Friday, May 11, 2007

Climate change: allocation

Now that the government has decided to go for emissions trading, the debate has turned to the most fraught past of the issue: allocation. This has bogged down past proposals for emissions trading for years in pointless debate as the government has tried to escape the fact that any allocation will annoy someone. I say "pointless" because from a policy point of view, it doesn't actually matter - what's important is the creation of a marginal price on emissions (which is done by the creation of a cap and permits), not who pays who. According to Coase's Theorem the market will all work it out anyway - so why the debate?

The answer is simple: money. While created by the government, emissions permits will be worth money - billions of dollars at expected carbon prices. The debate then is over who gets those billions of dollars: the government, or private industry. The sums involved mean the latter will squeal long and loud in an effort to get a free windfall, and to ensure that it flows preferentially to them rather than their competitors.

It ought to come as no surprise that I favour the government in this. New Zealand's emissions quota under the Kyoto Protocol is a public asset. It should not be given away for free, even by proxy. Instead, permits should be allocated by auction. Ideally I would like to see the revenue from sales recycled to fund other emissions reduction programs and compensate those adversely affected by climate change, but that's not strictly necessary. What's important is ensuring that polluters pay, rather than rewarding them with windfall profits. I'm not opposed to partial grandparenting where there is a significant risk of emissions leakage (as judged under similar criteria to the previous Negotiated Greenhouse Agreements programme), but this should be the exception, rather than the rule. The basic presumption should be that businesses pay the full cost of their pollution, rather than getting a sweetheart deal, and that the rent from establishing the system go to the government to be used for the public benefit, rather than into private pockets.

Some businesses will no doubt complain that being forced to pay the full cost of their activities will drive them to bankruptcy. My response to this is "the sooner the better" - because if the claim is accurate, then it is clear that they were never really profitable in the first place.