The Emissions Trading Scheme

What is abatement?

Abatement refers to reducing emissions.

Examples include firms implementing methods such filtering, using cleaner technology, switching to renewable energy etc

What is MAC and the economically efficient outcome?

MAC means the marginal abatement cost, the additional cost to reducing 1 more unit of emissions.

The economically efficient point is where MAC = MAB (marginal abatement benefit)

• Firms should produce to where the marginal cost to reducing pollution is equal to the marginal benefit of abatement

• If MAC > MAB, then it is more costly to reduce pollution that the actual benefits of reducing pollution

• If MAC < MAB, then there is still more benefits to invest in, to the point where MAC = MAB.

What are the Coasian Property Rights?

The idea that parties can cooperate through assigning rights to resources.

For example, a factory and farmer by a river both pollute the river. They could come to an agreement which benefits both sides.

Although, it is difficult to implement because climate change is on the global scale eg you can’t have property rights on the atmosphere

How does a Pigouvian Tax work?

A tax on per unit of emissions means that firms must decide on whether to produce more emissions and pay the tax, or pay to reduce emissions.

Firms must then decide which is more economically efficient.

Hence the firms who have the cheapest way to reduce pollution participate in the most abatement.

Pigouvian economically efficient point

MAB = Carbon tax

Problems with Pigouvian Tax

Can be hard to impose carbon taxes globally as countries may not want to abide.

Makes firms within countries less competitive:

• If one firm pays the carbon tax in a country, whilst another firm within another country doesn’t

• Then the firm without the tax can lower their production costs and be more competitive

• The firm with the tax may choose to move production abroad, and so pollute the other country (known as carbon leakage)

What are auctionable carbon permits and their effects?

These are emission permits distributed governments which are traded on the market.

The permit allows for certain amount of emissions to be produced, so firms will need to either reduce emissions or buy more permits.

Effects:

• Based of the demand for permits, where if it is more efficient to reduce emissions, then demand is reduced and so is price

• But if it is more expensive to reduce emissions, then demand for permits and price increase

• Hence equilibrium price is determined by demand and supply.

What is Cap and Trade

Cap - Governments limits the amount of emissions allowed.

Trade - Firms are able to buy and sell these permits between themselves.

Benchmarking within Cap and Trade

Benchmarking is the process of experts computing how much emissions are efficient per unit of output.

For example, C = 2 tonnes per unit

If a factory produced 100 units of output, then they receive 200 permits from the government. (2×100).

If they receive 200 permits, and they then emit 150 tonnes of carbon, then they can sell the 50 permits and make profits. On the other hand, if they emit 250 tonnes, then they have to pay for additional permits.

There is then a reward system for producing less emissions.