A Changing Policy Climate

What a difference a year can make. In twelveindustry-wide emissions stay below a certain level.
months the center of gravity has strikingly shifted inBased on past successes with similar policies in
the debate over U.S. climate change policy. Elevencontrolling SO2 and nitrogen oxide emissions and early
states have developed mandatory greenhouse gaspromising results from the European program, there
limits. More corporations are calling for federal policy.is substantial support to create a national CO2
And numerous studies and media stories, including thecap-and-trade program in the United States. Almost
report this month from the United Nationsall of thefederal climate bills propose this approach for
Intergovernmental Panel on Climate Change and Alpower plants. Some proposals, including one by
Gore's movie, are tipping the scale of public opinion.Senators John McCain and Joe Lieberman and one by
But the biggest difference is in Congress. SinceSenator Jeff Bingaman, would expand cap-and-trade
January, Capitol Hill has been inundated with a wavebeyond power plants and include the transportation
of climate bills. At this point, a federal climate policysector.
seems inevitable. That's certainly what many electricRegardless of the sectors regulated, the question of
power company senior executives think. More thanhow allowances are distributed under a cap-and-trade
80 percent of those polled in CERA's most recentprogram looms large. Current programs have mostly
executive power survey expect a mandatory carbonfollowed the precedent of the U.S. SO2 program by
policy by 2015.allocating the majority of allowances directly to the
But designing a U.S. climate change policy is a bigregulated companies at no cost. But this could change
undertaking. It may be difficult to reach a consensusbecause the stakes are higher with CO2.
in this Congress; however, a real debate is underway.The government allocation of CO2 allowances would
At the very least, that debate will be an importantbe a major wealth transfer with the annual value
prelude to the 2008 presidential election and aranging anywhere from $5 to over $200 billion. This
signalthat climate policy is moving to the front andhas not been lost on interest groups and many are
center of U.S. politics.already staking out positions. Certainly regulated
The Bush Administration's existing climate changecompanies want to hedge future costs through
policies emphasize research, technology developmentallowance allocations. Consumer groups would like
and public-private partnerships such as the Asia-Pacificsome of the allowances as a compensation for the
Partnership on Clean Development and Climate. Thehigher prices they expect to be paying. And some
new policy proposals would move to a mandatoryadvocates want to use allowances to subsidize
approach of regulating carbon dioxide (CO2)investments in new, lower emission technologies.
emissions.Some proposals would avoid free allocations
These bills seek to accelerate investments in loweraltogether and instead use auctions and in the
emitting fuels and technologies by setting specificprocess create a major revenue source for the
emissions targets.federal government. That is how New York plans to
The obvious questions for setting these emissionsdistribute the state's CO2 allowances under the
targets are, "What level of reductions will beregional program being set up in the Northeast. It is
required?" and "On what timetable?" We will hearlikely that a federal allocationscheme will move away
much discussion about these in the coming months.from any single approach to a blend of these
Butthere are other, less obvious questions that willmechanisms and incentives.
really chart the course for U.S. climate policy.Beyond designing how a domestic climate change
To start, policymakers will need to decide anypolicy will function, policymakers will also have to
program's scope and framework- what sectors willdefine how a U.S. program connects with the policies
be affected and how. The electric power andof other nations. Linking a U.S. CO2 emissions market
transportation sectors account for more than 70with other trading systems seems an obvious step.
percentof U.S. CO2 emissions. So it's no surprise thatRegulators in the Northeast and California are already
they are at the top of the list of sectors to control.thinking about how their programs could link with
But how should these emissions be effectivelyinternational markets. But the real question comes
limited? Cap-and-trade is the framework getting mostdown to how the United States should deal with
of the attention right now, at least for the powermajor emitting countries that are not capping
sector.emissions.
First used to control sulfur dioxide (SO2) emissionsThe United States accounts for over 20 percent of
from U.S. power plants, cap-and-trade has becomeglobal CO2 emissions today, but the global balance is
the favorite of academics, corporations andchanging. Due to rapid economic development,
regulators. In January 2005, Europe adopted thisemissions in China and India have grown more than
approach to controlling its CO2 emissions. Now overfive times faster than those of the United States
11,000 powerplants and industrial facilities acrosssince 1990. And CERA projects this trend to continue,
Europe are covered under the European policy.with China and
And CO2 cap-and-trade programs are now sproutingIndia contributing about half of the growth in global
up in the United States. The Regional Greenhouseemissions over the next quarter century.
Gas Initiative, a cap-andtrade program for powerThe global emissions trends are daunting, and the
plants in 10 northeastern states, is scheduled to starteffectiveness of any policy to curb them will depend
in 2009. California is also drafting a similar policy foron the collective actions of the international
in-state power companies set for 2012.community. Nonetheless, it is very possible that the
How does cap-and-trade work? It starts with aUnited States will push forward with a domestic
government setting an emissions cap or ceiling for apolicybefore any new international system is
group of sources. For example,power plants-and thenestablished. Given this reality, a number of proposals
issuing a set of "allowances," the currency of theinclude measures to ensure that a U.S. program does
program, equal to the overall size of the cap. Thenot impose sudden cost increases that place its
requirements are really very simple: companieseconomy at a disadvantage to those of its major
comply by limiting their emissions to the number oftrade partners.
allowances they hold.Such economically-oriented approaches will likely be
The innovation with cap-and-trade is that by tradingbalanced by other voices asserting that the U.S.
allowances,companies get to choose where toneeds to take the first step to encourage countries
reduce their emissions. And in circumstances wherelike China and India to adopt their own emissions
it's not economic, they can buy additional allowancespolicies. But whatever system emerges internationally,
in the open market. Regardless of who buys andclimatechange will be a central issue in U.S. politics
sellsallowances, the overall cap ensures thatgoing into the 2008 presidential election and beyond.