Market-based solutions to climate change have failed to deliver

Steam discharged from cooling towers at a coal-fired power plant.

Carbon pricing systems have been celebrated as instruments for combatting climate change, but how effective are they really? David Victor, co-chair of the Cross-Brookings Initiative on Energy and Climate, joins David Dollar to explain why market-based solutions for addressing climate change have fallen short of their promise. Victor examines how politics have hampered the effectiveness of market policies in key sectors, like transportation and aviation, and the political barriers the Biden administration will need to overcome in order to make real progress on climate change.

David Victor is a co-author of the new book, “Making Climate Policy Work.”

Related content:

Carbon offsets aren’t working, and probably can’t

Cap-and-trade systems are not doing the real carbon work

Book Talk: Making Climate Policy Work

DOLLAR: Hi, I’m David Dollar, the host of the Brookings trade podcast, “Dollar and Sense.” Today, our topic is carbon reduction and climate change. My guest is David Victor, professor of International Relations at UC-San Diego and co-chair of the Cross-Brookings Initiative on Energy and Climate. He’s just coauthored a new book called “Making Climate Policy Work.” Welcome to the show, David.

Let’s start with the big picture. How is the world doing in terms of carbon reduction with the aim of limiting the rise in average temperature 1.5 degrees centigrade?

VICTOR: Well, it’s a mixed story. So, compared to even five years ago, the world is doing a lot more. When the Biden administration comes in and sets the goal for the U.S. of net zero emissions by 2050, something like two-thirds of the world’s emissions will be coming from countries that have those kinds of ambitious goals and pledges. And there is a lot of real work going on now to figure out how to meet them. So, that’s the good news. The bad news is that there is a huge amount of inertia in the industrial system and in the climate system. That inertia explains why, under any realistic scenario, we are going to blow through 1.5 degrees. Right now, we are about 1.1, 1.2 degrees above pre-industrial levels. 1.5 we might hit as early as 2025. My guess is that even with a crash program, a politically realistic program, we are going to probably blow through two degrees as well. But that’s a whole lot better than letting the planet warm to four, five, six, or even greater levels by the end of the century, which would be the projection absent any serious program.

DOLLAR: Now, we economists like market-based solutions to problems in general, and potentially this issue through cap-and-trade or carbon taxes. What’s been the role of market-based approaches in generating what progress there is—or the lack of progress?

VICTOR: Yeah. I also like market-based solutions when we can design them and make them work and the flexibility of markets. The essence of this new book that we have coming out is to take a look at what’s actually happened. And the set piece is exactly your question.

When we look around the world, we see a lot of markets being designed to reduce pollution from carbon dioxide and other greenhouse gases—mainly carbon dioxide. Today, according to World Bank data, something like a quarter of world emissions are from places that have either a cap-and-trade system or a carbon tax system. The problem is the prices are really, really low. Something like 80, 85 percent of world emissions right now still have effectively zero price on them. And the argument we are making in the book, which I’m sure we will get into, is that that’s not an accident; that’s actually by design. These market-based systems have been designed to look like they are doing a lot of work with very low prices, but when you look behind the curtain, what we find is that almost all the real work for reducing emissions has been done with regulatory instruments, with industrial policy. In effect, they are doing the work and then cap-and-trade systems that are put on top of it trade the residual that’s left over.

We call them in the book Potemkin markets because they look like those fabled tsarist villages where you take the tsar out and you say, “look at how great this looks.” But if you look behind the facade, there’s nothing there. That is the kind of sad reality of the market instruments almost everywhere in the world. There are a few countries, especially the Scandinavian countries, that have high carbon prices—Switzerland has a high carbon price as well. They all use taxes instead of cap-and-trade systems. But those are rare exceptions and they account for much less than one percent of global emissions.