbon prices collapsed after about a year as targets were so easily met or exceeded. Despite the price collapse, the UK pilot worked.

The bottom line?

All participants had been able to sell their allowances, with the value of these sales more than funding the cost to replace fossil energy with renewable energies or efficiencies. It worked.

Related stories:

Cap and Trade 101: Why “Free” Allowances Are OK

Cap and Trade 101: How a “Cap” Ensures Carbon Reductions

76% of Cap and Trade Bill Allowances Benefit People Not Polluters

Waxman-Markey Cap and Trade Will Pay For Itself, CBO Finds

Image: Flikr user Dave Clark

Source: Ten Insights from Europe on the EU Emissions Trading System

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