Carbon cap and trade systems are regulations in which countries, provinces, states, and even cities, set a limit (a cap) on the amount of carbon dioxide and other greenhouse gas (GHG) emissions industries/ power plants can emit. Carbon pricing plans incorporating an emission trading system (ETS) are commonly referred to as carbon cap & trade systems in the U.S, although the term also applies to similar systems in Europe, as well as elsewhere globally where an ETS is legislated for any administrative area. [In this article, we will treat cap and trade systems and ETS as synonymous].
Utilities and industries in areas where cap and trade legislation have been mandated are subject to an ETS; which is the regulatory system that details what limits for GHGs industries have, and the value of carbon permits. Carbon-intensive industries that are considered for inclusion in emission trading systems include: fossil fuel power plants & oil/ gas refineries (always included in carbon pricing systems), and/ or fossil fuel intensive product manufacturing companies, and/ or cement and steel manufacturing industries, and/or transportation sectors that rely on fossil fuel energy (such as long-haul shipping including heavy trucking, ocean freight shipping, & aviation).
Governments may either “grandfather in” GHG allowances (essentially give away permits based on past GHG production), or auction permits off. Carbon pricing has a few purposes that benefit people generally; it can be used for the public good through encouraging/ increasing sustainability measures such as renewable energy projects and energy efficiency projects.
The primary function of carbon pricing is to lower greenhouse gases, fight climate change, and therefore benefit all of humanity. An ETS, and/ or a carbon tax, makes using dirty fossil fuels more expensive, thereby encouraging utilities and industries to reduce consumption of fossil fuels and increase energy efficiency. An ETS and/ or a carbon tax also makes renewable energy a more attractive option than fossil fuels economically (adding economic benefits to the environmental benefits of renewable energy).
In an ETS that does use auctions, auctions for carbon permits (one carbon permit is usually = to 1 metric ton of CO2) establish a price on carbon. ETS with auctions are much more effective than systems where carbon credits are just ‘”grandfathered in”. The cost of carbon permits, or GHG emission permits, is essentially the price of carbon in these systems. As GHG emission permits are auctioned off, a price on carbon is established.
Companies can also keep carbon credits for future use in trading, or for their own allowances. For companies that run over their GHG emissions limits and don’t cover their allowances, a fine is often imposed. Carbon cap and trade systems are usually designed to adjust the cap annually and limit GHGs, gradually reducing the allowable limit of GHG pollution for those industries targeted by the cap and trade system.
Carbon Offsets are a vital part of making ETS work; allowing companies to invest in international sustainability projects in order to furfil their GHG reduction obligations. There are trades that offset GHG emissions in cap & trade systems; such as trades for credits with companies that have, or invest in – forestry projects, renewable energy, energy efficiency, green building, and sustainable transit projects. Sanctioned GHG offsets also include investment in reforesting or projects that work to limit deforestation, or trades with companies that have livestock projects that incorporate sustainable practices, or with companies that invest in “clean coal” technologies such as carbon capture and storage (CCS) or other carbon sequestration measures.
To make cap and trade systems even more effective, there should be even more offset credits allowed in these systems for trades with companies that implement GHG emission saving renewable energy and energy efficiency technologies like: solar and wind farms and/ or other renewable energy projects, CCS, integrative gasification combined cycle (IGCC), anaerobic digestion (AD), combined heat and power (cogeneration) (CHP), etc…
Carbon offsets can be purchased by individuals, non-profit organizations, and private businesses of every size, from small businesses to large international companies, and even governments; in order to lower their net carbon footprint and/ or in order to support sustainability efforts worldwide. Carbon offsets help balance out global GHGs and other environmental degradation; for instance damage to the environment wrought by companies which commit deforestation, and companies which are reliant on fossil fuels, are a partial solution to the deforestation problem.
Carbon offsets for reforestation, planting trees, and other conservation projects provide fossil fuel intensive companies a “nature-based” offsetting solution; as trees, plants, and wilderness ecosystems, sequester carbon. Ideally, carbon offsets should be valued and calibrated to truly offset the company’s emissions, as reflected in the company’s investment in the offsets.
“Nature-based” carbon offsets act as land sinks, optimally sequestering carbon to the degree the company purchasing the offsets is emitting carbon – but, this depends on how the “nature-based” offsets are valued. Renewable energy and energy efficiency projects have the potential to directly lower emissions of the company, if the investments are made for the company itself. Otherwise, the carbon offsets are valued as creating “avoided emissions” by investing in a 3rd party company’s renewable energy and energy efficiency projects.
In many cases, carbon offsets are purchased by international companies in industries running polluting factories, using carbon-intensive fuel for energy, and manufacturing fossil fuel intensive products; and this often includes companies involved in deforestation. Some offsets often formally offered in emission trading schemes globally include: forestry projects (like planting and caring for trees; restoring, maintaining, and protecting forests and their ecosystems), as well as renewable energy and energy efficiency projects worldwide.
The amount of carbon offsets required for a company to purchase in an emission trading system (ETS) is proportional to the amount of pollution, GHGs, released by the company involved in the ETS; and should also be measured by the deforestation that a company commits, and the subsequent effect of that behavior by the company on the environment. However, as of now, most ETS around the world only use the amount GHGs released by companies, not deforestation, as a metric to assess a companies’ responsibility for purchasing carbon offets. ETS, and other carbon pricing mechanisms (such as a carbon tax), can be mandated by states, provinces, and entire countries.
For some companies, it might make more financial sense and be more cost-effective to make the effort to reduce emissions through emission saving and energy efficiency technologies and/ or expanded use of renewable energy; and then sell their permits to companies that are over their GHG limit. However, usually, most companies tend to buy carbon permits if it’s cheaper to buy them than to try to lower emissions. Carbon permits can be invested in by businesses, industries, or even the public in some regions, via a carbon futures market.
Global carbon pricing markets
Carbon pricing, either as carbon cap and trade systems or a carbon tax, are in effect in over 40 countries and 25 states/ provinces/ cities globally. The largest market for cap and trade is in the EU with the European Union Emissions Trading System (EU ETS). The EU ETS covers more than 11,000 power plants and industrial stations in over 30 countries, as well as airlines. The primary focus of the EU ETS is to fight climate change by lowering GHG emissions.
The EU ETS remains the largest international trading organization for trading GHG emission allowances. The EU ETS has successfully put a price on carbon, with its system of trading allowances of GHG emissions, and has also watched GHG emissions fall by a few percentage points annually since it began in 2005. The cap, or limit, set on GHG emissions will be, on average, over 20% lower on all power plants and industries by 2020 from 2005 levels (when the program started), as the EU continues to make efforts to reduce pollution.
Clean, energy efficient, low-carbon technologies like CCS, IGCC, CHP, and AD, as well as renewable energy, have grown in popularity throughout Europe, in part, because of the rising price of carbon resulting from the EU ETS. Here’s a helpful chart of carbon pricing for various ETS and carbon tax systems around the globe (carbon pricing is usually based on the basic per unit price of 1 metric ton CO2):
All countries deal with cap and trade differently. Most have cap and trade for industry and power sectors. For example , South Korea has cap and trade for heavy industry, power, waste, transportation, and building sectors. China has six provinces testing out cap and trade, and along with South Korea, represents a very large carbon market (with just those 6 provinces China is a large market, the entire country represents the single largest carbon market, by far).
The U.K., France, Switzerland, and the Scandinavian countries Norway, Sweden and Finland, have legislated both carbon tax and cap and trade programs that regulate a broad swath of carbon intensive industries. Finland and Sweden’s carbon pricing systems represent a high enough price per metric ton of CO2 to make a significant difference.
Finland’s carbon tax represents the type of carbon pricing needed to make the substantial impact on industries to stabilize GHGs, as represented in the global carbon pricing chart seen above of select countries’ price of a metric ton of carbon in their ETS or carbon tax. Over 40 governments worldwide have mandated a price on carbon. Here’s another map of carbon pricing systems around the globe:
The nine state agreement in the U.S. northeast, the Regional Greenhouse Gas Initiative (RGGI) is another major carbon cap and trade trading pact, and is, at least partially, based on the pioneering EU program. These states have auctioned off carbon allowances to industries in RGGI states, and have thereby collected well over $1 billion from carbon cap and trade programs, much of which has been reinvested in energy efficiency, renewable energy and other clean energy programs.
Since carbon cap and trade has started in the U.S. northeast, GHG emissions have steadily dropped. Like the EU, this in part due to investment in clean energy technologies, but also because some companies in the U.S. northeast have switched from dirtier fossil fuels like coal to cleaner natural gas generators in power plants, or to renewable energy.
A few current carbon cap and trade markets are:
California cap & trade, linked with Quebec – Western Climate Initiative:
The U.S. Northeast region (RGGI):
STORY – Cap & Trade Shows Its Economic Muscle in the Northeast, $1.3B in 3 Years (Regional Greenhouse Gas Initiative offers blueprint to all states) – By Naveena Sadasivam, InsideClimate News– insideclimatenews.org/cap-trade-shows-economic-muscle-northeast-13-billion-RGGI-clean-power-plan
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