CO2 Controls Are a Bad Idea, ‘Voluntary’ or Not

Fred L. Smith and Robert W. Crandall
Robert W. Crandall Adjunct Senior Fellow - Technology Policy Institute

July 31, 2001

The Bush administration courageously rejected the Kyoto Protocol but is now considering “voluntary” carbon-dioxide suppression measures that would have a similar impact. The administration would set a U.S. target for total carbon-dioxide emissions, translate that target into emission rights for all plants that emit CO2, and then “encourage” each company to “voluntarily” meet that goal. Since there is great uncertainty about how much CO2 reductions can be obtained at what cost, the plan would include an escape valve to expand emission rights whenever the costs of reducing CO2 exceeded a certain amount.

This approach has many advocates. Some environmentalist groups now recognize the problems of traditional command-and-control regulation and champion such “market mechanisms” as green taxes and emission rights. Some corporations, having made investment decisions based on the assumption of Al Gore winning the election and imposing energy taxes, believe a cap-and-trade program would validate their expenditures. Economists have largely favored such “market mechanisms,” believing they represent more rational environmental policies. After all, what could be wrong with voluntary markets?

In this instance, quite a bit. For starters, any concession by the Bush administration that CO2 levels should be reduced would undermine its arguments that current science does not justify action on the global-warming front. Moreover, if CO2 levels are already too high, then how can we justify any program to make fossil fuels more affordable? The larger problem is that “market mechanisms” aren’t markets—they are simply schemes to use taxes and quotas to reach politically determined objectives. If those objectives don’t make sense, it doesn’t matter how elegantly we achieve them.

Many view the current sulfur-dioxide emission-trading program signed into law by the last Bush administration (which was intended to reduce the acid rain problem) as successful and thus strengthening the case for a CO2 program. But the sulfur-dioxide story provides little support for a new CO2 program.

It’s still not clear that we should have restricted sulfur dioxide. The U.S. government spent over $500 million on a National Acid Precipitation Analysis Program that discovered that the costs of controlling sulfur-dioxide emissions were high relative to the benefits. Many economists, eager to see economics playing a larger role in the environmental area, supported the legislation as a novel reform without considering whether sulfur-dioxide reductions were worth the cost. Economists are repeating the same mistake now, only worse. The costs of a new CO2 suppression policy are vastly greater, and the benefits even more uncertain.

The emissions-trading enthusiasts have given little consideration to the formidable challenges of implementation. The initial task of setting emissions goals is far from easy. Should we accept the Kyoto limits? How should we handle “carbon sinks” (forests and farmland that remove CO2 from the air)? How should we allocate emission rights given that firms that have already adopted cleaner technology are likely to find themselves at a disadvantage to more polluting firms?

Making sure that companies emit no more CO2 than allowed won’t be easy either. If trading is permitted across national boundaries these problems multiply. How could anyone know whether Chinese or Russian plants were actually curtailing emissions? Since a Kyoto-style program would create a massive value in CO2 suppression—by some estimates more than $2 trillion—the incentives to cheat would be enormous.

A major problem with any cap-and-trade system is that it encourages opportunistic behavior by business. The value of these “rights” depends on their scarcity. A cap-and-trade scheme would thus lead to a strong lobby that would oppose any liberalization of fuel-usage caps. Consider the New York City taxicab medallion system. Despite a huge growth in traffic since the 1930s, taxicab owners have flexed their political muscles to block any increase in the number of medallions. The number of New York City cabs is frozen in large part because medallions are tradable and worth billions of dollars. A cap-and-trade system would create a similar lobby for carbon-based fuel scarcity on a vastly larger scale.

Almost certainly our understanding of global climate change will shift dramatically over the next decade. If that knowledge suggests that reductions in CO2 can no longer be justified, then logic would suggest dismantling the program. However, the creation of an emissions-trading program today would make such reforms far more difficult. Firms that had purchased such rights, or that anticipated selling such rights in the future, would fiercely resist any reduction in the value of their emission rights.

The Bush energy plan is already in trouble; encouraging anti-fossil-fuel policies would only worsen those difficulties. If a politically driven CO2 emissions-trading program were set up, any hope of the Bush administration of creating organized business support for its affordable energy policies would be destroyed.

Rather than moving ahead with a complicated emissions-trading program that would be impossible to reform, we would be better off spending our scarce resources in the pursuit of economic growth. Efforts to make society more resilient would improve our ability to solve whatever future problems, including global warming, might occur. Squandering resources today in pursuit of a very uncertain benefit is no more desirable simply because we do it through something that looks like a market.