This is the sixth in a short series of posts that explain some important but often overlooked policy issues in the Western Climate Initiative—the West’s regional cap-and-trade system.

Although there is tremendous urgency to reducing climate pollution in the near-term, it can be time-consuming to fire up a cap and trade system. The Western Climate Initiative is no exception. Policymakers have to sort out a number of details—about scope, offsets, reporting protocols, allowance distribution, reduction schedules, and more— and not all the participating states and provinces agree. Then they have to set a start-date for the program so that the emitters have enough time to prepare themselves. So there’s a lot of work to be done just getting to the starting gate.

Still, time is of the essence and it’s not clear that WCI is acting with sufficient urgency. In the most recent draft proposal, WCI recommends starting in 2012.

The delay is problematic enough, but it’s compounded by a slack reduction schedule that will become very abrupt in later years. It could create undermine the environmental benefits of the program even while it risks undue economic pain and perhaps a political backlash. In a worst case scenario, it might actually increase pollution in the near term. But more on all that in a moment.

Specifically, WCI’s schedule will play out like this:

  • In 2009, states and provinces will adopt the initiative’s provisions, including its protocols for reporting emissions from polluters;
  • In 2010 and 2011, WCI will implement the reporting program, gathering two years worth of pollution data;
  • From 2012 to 2014, WCI will have its first “compliance period.” (A compliance period is a unit of time over which the regulated firms must match their climate emissions to the number of carbon permits that they have obtained.) Unfortunately, the first compliance period will be limited in scope: it will include the electricity sector, plus emissions from big industry such as smelters and refineries.
  • In 2015 to 2017, the second compliance period, WCI will expand its scope to include transportation fuels, the largest source of climate pollution in the west, and the natural gas that is used in homes and businesses, which is also a very significant source of emissions.
  • The final compliance period will be 2018 to 2020, by which point WCI aims to have reduced economywide climate pollution by 15 percent below 2005 levels.

It’s actually slower that I’ve made it sound.

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  • In the first compliance period, the cap will be 100 percent of estimated emissions. WCI will look at its reporting data, plus population and economic growth, and other factors to set an emissions cap that doesn’t require any reductions in the first period. In other words, reductions won’t come until the second compliance period, which starts in 2015.

    Even in the second compliance period, we won’t see steep reductions. The cap for the second period will be an aggregate of two factors: 1) the stepped-down cap for those sectors covered in the first period (that’s our first reduction), and 2) 100 percent of the estimated emissions for transportation fuels and natural gas in 2015. So the first substantial reductions won’t come until the final compliance period, which starts in 2018.

    There are some glaring problems with this delay.

    For one thing, it means that the path of reductions will need to be steep, achieving WCI’s entire goal in just a few years. Review: WCI’s goal is to reduce emissions by 2020 to 15 percent less than they were in 2005. But emissions may have grown already since 2005, despite high oil prices, and they will likely grow more until the cap kicks in. Even if emissions only average growth of 1 percent per year—and they could easily grow more—then they’ll be 7 percent higher in 2012 than they were in 2005. To get to a 15 percent reduction, therefore, we’d need a total of a 22 percent reduction. And we’d need it in the span of just a few years, mostly between 2018 and 2020. An emissions reduction of more than 20 percent in three years is worrisome.

    One of cap and trade’s key economic benefits is that it’s gradual. It can give businesses and consumers plenty of time to make incremental adjustments, to adapt, adjust, and replace inefficient equipment as it wears out. A sudden, 20-percent  reduction in emissions is more like slamming the economy into a reverse at highway speed.Beginning around 2015, it’s reasonable to expect a backlash—and pushback—as polluters approach the crunch time and must reduce emissions by  as much as 4 percent per year.

    Starting sooner will make the whole process much easier.

    For a few industries there may also be a built-in incentive to increase pollution in the short term. A smelter, for instance, might choose to ramp up production before 2012, accumulating a stockpile of product so that it can ease off once the first compliance period starts. It’s hard to know how likely this sort of perverse behavior is, but it’s probably not a big deal for the electrical utilities who will be the bulk of the cap in the first period. Rational operators would begin ramping down emissions (by boosting efficiency or increasing their low-carbon generating sources) in advance of the cap so that they can avoid purchasing carbon permits, or can sell carbon permits if they’ve been awarded some for free.

    Speaking of carbon allowances, delaying the cap raises one gigantic red flag: it is paramount that any free allowances are NOT awarded based on emissions reported between now and the start of the first compliance period. Awarding allowances on that basis could create a strong incentive to pollute more, in order to get more credits later. I’ve been assured by WCI insiders that this will not happen; that if free allowances are awarded it will be based on past emissions (like 2005, for example) or on other factors. But WCI’s recent draft is not terribly clear on the subject.

    A better way to start the WCI would be to begin the program in, say, 2010 and auction all of the permits. Even if the cap were set at 100 percent or more of expected emissions, full auctioning would serve a variety of important functions. It would generate good reporting data while avoiding perverse incentives to ramp up pollution; it would allow businesses to get accustomed to an auction in a low-stakes environment where the supply of pollution permits is at least equal to demand; and it would allow for an easier glidepath for reducing emissions. Repeat: with full auctioning, there’s much less need to set a baseline of emissions in advance.

    I’m a fan of cap and trade, but in my opinion avoiding delay is one of the better reasons to prefer carbon taxes. As British Columbia recently demonstrated, a carbon tax can be implemented more quickly than a multi-sector regional cap and trade system. The province announced the carbon tax in mid-February and began implementing it on July 1. (In fairness, part of the speediness was due to BC’s parliamentary democracy and party discipline, which centralizes political power much more than do the governance systems in US states.) So
    there is an argument for levying a starter carbon tax at a modest level, and then integrating it with a more fully formed cap and trade program. The tax would get us headed in the right direction, and the cap would make sure we arrived at our intended destination.