Column: No longer termed a 'failure,' California's cap-and-trade program faces a new critique: Is it too successful? - Los Angeles Times
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Column: No longer termed a ‘failure,’ California’s cap-and-trade program faces a new critique: Is it too successful?

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Sometimes it seems as if California’s cap-and-trade program can’t catch a break.

It wasn’t so long ago that critics were blasting the program as a failure. Its fortunes seemed to hit bottom at the state’s May 2016 auction of emission allowances, each of which carries the right to pump one ton of greenhouse gases into the atmosphere. Only 11% of the allowances offered at that auction were sold. Only one-third of the inventory sold at the next auction three months later.

Since May 2017, however, every allowance put up for auction has been snapped up. But that has inspired another concern: Industries could buy and hoard so many allowances to emit greenhouse gases now that they might not need to actually reduce emissions in the future, when the state’s emission target becomes especially stringent. A 2016 law established an ambitious target of reducing greenhouse gas emissions to 40% below 1990 levels by 2030.

This is the best-designed program in the world.

— Dallas Burtraw, Resources for the Future

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“The allowances don’t expire, and there are more than are needed now,” says Chris Busch, director of research at the San Francisco think tank Energy Innovation, who has been sounding an alarm about an “oversupply” of allowances. “A large proportion of what cap-and-trade is supposed to do could be subverted.”

Busch’s argument has been widely debated. Among its challengers is the California Air Resources Board, which manages the cap-and-trade program. “‘Oversupply’ is a term we do not use here,” Rajinder Sahota, a branch chief overseeing the program, told me. She called Busch’s analysis “theoretical” and said the board has regulations in place that make hoarding on the scale Busch projected unlikely. But the Legislature takes the issue seriously and has instructed the board to examine the potential for hoarding.

It’s an important debate. Cap-and-trade is a linchpin of a regulatory regime that has placed California in the forefront of the battle against climate change through restrictions on greenhouse gases. The stakes have never been higher: Not only are the consequences of climate change beginning to be seen around the globe, but the federal government has all but withdrawn from the fight. Trump’s Cabinet agencies are staffed by climate-change deniers, and government policy has shifted back toward promoting fossil fuels such as oil and gas.

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California’s efforts are, consequently, being closely scrutinized and have attracted widespread praise. California’s cap-and-trade “is the best-designed program in the world,” says Dallas Burtraw, a senior fellow at Resources for the Future, a Washington environmental think tank.

Regulators basically have two ways to reduce pollution: They can order industrial emitters to take specific steps such as installing clean-air equipment, a concept known as “command and control,” or they can offer incentives to get industries to act voluntarily.

Cap-and-trade is an example of the latter. The California Air Resources Board has established a statewide limit on emissions from the industries covered by the law, which produce about 80% of the state’s output of carbon dioxide and other greenhouse gases. That’s the “cap” part.

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Companies can operate within their emission limits by cutting back activities, installing antipollution equipment, or buying emission allowances at the cap-and-trade auctions or trading existing allowances with each other. The inventory of allowances offered for purchase at four state auctions per year is progressively lowered and the minimum price raised. In 2018, allowances for the emission of 358.3 million metric tons of carbon dioxide equivalent will be placed on the market. The “cap” falls to 346.3 million in 2019 and 334 million in 2020. The minimum price of a permit rises at 5% per year plus inflation.

That means that a company figuring its cost for pollution control equipment at less than $14.76 per reduced ton — the price at the latest auction in November — presumably would buy and install the equipment; if the cost would be higher, it would buy the needed allowances. The goal is to hold businesses to their emissions targets while providing them flexibility.

California’s program has had its ups and downs. It’s a perennial target of the California Chamber of Commerce and political conservatives, who view it as a business tax by another name. The payments collected for allowances go to the state government, which is bound by law to spend the money on programs battling climate change. Through 2017, that sum came to $6.5 billion.

The program’s nadir in mid-2016 reflected doubts about its future more than misgivings about its design. At the time, a state appeals court was pondering a Chamber of Commerce lawsuit challenging its legality, and the Legislature was debating whether to continue the program past 2020. Eventually, the court dismissed the lawsuit and the Legislature extended the program through 2030. Once the uncertainty lifted, the market for allowances roared ahead.

In a sense, cap-and-trade has been a victim of California’s success in reducing greenhouse gases faster than anyone anticipated when the program was launched in 2012. A slow economy played a role, as did advances in antipollution technology, especially in electricity generation, and the growing popularity of electric cars among California drivers.

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Critics say those factors are what have left the system with an oversupply. If they were bought up by industry now and held beyond 2020, Ross Brown of the state Legislative Analyst Office warned during a state Assembly hearing on Jan. 4, “the number of banked allowances could be significantly higher than the 2030 annual target.” The incentive to actually reduce emissions between now and then might disappear.

The main problem, Busch says, is that allowances have no expiration date, so in principle they can be banked indefinitely. In a report last month, Busch recommended that the Air Resources Board consider reducing the allowance cap more sharply year by year to eliminate the overhang. Other options include reducing the value of the allowances as they age, to discourage industry from holding them for the long term.

Not everyone regards the prospect of hoarding to be so dire. The Air Resources Board’s Sahota observes that hoarders would have to tie up an enormous amount of capital for many years to take advantage of the supposed overhang — at $15 per allowance, the 11 million allowances that any individual business is permitted to hold at any one time would cost that buyer $165 million.

“We’re just not seeing that behavior in the marketplace,” she told me.

Others say that tightening the emissions cap to reduce an oversupply of allowances would merely drive up the price. That could put the cap-and-trade program in greater jeopardy.

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One flaw in the “oversupply” argument is that future demand for allowances is unpredictable — so taking action prematurely could throw the market out of balance. “The real threat to the program,” says Severin Borenstein, an energy market expert at UC Berkeley’s Haas School of Business, “is that we get to a high price level and have a political crisis, because people are not willing to pay 60 or 70 dollars” per ton of emissions. “Regulations that are seen as overly harmful to the economy would set climate policy back both locally and globally,” he wrote recently.

Air Resources Board Chairwoman Mary D. Nichols made a similar point at the Assembly hearing on Jan. 4.

“There is always a tension between the desire to keep prices moderate and predictable,” she said, “versus the desire to use the price of allowances to drive even more aggressive” reductions by industry. The board opted to take a light-handed approach that keeps allowance prices within a narrow band. The program was designed to send the message to industry “that you need to keep investing and be investing now in things that are going to reduce emissions over the long run.”

The cap-and-trade program isn’t perfect; no system of managing fluctuating supply and demand could be. But it has worked as a crucial element of California’s portfolio of climate-change policies. We should accept that it’s a success.

Keep up to date with Michael Hiltzik. Follow @hiltzikm on Twitter, see his Facebook page, or email [email protected].

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