Can the sale of carbon through new and expanding carbon markets help cut global greenhouse gas emissions and if it can, how much can it contribute to slowing climate change? An award-winning book by three Oxford academics asserts that carbon markets have huge potential to bring about emissions cuts. It examines the role of governments in establishing strong market mechanisms and the regulation they will need to introduce to achieve this objective. The book also looks at related economic factors. Its findings are deliberately summarised in a manner easily accessible to undergraduates.

The book was published in 2009 but, after its glowing review last year, has been named an Outstanding Academic Title for 2010 by Choice, the publication of the American Library Association. Mr Howarth and Dr Eyre belong to Oxford University’s Environmental Change Institute (ECI). In 2009, Arnaud Brohé was a visiting doctoral student at the ECI.

Books asked Nick Howarth and Arnaud Brohé about the book

What is this book setting out to do?

NH: Our book sets out to be an accessible, comprehensive description of the history, market rules and regulatory institutions associated with current and proposed carbon markets around the world. The book is intended for new carbon market participants, regulators or policy makers. It is also intended as a useful resource for undergraduate economics, business or law courses on climate policy.

There are many books which discuss the problem of climate change, policy and politics, and emissions trading at the conceptual level and within a specific geographical area, such as the European Union or the United States. But there was no one book that described all related major developments around the world. Our book allows a comparison of the good, the bad and the ugly – when it comes to the actual implementation of carbon markets. This is particularly important as the differing carbon accounting methodologies, stringency of emissions caps and sectoral coverage of the various schemes means that the oft-quoted ‘a tonne is a tonne is a tonne [of CO2]’ is not true. Not all carbon markets are equal. This understanding is crucial, as without it the carbon market\’s fundamental institution – what constitutes the commodity being traded -what is a tonne of CO2 – may be unstable. This is the greatest risk to carbon markets in the future.

Carbon markets have been viewed by some commentators as a bit of a ‘get out of jail free card’ for developed nations to continue business as usual. Is this view valid?

NH: I think there are two key dimensions to this claim. The first, and valid, concern relates to equity between rich and poor people. By commoditising and placing a value on carbon (either through a tax or emissions trading) we say that it is OK to emit carbon as long as you pay for it. The problem with this arises due to the diminishing marginal utility of income and wealth. If you only earn $100 (£60)a month, paying $10 for your emissions is a very different matter than if you earn $1000 a month. Asking someone to pay $10 if they have $100,000 sitting in the bank is also different to asking a person with no assets. The developed world is also responsible for around two thirds of historical anthropogenic emissions which have lead to atmospheric concentrations of around 400 ppm CO2-e compared to pre-industrial levels of around 273 ppm CO2-e in 1850. For these reasons, justice requires that we differentiate the responsibility between rich and poor, and between industrialised and developing countries. If you ignore these elements of justice, you effectively say that if you are rich you have the choice to keep polluting as long as you pay for it and you appropriate the rights to use the environment for those who have the ability to pay. Some people might argue that this is justified on efficiency grounds and it is better to address social equity concerns through direct payments, rather than through environmental policy. However, ignoring justice in this way is unlikely to be politically tenable.

The second but less valid dimension to this claim relates to the idea that buying carbon offsets is akin to buying ‘indulgences from the church for your sins’. Commentators argue that carbon emissions are morally bad and that it is wrong to pay someone to clean up after your carbon pollution. However, this argument seems flawed from both a philosophical and intuitive perspective. Reducing carbon emissions is fundamentally different from other moral issues such as murder, stealing or sleeping with your neighbour’s wife. It doesn’t matter how much money you pay for good works or time you spend in penitence. If you commit one of these other acts you cannot bring someone back to life or take away the sense of loss or pain you inflict on your victim once the act is done – even if you ‘more-than-make-it-up’ to society later. It’s impossible to put the toothpaste back in the tube, so to speak. With carbon emissions on the other hand, it makes no difference whatsoever to the stability of the climate whether you choose to reduce your emissions by catching public transport or keep driving your car to work but offset those extra emissions.

The atmosphere doesn’t care where or how emissions are reduced, what matters is the net quantity of carbon going in and being taken out each year. This view is supported by the notion of consequentialism – that the ends justify the means. However, even if one takes a stronger moral position and places a value on the character of one’s actions, what seems to be intuitively important is not imposing moral judgments on someone who takes long showers or drives to work (what if they use solar hot water or drive an electric vehicle powered by renewable energy?) but on decisions relating to how much effort each person puts into finding low carbon alternatives. While reducing your own emissions where you can is certainly ‘good’, often it is not practical or even possible to effectively reduce some categories of emissions and paying (or voting) for others to do it for you is not any less ‘good’. Of course, this all assumes that the carbon offsets are ‘real’ and not some accounting trick hashed out in a political deal – but this is separate from the issue of the ‘morality’ of buying offsets.

It is also worth noting that at the recent United Nations climate talks in Cancun, it was developing countries that were among the most vocal supporters for the continuation of emissions trading. This is because emissions trading, through institutions such as the Clean Development Mechanism, has facilitated significant new low carbon investment in developing countries. Such investments are less likely to occur if developed countries adopt carbon taxation policies.

You have been criticised as being ‘cheerleaders’ for carbon markets? How do you respond?

NH: We are not cheerleaders for anything. There is no silver-bullet climate policy and our book points out the problems with emissions trading as much as it highlights success stories.

Some people like to focus debate on the theoretical or ‘optimality’ conditions of taxes over emissions trading or other more ‘command-and-control’ based policies. My view is that in practice the most appropriate policy response will vary depending on the maturity of the technology you wish to encourage; the path dependent and behavioural barriers working against the ‘ideal’ operation of the market; the existing structure of industry; the natural endowment of physical and human resources in a country/region; whether you think climate justice is important; and not least, the political and organisational capacity for action.

Having said this, over the last 15 years carbon market legislation has been passed by the European Union, at the state-level in the United States and Canada, at the state level in Australia, in New Zealand, in Japan and the emissions trading mechanisms of the Kyoto Protocol have established institutions to support the accounting and trading of emissions in countries such as China, Brazil, South Africa, India, Indonesia and more. The state of California’s proposed ETS is the latest in a series of new schemes. Where official markets lag behind, voluntary markets also have sprung up in countries such as the United States and Turkey to fill the gap. This multi-billion dollar undertaking is probably society’s most ambitious attempt to realign the inter-related systems of human interaction by which we organise our lives (the market) in order to protect the environment.

The trend towards emissions trading is driven by market forces – self interest and fear – as firms and countries position themselves in a carbon constrained world. First, emissions trading encourages businesses to account for their carbon. Companies that do so may then capture the value that reducing emissions presents. The ‘Porter Hypothesis’ also provides evidence to suggest that accounting for carbon can actually boost productivity by encouraging energy efficiency, increasing profits and employment possibilities. While the development of carbon markets may have its ups and downs, firms and governments that remain outside a carbon accounting system are likely to leave themselves increasingly exposed to economic risks as consumers and governments look to reduce carbon pollution.

It is the alliance of interests that emissions trading harnesses between industry and environmentalists, between the rich and the poor and between libertarian and more statist governments, that may best explain its popularity as a carbon policy tool. More strategically, it also provides a platform for global cooperation in a way no other policy tool easily can match.

How can carbon offsetting work effectively?

AB: The efficiency of offsetting mechanisms can be improved by reducing transaction costs and streamlining procedures for project implementation. The regional and sectoral distribution of Clean Development Mechanism projects and voluntary offsetting mechanisms (such as the Gold Standard, Voluntary Carbon Standard, etc.) should be improved as well. Projects should be promoted in least developed countries and in new sectors (for example transportation, buildings and forestry). In order to be effective, a carbon offsetting scheme needs to ensure environmental integrity is not compromised too much to deliver financial attractiveness for investors.

Where is it working effectively?

NH: Probably the most famous example of an emissions trading scheme operating effectively (and indeed of environmental regulation in general) is the Acid Rain Program in the United States which pioneered emissions trading for sulphur dioxide (SO2). The program achieved 100% compliance in reducing SO2 emission below 1980 levels and some power plants achieved reductions 22% below their mandated levels. Additionally, the program was much less costly, with the price of permits originally anticipated to cost in the range of $579 (£360) to $1,935 (£1,200) per tonne of SO2. As of January 2003 actual market prices were $150 / tonne. Overall the programme was expected to cost between $3 and $25 billion per year, but after the first two years costs were only $0.8 billion per year. Since 1994 over 222 million allowances have been transferred and roughly 98% of these took place online resulting in very low transaction costs to participating entities.

The take home message of this for me is that many studies highlighting the costs of implementing emissions trading often overstate the actual costs because they underestimate the creative power of firms and individuals at finding ways of reducing emissions. This is what we mean by the power of markets!

Where is it working successfully?

AB: Despite some criticisms, voluntary offsetting ultimately leads to more emissions reductions. First, offsetting is a tool to raise awareness and educate individuals and companies about their climate impact. Due to offsetting, individuals and businesses become aware of their own climate impact and are better prepared to act on it. Finally, by putting a price on pollution, companies are internalising their emissions costs, which encourages them to reduce them. For instance, if one takes into account the offsetting cost for a short-haul flight, it is possible that an alternative, cleaner choice such as high-speed train becomes economically more attractive. Similarly some companies, knowing the costs of offsetting their emissions, may decide to invest directly in emission reductions at source, for example when budgeting for a more efficient boiler.

AB: The financial support of credible offsetting projects registered under the CDM or Gold Standard also has many co-benefits. These include local job creation, improvements in air quality or the development of new renewable energy infrastructures in areas where they can contribute to the sustainable development of developing and emerging countries.

Are enough businesses listening to the environmental message and seeking guidance?

AB: Moving towards a low carbon economy is now commonly recognised as one of the greatest challenges of this century. Whether motivated by fear of regulation or proactively managing their CO2 emissions to increase efficiency and respond to consumer sentiment, more and more companies calculate and reduce their emissions. Some companies have also declared that they aim to become carbon neutral in the near future. The British Standard Institute has recently launched the PAS 2060, a new specification to help companies reaching carbon neutrality in a credible way. Of course, there is still a long way to go until we can say most organisations are effectively managing their carbon emissions – but there has been substantial progress. In what way has this book already helped to promote the message?

NH: We hope that our book helps people see that a low carbon future is a choice that can be made. That we are not servants to markets, but can be their masters. This should not be a debate about freedom versus the state, but about realigning existing market institutions which help us coordinate our actions as a society, so that whoever and, wherever we are, we can better manage the environmental risks that surround us.

Covering the practical challenges of implementing the Kyoto Protocol\’s Clean Development Mechanism, carbon offsetting strategies and the EU Emissions Trading Scheme (EU ETS) and more, this book is the most comprehensive and accessible guide to understanding the opportunities offered by regulated and voluntary carbon markets for tackling climate change.

Coverage includes: an overview of the problem of climate change, with a concise review of the most recent scientific evidence in different fields; a highly accessible overview of the economic theory and different constitutive elements of a carbon allowances market; explanation of the Kyoto Protocol\’s flexibility mechanisms; explanation of how the EU Emissions Trading Scheme works in practice; coverage of regulated carbon markets in Australia, New Zealand and South Africa; ongoing developments in regulated carbon markets in the USA, Canada, and Japan; global voluntary carbon markets.

Combining theoretical aspects with practical applications, this book is for business leaders, financiers, carbon traders, lawyers, bankers, researchers, policy makers and anyone interested in market-mechanisms to mitigate climate change.