What price 'comparable effort' on emissions trading?

What would happen if we actually got a global deal on emissions reduction in Copenhagen? Much of the commentary has been on reasons why we won’t. But suspend disbelief just for a moment and consider the implications of “success”.

We’d need to have sorted out who should bear what emissions abatement burden, and how such burdens should be measured (the “comparable effort” debate).

The deal would be national target-based.

On measurement of adjustment burdens, all sorts of emissions reduction metrics have been proposed: reductions relative to some baseline year, reductions relative to “business-as-usual” (BAU) in future, per capita emissions reductions, and others.

There’s been no consensus so far. This has helped prevent an effective global deal on climate policy. But let’s dream on. Even if all countries actually cut a “comparable effort” deal in December, there’s one small problem. It wouldn’t work. Especially if an emissions trading scheme (ETS), a market-based option, is pursued to deliver emissions abatement burden sharing, any “comparable effort” deal will be (an unlikely) Pyrrhic victory.

Do a simple thought experiment. Assume a global deal allocates precise emissions reductions to every country. Assume every country introduces an ETS-based emissions “cap” sufficient to deliver these reductions. Every country faces significant greenhouse gas emissions prices. However, there’s zero chance these prices will be the same in every country.

Targets have been negotiated based on the quantity-focused measures noted above. They’ve probably ignored emissions intensities of national resource endowments. Even if they try to allow for these, they aren’t designed to equalise emissions prices globally.

Now, under this hypothetical agreement, ETS models (for example, the CPRS) go to work.

Global trade in emissions permits drives “carbon arbitrage” between countries. Permit buyers go to lowest-price markets first. Prices there rise. Sellers move to highest-price markets. The high prices in countries with the toughest targets (mainly developed economies) fall.

Countries with above-average emissions prices don’t meet their emissions targets, “importing” emissions permits from low-price countries. The latter exceed agreed emissions reductions. In the former, emissions prices settle lower than targets warrant. In the latter group, they end up higher.

Compliance with agreed national targets is undermined as national allocations of permits shift through “carbon arbitrage” trading between countries. A globally uniform emissions price is established as a result of this arbitrage. The actual distribution of emissions reductions shifts to reflect this.

Market forces, working through the ETS itself, undermine national emissions reduction targets negotiated in ignorance of their market implications.

Globally, the same emissions reduction would be delivered. However, these “carbon arbitrage” developments will shuffle agreed emissions reduction burdens from rich to poor countries, destroying the carefully negotiated pattern of national emissions reductions comprising the global deal. This will probably end up destroying the deal itself.

If this outcome is foreseeable, assuming success in Copenhagen is unrealistic.

By definition, ETS supporters believe in market forces. If so, we’d better focus on how policies like the ETS and carbon taxes aim to reduce emissions: by increasing their price. Emissions prices tend to equilibrate under market forces.

Emissions prices have another advantage. National emissions prices are more easily discovered, making assessment of “comparable effort” easier.

There’s a better way to benchmark “comparable efforts” and reduce impediments to a global deal. Focus on emissions prices and on national emissions consumption, not production.

Sharing the adjustment burden between rich and poor countries (the former having higher per capita consumption “carbon footprints” and therefore higher per capita adjustment costs) would be easier.

Differences in national comparative advantage based on energy sources with high greenhouse gas emissions would be covered fairly. If there’s a global deal, reduced comparative advantage associated with large greenhouse gas emissions is greatest for countries well endowed with such resources.

For countries like Australia, adjustment burden and resource allocation effects would follow one of two paths.

Without a global deal, Australia’s trade comparative advantage is minimally affected.

With a global deal, Australians face two above-average adjustment burdens. We have high per capita emissions consumption. Our comparative advantage is based partly on endowments of emissions-intensive energy. A global deal ensures Australians, per capita, pay substantially for emissions. Fair enough. To suggest Australians should pay without such a global deal is nationally irresponsible.

Why pursue the current targets-based model? Success via agreement on the national distribution of emissions permits immediately produces failure via “carbon arbitrage”.

Want a good, practical, reasonably objective, pretty fair, indicator of national emissions abatement “comparable effort”?

It’s the price paid for national emissions consumption in each country