Offsets Chipping Away at the Cap

Ted Gayer
Ted Gayer
Ted Gayer President - Niskanen Center, Former Executive Vice President - The Brookings Institution

June 23, 2009

In 2007, the House of Representatives launched its “Green the Capitol” initiative, which took on the goal of making House offices carbon neutral. After purchasing compact fluorescent light bulbs and shifting its electricity production from coal towards natural gas, the House still found itself far short of reaching its goal. To make up the difference, it bought 24,000 metric tons of carbon offsets from the Chicago Climate Exchange, which is a voluntary greenhouse gas reduction and trading system. Unfortunately for the House, it quickly received a lesson in the pitfalls of carbon offsets. But more unfortunately for the rest of us, the House recently decided to ignore this important lesson in its cap-and-trade bill.

An offset is a reduction in emissions from sources that are not subject to a mandatory cap. The advantage of offsets is that they can provide many sources of low-cost reductions, thus significantly reducing the overall cost of achieving any emissions reduction goal. For example, consider a hypothetical cap-and-trade program that restricts the total carbon content of fossil fuel produced in (or imported into) the United States. By imposing scarcity on carbon usage, the cap creates a market price for carbon; and by allowing trading, the reductions in carbon are achieved by the regulated sources that can do so most cheaply.

But by not allowing offsets, this program misses the opportunity to meet the cap through even cheaper reductions from unregulated sources. Greenhouse gases cause the same damage no matter where they are emitted, so it makes sense to allow regulated sources to pay unregulated sources to achieve reductions. For example, they could purchase offsets from a farmer who agrees to reduce tilling in order to increase the carbon stored in the soil, or they could purchase offsets from someone who prevents deforestation (thus preventing carbon emissions), or from someone who develops a clean energy source in China that substitutes for dirty coal electricity production.

So what is the problem with offsets? In a nutshell, it is a problem of measurement. One of the nice features of a cap-and-trade program is that it is fairly easy to measure emissions. The existing acid rain cap-and-trade program requires power plants to install sulfur dioxide monitors in their smoke stacks, which provide precise information to the Environmental Protection Agency at low administrative cost. (The acid rain program does not allow sulfur dioxide offsets.) For a carbon cap-and-trade program, emissions would be measured based on the carbon content of different fossil fuels, which is also a relatively straightforward procedure. But offsets require the measurement of emission reductions, rather than emissions. This simple difference introduces a host of problems, because it is awfully difficult to know what would have happened to emissions absent a given offset project. For example, planting a tree will only lead to a net reduction in carbon emissions if 1) the tree would not have been planted without the offset provision, and 2) the tree will not be subsequently destroyed after the offset purchase takes place. If these two conditions, known as additionality and permanence, are not met, then offsets will not amount to real reductions, and allowing them will loosen the pre-established emissions cap.

The House learned this lesson the hard way. Shortly after purchasing carbon offsets from the Chicago Climate Exchange, the Washington Post reported that the emissions reductions were rather illusory. To take just one important example, the House spent $14,500 to pay farmers for carbon-reducing “no-till” farming, even though the practice was started prior to the purchase of the offsets. Farmers might have been motivated to practice no-till farming to reduce fuel use or to qualify for federal soil-conservation funds. By failing to meet the additionality requirement for offsets, the money spent by the House on no-till farming did not result in the intended amount of carbon reductions.

This past February, the House acknowledged the problem with offsets and dropped all plans to purchase more of them, thus abandoning the goal of making its offices carbon neutral. What is troubling, however, is that the House’s proposed cap-and-trade legislation (sponsored by Congressmen Henry Waxman and Edward Markey and recently voted out of the Energy and Commerce Committee) does not fully address the problem with offsets.

To its credit, the bill does require standards of additionality and permanence, and it provides procedures for evaluating methods of achieving these standards. Nonetheless, even the best standards and procedures will fall short of guaranteeing that each offset ton equals a ton of emissions reduction. For example, a number of studies have found that offsets provided through the heavily regulated United Nations Clean Development Mechanism—which allows developed countries to meet Kyoto Protocol commitments through projects provided in developing countries—do not reflect actual reductions in emissions. Just last December, the UN suspended work of a company that has validated almost half of the Clean Development Mechanism projects.

The unreliability of offsets led the Government Accountability Office to recommend that Congress consider “procedures to account and compensate for the inherent uncertainty associated with offset projects, such as discounting or overall limits on the use of offsets for compliance.” Indeed, the original draft of the Waxman-Markey bill included a discount on offsets by allowing credit for only four units of emissions for every five units of offset reductions. However, this discount was later removed for domestic offsets, so the bill voted out of committee allows a one-for-one trade-in value. Unfortunately, when the EPA updated its analysis of the bill, it acknowledged the lower cost resulting from more liberal use of offsets, but it failed to acknowledge the increase in emissions that will also result from this change.

Even more troubling was a late amendment by Representative Zack Space that weakens the eligibility criteria for offsets that occurred as far back as 2001. In introducing the amendment, Representative Space specifically cited the need to provide offset credits to farmers who have switched to no-till farming. This pleased the National Farmers Union, which since 2006 has been providing offsets through the Chicago Climate Exchange. In other words, having learned that they bought bogus emission reductions for pre-existing no-till farming practices, Congress has incorporated these same bogus reductions into their cap-and-trade bill. The bill will next be considered by the House Agriculture Committee, where, as reported by Environment and Energy Daily, “many committee members from both sides of the aisle want the bill to carve out a bigger role for agriculture in carbon offsets and give more authority to the Agriculture Department to oversee the problem.” This is a recipe for further undermining the authenticity of the proposed carbon cap.