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This chapter estimates the welfare costs of the main medium‐term options for significantly reducing US energy‐related carbon dioxide (CO₂) emissions, including carbon taxes and cap‐and‐trade systems applied economy‐wide and to the power sector only, and an emissions rate standard for power generation. The key theme is that welfare costs depend importantly on how policies interact with distortions in the economy created by the broader fiscal system. Economy‐wide cap‐and‐trade systems, or carbon taxes, where allowance rent or tax revenue is not used to increase economic efficiency, perform the worst on cost‐effectiveness grounds. In contrast, the costs of economy‐wide carbon taxes or auctioned allowance systems may be (slightly) negative, if revenues are used to substitute for distortionary income taxes (either directly, or indirectly through deficit reduction). The bottom line is that revenue/rents created under economy‐wide, market‐based carbon policies must be used to increase economic efficiency to ensure that these instruments are more cost‐effective than regulatory or sectoral approaches.

The European Union’s CO₂ Emissions Trading Scheme (EU ETS) has shown that cap-and-trade systems can work in a highly decentralized multinational setting, but that experience has also revealed some issues in governance that threaten the feasibility of cap-and-trade in an international setting. These issues are captured in the conflicting demands for differentiation and harmonization. This chapter examines the experience of the EU ETS and of cap-and-trade systems in the USA in resolving this conflict with particular attention to the governance institutions and their potential applicability on a broader global scale.

This chapter offers a guide to the key legal issues presented by national and sub-national greenhouse gas (GHG) regulatory initiatives in the United States. Section 2 provides an overview of sub-national trading schemes at the regional and state level, where mandatory regulations creating carbon trading regimes are most advanced in the United States. Section 3 surveys a number of legal issues that will play an essential role in the design and implementation of any cap-and-trade scheme in the United States, whether at the national or sub-national level. Section 4 addresses a series of constitutional challenges specific to state or regional programs that may limit the scope and perhaps the viability of these non-federal programs. Section 5 highlights a number of prospective legal issues that are likely to arise in designing a new federal climate change statute, such as the relationship between an emissions trading market and existing US environmental laws and trade policy. It also identifies the legal issues that may arise in the event that there is no new climate change-specific federal statute adopted, in which case the US Environmental Protection Agency (US EPA) may instead seek to generate a market for emissions trading through regulations adopted under the existing Clean Air Act.

As the United States moves forward from voluntary efforts to the establishment of mandatory cap-and-trade programmes for greenhouse gas (GHG) emissions, offsets have become a central issue of policy. Offsets can help minimize the total costs associated with GHG regulation; offsets can also provide other benefits, such as economic development and reduced pollution. However, incorporation of offsets into a cap-and-trade programme requires careful attention to policy design. This chapter begins with a brief background on offsets, including a discussion of their value within a cap-and-trade programme, the use of offsets in various policy contexts, and different types of offset projects. It then discusses the most important design issues for an offset project programme: additionality of GHG emission reductions made, quantitative limits on offsets, addressing the risk of reversal of sequestered emissions, providing credit for early action offset projects, incorporating international offset projects, and projects aiming to reduce emissions from deforestation and forest degradation. Each section highlights how leading proposals for US federal cap-and-trade legislation have addressed these issues. The final section discusses the use of offsets in state and regional cap-and-trade programmes.

This chapter addresses the following question: ‘Can offset mechanisms help promote a low-carbon economy at a reasonable cost?’ The answer to this question is, yes. They are not the entirety of the solution — regulation and economy-wide incentives are needed — but as an addition to cap-and-trade, an essential component. Reforms will go a long way toward making offset mechanisms an integral and effective part of the global climate architecture. The first section of this chapter covers existing cap-and-trade systems and progress toward a global system. The second section identifies the building blocks needed to design an effective globally linked emissions trading system. Finally, a vision for a post-2012 climate treaty incorporating project mechanisms is outlined and the policies needed to increase global emission reductions and achieve the target of limiting temperature increase to 2°C are discussed.

This chapter examines, in the context of the European Union's new Emissions Trading Scheme under the Kyoto Protocol, the issues surrounding the aborted attempt by the International Accounting Standards Board (IASB) in early 2005 to regulate the accounting for ‘cap-and-trade’ schemes. It argues that the features that made this model attractive to governments were precisely the ones that accountants found difficult to capture under existing standards. After showing why the challenge has to be faced, the chapter suggests a possible way forward that the IASB might consider when it revisits the subject, as it is now doing.

This chapter presents the assessment methods available for moving from the previously constructed growth model to an understanding of the concrete conditions for the transition to a green economy. This transition is still only in its infancy, with the first moves to introduce the value of natural capital into the economy now being taken. With regard to the climate system, the value collectively attributed to its preservation is measured by the costs associated with greenhouse gas emissions, more commonly termed the “carbon price.” The methods for introducing this price into the economic system are now well known, but both nationally and internationally.

This chapter focuses on state-level implementation of climate policy via a climate change community benefits fund. Describes how activists helped institutionalize the country’s first program to redistribute action proceeds from a cap and trade program to socially and environmentally overburdened communities.

This chapter describes how, for four decades, California has been at the forefront of national efforts to improve energy efficiency and reduce greenhouse gas emissions. These initiatives began with policies to reduce energy use in order to avoid the construction of additional power plants and went on to include progressively more stringent energy efficiency standards and renewable energy mandates, additional curbs on automotive emissions, and a cap-and-trade program designed to reduce statewide greenhouse gas emissions. The emergence and expansion of these efforts demonstrates the importance of the factors that have shaped environmental policy innovations in other areas. At the same time, these policies are also distinct from those described in the previous chapters. First, they developed more incrementally, with some backsliding, much conflict, and frequent compromises. Second, some of their policy triggers—most notably, the 1973 energy crisis and California's 2000–2001 energy deregulation fiasco—were unrelated to environmental risks or threats. Third, their scope, diversity, and economic impact have been more substantial than those of the state's regulations protecting land use, coastal areas, and automotive emissions. Finally, and perhaps most importantly, in marked contrast to the state's other environmental policy threats, California cannot protect itself from the risks of global climate change. This means that the state has a critical stake in promoting a “California effect” that will encourage other political jurisdictions both in and outside the United States to also restrict their greenhouse gas emissions.

The use of taxes to elevate the price of popular commodities in order to reduce consumption and risks related to use did not originate with carbon taxes. Excise taxes on tobacco have been used aggressively by governments in the United States and beyond in recent decades to achieve significant reductions in smoking. Fossil fuel use has long been deemed by diverse economists as a viable target for a sequel, leading to innumerable reports and scholarly arguments making the case for a carbon price. This can take the form of either a direct tax on the carbon content of fossil fuels or a cap-and-trade system that allows for purchase of rights to release emissions at a price. Both are thought to offer effective paths to reduce emissions in a cost-effective manner.

The National Environmental Policy Act (NEPA) was approved unanimously in the Senate and with near unanimity in the House of Representatives in December 1969. President Nixon signed the act into law on January 1, 1970. The new statute was both brief and farsighted. In fewer than 3,500 words the congressional authors of NEPA articulated for the first time a national policy on the environment, set in motion an innovative regulatory process centered on environmental impact statements, institutionalized public participation in federal environmental decision making, and introduced the requirement that the president report annually to Congress on the nation’s environmental status and trends. NEPA also included a provision that established a new agency, the Council on Environmental Quality (CEQ), in the Executive Office of the President. The CEQ’s assigned statutory role was to implement the environmental impact statement process, prepare the president’s annual environmental report on the condition of the environment, develop policy proposals for solving environmental problems, and coordinate efforts across the federal government to address environmental concerns. As stated in the law, NEPA is designed to “encourage productive and enjoyable harmony between man and his environment”; to “promote efforts which will prevent or eliminate damage to the environment and biosphere and stimulate the health and welfare of man”; and to “fulfill the responsibilities of each generation as trustee of the environment for succeeding generations.” The references to promoting harmony between people and the environment, protecting the biosphere, and affirming the nation’s responsibility for environmental stewardship illustrate an understanding of the scope, scale, and significance of environmental matters that was significantly ahead of its time. The language in NEPA quoted above anticipated by twenty years the concern for the Earth’s biosphere and the concept of environmental sustainability that would become more widely articulated in the run-up to the 1992 Earth Summit in Rio de Janeiro. Moreover, NEPA has had an enduring global impact. By the law’s fortieth anniversary, a majority of U.S. states had established their own environmental impact statement requirements and more than 160 nations worldwide had adopted similar legislation.

A self-defined sustainability movement crystallized between the late 1970s and the 1990s. No longer was sustainability merely a concept or set of ideas. There was now a set of organizations—the Worldwatch Institute, the Rocky Mountain Institute, the United Nations (UN ), and so on—that promoted something called “sustainability” and a growing number of individuals who sought to “live sustainably.” Scholars began to describe in vivid detail what a sustainable society might look like and discussed in no uncertain terms the unsustainability of modern industrial society. In 1975, a conference was held near Houston, Texas, on “how a modern society might be organized to provide a good life for its citizens without requiring ever-increasing population growth, energy resource use, and physical output.” A stream of books between 1976 and 1981 drew on cutting-edge science and ecological economics to sketch out the “qualitative components of a sustainable society.” In the 1980s, sustainability became the centerpiece of international agreements; a strategy objective for at least some nongovernmental organizations (NGOs), businesses, and governments and a philosophy of balance and durability with a wide range of applications. It found its greatest champion in the United Nations though, which recast sustainability as “sustainable development” and integrated its principles into international accords. Sustainability had thus become part of a political agenda and a clearly articulated ecological philosophy, and a plethora of frameworks, systems, and models were developed as a means of studying, measuring, and advancing its central tenets. This is the period, for instance, in which the three Es appeared as the basic model for sustainability. By the 1990s, sustainists had begun implementing principles of sustainability into economic analyses, planning commissions (on all governmental levels), the energy sector, education, agriculture, housing, transportation, business operations, and many other domains. The media picked up on the term, too, and sustainability became, by the end of the century, a buzzword meant to signify anything associated with green values. This chapter offers a brief overview of the formation, triumphs, and challenges of the sustainability movement at the end of the twentieth century.

While Lovins addressed fossil fuels, renewables, and a carbon tax as a consultant and public intellectual, Jim Rogers, until recently the chief executive officer of Duke Energy, the nation’s largest electric utility, did so as a shrewd pragmatist and soldier in the trenches of legislative conflict. A facile lawyer who served as a FERC litigator, Rogers once ran the gas pipeline business of Houston Natural Gas, an Enron predecessor. Later he took the helm at PSI Energy, a coal-fired utility, where he reached an accommodation with environmental opponents on cleaning up his company’s SO₂ emissions, then the subject of cap-and-trade amendments to the Clean Air Act. Rogers defied industry logic and supported the new program just as other utility executives lobbied against it. Rogers saw the SO₂ cap-and-trade program as a smart and creative compromise that allocated generous allowances to utilities in coal-dependent states and enabled them to modernize their plants to meet emissions targets without price spikes. In the conservative utility industry, Rogers was an outlier whose environmental credentials generated favorable publicity but at the same time drew skepticism. In 2006, after a series of acquisitions, Rogers headed Duke Energy, just in time to participate as a key player in shaping forthcoming climate change legislation that proposed CO₂ cap-and-trade methodology modeled on the successful SO₂ program of almost twenty years before. Rogers wanted Duke Energy to receive enough free allowances to make the transition to clean energy affordable and avoid rate shock for its customers. Environmentalists saw free allowances as a giveaway to polluters and demanded they be auctioned, but Rogers objected to according the government free rein to spend revenues raised from selling allowances. In his first State of the Union message President Obama proposed legislation that placed a market cap on carbon pollution. Coal-fired utilities, with Duke Energy in the forefront, saw a looming threat. Eager to shape the debate, Rogers urged that the power sector receive 40 per cent of all allowances for free as a bridge to a decarbonized economy and got most of what he wanted in the Waxman-Markey bill that narrowly passed the House in 2009 but later failed in the Senate, the victim of polarized politics. In negotiations with Congress, Rogers had used his pivotal position to extract the accommodation he required only to see cap and trade blown away by hard economic times, extreme partisan division, and effective right-wing opposition. Given the threat of legislation, he tried to mitigate the risks to his company. “When you see a parade form on an issue in Washington,” he said, “you have two choices: you can throw your body in front of it and let Washington walk over you, or you can jump in front of the parade and pretend it’s yours.”

This chapter examines the effects of combining an international cap-and-trade scheme with national carbon taxes. We consider a two-country stochastic partial equilibrium model with log-normally distributed uncertainty. The situation is analogous to the situation where European countries impose national carbon taxes in addition to the EU emissions trading. The allowance price in the joint cap-and-trade scheme depends on the tax rate, the relative size of countries and abatement options, the magnitude of uncertainty, and correlation of abatement costs. In most cases, the additional tax will not lead to additional production of the public good beyond the fixed targets. The additional tax results in higher costs of abatement to the country introducing the additional tax, and higher costs overall.

The classical approach to external costs is to levy corrective taxes. An alternative, the cap and trade system, builds on the idea that external effects arise from inadequately-defined property rights. Historically most societies have regulated external effects, passing laws limiting externality-generating actions: this practice dates back at least to the Middle Ages. The US practices a legal approach to externality-management, giving damaged parties the right to sue for damages. Finally we are now seeing the emergence of an approach based on activism by civil society and consumers and by the investor community. Some of these approaches seem better than others – taxes and cap and trade, for example, are capable of correcting external effects at minimum cost.

Ozone depletion and acid rain are problems that have some similarity to climate change – both are caused by the emission of gases that circulate widely, though neither has the scope and scale of the climate problem. But it is encouraging that both problems are well en route to solution. Our main institutions for addressing climate change are the IPCC (Intergovernmental Panel on Climate Change) and the UFCCC (United Nations Framework Convention on Climate Change), with the latter producing the Kyoto Protocol in 1997 and the 2015 Paris Agreement. Cap and Trade and regulatory policies have been used more widely than any others for tackling the climate problem so far. Replacement of fossil fuels by low-carbon energy technologies offers the greatest hope for a complete solution, and is within sight: policies need to be focused on making this a reality.

This chapter extends the existing theory of tradable emissions permit markets to allow for tradable permits and offsets. Offsets are currently incorporated into the EU ETS, and in the future similar assets will likely become a feature of many pollution control systems. A model is developed with multiple compliance assets, offset quotas, and different transaction costs across compliance assets. Either offset usage quotas or additional transaction costs associated with surrendering offsets can lead to an equilibrium price difference between permits and offsets, as experienced in the EU ETS. Another result of the chapter shows that offset usage quotas alone cannot explain observed offset behavior in the EU ETS, but combining offset usage quotas with firm-level heterogeneity in transaction costs can be consistent with observed EU ETS behavior. Annual compliance data from Phase I and II of the EU ETS are used to support the consistency of the theory.

This chapter describes the “old” model of cap-and-trade policy design that largely controlled emissions trading policy from its origins in the 1970s through the 1990s, under which emissions trading programs were adopted reluctantly, and “grandfathered” emissions allowances to current emitters at no cost. It also describes some important events starting in the 1990s that helped lay the groundwork for the sudden switch to auctions in RGGI, including: greater attention to allocation rules by political actors, new precedents such as spectrum rights auctions and severance taxes on some nature resources, new political and economic pressures from electricity deregulation, and the emergence of “public benefit” charges and programs to improve energy efficiency for consumers. In addition, this period saw the emergence of new polluter pays and public ownership normative frames in the context of emissions allowances. At the same time, the chapter documents how these initial changes were insufficient to successfully promote allowance auctions in the development of two prominent cap and trade programs: the initial phase of the EU ETS from 1998-2005, and the NOx Budget emissions trading program from 1994-2005.