While there is a large and growing consensus that CO2 emissions must be reduced, there is a looming battle in Congress as to who will pay for it. While a carbon tax has received some attention, the most likely program to be implemented in the United States is some form of cap and trade. A cap and trade system grants a property right (or permit) to each entity (say firm) as to how much CO2 it can emit. The amount that can be emitted is called a “cap.” The cap and trade program then allows firms to trade these permits amongst themselves. Firms that wish to emit more CO2 than their cap can buy permits from firms who wish to emit less than their cap.
The question is who will pay? If we auction the initial allocation of permits, businesses that emit a lot of CO2 (such as power plants) will have to pay a lot to the government for these permits. If the government gives away these permits, then firms will have a valuable asset (CO2 emission permits) that they can then trade for money. Moreover, if the allocation is based upon current CO2 emission, the government would be rewarding firms who current emit a lot of CO2 and punishing those who are already CO2 efficient. Ultimately, however, taxpayers (if auctioned) or consumers (if given away) will foot part or all of the cost. If cutting CO2 is costly for businesses, they will pass at least some of that cost onto the consumers of the United States. Casey Mulligan, an economist at the University Chicago, nicely articulates these costs in his New York Times blog found at: http://economix.blogs.nytimes.com/2009/05/27/how-much-will-cap-and-trade-cost/#more-14497 .
The question for you: should the government auction these initial permits or should they give them away? What are the political considerations? What are the economic considerations? Read Professor Mulligan’s article and share your thoughts.