Recognition of Property Rights in Carbon Credits Under California's New Greenhouse Gas Cap-and-Trade Program

Author:John Monterubio
Position:J.D./M.B.A. candidate, May 2014, at the American University Washington College of Law and Kogod School of Business
by John Monterubio*
Although the United States has not yet adopted a national
greenhouse gas cap-and-trade program,1 carbon trading
is nonetheless an active industry.2 Private companies
continue to participate in voluntary carbon markets despite the
closure of the Chicago Climate Exchange.3 On the east coast,
the Regional Greenhouse Gas Initiative (“RGGI”) forges into its
seventh year,4 while in the west, California, a pioneer of cap-
and-trade,5 launched its own statewide greenhouse gas cap-and-
trade program.6 While these state efforts to curb greenhouse
gases are laudable, the disparate cap-and-trade programs have
yielded inconsistent definitions of carbon credits. To promote
efficiency in this new market, buyers and sellers must be assured
of their rights over the carbon they trade.
Similar to most cap-and-trade markets, California authorizes
the sale of carbon credits.7 Also referred to as carbon offsets,
carbon credits are reductions in greenhouse gases sold to “off-
set” the purchaser’s greenhouse gas emissions.8 The voluntary9
and statutory cap-and-trade markets have different requirements
regarding what activities qualify as carbon credits.10 California’s
new program currently authorizes the sale of carbon credits
generated via capturing methane produced from livestock, elimi-
nation of ozone, and reforesting barren land or urban areas.11
By reducing greenhouse gas emissions, these activities become
valuable to their “owner” in the cap-and-trade market.
California law specifically states that a carbon credit is not a
property right,12 most likely to avoid implications of the Takings
Clause under the cap-and-trade market.13 If a carbon credit were
considered property, then California would have to compensate
the owner if it ever revoked a carbon credit.14 As a result, the
cost of revoking carbon credits may hamper California’s abil-
ity to achieve its goal of reducing greenhouse gas emissions15
through the cap-and-trade program.16
However, states that do not administer cap-and-trade programs
have different views on carbon credits. In Louisiana, the U.S. dis-
trict court held that the right to report, transfer, or sell carbon cred-
its was enough to designate them as part of property’s “bundle of
rights.”17 The fact that the carbon credits in question had not been
registered in any exchange was irrelevant.18 In fact, no exchange
even need exist for these rights to arise.19 The court compared the
carbon credits to junk bonds, or low-grade investments with a low
likelihood of return, but potential for a high yield.20 Accordingly,
the court implied that the potential value of carbon credits is what
makes them part of property’s “bundle of rights.21
Although the divergent definitions of carbon credits
in California and Louisiana are irrelevant to carbon credit
transactions occurring within California, sellers of carbon
credits outside the state may need to be wary. California’s cap-
and-trade market accepts carbon credits generated from other
U.S. states, Canada, and Mexico.22 Thus, if a carbon credit from
Louisiana were accepted into California’s market, the credit
would have two distinct legal statuses: as property in Louisiana,
but as non-property in California. If a dispute were to arise, the
owner’s rights over the allowance may be different depending on
the state of adjudication.
This potential for disputes will only increase in the future as
California anticipates linking its market with other cap-and-trade
markets.23 California and Quebec are currently in negotiations
and hope to link their markets before the end of the year.24 British
Columbia and Ontario are also considering linked markets with
California.25 As this market for carbon credits grows, the number
of transactions will arguably increase, raising the likelihood that dis-
putes among traders will find their way into a court room. Different
jurisdictions’ interpretations of ownership rights over carbon credit
could make these disputes more contentious. For this reason, ensur-
ing uniform ownership rights over carbon credits is important to the
efficient functioning of the cap-and-trade market.26
Private traders should clearly define the property rights
assigned to carbon credits and name the relevant jurisdic-
tion within the terms of a sales contract to avoid disputes. By
addressing the issue contractually, traders will limit the risk
arising from uncertain ownership definitions. While contractual
provisions may quell disputes between private parties, they will
not prevent disputes against the government. California can limit
such disputes by adopting a regulation within its cap-and-trade
system that requires any seller of a carbon credit generated
outside of California to recognize that the carbon credit carries
no property rights, regardless of the law in the state of origin.
However, such a requirement may be unconstitutional under the
commerce clause,27 as it would require a seller to disaffirm a
right to engage in interstate commerce with California.28
Certainly, the ultimate resolution would be for Congress to
adopt a national cap-and-trade program. Such a program would
impose a uniform definition of carbon credits among all traders
within the United States. But, until Congress adopts such a pro-
gram, the issue, as with greenhouse gas reduction, will be left to the
states and private parties.
* John Monterubio is a J.D./M.B.A. candidate, May 2014, at the American
University Washington College of Law and Kogod School of Business.
Endnotes on page 64