Applications of Cap-and-Trade and Recent Debates

Since 1970s, US Environmental Protection Agency (EPA) started using Cap-and-Trade (CAT)  to regulate the emission of 6 categories of air pollution, mainly SO2 and NOx. After 1997 Tyoko Protocol was signed, carbon emission began drawing government's attention, and carbon trade system is gradually being adopted by many countries, lead by the European Union and Australia.

EPA launched a national-wide acid rain program in 1990s, controlling the industrial stationary point emission of SO2 and NOx, which are main contributors to the formation of acid rain. Here is a report from EPA about 2009 progress and results of this program: http://www.epa.gov/airmarkets/progress/ARP09_2.html
Other EPA programs are mostly regional, such as NOx budget trading program, Regional Greenhouse Gas Initiative and Assembly 32 for California only. In 2009, President Obama pushed a new bill to the Congress for adopting national-wide carbon trade regime. However, it failed to pass. Moreover, in 2011, the Chicago Carbon Exchange, started by an active environmental economist, was forced to close.

On the other hand, the EU carbon trade was functioning well. The most effective way to control carbon is is trading within the system. However, the price fluctuations concern some economists:

High price levels are necessary for motivating businesses to improve their carbon control technologies. The sensitivity of the market to present environmental political events would compromise the efficiency of the system.

Finally, the most debatable policy within the regime is the setoff program between developed and developing nations. Some argue that it would encourage developing nations to build more pollution sources, i.e. firms, to profit from selling carbon credits.

Is cap-and-trade a political excuse for carbon emission?

Although cap-and-trade policy is largely endorsed by economists for its efficiency and cost-effectively, some environmentalists are not satisfied by this approach. The trading of permits, some argue, are like indulgences in the middle age, providing excuses for developed countries to not control their emission by simply paying more to developing nations. Here is a video of Dr. James Hansen, a NASA scientist specializing in climate change:



Economic interests and environmental protection always seem to be the mortal enemies of each other. The reason for the conflict root in the large use of fossil fuels. Those easy-to-extract and high efficiency energy sources contribute enormously to the development of economies, as well as the improvement of life qualities. At the same time, the huge amount of carbon emitted from burning fossil fuels, according to many environmentalists, create a horrific change in greenhouse gas quantity in the atmosphere, which had changed and will continue to change the global temperature and eventually the environment.

Environmentalists advocate for radical changes, for example, replacing fossil fuels with renewable energy sources. However, those changes are normally extremely expensive. LADWP ( Los Angeles Department of Water and Power) 's plan of replacing half of their energy sources with clean energy has costed the agency over a million dollars.

Given the loss in wealth, governments are inclined to choose mild ways such as cap-and-trade to protect business interests along with satisfying the public need for environmental protection. Countries responded actively to carbon trade are those that generally considered the immediate victims of climate change. Australia, for example, would suffer the most from the melting ice from the Antarctica. The European Union, located at high latitudes could be easily affected by climate change.


Aside from all the arguments on politicians' choices and economic interests, there are still debates about the cause of climate change. Here is a blog by Tom Moriarty, a Senior Scientist at the US Department of Energy’s National Renewable Energy Laboratory: ClimateSanity.

It is clear that human contribution to greenhouse gas accelerates the change of temperature rise and the process of climate change. What is unclear is that are there anything we can do that can actually change the situation. As scientists have proved, the Earth has its own cycle of global temperature alterations, are human beings powerful enough to halt the natural cycle? 

In David Letterman's word, are we close to doomed or are we doomed already?

Pigou and Externatilities

   The tradable permits market, also known as cap-and-trade policy, is based on a significant economic concept developed by a British economist, Arthur Cecil Pigou, in the early 20th century. Pigou pointed out that the total cost of a product should not only be the costs of production and materials but also the negative social effects of the products on human beings or environment. To incorporate this idea into an economic model, Pigou developed the concept of externality, which is the net social cost (social cost - social welfare) of a product, that is not transferred to price.

As the graph shows, when a product is put on the market, the market price is decided by the marginal cost (private cost) of businesses producing the product and marginal benefit (demand) that consumers can enjoy from the consumption. However, for some products, the consumption or the production process would generate negative effects on the society, and therefore increase the social cost which is not considered by businesses or the market. As show in the graph, the triangle intersected by Qs,Qp, Ps, Pp, above Pp line is the externality that the society suffer from.


In order to protect the social benefit, this externality must be transferred to the businesses to meet the ideal balance/equilibrium on the market. Theoretically, the price would be pushed higher with quantity produced lower. At the new point, the social costs would be covered in full by social benefits generated from the product, and therefore the society as a whole would not lose from producing the product.

Pollution is often considered an externatlity for most businesses. The social cost of pollution, such as diseases, costs on health care, shorter life span and decrease in life quality, are considerably high. Command-and-control policies, which regulate the pollution standard of businesses force the businesses to choose a higher price level. As shown in the right, this method creates a shortage in supply and consumers would pay for the standard by offering higher price for the product.





Another way to transfer the cost is by taxing the pollution. As shown in the graph on the left, the tax can push private cost up to meet the social equilibrium point. However, it is really difficult to determine the tax rate to achieve it, as different industries respond differently to tax and pollution control technologies.

Cap-and-Trade policy is a market approach based on the pollution standards set by Command-and-Control policy yet allow the flexibility of permits to be transferred from firms to firms. It can effectively transfer the costs to the businesses yet allow businesses and the permits market to decided the most cost efficient way to allocate pollution.

Pigou's concept is the basis of the environmental economics studies which, for the first time in economics field, combines the social interests and financial interests. I'm looking forward to learn more about the research done regarding how well this system transfer the externalities to businesses.

Marketable Emission Permits

Industrial emission is probably the largest influence human beings exert over the atmosphere and water system. Sulfur oxides, carbon oxides and water steam are the major human contributors for climate change, acid rain and smog, that are released by millions of manufacturers everyday worldwide.

Governments have adopted several policies to restrict the industrial emission, motivating companies to spend more on technologies helping to reduce their emission. Direct regulations are the most common way. Some governments choose to tax the pollution and subsidize firms that emit pollution lower than expected level. However, those policies generate large government administrative and monitoring costs. In 1970s, some economists started advocating market method to control industrial emission, marketable/tradable emission permits system. This system would set up a limited pollution allowance in an area, distributing the pollution permits to firms with all the permits tradable among or within companies. That is, corporations pollute less than allowed can make profits by selling their permits, while those pollute more than allowed need to spend more on their pollution. Overall, by theory, this could encourage companies to reduce their emission to cut the costs with less government supervisory effort.

Although this system effectively reduce the costs of reducing pollution, the application proves to be difficult. The price and amount of permits are very difficult to set up at the optimum level, because it is hard to evaluate the costs generated from the system. Also, as a new market, the entry and trasaction costs are not, as assumed, closed to zero. They impede the large adoption of this system. Right now, the most popular type of emission permit system is carbon trade market. Although debates exist, this market is proved to be efficient in controlling the carbon trace of businesses at a lower social and government cost.

For my project, I hope that I can look into the circumstances under which shall this system work well and the reasons for it.

Here is a video about a debate in the US congress about a bill
for setting up carbon dioxide emission permits system in 2009. With the pressure from the economic condition, this system is being criticized for damaging consumption power and reducing company profits:

Agricultural Culturing or Wild Catch?

 Fish and sea products are providing a large percentage of protein of people’s diets. Wild catch and aquaculture are the present major ways to acquire the products. Environmentally, both ways rise considerations. Economists developed models analyzing the social costs of human behaviors, which are called negative externalities. Although it is very hard to evaluate them, some economic models can help to differentiate the economic costs of both to find which way is more efficient in terms of resource allocation.

As one of the earliest way for human beings to acquire nutrition, catching fish from water has been practiced for centuries. In 20th century, however, with a leap in the development of technology and a tremendous increase in global population, catching fish has never been so easy and the demand never so high. Fishing became an industrialized mass-scale industry. To control the fish population and maintain the sustainability of fish growth, many countries, such as United States and New Zealand started launching fisheries management programs to restrict the catch and the size of fish that can be landed. In the US, there are detailed regulations for fishing techniques that can be applied to avoid bycatch (catching species that are not intended to catch), for the number of fish that can be landed to avoid overfishing (every fishing boat would have fishing quota that specifies the permitted catch amount) and for the area and time of permitted fishing so that fishermen would not exploit the resources at one location. To ensure the effectiveness of the regulations, the US government has to hire inspectors to monitor fishing behaviors and specialists to set up the catch limit. Not only is it expensive, the regulations do not always work. Here is a video clip showing the illegal fishing:

Aquaculture has not been a well-known industry in the US but proves to be an efficient way of production in many other countries. Environmentalists worry about the issues like wastes coming from fish farms and the large water consumption. For fresh water aquaculture, the high density of fish cultured in small areas could generate disease problems and fish wastes that are not easy to clean up. Also, those wastes, once released to water system, could induce eutrophication that causes the oxygen depletion for organisms in water. Some fish farms base their facilities in the ocean. The facilities built to trap fish are normally in coastal areas. Environmentalists argue that the net or artificial structures can injure wild animals and influence the natural wave movements. Recently, some techniques have been introduced to aquaculture industry for being more environmentally friendly. In China, there is an old agricultural convention to raise fish in rice fields to utilize the resources at highest efficiency; fish wastes can function as organic fertilizers for rice and the water would be used for raising plants as well as act as a living environment for the fish. Modern technology incorporated this idea into large-scale aquaculture industry, and it is highly likely that future aquaculture would be more environmentally friendly and in economic terms, generate less social costs.

It is my attempt to figure out if or by how much can the shift from conventional wild catch to aquaculture reduce the negative externalities generated from fish consumption. As the population grows, not only do we need more food, but also shall we have less land and fresh water. As an industry that require large investment in both, is aquaculture really more efficient than other croplands in terms of production efficiency? It may be a better way to acquire fish, but is it a better way to acquire protein in general?