Caps trades and profits

In 1989, sitting newly ensconced in his small ground-floor office at Chatham House, the home of the prestigious think-tank the Royal Institute of International Affairs in London, Michael Grubb had a 'little idea'. This idea was the germ of what would become a vast and continually expanding set of markets which trade, in various ways, the carbon emissions produced by industrial economies and consumer lifestyles. At that point, the Intergovernmental Panel on Climate Change (IPCC) had just started meeting to prepare its first assessment report, and many governments were doing the rounds of international conferences declaring climate change a serious issue that needed a collective response.

Faced with the prospect of long, drawn-out negotiations between countries to work out how to reduce their collective emissions, Grubb, like other commentators at the time who had started to think about future climate negotiations, foresaw many problems. As we now recognise well, climate change is not like many other environmental issues. At the time, ozone depletion provided the most obvious model given that the Montreal Protocol had just successfully agreed to 50 per cent cuts in chlorofluorocarbons (CFCs), with more stringent cuts on the way. It also built on a general agreement (the Vienna Convention) rather like the Framework Convention that governments were trying to negotiate on climate change, so there were parallels. But unlike ozone depletion, climate change touches more or less every aspect of economic life, and goes to the literal engine of the industrial economy - energy use. Grubb looked at other negotiations on simpler issues and concluded that the solutions they proposed would be unlikely to work for climate change.

Could we get all countries to agree the same level of cuts? This was the model of the ozone negotiations, with a simple distinction between countries from North and South being the only differentiation. The issues of fairness were immediately obvious. Why would a country which was already much more energy efficient, like Japan or Italy, accept the same level of cuts as an inefficient country like Canada? Conversely, why would a cold, very sparsely populated country like Canada accept the same level of cuts as a mild, densely packed country like the Netherlands? Most crucially, why would poor countries with low per capita emissions accept the same cuts as rich, heavily emitting countries?

Alternatively, could we get countries to agree on a package of differentiated commitments? For this, Grubb took the model of the Large Combustion Plant Directive in the European Community, designed to deal with emissions causing acid rain. He noted that this took many years of negotiations, with meetings twice a week, among a relatively small group of countries on a simpler issue. How long would it take to get a similar outcome for climate change?

Grubb's answer to this dilemma was to turn to regulation being developed in the United States to deal with acid rain. There, the government was planning to give polluters allowances for their emissions (reducing over time to meet environmental goals), but allow them to trade the allowances amongst themselves. Companies that are able to reduce their emissions would do so in order to be able to sell their extra allowances to those who were finding it more difficult to do so. All companies, however, have an incentive to reduce their emissions beyond the minimum required. The overall costs of reducing emissions would be cut significantly, while the costs for each company would become roughly the same. By dealing with the need to cut emissions efficiently, the scheme does so fairly.

Grubb suggested a similar means of attempting to negotiate climate change multilaterally. Countries would agree to allowances, which they could then buy and sell among themselves in a similar fashion. In the international context, the added bonus was that, with most ways of allocating emissions allowances that could be regarded as fair, countries in the South would have more allowances than they could use, while rich countries would need to buy allowances. The system would thus create significant transfers of resources for clean development in the South.

Grubb's argument, developed by himself and others over the next few years, provides the underlying logic for what we now know as the 'global carbon market'. Alongside their search for flexibility in meeting their commitments, which prompted Hanisch to develop the idea of Joint Implementation (JI), governments have taken the efficiency logic of the market mechanisms, in particular noticing how it might enable them to meet targets cheaply and without having to do it all at home, and applied it in a variety of ways in the Kyoto Protocol and beyond.

The markets have then been developed by traders, investors, project developers, accountants and many others into an elaborate system. At a certain point, the business actors we discussed in the previous two chapters realised that there were many opportunities in these emerging markets, and their enthusiasm for carbon markets helped policy-makers keep them going, even while others were expressing doubts about them as an adequate response to the issue. What then are their main features, and how did they develop?

emissions trading

IfJI and Clean Development projects are about sharing costs and spreading benefits, in theory at least, emissions trading (also at times known as 'cap and trade') is about the buying and selling of pollution entitlements. They reflect a more purist sense of the economic logic of pursuing emissions abatement efficiently. Since pollution problems arise because no property rights have been allocated to the problems that pollution causes, the solution is to allocate specific and limited rights to polluters. Though the history of emissions trading on climate change is relatively recent, there is a much longer history of using market-based pollution trading schemes to combat other environmental problems. Tradable quota allocation schemes have been used in fisheries, in wetlands management, in industrial pollution policy and other areas. For climate change, the most obviously relevant model came from the way the USA had managed SO2 emissions to deal with its acid rain problem.

The US system for managing SO2 emissions had all the features of an approach to environmental regulation that got neoliberals excited. It seemed to keep the role of big central government to a minimum. It harnessed the power of the market to the goal of environmental protection and it was more efficient and less bureaucratic. It even allowed the USA to project itself as an environmental leader and a source of innovation at a time when it was being reviled by activists as an environmental laggard. Placed in the climate context, however, the idea of permit trading is presented with a unique set of challenges. Was it really possible to imagine a global system of permit trading in the absence of stronger international institutions to manage it? Who would prevent countries from buying up and hoarding permits until the price went up? Who could enforce sanctions? What would be the basis for allocating permits in the first place?

This last question was a key one in Grubb's early work on emissions trading. At the international level, it boiled down to two questions.

Should all countries participate in an emissions trading scheme? And how should emissions permits be allocated to countries in the system? For Grubb, some of the original logic favouring emissions trading was precisely that it would facilitate transfers from North to South to help enable clean development in the latter. But, following the similar logic as in the debates about JI, this would imply that Southern emissions should be capped (even at much higher levels than current emissions). There was no way the South would accept this.

At the same time, this suited the rich countries, since they would want a system based on a 'grandfathering' model where permits reflect the current status quo of emissions levels. The targets agreed at Kyoto in effect reflect this; rich countries allocated each other tradable emissions rights in proportion to their 1990 emission levels. While the South was not about to take on emissions obligations themselves, it rightly worried that this rewarded countries that have contributed most to the problem to date. Their preference was for a per capita allocation - so that every individual in the world has the same right to emit carbon within constraints set by how much carbon the world could afford to emit overall. This was the allocation principle Grubb had also originally proposed. This approach has the benefit of being intrinsically fair. To argue against it is to claim some people have more rights to pollute than others, more entitlements to the global commons than others. In practice, this is how the global economy is organised, but to adopt it as a negotiating stance places you on dubious ethical grounds.

One way of allocating emissions could be on the basis of the notion of 'contraction and convergence'. This idea was developed by a little known London outfit called the Global Commons Institute, led by concert violinist and engaging orator Aubrey Meyer. With colourful diagrams and impeccable logic, Meyer's argument moved relatively quickly from the margins of the debate, dismissed as unrealistically radical, to the mainstream. Contraction and convergence meant that while overall global emissions would contract to a level consistent with the overall goal of the UNFCCC - to 'prevent dangerous anthropogenic interference with the climate system' - these emissions would converge at a common per capita level. Emissions in the North would thus decline while those in South grew, albeit at a slowed rate. Figure 6.1 shows this in operation. The top of the curve is global emissions over time, and each different colour is the allocation of emissions for each country or group of countries. By 2030, per capita emissions across the globe converge, while overall global emissions peak about 2020 and then decline.

USA 6

USA 6

1800 1900 2000 2030 2100 2200

Figure 6.1 Contraction and convergence. This example shows regionally negotiated rates of contraction and convergence for a 450 ppmv contraction budget, converging by 2030. Source: Global Commons Institute (2004).

1800 1900 2000 2030 2100 2200

Figure 6.1 Contraction and convergence. This example shows regionally negotiated rates of contraction and convergence for a 450 ppmv contraction budget, converging by 2030. Source: Global Commons Institute (2004).

The allocations to different countries developed by this method could then be subject to a trading regime. Despite the intrinsic moral and philosophical robustness of a position that holds that in a context where common survival is at stake within limited environmental space, no one has a greater right to pollute than anyone else and everyone, therefore, is entitled to a per capita entitlement to the global commons, the idea met (and continues to meet) with fierce resistance.

The USA, meanwhile, saw emissions trading as another 'flexibility mechanism': a market-based instrument that allowed countries to seek out opportunities to reduce emissions where it was cheapest and most cost-effective to do so - and of course they had their own experience with trading SO2. In the run-up to Kyoto, they peddled hard the idea that emissions trading was an essential tool in the international community's armoury for tackling climate change. The EU was resistant. Adopting a similar stance to vocal environmental groups, the EU suggested that the emphasis on emissions trading was in practice a way to avoid taking domestic action to reduce greenhouse gas (GHG) emissions. However, resistance was short-lived. Shortly after Kyoto was signed, the EU switched its position on Kyoto flexibility mechanisms like emissions trading and the Clean Development Mechanism (CDM), seeing them as crucial to trying to keep the USA on board, but also increasingly as an opportunity to develop leadership on climate change. After President Bush pulled the USA out of Kyoto in early 2001, the EU took the opportunity to put itself in pole position in climate politics, using emissions trading and the CDM as means to do so.

The proliferation of emissions trading schemes

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Negotiating Essentials

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