A Qualified Defense of Cap and Trade
In the first of Reihan’s recent posts about carbon pricing, he mentions the inimitable Jim Manzi’s writing on the subject, saying that Jim has “already made the case against cap and trade pretty effectively.” Now, unless I missed something, Jim has actually made two different points, both of which I agree with:
1) The political economy of the US will not allow a Pigovian tax on carbon.
Pursuing market-based solutions to carbon mitigation means choosing either a quantity instrument (cap and trade) or a price instrument (a carbon tax). Jim’s convinced me that there is no workable price instrument at our disposal, leaving us with cap-and-trade as the only remaining option. Just because it’s the other option presented doesn’t make it right, but nor does the fact that politicians like cap and trade make it the worst idea in the world. A cap and trade program with all the necessary bells and whistles (an initial auction, a liquid market, tradability, bankability, etc.) would be a simpler and more transparent way to reduce aggregate US CO2 emissions if that’s what we decide to do.
The precedent for a tradable permit system, of course, is the successful SO2 allowance trading program implemented in the 1990 Clean Air Act amendments. This ten year-old paper discusses the lessons to be learned from “the Grand Policy Experiment,” as it’s described, and mentions a few points that apply to any market-based carbon mitigation policy. A few aspects of the CO2 problem argue in favor of a quantity instrument:
If uncertainty about marginal abatement costs is significant, and if marginal abatement costs are quite flat and marginal benefits of abatement fall relatively quickly, then a quantity instrument, such as tradeable permits, will be more efficient than a price instrument, such as an emission tax (Weitzman, 1974). Furthermore, when there is uncertainty about marginal benefits, and marginal benefits are positively correlated with marginal costs (which, it turns out, is a relatively common occurrence for a variety of pollution problems), then there is an additional argument in favor of the relative efficiency of quantity instruments.
If there were ever a case of “uncertainty about marginal benefits,” carbon mitigation is it. Avoiding one ton of CO2 emissions today doesn’t deliver benefits for generations hence, and then only if it’s part of a massive global reduction.
A legislative mandate to reduce the US’s greenhouse gas emissions to some politically determined ceiling, for all its arbitrariness, is more rational than convincing ourselves that we’ve magically identified the social costs of each ton of CO2 and “priced the externality.” Reihan is right that the US’s incremental reduction isn’t nearly enough to reduce warming by the IPCC’s preferred 50-85%, and our “setting an example” is unlikely to make a difference in the carbon intensity of developing nations’ economies.
I remain unconvinced that it’s possible to mitigate climate change with any tools at our disposal, and I don’t think we’ll bring the next generation of energy sources to market by making fossil fuels more expensive in relative terms. Such an approach is especially fragile in an inflationary and increasingly zero-sum world economy, so I tend to agree with Indur Goklany and Tom Schelling that the best way to solve the problem of climate change is by applying the brainpower that only a wealthier developing world can deliver. The political consensus, however, is for getting a head start on direct mitigation, and emissions trading might be the least-bad way to do so.
Simple, “silver bullet” solutions, while politically attractive do not exist in environmental systems. We seek “The cure for cancer” but in fact there is no single cure, but many genetic and environmental variables which contribute to the risk.
As a leading thinker, you could do a great service to the reading community by championing the understanding that the solution to technological problems requires more than a single solution and can significantly benefit from each one of many contributing actions.
Hamlet to Guildenstern: “do you think I am easier to be played on than a pipe?” Playing a flute takes more than fingers on holes. Why would one think that global warming or CO2 reduction can be mastered with more singular action.
Best Regards,
Frank— Frank Shineman · Jun 8, 12:36 PM · #
Why all this angst over whether we’ve got the cost of the external costs exactly right? With a carbon tax, it doesn’t matter. It can easily be adjusted up or down from time to time, as we observe what happens with intended and unintended consequences, etc.
— The Reticulator · Jun 9, 10:46 AM · #
Matt:
Thanks very much for the kind words.
I have also tried to make another point about AGW. There is no mechansim to reduce emissions that will create more expected wealth than it destroys. AGW in the expected range of outcomes just doesn’t cost that much, in comparison to what it would cost to radically abate emissions today.
The argument (or, more precisely, my argument) for technological investments is that they will destroy a small amount of economic value in the expected case in order to provide a hedge against very-much-larger than expected costs in a s cenario where we have grossly underestimated the economic impacts of emissions.
— Jim Manzi · Jun 9, 06:21 PM · #