Emissions Trading

Climate change is being exacerbated by the emissions of globe-warming greenhouse gases (GHGs) as a consequence of economic activities associated with energy, industry, transportation, and land use. From an economic viewpoint, the Earth’s climate is a public good, and pollution a negative externality; such change therefore constitutes market failure. Controlling air pollution by utilizing economic mechanisms represents an important change in environmental thinking – literally a paradigm shift away from historical command-and-control (CAC) engineering systems. Today, this new approach is being utilized to mitigate the emissions of GHGs, addressing the pollution externality by putting a price on carbon. The international carbon market, largely developed as a result of the Kyoto Protocol, had a total value of $144 billion in 2009. The largest component of that market, the European Union’s Emission Trading Scheme (ETS), was worth $118 billion; it represents a regional market designed to assist Europe in achieving compliance with the Protocol’s requirements, and also has links to the Protocol’s project-based mechanisms, the Clean Development Mechanism (CDM) and Joint Implementation (JI) which help minimize compliance costs. These project-based components themselves were valued at $2.7 billion and $354 million, respectively. Further, other carbon markets created in numerous countries (e.g., the Regional Greenhouse Gas Initiative [RGGI] in the USA and the Greenhouse Gas Abatement Scheme in New South Wales, Australia) were worth $2.3 billion, while the global voluntary market was estimated to be in the $350–$400 million range (a significant drop from the previous year’s $700 million figure). This chapter discusses the structure of these emissions trading carbon markets, the theory behind their development, their historical evolution, ongoing governance challenges, and future prospects.