Investment Incentives Under Emission Trading: An Experimental Study

This paper presents the results of an experimental investigation on incentives to adopt advanced abatement technology under emissions trading. Our experimental design mimics an industry with small asymmetric polluting firms regulated by different schemes of tradable permits. We consider three allocation/auction policies: auctioning off (costly) permits through an ascending clock auction, grandfathering permits with re-allocation through a single-unit double auction, and grandfathering with re-allocation through an ascending clock auction. Our results confirm both dynamic and static theoretical equivalence of auctioning and grandfathering. We nevertheless find that although the market institution used to reallocate permits does not impact the dynamic efficiency from investment, it affects the static efficiency from permit trading

Short-Run Allocation of Emissions Allowances and Long-Term Goals for Climate Policy

We use economic analysis to evaluate grandfathering, auctioning, and benchmarking approaches for allocation of emissions allowances and then discuss practical experience from European and American schemes. In principle, auctions are superior from the viewpoints of efficiency, fairness, transparency, and simplicity. In practice, auctions have been opposed by important sectors of industry, which argue that carbon pricing without compensation would harm international competitiveness. In the European Union’s Emissions Trading System, this concern led to grandfathering that is updated at various intervals. Unfortunately, updating gives industry an incentive to change behavior to influence future allocation. Furthermore, the wealth transferred to incumbent firms can be significantly larger than the extra costs incurred, leading to windfall profits. Meanwhile, potential auction revenues are not available to reduce other taxes. By circumscribing free allocation, benchmarking can target competitiveness concerns, incur less wealth transfer, and provide a strategy consistent with transitioning to auctions in the long run

Achieving and maintaining institutional feasibility in emissions trading: the case of New Zealand

Emission trading schemes (ETS) have emerged as a popular climate policy measure and are increasingly advocated as policy instruments to support the transition to a green economy. Using complementary analytical methods, this research investigated the institutional developments and complexities of the New Zealand Emissions Trading Scheme (NZ ETS). It focuses on (1) institutional experience and administrative capacity, and (2) political acceptance during formation, design, implementation, and review. The research answer questions concerning critical conditions that have affected the institutional feasibility of the NZ ETS and the trade-offs in achieving and maintaining institutional feasibility. The experience in New Zealand has demonstrated that bipartisan political support and obliged participant acceptance for an ETS can be achieved and the administrative burden can be kept low through an inclusive consultation process and particular aspects of design to provide more certainty about costs. However, this institutional feasibility has also been a trade-off with other important aspects such as environmental effectiveness, predictability, and legitimacy, posing risks to maintaining political acceptance of the policy design and achieving the longer term objectives of transitioning to a green economy