The pollution market in Europe—blue or green?

Do low permit prices signal market failure?

The New York Times worries that that the market for buying and selling air-pollution permits in Europe generates too many greenhouse gases.

“ …The penny ante price of carbon credits means the market is not doing its job: Pushing polluters to reduce carbon emissions…,” write Timesmen Stanley Reed and Mark Scott.

Actually, that’s the European Union’s job.  The market’s job is to provide the amount of cleanup mandated by the EU as cheaply as possible, in terms of resources used up.  If we can abate another ton of carbon emissions with the toil of one worker rather than two, then let’s do it.  The second worker can do something else useful, like research.

The permit market is unusual.  Most markets determine the quantity as well as the price of the product offered.  If the demand for roses rises in February, then the resulting price increase will induce florists to sell more roses.  But the market for pollution permits sets only the price.  The number of permits is determined by EU authorities.  If they print too many permits (that is, demand too little cleanup), then that’s their fault, not the market’s.

Why not use a conventional market for permits?  Because it won’t work.  The producer of cleanup technology cannot collect a payment from everyone who benefits from it, so he will supply too little technology.  One solution (maybe) is to have the government require polluters to clean up by issuing them just a few pollution permits.  Polluters will demand more cleanup equipment when it’s cheaper than permits.  The producer of the equipment can easily identify the major polluters, so he can collect enough money from them to make production of the equipment worthwhile.

The sweet smell of excess

The Times writes:  “When the emissions trading system was started in 2005, the goal was to create a global model for raising the costs of emitting greenhouse gases and for prodding industrial polluters to switch from burning fossil fuels to using clean-energy alternatives like wind and solar.

“When carbon prices hit their highs of more than 30 euros in 2008 and companies spent billions to invest in renewables, policy makers hailed the market as a success. But then prices began to fall. And at current levels, they are far too low to change companies’ behaviors, analysts say.”

The Timesmen – excuse me: “analysts” -- have the story backwards.  The new cleanup technologies have reduced polluters’ demand for permits.  It’s often cheaper now to switch to a clean fuel, like natural gas, than to buy a permit to burn carbon-loaded coal.  Since polluters no longer want permits, their price has fallen.  That’s a sign of success.

This matter is vital for Central Asia.  As transition economies continue to grow rapidly, they will emit more and more pollution.  We would like to reduce emissions without destroying too many jobs.  A permit market induces cleanup by those polluters who can do so most cheaply.  If Central Asia refuses to set up permit markets because it misunderstands the European experience, then it will probably revert to the old “command-and-control” policy in which each polluter cuts back emissions by the same percentage, regardless of the expense.  That would waste resources – a luxury that poor countries cannot afford.   –Leon Taylor tayloralmaty@gmail.com

                       

Good reading

Wallace E. Oates, editor.  The RFF reader in environmental and resource management.  Resources for the Future.  1999. 

References

Stanley Reed and Mark Scott.  In Europe, paid permits for pollution are fizzling.  The New York Times.  April 21, 2013.  Repetitious and disorganized.