Friday, February 8, 2013

Northeast Cap-and-Trade Program Tightens Limits

By Nick Cunningham

Yesterday, some good news came from the country's first cap-and-trade program for greenhouse gases, the Regional Greenhouse Gas Initiative (RGGI). Facing a cap that was set too high to take a real bite out of emissions, RGGI announced it would lower the cap by 45%.

First, a brief history.

A collection of states from the northeast got together in 2005 to form a plan to reduce greenhouse gases that contribute to climate change. Seven states formed the original RGGI - Connecticut, Delaware, Maine, New Hampshire, New Jersey, New York, and Vermont. Mitt Romney, Governor of Massachusetts, supported climate legislation. That is, until he realized he had to go through the Republican Primary to become President, so he pulled out at the eleventh hour (MA later rejoined under Gov. Deval Patrick).  Maryland and Rhode Island also later joined, upping the participating states to ten. Then, New Jersey's Chris Christie pulled his state out in 2011.

The states discussed various actions to reduce emissions. Ultimately, RGGI settled on a cap-and-trade plan. The program would begin in 2009 and cap emissions at 2002-2004 levels, then gradually ratchet down to achieve 10% GHG reductions below 2002-2004 levels by 2020.

Here's how it's supposed to work: There is a hard limit on the emissions for the entire region. Allowances are auctioned (1 allowance = 1 ton of CO2).  Thereafter, the cap is tightened.  Companies then have to either reduce their pollution to come in under their limit, or purchase an allowance on the market from another company who already cleaned up and doesn't need their extra allowances. This creates the incentive to continuously make your operations cleaner, because you can make more money (by either purchasing less allowances, or even selling your allowances for a profit).

That's the theory at least. The problem with RGGI has been twofold: the financial crisis, and the unforeseen gains in emissions reduction (the second of which, is certainly a good thing!). As a result, RGGI set the cap way too high. When the states made the decision in 2005 to set the cap at 180 million tons of CO2, they believed emissions would steadily rise and hit the cap, forcing reductions. Emissions for the region never even reached the cap - they declined and are still declining (see chart).

data from RGGI

When the cap tightened in 2012 to 165 million tons, emissions for the region were still well below the cap.

As a result, although the program has been running since 2009, companies have thus far been able to pollute and not worry about needing to reduce their emissions or purchase allowances. Some companies still purchased allowances on the expectation that they may need them in the future. But, they routinely sold at the minimum price of $1.98 per ton.

This is why yesterday's announcement is really interesting. RGGI officials decided not only to cut the cap, but cut it by a lot. Beginning in 2014, the cap will be lowered to 91 million tons, a 45% reduction from where it is currently at. As you can see from the graph, the new cap may actually force companies to either clean up, or be forced to pay by purchasing allowances.

Based on emissions data from the EIA, the reduction in the cap to 91 million tons of CO2, followed by a 2.5% reduction each year from 2014 to 2020 will result in a 16% reduction in emissions for the region over that timeframe.

This also demonstrates that in the absence of a national limit on carbon emissions, climate reduction experiments are largely coming from the states. Once you scrape away the absurdity of national politics and get to the state and local level, people have a firmer understanding of how climate change will affect them (at least in some places).

The success of RGGI is really important. It can demonstrate that a cap-and-trade program and function well, and maybe set the stage for a federal cap-and-trade plan (California kicked off its cap-and-trade program this year, and it will also be a test bed for climate policy). RGGI's decision to tighten the cap is very good news.

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