Putting a price on carbon: the metaphor.

• Author: Driesen, David M.

1. INTRODUCTION II. INSTRUMENT CHOICE AND PRICE'S ROLE IN THE LITERATURE A. Taxes, Trading, and Traditional Regulation B. The Evolution Toward Price III. WHICH MECHANISMS PUT A PRICE ON CARBON? A. Taxonomic Inconsistency B. Does Traditional Regulation Put a Price on Carbon? IV. PRICING CARBON AS QUASI-IDEOLOGY: TOWARD A THIRD GENERATION Instrument Choice Debate. A. Selective Use of Price as Quasi-Ideology. B. Toward a Third Generation Instrument Choice Debate V. CONCLUSION. I. INTRODUCTION

   In recent years, policy analysts have emphasized the need to "put a price on carbon." (1) And contrary to what analysts usually said years ago, they made clear that not only a carbon tax, but also an emissions trading program, puts a price on carbon. (2) Newspapers picked up on the analysts' rhetoric and began characterizing emissions trading as putting a price on carbon in published stories, helping make this way of characterizing emissions trading quite common by the time the House of Representatives passed the Waxman-Markey bill, which proposed an environmental benefit trading program--conventionally characterized as a cap-and-trade program--to regulate greenhouse gas emissions. (3)

   Amongst economists, equating emissions trading and taxation amounts to praise of emissions trading. (4) Economists view pricing negative "externalities" as an efficient means of correcting "market failure." (5) But few Americans share economists' enthusiasm for taxation of any kind. (6) Political opponents of greenhouse gas abatement seized on the pricing rhetoric and began castigating emissions trading as a tax. (7) This characterization brought carbon abatement through emissions trading within the crosshairs of antigovernment and anti-taxation sentiment in the United States, thereby contributing to Waxman-Markey's defeat in the Senate (probably to the chagrin of most analysts, many of whom have come to recognize climate disruption as a serious problem requiring a remedy, with emissions trading high on their list of preferred approaches). (8)

   This Article examines the meaning of "putting a price on carbon." Some of the older environmental policy literature on instrument choice distinguishes between a pricing mechanism, like a pollution tax, and a quantitative mechanism, like an emissions trading program. (9) This distinction suggests a question: Is the characterization of emissions trading as a mechanism for pricing carbon a technical error? On the other hand, if the pricing characterization properly applies to emissions trading, might it also apply to traditional regulation--often called command-and-control regulation--which, like trading, restricts the quantity of pollution emitted? Analysis of these questions reveals that the pricing language serves as more of a metaphor than a technical description, and uncovers some of the questions at stake in conceptualizing some cost-imposing mechanisms but not others as "pricing carbon."

   This Article shows that the pricing rubric supports a conception of markets and government as antonyms, rather than as overlapping institutions. It also bolsters a discourse that glorifies price--and therefore markets--as uniquely capable of spurring innovation, effectively addressing environmental problems, and supporting private autonomy. I argue that this market essentialism tends to undermine governmental institutions that must function well if we are to have a good society--including effective markets--and tends to obscure questions that we must address in order to effectively choose and design environmental protection instruments.

   In making this argument, I do not mean to suggest that economists involved in this debate consciously intend to glorify markets at the expense of government. Indeed, many of them understand that governments play an important role in market-based mechanisms and in markets more generally. Nevertheless, the conventional ways of characterizing emissions trading, especially in materials likely to come to the attention of policy makers--such as introductions to literature reviews on the subject--have the tendencies I identify.

   This Article calls for a subtle third generation debate on instrument choice and design that goes beyond glorifying or demonizing markets by asking questions about price's capabilities and limitations that can illuminate environmental policy and law. (10) To some extent, that debate has already begun, but a sharp awareness of the limits of price would help move it forward. (11)

   Part I begins with a review of the basics of pollution taxes, environmental benefit trading, and traditional regulation. It discusses the evolution away from a quantity-price distinction in the literature, toward a pricing characterization of environmental benefit trading.

   The stage thus set, Part II critically analyzes the price-on-carbon characterization. It shows that the custom of characterizing trading as involving price relies on an inconsistent analysis of taxing and trading, thus suggesting that something more subtle than technical analysis explains the evolution from a quantity-price distinction to a literature emphasizing pricing characteristics. It also shows that the features of trading that support characterizing emissions trading as a pricing mechanism also support characterizing traditional regulation as a pricing mechanism.

   This recognition that the pricing rhetoric does not perform a merely technical function suggests that selective use of the pricing characterization performs a quasi-ideological function of supporting market essentialism, which treats markets as independent of government, rather than dependent upon it, and glorifies markets as having unique virtues unrelated to how government performs. Part III discusses this quasi-ideology and shows that recognizing that price's virtues must have some limits opens up questions that could lead to a fruitful third generation debate on instrument choice and design.

2. INSTRUMENT CHOICE AND PRICE'S ROLE IN THE LITERATURE

   This section lays the groundwork for analysis of the price-on-carbon characterization by describing the environmental instruments of pollution taxes, emissions trading, and traditional regulation. It then discusses the treatment of these instruments' relationship to price in the instrument choice literature.

   1. Taxes, Trading, and Traditional Regulation

      Taxation serves as many economists' preferred environmental protection instrument. (12) The idea of taxation follows directly from economists' conception of environmental problems as "market failures." (13) They view environmental harm as a "cost" of production and consumption. (14) Unfortunately, conventional markets do not internalize this cost; for example, power plant owners do not take into account the harms pollution causes in deciding how much electricity they produce or how to produce it. (15) Pollution constitutes the quintessential example of an external cost--meaning meaning a cost external to the market. (16) Taxing pollution provides the most straightforward solution from an economic perspective because it forces producers and consumers to internalize the costs associated with its harms. (17) In theory, an optimal tax equals the dollar value of the environmental harms the pollution causes, although in practice, analysts cannot reliably calculate such an optimum because of scientific uncertainty about pollution's effects and weaknesses in monetization techniques. (18)

      With or without optimization, a pollution tax cost-effectively reduces emissions. The costs of pollution control often vary among facilities. (19) Because of this variation, producers will reduce pollution efficiently if the pollution control efforts focus primarily on those with the cheapest pollution abatement options. A tax provides an incentive that encourages those with the cheapest abatement options to lower their emissions. (20) To see this, imagine that the government levies a $100 per ton tax on owners of two polluting facilities, which we will call Cheap and Expensive. At Expensive, the marginal cost of pollution control equals $120 per ton of the taxed pollutant. (21) At Cheap, the marginal cost of pollution control equals $80 per ton of pollution. Presumably, the owner of Expensive would choose to pay the $100 tax and not reduce emissions at $120 per ton, but the owner of Cheap would choose instead to make emission reductions at $80 per ton in order to escape the obligation to pay a $100 per ton tax. The taxation of pollution produces a cost-effective allocation of reductions by encouraging polluters with relatively low-cost abatement options to reduce pollution, while encouraging those with relatively high-cost abatement options to forego pollution reductions. (22) The government chooses the tax rate--and a higher rate will generally produce more reductions than a lower one--but the polluters themselves determine the amount of reductions in response to the incentives the tax provides. (23)

      An emissions trading approach likewise provides for cost-effective emission reductions. Under this approach, the regulator does not establish a price on carbon emissions, as in a carbon tax. Instead, the regulator limits the quantity of emissions permitted in the aggregate. (24) The regulator must then allocate the aggregate emission reduction obligation among regulated sources. (25) Regulators can either allocate these obligations--often called allowances--through some legislative or administrative process: or they can auction off the allowances to the highest bidders. (26) After allocation of the aggregate reductions, polluters can trade their reduction obligations to produce cost-effective pollution abatement. To see why trading produces cost-effective abatement, imagine that the owners of both Cheap and Expensive must reduce emissions by 100 tons. At Expensive, the technological change necessary to produce a 100 ton reduction cost $150 per ton. At Cheap, these reductions...