I’ve got an emerging obsession: the risk of market manipulation in cap and trade programs. It’s something you hear about all the time, at least in carbon policy circles, but the details about “gaming” always seem to be in very short supply. Still, it’s something we should take a close look at because the alleged consequences are so severe.
So at the moment, I’m gearing up to read everything important that’s been written on the subject. (If you know of good stuff, please send it my way.) In the meantime, I want to share this recent short brief written by economist Laurence DeWitt at Pace University.
He takes a look at how the RGGI carbon cap and trade system has fared:
So far there have been no discovered instances of even attempts to exercise market power—and there has been great vigilance in searching for such actions. In addition to the careful scrutiny of Potomac Economics, which serves as RGGI’s official market monitor, the federal Commodity Futures Trading Commission (CFTC) has already become active in monitoring and analyzing the exchange traded RGGI derivatives.
And a look at how the national SO2 and NOx cap and trade programs have gone:
It should also be noted that we have several decades of national experience withSO2 and NOx cap and trade programs with no indications of any significant effort, successful or otherwise, to manipulate the market. SO2 and NOx programs are relatively small markets—and thereby offer more potential for manipulation—so this experience to date is very relevant.
In fairness, DeWitt’s piece is much too short to do justice to the subject matter. I plan to dig into the details further in the coming weeks, but I thought it provided a nice high-level expression of the basic facts of the case.
I look forward to reading what you discover on this Eric! I think it is an interesting and worthy research topic and I’m glad you are focusing some time on it on behalf of us readers!While you are doing your research, I wonder if I could make a request. Can you consider the role of marketers in a cap and trade program? Do they improve functionality of the market or contribute to the potential for manipulation? Some of the emission trading programs exclude marketers and are limited to only polluters. I’m curious what difference that makes in the real or perceived ‘gaming’ of the system. Some say allowing marketers would raise prices unnecessarily (saving for another day the debate on whether increased prices on fossil fuels on top of the carbon price is good or bad) while others say they are needed. I’ve heard some small utilities argue for allowing marketers in because they don’t want to be in the carbon trading business. They want the marketers to allow the small utilities to aggregate and handle that aspect of business for them. Other utilities think marketers can’t be trusted (memories of Enron are still fresh) and marketers don’t have a vested interest in keeping prices as stabile as possible.I’ve come to think the market would likely be better off without them, but there is a lot of momentum from the big trading firms to be in this ‘game.’