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Cap-and-Trade Done Right and Done Cap-and-Trade Done Right and Done WrongWrong

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David G. Tuerck, PhDProfessor and Chairman of EconomicsExecutive Director, The Beacon Hill Institute Suffolk University, Boston

Heartland InstituteHeartland InstituteThird International Conference on Climate ChangeThird International Conference on Climate ChangeEconomics PanelEconomics PanelWashington DCWashington DCJune 2, 2009June 2, 2009

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Questions to be Addressed TodayQuestions to be Addressed Today

Is there an optimal response to global warming?

Can cap-and-trade be an optimal response?

Is Waxman-Markey* the optimal response?

Does cap-and-trade make sense as a stimulus

measure?

*American Clean Energy and Security Act of 2009.

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What “Optimal” MeansWhat “Optimal” Means

• Internalizing “externalities.”

• Maximizing the present value of

“utility” (consumption).

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What “Stimulus” MeansWhat “Stimulus” Means

• Creating jobs and investment where there is

involuntary unemployment and a lack of

investment demand.

• Nothing to do with “optimal” allocation of

resources.

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What is Cap-and-Trade?What is Cap-and-Trade?

• Place a cap on total emissions.

• Give or auction emission permits to

companies.

• Let companies that find it more costly to

reduce emissions purchase emission

permits from companies that find it less

costly.

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Elements of an Optimal PolicyElements of an Optimal Policy

• Impose the correct “carbon price” or “fee.”

• William Nordhaus, A Question of Balance (2008):– The 2005 social (external) cost of a ton of carbon = $30.

– Annual external cost per capita in U.S. = $150 (i.e., five tons

of carbon per year per person).

– A ton of carbon is emitted by 10,000 miles of driving.

– Set fee accordingly.

• Choose between granting and auctioning permits.

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Cap-and-Trade ProposalsCap-and-Trade ProposalsLegislation Year Proposed reduction in GHG emissions by

2050

Lieberman-McCain 2007 60% below the 1990 level

Kerry-Snowe 2007 65% below the 2000 level

Sanders-Boxer 2007 80% below the 1990 level

Waxman 2006 80% below the 1990 level

Feinstein 2006 70% below the 1990 level

Lieberman-Warner 2007 70% below the 2005 level

Waxman-Markey 2009 83% below the 2005 level

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This Version of Waxman-MarkeyThis Version of Waxman-Markey

• Based on the Waxman-Markey

Discussion Draft.*

• Used by EPA for its analysis.**

* http://energycommerce.house.gov/index.php?option=com_content&task=view&id=1560.

**U.S. Environmental Protection Agency, “EPA Preliminary Analysis of the Waxman-Markey

Discussion Draft,” April 20, 2009.

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Waxman-Markey TitlesWaxman-Markey Titles

I. Clean Energy (standards, CCS*, smart grid)

II. Energy Efficiency (buildings, appliances, transport)

III. Reducing Global Warming Pollution (cap and trade)

IV. Transitioning to a Clean Energy Economy

(subsidies for transition costs)

*Carbon capture and sequestration.

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• Reduce GHG emissions to: – 3% below 2005 levels by 2012

– 20% below 2005 levels by 2020

– 42% below 2005 levels by 2030

– 83% below 2005 levels by 2050.

• Satisfy 15% of compliance by submitting allowances,

pay 8% premium.

• Rebates for industrial sector until 70% global

compliance.

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Waxman-Markey DetailsWaxman-Markey Details

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Praise for Waxman-MarkeyPraise for Waxman-Markey• “Increase new building efficiency by 50 percent” (Center for American

Progress Action Fund).

• Create “millions of new jobs for Americans” (Barack Obama).

• Save “American consumers and businesses $465 billion annually in

2030” (Union of Concerned Scientists).

• “Simultaneously address the climate crisis, the economic crisis, and

the national security threats that stem from our dependence on

foreign oil” (Al Gore).

• “Restore America’s leadership of the world” (Al Gore).

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Nordhaus on Global WarmingNordhaus on Global Warming

Yale economist who created the “DICE”* model:

•Do not: do nothing or do too much.

•Implement policy that charges the optimal price (or “fee”) on

carbon: $27/tonne in 2005.

•Apply to all sectors and countries.

•Avoid controls, subsidies for green energy.

*Dynamic Integrated Model of Climate and the Economy.

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Alternative ScenariosAlternative ScenariosBenefits and Costs of CO2 Abatement Policies

Change in utility

(consumption) relative to no-

controls baseline

% change in utility

Environmental Damages

Abatement Costs: PV

Present Value

Change in PV relative

to baseline

Trillions of 2005 US dollars % Trillions of 2005 US dollars

WORLDNo controls for 250 years 0.0 0.00 22.6 0.0 0.0Optimal 3.4 0.17 17.3 -5.2 2.2Waxman-Markey Only U.S. cuts -2.6 -0.13 21.1 -1.5 3.8 OECD cuts in concert -3.4 -0.17 19.2 -3.3 7.0 World cuts in concert -9.5 -0.48 11.5 -11.1 20.7U.S. ONLYNo controls for 250 years 0.00 0.00 4.13 0.00 0.00Optimal 0.62 0.17 3.17 -0.96 0.40Waxman-Markey Only U.S. cuts -3.42 -0.95 3.86 -0.27 3.85 OECD cuts in concert -3.09 -0.86 3.51 -0.61 3.85 World cuts in concert -1.74 -0.48 2.10 -2.03 3.85Source: Based on DICE-2007 model. .Note: Assumes U.S. damages and abatement costs reflect the U.S. share of world GDP.

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Carbon FeesCarbon Fees

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Effects on Fuel CostsEffects on Fuel Costs

2007 2008 Alternative fees

Carbon fee $/tonne 34.00122.0

0714.0

0Equivalent fee on CO2 $/tonne 9.27 33.27

194.73

Increments to prices

Gasoline Retail price $/gal 2.76 3.21 0.08 0.30 1.73

Natural gasResidential price

$/'000 cu ft 14.2 15.5 0.51 1.82 10.66

Electricity: coal Retail price c/kWh 9.13 9.81 0.72 2.58 15.07Electricity: natural gas Retail price c/kWh 9.13 9.81 0.32 1.16 6.80

Source: Energy Information Agency.

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Effects on Global Temperature Relative to 1900Effects on Global Temperature Relative to 1900

Global Temperature change (degrees C)

2005 2050 2100 2200No controls for 250 years 0.73 1.81 3.30 5.30Optimal 0.73 1.68 2.76 3.45Waxman-Markey: Only U.S. cuts 0.73 1.77 3.12 5.08 OECD cuts in concert 0.73 1.71 2.88 4.70 World cuts in concert 0.73 1.51 1.72 2.00

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EPA Analysis of Waxman-MarkeyEPA Analysis of Waxman-Markey

• Only economic costs, not benefits.

• Abatement cost would rise from $22 billion in

2015 to $206-277 billion in 2050.

• “Allowance price” (fee) would rise from $62-

81/tonne of carbon in 2020 to $272-352/tonne

in 2050.

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Waxman-Markey: A Stimulus?Waxman-Markey: A Stimulus?• Cap-and-Trade cannot create stimulus for 2009-2010, given that

it starts in 2012.

• Stimulus measures are supposed to boost spending

temporarily, not fix externalities.

• Cap-and-trade is about long-term effort to reduce CO2

emissions, not the creation of a stimulus.

• The higher cost of energy due to cap and the costlier

renewables create negative stimuli.

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Waxman-Markey: A Stimulus?Waxman-Markey: A Stimulus?(Cont’d)(Cont’d)

• Steer existing jobs and investment from old energy to

renewable energy.

• Drive investment from U.S. to countries with no caps.

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Answers to the Questions Asked Answers to the Questions Asked in Slide Number 1:in Slide Number 1:

Yes, there is an optimal response to global

warming.

Yes, Cap-and-Trade can be an optimal response.

No, Waxman-Markey is not an optimal response

(and far from it).

No, Cap-and-Trade does not make sense as a

stimulus measure.

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In SummaryIn Summary

• Nordhaus is an attempt at Cap-and-Trade

done right.

• Waxman-Markey is Cap-and-Trade done

wrong (very wrong).

– Imposes carbon fees that are too high.

– Pushes highest fees onto future generations.

– Is not the way to do a stimulus.

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The Beacon Hill Institute at Suffolk UniversityThe Beacon Hill Institute at Suffolk University

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The Beacon Hill Institute at Suffolk University in Boston focuses on federal, state and local economic policies as they affect citizens and

businesses. The institute conducts research and educational programs to provide timely, concise and readable analyses that help voters,

policymakers and opinion leaders understand today’s leading public policy issues.

© May 2009 - Beacon Hill Institute at Suffolk University

The Beacon Hill Institute Suffolk University8 Ashburton Place Boston, MA 02108

Phone: 617-573-8750 Fax: 617-994-4279dtuerck@beaconhill.org

http://www.beaconhill.org