The End of Cap and Trade?

No, not for carbon. For sulfur dioxide.

As noted by Mark Peters at the Wall Street Journal:

The original U.S. cap-and-trade market, which succeeded in slashing the power-plant emissions that cause acid rain, is in disarray following the issuance of new federal pollution rules.

The collapse in the pioneering market where power producers trade permits that allow them to emit sulfur dioxide and other pollutants that cause acid rain comes as policy makers seek to establish a similar market to curb the emissions of carbon, a cause of climate change.

The SO2 market has been one of the great successes of economic engineering, using market forces to drive down the cost of cleaning the environment. After almost twenty years of trading, however, the market ran into what may be an insurmountable hurdle: increased regulatory concern about the location of SO2 emissions.

The SO2 marketplace is national in scope, which has been great for establishing liquid trading and allowing emitters to find the cheapest way of reducing emissions. But it also meant that some SO2 emissions would end up in particularly unwelcome spots, e.g., upwind of cities, states, or entire regions that are having trouble meeting air quality standards.

Over the past couple of years, court rulings and new regulatory efforts by the Environmental Protection Agency have increased the emphasis of the location of emissions. And that means that the national market may be coming to an end.

That’s certainly what it looks like in the allowance marketplace, where prices have fallen from more than $600 per ton in mid-2007 to $5 or less today. (see chart)

The price decline has been particularly sharp because utilities had been polluting less than allowed in recent years. That allowed them to build up an inventory of allowances to use in the future. With prices so low today, however, utilities have essentially no incentive to avoid sulfur emissions and no incentive to hold allowance inventories. As Gabriel Nelson puts it over at the New York Times:

With SO2 allowances trading at about $5 per ton, and little prospect of carrying over the permits into the new program, utilities have little incentive to bank allowances or add emissions controls for the time being, traders say. Because those controls have upkeep costs beyond the original investment, some plants might even find it more cost-effective to use allowances than to turn on scrubbers that have already been installed, traders said.

About Donald Marron 294 Articles

Donald Marron is an economist in the Washington, DC area. He currently speaks, writes, and consults about economic, budget, and financial issues.

From 2002 to early 2009, he served in various senior positions in the White House and Congress including: * Member of the President’s Council of Economic Advisers (CEA) * Acting Director of the Congressional Budget Office (CBO) * Executive Director of Congress’s Joint Economic Committee (JEC)

Before his government service, Donald had a varied career as a professor, consultant, and entrepreneur. In the mid-1990s, he taught economics and finance at the University of Chicago Graduate School of Business. He then spent about a year-and-a-half managing large antitrust cases (e.g., Pepsi vs. Coke) at Charles River Associates in Washington, DC. After that, he took the plunge into the world of new ventures, serving as Chief Financial Officer of a health care software start-up in Austin, TX. After that fascinating experience, he started his career in public service.

Donald received his Ph.D. in Economics from the Massachusetts Institute of Technology and his B.A. in Mathematics a couple miles down the road at Harvard.

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