Market for pollution credits starts with basic choices

By DANIEL WEINTRAUB
Monday, March 12, 2007

As California regulators move forward with the state's sweeping plan to cut greenhouse gas emissions, one of the big questions they will face is whether the government should sell or give away the right to dump carbon dioxide into the atmosphere.

Assembly Bill 32, the landmark measure passed last year to put California out front in the fight against global warming, requires the state's industries to reduce greenhouse gas emissions to 1990 levels by 2020.

To get there, state regulators at the Air Resources Board are planning to order some industries to change their practices. Auto manufacturers will be required to make their cars more efficient. Utilities will be forced to produce more of their power from renewable resources. Oil companies will have to make fuels that burn with fewer carbon dioxide emissions.

At the same time, regulators hope to create a market in which companies can buy credits allowing them to pollute. The idea behind this market-based approach is to allow companies to reduce their emission of greenhouse gasses in the most efficient way possible. Some would do it by retooling. But if those measures prove too expensive, a market in pollution permits would allow firms to pay someone else to do more than their share. The state still meets its goal but with less disruption of the economy.

The question is how those credits will be distributed. And that might be a $2 billion question.

The state could simply allocate credits to individual companies based on their historic levels of pollution. Each credit would represent the right to produce, say, a ton of carbon dioxide emissions. The number of credits distributed would be less than needed to continue business as usual, forcing the firms to reduce their pollution. Companies that reduced their emissions faster than required could sell their unused credits.

An alternative would be for the state to sell all or a portion of the credits at an auction. Regulators would determine an acceptable level of greenhouse gas emissions for the entire state and put the credits representing that amount up for sale. Companies would bid for the right to pollute, with the market setting the price from the beginning.

Lenny Goldberg, executive director of the California Tax Reform Association, which lobbies for higher taxes on business, is pushing the Air Resources Board to sell the credits rather than give them away.

"If you really want to get it right, you have to have an auction," Goldberg says.

Goldberg argues that distributing the credits for free based on past patterns would reward companies that have been producing a lot of greenhouse gasses, while penalizing those firms that already have reduced their carbon footprint. The bigger polluters could even make a windfall on the deal by taking easy actions to reduce their emissions and then selling their credits to others.

An auction, on the other hand, would reward companies that have already reduced their emissions, because they would have to buy fewer credits to remain in compliance. And if the state announces ahead of time that the credits will be auctioned, companies that haven't yet acted would have an incentive to do so quickly.

Linda Adams, secretary of the California Environmental Protection Agency, and Catherine Witherspoon, executive officer of the Air Resources Board, told The Bee earlier this year that they believe they have the authority to sell the credits at an auction without further legislation, and they are considering doing so. AB 32 gives the Air Resources Board the power to levy any fees needed to enforce the law.

"We don't see any need for anything else," Adams said. "We don't need any more authority."

An auction would be controversial, however, because it would be the equivalent of a tax increase raising $2 billion or more, depending on the value companies place on the credits. That money would probably be spent to help ease California's transition to a low-carbon economy. Some of it might go back to industry as rebates for improving their operations, or as subsidies for clean-burning fuels. Low-income consumers might see some of it to offset higher utility bills.

As California moves forward, regulators will keep an eye on how other jurisdictions have handled this issue. When Europe created a market for greenhouse gas credits, most of the permits were given away, and the value of the credits crashed because the governments handed out too many. That meant polluters could buy their way out of taking action for next to nothing.

In the northeastern United States, meanwhile, several states are rolling out a joint effort to cut emissions from power plants. There, the group plans to auction most if not all of the credits. Selling the credits, ironically, might turn out to be the least intrusive method of distribution, because it means regulators don't have to evaluate every company's operations to determine each firm's entitlement to permits, with all the lobbying and back-room deals that might entail.

"We'll watch them and see how it goes," Witherspoon said.

And then a lot of people will be watching California.

(Contact Daniel Weintraub at dweintraub(at)sacbee.com.)