Montreal Ccpolicy July2 2010 Presentation

8/8/2019 Montreal Ccpolicy July2 2010 Presentation

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From Kyoto (1997) to Copenhagen (2009), striking contrastbetween

ambitious targets for ... 2050

[in conformity with IPCCs objectives]

very modest commitments for 2020.

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From Kyoto (1997) to Copenhagen (2009), striking contrastbetween

ambitious targets for ... 2050

[in conformity with IPCCs objectives]

very modest commitments for 2020.

Copenhagen did not bring waiting game to a halt.

What are the implications?

What should roadmap be?

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Outline

I. The cost of delaying negotiations

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Outline


II. Economic principles

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Outline



III. International governance

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Outline




IV. Negotiation and compensation

compensation

piecemeal policies affecting incentives to join an agreement

(CDM, BTA,...)

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Outline




IV. Negotiation and compensation

compensation

piecemeal policies affecting incentives to join an agreement

(CDM, BTA,...)

V. Roadmap for future negotiations

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I. THE COST OF DELAYING NEGOTIATIONS

Copenhagen: The waiting game goes on...Vague promises may not be abided by.

What will happen before a binding agreement is reached?

Free riding: excessive emissions in the meantime

[exacerbated by leakage problem: goods, plants, oil,...]

Strategic moves in the anticipation of future negotiation.

Beccherle-Tirole 2010. Related and interesting work byHarstad 2009.

[Also Buchholz-Konrad 1994.]

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ON FREE RIDING

(a) Some regional initiatives, though

[China, India, Mexico, Brazil,.... ETS systems in Europe, USA, Japan,...]

collateral damages (CO2/SO2)

some internalization by very large countries (China)

placate public opinion at home, avoid international pressure(double signal).

[some officials are truly committed.]

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ON FREE RIDING







(b) Metric? How do we know whether such actions achieve 20%or 80% of what should be achieved?

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ON FREE RIDING







(b) Metric? How do we know whether such actions achieve 20%or 80% of what should be achieved?

(c) Screening: countries which intend to abide by their promiseswould benefit from binding agreement.

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STRATEGIC MOVES: failure to reduce tomorrows abatement cost

technological feasibility set

[green R&D]

installed base of polluting equipments (including housing,transportation)

[standards, current investments in power plants, early actions to phase out polluting

equipments, etc.]

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[green R&D]



equipments, etc.]

domestic allocation of property rights

[forward or bankable allowances]

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[green R&D]



equipments, etc.]

domestic allocation of property rights

[forward or bankable allowances]

Current emissions

Strategic moves

Today

Negotiation andenforcement of abinding agreement

Tomorrow(past 2020? 2030?)

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d


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2 periods: t = 1,2.

Ignore date-1 emissions. Uninteresting (but will have tointroduce them when studying bankable permits).

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2 i d 1 2


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2 periods: t = 1,2.


2 regions: i = A, B.Generalizes to n regions.

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2 i d t 1 2


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2 periods: t = 1,2.


2 regions: i = A, B.Generalizes to n regions.

Date PolicyGrosspayoff

1ai1 (if high: less environmentally friendly)chosen non cooperatively

Ui1(ai1)

2

ai2= actual emissions. Chosen

cooperatively if agreement, noncooperatively if no agreement

Ui2(ai1, ai2)

Uit increasing in its argument(s)

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Damage cost : cia2 = ci

aA2 + aB2

c cA + cB

(extension: convex cost)

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Damage cost : cia2 = ci

aA2 + aB2

c cA + cB

(extension: convex cost)

Main assumption (satisfied in all applications):

The marginal utility of polluting in the second period is decreasingwith the first-period pollution control:

2Ui2ai1a

i2

> 0.

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Th t t i ff t


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Three strategic effects...

effect: most potent when:

brinkmanship[high pollution if negotiation breaks

down extract more surplus]

bargaining power high

effort rebalancing[high pollution if negotiation breaksdown reduce investment today]

bargaining power low

raising rivals cost[convex environmental cost

or leakage

Stackelberg-like commitmentto high emissions ]

bargaining power low

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... concur to generate high post-agreement pollution.

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Application to regional cap and trade initiatives


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Application to regional cap-and-trade initiatives

Will the anticipated merger of regional ETS suffice to contain

future pollution?

forward allowances: ai1 = number of forward allowances

ai2 = ai1+ [# of date-2 spot allowances]

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Application to regional cap and trade initiatives


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Application to regional cap-and-trade initiatives

Will the anticipated merger of regional ETS suffice to contain

future pollution?

forward allowances: ai1 = number of forward allowances

ai2 = ai1+ [# of date-2 spot allowances]

bankable allowances:

State issues ni1 permits at date 1. Private sector banks ai1 permits.

Intertemporal arbitrage condition

(example: demand function stationary and no discounting)

n

i

1

a

i

1=

ai

2ai

1forwards now chosen endogenously by private sector

[Waxman-Markey]

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Forward allowances:

In the absence of date-2 negotiation or under an early (date-1)agreement, no forward allowances: ai1 = 0

[response to the Coasian commitment problem]

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Forward allowances:



Delayed negotiation: ai1 > 0

brinkmanship: credible threat to have more permits

around under breakdown of negotiationeffort rebalancing: sell forward allowances at high,

post-negotiation price instead of low,negotiation-breakdown one.

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F d ll


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Forward allowances:



Delayed negotiation: ai1 > 0

brinkmanship: credible threat to have more permits

around under breakdown of negotiationeffort rebalancing: sell forward allowances at high,

post-negotiation price instead of low,negotiation-breakdown one.

Bankable allowances: similar overprovision.

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II. ECONOMIC PRINCIPLES


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Lets dream: an all-encompassing agreement.

(1) Price coherency: one price

worldwide

identical for all sectors

consistent across time

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Lets dream: an all-encompassing agreement.

(1) Price coherency: one price

worldwide

identical for all sectors

consistent across time

SIMPLE AND EFFICIENT

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Some first implications


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no sectoral discrimination; in particular no distinction basedon likely speed of accrual of carbon-free substitute

technologies or on elasticities of demand;

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environmental taxes, standards and permits must reflect thesame carbon price;

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environmental taxes, standards and permits must reflect thesame carbon price;

uniqueness should also apply to subsets of actions.Example: Need to introduce market mechanisms forrenewable energy targets and standards

[ e.g., 20% European target for 2020

car standards.

Improve flexibility mechanisms.]

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(2) Cap-and-trade


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Avoidance of distortionary rules

no free permits for new entrants/projects,

no loss of permits in case of shutdown.

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(2) Cap-and-trade


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Bankability

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(2) Cap-and-trade


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Bankability

Auctioning of permits

[(1) no precedent for future grandfathering; (2) avoids windfall profits]

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Digression: Redistributive aspects can be dealt with through


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revenue-neutral auctions (generalization ofgrandfathering mechanisms). For example, firm kpays:

p

nk n

0

k

n

n0

equilibrium

price ofpermits

number of

permitspurchased

initial

pollutionlevel

ratio of pollution capover historical level(n = nk and n

0= n

0

k)

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Digression: Redistributive aspects can be dealt with through


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revenue-neutral auctions (generalization ofgrandfathering mechanisms). For example, firm kpays:

p

nk n

0

k

n

n0

equilibrium

price ofpermits

number of

permitspurchased

initial

pollutionlevel

ratio of pollution capover historical level(n = nk and n

0= n

0

k)

Distinguish

allocative efficiency (number n of tradable permits)

redistributive issues (n0k).

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(3) Long horizon (30 years?)

[SO2: 30 years; ETS system for CO2 in Europe 2005-2007, 2008-2012, 2013-2020.]

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(3) Long horizon (30 years?)

[SO2: 30 years; ETS system for CO2 in Europe 2005-2007, 2008-2012, 2013-2020.]

Need for long-term visibility for

deployment[lifetime: 20 to 60 years for power sector; buildings; transportation; forestry; etc.]

R&D

[long lead time: carbon capture and sequestration, 4th generation nuclear power,hydrogen cells, electricity storage, agriculture and technologies that are robust to

climate change, new biofuels for airlines, PV, etc.]

risk management[can exist in 0-net supply, but less liquid market]

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(4) A reasonable amount of commitment to carbon price


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( ) easo ab e a ou t o co t e t to ca bo p ce

Debate seems wrong-headed: too focused on safety valve(price cap)

[If price fluctuations are the concern, bankability and hedging markets may help.]

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(4) A reasonable amount of commitment to carbon price


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( ) p

Debate seems wrong-headed: too focused on safety valve(price cap)

[If price fluctuations are the concern, bankability and hedging markets may help.]

Need for a price floor (possibly an adjustable one).

issue of pollutionpermitsspot (n1) and futures

(nf2

)

private sector invests innovates

new issues of pollutionpermits?

(n2 nf2

)

Today (t = 1) Tomorrow (t = 2)

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Incentive for the authorities to flood the market tomorrow:

collect auction income,

give in to industrys request for new permits,

expropriate innovators (lowers licences prices byincreasing number of permits).

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Building credibility: put options


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g y p p[Laffont-Tirole JPubE 1996a,b.]

Plain vanilla options: Authorities commit to purchase atfloor price.

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[Laffont-Tirole JPubE 1996a,b.]


Criticism: uncertainty (scientific, technological, social,geopolitical)

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[Laffont-Tirole JPubE 1996a,b.]


Criticism: uncertainty (scientific, technological, social,geopolitical)

Optimal policy: provide authorities with flexibility,provided that the latter commit to compensate permitowners (in cash or Treasury securities).

[Example : at 40 e, some options in the moneyat 35 e, some other options also in the moneyetc. ]

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III. SUPPORTING INTERNATIONAL


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INSTITUTIONS

(1) Worldwide cap-and-trade or carbon tax? Economics: lower informational requirements?

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III. SUPPORTING INTERNATIONAL


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INSTITUTIONS

(1) Worldwide cap-and-trade or carbon tax? Economics: lower informational requirements?

Political economy considerations seem to favor cap-and-trade:verification requirements (actual collection, and no

undoing of tax)[permits: suffices to measure countrys emissions]

legal reasons

[Europes unanimity rule for taxes]

commitment/visibility[taxes set every year]

compensation[no trust in fiscal promises]

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(2) S b idi i


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(2) Subsidiarity

Set up a monitoring system that at least tracks country emissions

over time.

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(2) S b idi i


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(2) Subsidiarity

Set up a monitoring system that at least tracks country emissions

over time.

Will lead to local deviations from cost minimization.

Two arguments in favor of subsidiarity:

only total country pollution matters to internationalcommunity

need to get governments on board.

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(3) Enforcing the agreement


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[ Kyoto framework: non-credible penalties.Not easy. WTO: exclusion is costly. Not so for global warming]

Monitoring compliance/enforcement

withhold/freeze some of the countries endowment offutures and use conditionality?

WTO sanctions?

naming and shaming?

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(3) Enforcing the agreement


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[ Kyoto framework: non-credible penalties.Not easy. WTO: exclusion is costly. Not so for global warming]

Monitoring compliance/enforcement

withhold/freeze some of the countries endowment offutures and use conditionality?

WTO sanctions?

naming and shaming?

Monitoring indebtedness

[role of IMF. Countries may sell too many permits in futures market.

Similarly, they may not be willing to honor their hedging commitments.]

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(4) Innovation

W ll k l d d h


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Well-acknowledged that

green innovation is needed

credible carbon price provides incentivecarbon price does not suffice, for usual reasons

(spillovers, fundamental/long term research).

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(4) Innovation

W ll k l d d th t


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Need both R&D subsidies and public support to greenresearch.

[More so then in other sectors? Acemoglu et al 2009, Grimaud-Roug 2008]

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(4) Innovation

W ll k l d d th t


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Faces same issue as carbon price: free-riding (externality is

on non-appropriable part).

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(4) Innovation

W ll k l d d th t


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Faces same issue as carbon price: free-riding (externality is

on non-appropriable part).

Location of top-notch research. How to form internationalconsortium and secure its funding?

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IV. COMPENSATION/NEGOTIATION


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Financial transfers (to G77, green fund, etc.) transparent andunrealistic.

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IV. COMPENSATION/NEGOTIATION


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Financial transfers (to G77, green fund, etc.) transparent andunrealistic.

Historically, compensation at national or supranational levels

has operated through the allocation of permits.

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The transition: putting pressure to get on board


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Country i will get on board if:

is welfare on board affected by allocation

of permits or of auctionrevenue

is welfare outside the agreement affected by

signatoriespollutiontargets, sectoral policies,project-related policies(CDM,...), etc.

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1) Clean Development Mechanism (per project approach)

[allows investors in Annex I countries to subsidize [Kyoto-signatory] LDC projects


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y g y p j

that lead to a reduction of GHG emissions, in exchange of CERs]

Benefits

additional development aid (way too little)market-based approach that may take advantage of lowmarginal abatement costs in South.

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1) Clean Development Mechanism (per project approach)

[allows investors in Annex I countries to subsidize [Kyoto-signatory] LDC projects


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that lead to a reduction of GHG emissions, in exchange of CERs]

Benefits

additional development aid (way too little)market-based approach that may take advantage of lowmarginal abatement costs in South.

Drawbackstransaction costs, additionality criterion.Counterfactual: no project? no CDM?general equilibrium effects (forestry)? How comprehensive isthe policy?

incentive to keep high-pollution equipments in operation andnot to enact environmental regulations,reduced incentive to join international agreement.

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2) Border tax adjustment (1)

Provides incentives:


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solves leakage problem (but not overall pollution problem

of non-Kyoto countries)puts pressure on low carbon price countries,

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2) Border tax adjustment (1)



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solves leakage problem (but not overall pollution problem

of non-Kyoto countries)puts pressure on low carbon price countries,

but drawbacks:

protectionism[unilateral moves in general have little appeal ]

measure of carbon content of imports? Based on averageemissions in exporting countrys industry?

[no BTA if can demonstrate virtue? But if mere substitution...]

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Border tax adjustment (2):


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Addressing some concerns about protectionism:

under supervision of independent agency or WTO?economic justification for taxes. For example coherency withpermit price p.

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3) Sectoral agreements

Bottom-up sectoral targets


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[Bali Action Plan]

allow LDCs to earn CERs,no-lose targets (no sanction if not attained)

can obviously be duplicated in overall agreement.

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[Bali Action Plan]



Argument is that approach breaks the problem into pieces.

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[Bali Action Plan]



Argument is that approach breaks the problem into pieces.

Drawbacks

sectoral lobbying

requires N international agreementshow coherent is overall solution?

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V. SUMMING UP AND A ROADMAP


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Define a target

Economics provides much guidance about design. Yet command-and-control mechanisms keep resuscitating.

Separation between allocative efficiency and redistributive concerns:use permits to bring reluctant countries on board.

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V. SUMMING UP AND A ROADMAP


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Define a target

Economics provides much guidance about design. Yet command-and-control mechanisms keep resuscitating.

Separation between allocative efficiency and redistributive concerns:use permits to bring reluctant countries on board.

Pre- and post-agreement gaming

Apply least-cost pressure on non-signatories, whileavoiding self-serving moves by signatories.

Expect substantial gaming during transition.

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Negotiations have stalled, with potentially dramatic consequences.Instead of looking for inefficient patches (sectoral standards,regional markets, extension of CDM, BTA, ...), agree on short-term


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g ) gactions, and

(1) an agreement on a good governance:

a path of CO2 emissions

a worldwide CO2 market

a governance (carrot and stick)

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g gactions, and





(2) a satellite emissions tracking system, to measure countryemissions,

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actions, and






(3) a negotiation process.

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actions, and






(3) a negotiation process.

Abandon CDM at 2015/16 horizon.

In current circumstances, would already be a big success.

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Montreal Ccpolicy July2 2010 Presentation

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