Emissions Trading

Introduction

Emissions trading is the buying and selling of units of credits that entitle their owners to emit a certain amount of a given kind of pollution. The total number of credits in circulation is fixed so that total emissions of the pollutant will be kept at some chosen level. The term “cap-and-trade” is often used to describe emissions trading: a cap on emissions of a certain pollutant is set, and polluters are allowed to trade credits that entitle them to pollute, with total emissions not to exceed the cap. The largest emissions trading schemes today are carbon trading schemes, which are being implemented by some state governments of the United States, by the European Union, and globally under the rules of the Kyoto Protocol.

Historical Background and Scientific Foundations

Pollution Trading Theory

The idea of pollution trading can be traced to the work of American economist Ronald Coase (1910–). In 1960, Coase published an influential article, “The Problem of Social Cost,” in which he argued that pollution is not simply, as he put it, “something bad,” but a combination of good and bad: the good aspect is that it is beneficial to the polluter (a cheap way of getting business done) and the bad aspect is the harm the pollution does to everybody, also called the social cost of the pollution. Coase argued that in a perfect market—that is, a world of buyers and sellers in which it costs nothing to have all needed information and to negotiate with other players—pollution will always be regulated by market forces to an optimum level that will maximize total product. A perfect market would, Coase argued, always produce the correct amount of pollution—neither too much nor too little.

Coase acknowledged, however, that no real-world market could never be perfect in the required sense, and thought that governments would have to intervene to give pollution rights to those who could make the most profit from them (i.e., who could maximize the good that emitting the pollution would do). Over the next decade, other economists, such as J. H. Dales, argued that government should not allocate pollution rights but should decide what the best overall amount of pollution is, then allow polluters to trade pollution rights with each other under a predetermined limit or cap. This was the origin of the cap-and-trade emissions trading concept.

The U.S. Clean Air Act Amendments of 1990 set up a national cap-and-trade program for pollution rights for sulfur dioxide (SO₂). The program, which is projected to reduce SO₂ in the United States by 50% from 1980 to 2010 at only 20% of the cost of direct regulation, has been widely hailed as proof that the cap-and-trade concept can work.

Kyoto Protocol

The 1992 treaty known as the United Nations Frame work Convention on Climate Change (UNFCCC) commits its signatories (signing countries) to reduce their greenhouse emissions to stabilize global climate. The original treaty did not say exactly how this was to happen, but in 1997, most countries signed the Kyoto Protocol to the UNFCCC. The protocol requires signatories to monitor and report their greenhouse emissions and requires developed or industrialized countries to cap and trade emissions of six greenhouses gases, including CO₂. As is customary in climate studies, emissions of the other five gases are counted in terms of how many tons of CO₂ would be required to produce the same amount of climate change. For example, since methane (CH₄) is 21 times as powerful a greenhouse gas as CO₂, 1/21ofaton of methane is rated as 1 ton CO₂e (CO₂ equivalent).

Industrialized countries that signed the Kyoto Protocol agreed to reduce their greenhouse emissions to 5.2% below 1990 levels by 2012. The treaty entered into force on February 16, 2005. A point of major dissatisfaction among critics of the treaty is that it does not cap the greenhouse emissions of large, developing countries such as India and China. By 2007, China, according to some analysts, edged out the United States as the world's largest single emitter of greenhouse gases.

Two Kinds of Carbon Trading

The carbon trading system established by the Kyoto Protocol, like many other carbon markets, is actually a blend of two kinds of carbon trading. The first is basic emissions trading, the cap-and-trade mechanism described earlier; the second is trade in project-based credits.

In basic emissions trading, the number of emissions credits in existence is fixed. Polluters trade this limited stock of credits directly with each other. Consider, for example, a country with only two power plants, Plant A and Plant B, both presently emitting 110 tons of carbon per year. Both plants are allotted 100 carbon credits for next year, which entitle each plant to emit 100 tons of carbon. Both plants must therefore either emit 10 tons less per year or buy credits entitling them to emit 110 tons. Managers at Plant A discover that they can reduce emissions at a cost of $.50 per ton. The market price of carbon credits is $.1 per ton. Thus, it would make sense for Plant A to cut its emissions not by a mere 10 tons but by 20 tons, at a cost of $10. Now emitting only 90 tons, Plant A possesses 10 unused carbon credits, which it can sell for a total of $10. By selling the credits, it saves $5 (the cost of simply reducing its emissions by 10 tons).

Plant B, meanwhile, finds that for technical reasons— it generates power from a different fuel, perhaps—to make emissions cuts would cost it $1.50 per ton. Plant B's cost for getting emissions down from 110 to 100 tons would therefore be $15. It would be cheaper to buy 10 carbon credits than to cut 10 tons of emissions: $10 to buy the credits versus $15 to cut the emissions. Plant B will therefore save $5 by buying the credits.

The emissions credits are traded. Plant B buys the 10 extra credits that Plant A is selling. It now owns 110 credits and can emit 110 tons of carbon. Both Plant A and Plant B have saved $5 over what the 100-ton cap would have cost them, and the total amount of carbon emitted has been reduced from 110 to 100 tons, as mandated by the government.

The other form of carbon trading built into the Kyoto Protocol is trading in project-based credits. In this system, a polluter can invest in projects that absorb carbon or reduce emissions of carbon in some other country, generally a poorer one where such measures are cheaper. In exchange for reducing carbon in the poorer country, the wealthier polluter is given credits that allow it to keep polluting proportionally.

Thus, under Kyoto, industrialized countries can meet their carbon-reduction goals either by reducing their own emissions, by trading emissions, or by acquiring carbon credits earned by funding reductions elsewhere. The system for acquiring project-based credits under Kyoto is called the Clean Development Mechanism.

The Kyoto system is not the only carbon market. Nine states in the northeast region of the United States have joined to form the Regional Greenhouse Gas Initiative (RGGI), which proposes to start a cap-and-trade emissions system for power plants starting in 2009. Some corporations in the United States, totaling about 4% of the country's emissions, have been participating since 2003 in a voluntary carbon market called the Chicago Climate Exchange. Here, the cap is not government-mandated but is set by a contractual agreement by the participating companies to reduce their group emissions by 6% by 2010. The world's largest emissions market is the European Union Trading Scheme, which began operating in 2005 and includes the 27 states of the European Union (EU). The EU scheme covers emissions not only from power plants but other energy-intensive industries, with coverage of about 46% of total EU CO₂ emissions.

Impacts and Issues

Compulsory emissions trading, as in the European Union, has been criticized as an ineffectual system for reducing greenhouse emissions by free-market conservatives and libertarians. These critics argue that voluntary schemes, including source reductions and voluntary trading such as the Chicago Climate Exchange, would reduce emissions more efficiently.

Many environmental organizations support emissions trading, but others criticize the practice. For example, the World Wide Fund for Nature, which supported the creation of the European Union Emissions Trading Scheme, announced in 2006 that European governments had been “guilty of allowing their industries to produce as much carbon dioxide as they wish at no cost” by setting caps above actual emissions levels. Others have argued that since carbon credits are a commodity with monetary value, simply allocating them to industries constitutes a multibillion-dollar giveaway to polluters.

The integrity and realism of Kyoto's Clean Development Mechanism projects has also been challenged. For example, the consultancy companies that design and monitor such projects are sometimes clients or subdivisions of the same energy companies that are paid to carry them out. When such conflicts of interest exist, projects generating credits for polluters in developed countries may be abating carbon emissions less than is reported.

Defenders of carbon markets argue that large-scale emissions trading mechanisms are still in their infancy, and will become more effective as governments learn from experience.

WORDS TO KNOW

CAP AND TRADE: The practice, in pollution-control or climate-mitigation schemes, of mandating an upper limit or cap for the total amount of some substance to be emitted (e.g., CO₂) andthen assigning allowances or credits to polluters that correspond to fixed shares of the total amount. These allowances or credits can then be bought and sold by polluters, in theory allowing emission cuts to be bought where they are most economically rational.

CARBON CREDITS: Units of permission or value, similar to monetary units (e.g., dollars, euros) that entitle their owner to emit one metric ton of carbon dioxide into the atmosphere per credit.

FREE MARKET: Economic system in which price-setting and other behaviors are not constrained by special laws or regulations. Perfectly free markets are a philosophical ideal, not found in the real world.

GREENHOUSE GASES: Gases that cause Earth to retain more thermal energy by absorbing infrared light emitted by Earth's surface. The most important greenhouse gases are water vapor, carbon dioxide, methane, nitrous oxide, and various artificial chemicals such as chlorofluorocarbons. All but the latter are naturally occurring, but human activity over the last several centuries has significantly increased the amounts of carbon dioxide, methane, and nitrous oxide in Earth's atmosphere, causing global warming and global climate change.

KYOTO PROTOCOL: Extension in 1997 of the 1992 United Nations Framework Convention on Climate Change (UNFCCC), an international treaty signed by almost all countries with the goal of mitigating climate change. The United States, as of early 2008, was the only industrialized country to have not ratified the Kyoto Protocol, which is due to be replaced by an improved and updated agreement starting in 2012.

SOCIAL COST: The cost of emitting a given quantity of a pollutant, translated into monetary terms. Usually used in reference to the social cost of carbon, the total future economic cost of emitting a ton of carbon (or an equivalent amount of some other greenhouse gas) at a given time.

Primary Source Connection

On January 1, 2005, the member states of the European Union commenced a trading scheme for emissions that capped the amount of emissions from large emitters of greenhouse gases. The following article evaluates the effectiveness of emissions trading schemes in Europe and compares emissions trading to other regulatory devices such as fixed emissions quotas.

Author Claudia Kemfert is a member of the German Institute for Economic Research and Faculty of Economics at the University of Humboldt, Germany.

THE ENVIRONMENTAL AND ECONOMIC EFFECTS OF EUROPEAN EMISSIONS TRADING

Abstract

In this article, we analyse the effects of emissions trading in Europe, with special reference to Germany. We look at the value of the flexibility gained by trading compared to fixed quotas. The analysis is undertaken with a modified version of the GTAP-E model using the latest GTAP version 6 database. It is based on the national allocation plans (NAP) as submitted to and approved by the EU. We find that, in a regional emissions trading scheme, Germany, Great Britain and the Czech Republic are the main sellers of emissions permits, while Belgium, Denmark, Finland and Sweden are the main buyers. The welfare gains from regional emissions trading—for the trading sectors only—are largest for Belgium, Denmark and Great Britain; smaller for Finland and Sweden, and smallest for Germany and other regions. When we take into account the economy-wide and terms-of-trade effects of emissions trading, however, (negative) terms-of-trade effects can offset the (positive) allocative efficiency gains for the cases of the Netherlands and Italy, while all other regions end up with positive net welfare gains. All regions, however, experienced increases in real GDP as a result of regional emissions trading.

1. Introduction

The European Union considers climate change as ‘one of the greatest environmental, social and economic threats facing the planet.’ It therefore took a leading role in the negotiations for international action against climate change, in particular the Kyoto Protocol. In order to set an example, it accepted relatively ambitious targets. Whereas all Annex B countries were to reduce the emissions of greenhouse gases by about 5%, the EU has committed to an 8% reduction.…

Therefore, in 2000 the EU Commission launched the European Climate Change Programme (ECCP), a continuous multi-stakeholder consultative process which serves to identify cost-effective ways for the EU to meet its Kyoto commitments, to set priorities for action, and to implement concrete measures. One of the main elements of this programme was the establishment of a European CO₂ emissions trading scheme (EU ETS). The EU considers this as ‘a cornerstone in the fight against climate change’, which will help its Member States to achieve compliance with their commitments under the Kyoto Protocol and the EU burden-sharing at lower costs. The basic idea of emissions trading is to limit the amount of emissions by creating rights to emissions and to make these rights—which are called allowances—tradable. The scarcity of emission allowances gives them a market value and those emitters whose avoidance costs are lower than the market value of allowances will reduce their emissions and buy fewer certificates or sell excess emissions rights, and vice versa for other emitters.

There is a fundamental difference between the EU ETS and the emissions trading scheme as envisaged under the Kyoto Protocol. In the latter case, emissions trading is to occur between the Parties to the protocol at the level of the States. Under the EU ETS, however, trading is to occur between individual emitters, which comprise 11,428 installations in 25 Member States. There have been other studies which look at the effects of emissions trading in Europe. Böhringer et al. (2004), for example, used a set of ‘reduced form’ equations which represent marginal abatement costs derived from a general equilibrium model to conduct simulation experiments to analyse the efficiency and equity aspects of different allocation rules for the EU ETS (European Commission, 2001, 2004). In these studies, the approach adopted is often ‘partial equilibrium’ in nature, which implies that important market interactions (including terms-of-trade effects) are not taken into account.…

2. The European emissions trading scheme

The EU ETS started on 1 January 2005. The first trading period—which has been nicknamed the ‘warming-up phase’ or ‘learning phase’—covers the years 2005-2007. The second phase corresponds to the Kyoto period 2008–2012.

The framework for EU ETS has been defined by a Directive in October 2003 which outlines the basic features of the scheme, but leaves substantial scope for the Member States to decide on important aspects of the implementation. The most important features set by the EU are the following:

• The European ETS is a cap-and-trade system; i.e., the absolute quantity of emission rights (rather than relative or specific emissions) is fixed at the beginning.
• Only one of the six greenhouse gases of the Kyoto Protocol (CO₂) is subject to the ETS, at least during the first period from 2005 to 2007. The main reason for this is that CO₂ is the greenhouse gas which is easiest to monitor, since the emissions are directly related to the use of fossil fuels for which most countries have already established a monitoring system in order to levy energy taxes.
• The EU ETS is implemented as a downstream system; i.e. the users (rather than the producers and importers of fossil fuels) will be obliged to hold emission allowances.

This has some fundamental consequences. All users of fossil fuels which are covered by the ETS have to be monitored and can participate actively in the trading system. In order to limit the administrative costs of the ETS, the system is restricted to large installations. Therefore, only installations belonging to one of four broad sectors, which are listed in the Directive and which exceed a sector-specific threshold, are subjected to emissions trading. The four sectors are:

• Energy activities (such as electric power, direct emissions from oil refineries)
• Production and processing of ferrous metals (iron and steel)
• Mineral industry (such as cement, glass and ceramic production)
• Pulp and paper.

The thresholds refer to the production capacity of the installation, e.g., in the case of combustion installations these are installations with a rated thermal input exceeding 20 MW. The emissions trading scheme will cover around 45% of the EU's total CO₂ emissions, or about 30% of its overall greenhouse gas emissions. This partial coverage of the ETS is likely to produce inefficiencies which can only be avoided if the total quantities of allowances are set at a level which equalizes the marginal avoidance costs between the emissions trading sector and other emitters. This, however, is unlikely to be the case because the marginal avoidance costs of these emitters are not known.

• Allowances are issued by each Member State, but trading can take place between any EU participants.
• The so-called ‘linking Directive’ will allow participants in emissions trading to count credits from Clean Development Mechanism and Joint Implementation emission reduction projects around the world toward their obligations under the European Union's emissions trading scheme, even if the Kyoto Protocol did not enter into force.

Within this framework, the Member States have three important tasks. First, they have to decide which quantity of emissions should be allocated to the installations participating in the ETS. This decision must take into consideration the burden-sharing target of the country and must list the policies and measures which are to be applied in the sectors which are not part of the ETS. However, in almost all countries, business representatives have made strong lobbying efforts to ensure that emissions trading will not impair their competitive position. This has led to very generous allocations in some cases. Second, they have to draw up a list of all installations which are subject to emissions trading. Third, they have to decide how to allocate the total quantity to individual installations. The Directive sets some general rules according to which the allocation has to be made, but there is substantial scope for national priorities. These decisions have to be set down in a national allocation plan (NAP).…

5. Conclusions

Our study has shown that emissions trading is an important policy instrument to achieve a particular climate policy objective such as the fulfilment of the Kyoto obligations by the EU at minimum costs. The use of this ‘flexible’ policy instrument is seen to result in significant efficiency gains, measured either in terms of the reduction in marginal abatement costs or in terms of the efficiency gains for both (permit) buying and selling sectors. For buying sectors (those with high MACs without trading), the efficiency gains represent reductions in overall compliance costs. For selling sectors (those with low MACs without trading), increases in income from emission trading overcompensate additional abatement costs. As a result, real GDP is seen to increase for all regions. However, the efficiency gains in some cases may not be sufficient to offset the losses in revenue due to emissions trading (emissions permit purchasing); hence some regions may still experience a net welfare loss. For these regions, a net welfare loss implies a negative change in net national income even if there is a positive change in gross domestic product. This uneven distribution of the total welfare gains (income from emissions trading) across regions may warrant some attention being given to the initial distribution of the burden of emissions reductions across regions.

Claudia Kemfert, et al .

claudia kemfert, et. al. “the environmental and economic effects of european emissions trading,” climate policy 6 (2006) 441–455.

See Also Clean Development Mechanism; Kyoto Protocol; Offsetting; Social Cost of Carbon (SCC).

BIBLIOGRAPHY

Books

Lohmann, Larry, et al. Carbon Trading—A Critical Conversation on Climate Change, Privatisation and Power. Uppsala, Sweden: Dag Hammarskjöld Foundation, 2006.

Periodicals

Betz, Regina, and Misato Sato. “Emissions Trading: Lessons Learnt from the 1st Phase of the EU ETS and Prospects for the 2nd Phase.” Climate Policy 6 (2006): 351–359.

Chameides, William, and Michael Oppenheimer.“Carbon Trading Over Taxes.” Science 315 (2007): 1670.

Coase, Ronald. “The Problem of Social Cost.” Journal of Law and Economics 3 (1960): 1–44.

Hopkins, Michael. “The Carbon Game.” Nature 432(2004): 268–340.

Kanter, James. “Carbon Trading: Where Greed Is Green.” International Herald Tribune (June 20, 2007).

Kemfert, Claudia, et al. “The Environmental and Economic Effects of European Emissions Trading.” Climate Policy 6 (2006): 441–455.

Web Sites

“About IETA.” International Emissions Trading Association (IETA), 2007. < http://www.ieta.org/ieta/www/pages/index.php?IdSiteTree=2> (accessed November 6, 2007).

“Emission Impossible: Access to JI/CDM Credits in Phase II of the EU Emissions Trading Scheme.” World Wildlife Fund UK, June 2007. < http:// assets.panda.org/downloads/emission_impossible__final_.pdf> (accessed November 6, 2007).

“Emissions Trading.” United Nations Framework Convention on Climate Change Secretariat, June 22, 2007. < http://unfccc.int/kyoto_protocol/mechanisms/emissions_trading/items/2731.php> (accessed November 6, 2007).

Vallette, Jim, et al. “A Wrong Turn from Rio: TheWorld Bank's Road to Climate Catastrophe.” Sustainable Energy and Economy Network, December 2004. < http://www.seen.org/PDFs/Wrong_turn_Rio.pdf> (accessed November 6, 2007).

Larry Gilman

Emissions Trading

Emissions trading brings the rules of the marketplace to environmental regulation. For example, a government trying to control acid rain might set a limit of ten metric tons on emissions of sulfur dioxide SO2 (which causes acid rain) in a particular year. If there are 1,000 electric utilities, it might give each utility 10,000 "allowances," each of which allows the utility to emit one ton of emissions during that year. In such a timeframe, if one dirty utility is able to reduce its emissions to 8,000 tons of SO2, that utility can sell its 2,000 excess allowances to another cleaner utility that is quickly growing and for whom it might be prohibitively expensive to further reduce emissions because its operations were already quite clean. Both would benefit from this trade because the allowance value will be higher than what it cost the dirty utility to reduce emissions, but lower than what it would have cost the clean utility to achieve them. During the same twelve months the utilities would monitor their emissions; at the end of year they would be required to prove to the government that they had emitted fewer tons than they have allowances for. Total emissions are limited to ten metric tons but some flexibility exists in regard to which utilities actually reduce emissions. The kind of approach outlined in this hypothetical example makes it cheaper to achieve the target and may lead to stronger environmental controls in the future.

This is a simple system. There are some choices in how it is designed. First, the government does not need to give away the allowances; it could sell them to companies. This allows everyone else to benefit from the system. Second, if it does not matter whether emissions happen this year or next, the allowances could be "banked" for future use. For some pollutants, such as the greenhouse gases that cause climate change, what matters is the total accumulation in the atmosphere, not when or where they were emitted. For other pollutants such as carbon monoxide, which is poisonous at high concentrations but disperses quickly, when and where it is emitted is important.

Emissions trading is one of the key "flexibility mechanisms" in the Kyoto Protocol (signed in 1997) that aims to control climate change. In this case, governments jointly agreed on the total emissions cap and then decided how many allowances each country would receive. Countries may trade allowances, but they must monitor their greenhouse gas emissions and submit a report to the United Nations every five years to show that they have as many allowances as emissions. The United States did not sign the Kyoto Protocol. They argued that the U.S. target was too strict and, hence, too costly. They also argued that the agreement would have no value without the participation of developing countries.

Emissions trading is particularly useful when there are a lot of different emitters and when companies rather than the government know best how to reduce emissions or improve the technology to reduce emissions. In an emissions trading system, companies will use their knowledge to make the best economic decisions for themselves, while also meeting environmental standards in an efficient way.

Emissions trading is not effective when the exact location or method of disposal of the emissions does, in fact, matter (e.g., toxic waste disposal) or when the timing of emissions is critical (e.g., discharging hot water into a river causes substantial damage if a large amount is released all at once, but almost none if it is discharged very slowly). In these situations, environmental standards cannot be met if companies are allowed to trade because any movement or change in the timing of emissions would have significant effects on the environmental outcome.

Some environmentalists and observers have philosophical objections to "pollution trading." These concerns can be justified when the cap is poorly enforced, or when companies or countries are able to exploit others. When markets are well designed, these philosophical concerns seem to decrease with positive experience.

Emissions trading is widely used in the United States. Examples include the acid rain program for controlling SO2, the RECLAIM market for criteria pollutants in Los Angeles, and the new nitrogen oxides (NOx) markets on the East Coast. The United Kingdom has introduced a form of carbon dioxide (CO2) emissions trading as part of its effort to comply with the Kyoto Protocol. Many other European countries and the European Community (EC) as a whole are seriously considering carbon dioxide trading within the EC.

The graph shows allowance prices up to and during the first three years of the U.S. Acid Rain program, which commenced in 1995. Prices were initially dispersed and unstable, but once the market became established, they converged. In the beginning, prices fell as utilities identified cheaper opportunities for abatement.

see also Acid Rain; Carbon Dioxide; Economics; Industry; NOx (Nitrogen Oxides); Ozone.

Bibliography

Schmalensee, R.P.L.; Joskow, A.D.; Ellerman, J.P. Montero; and Bailey, E.M. (1998). "An Interim Evaluation of Sulfur Dioxide Emissions Trading." Journal of Economic Perspectives 12(3):53–68.

Stavins, Robert N. (1998). "What Have We Learned from the Grand Policy Experiment? Positive and Normative Lessons from SO2 Allowance Trading." Journal of Economic Perspectives 12(3):69–88.

Tietenberg, Tom. (1985). Emissions Trading: An Exercise in Reforming Pollution Policy. Washington, DC: Resources for the Future.

Internet Resources

Kopp, Raymond, and Toman, Michael. (1998). "International Emissions Trading: A Primer." Available from http://www.weathervane.rff.org/features.

U.S. Environmental Protection Agency. "Clean Air Markets." Available from http://www.epa.gov/airmarkets.

Suzi Kerr

EMISSIONS TRADING

Emissions trading is a means of achieving environmental objectives at potentially lower cost than the more traditional use of uniform standards on emissions sources. Properly designed emissions trading systems can also encourage innovation.

A number of different types of emissions trading approaches have been used in the United States and elsewhere. The least structured, termed emissions "offsets," involves a reduction of emissions at one place to compensate for increased emissions somewhere else. Such offsets can be between different plants or different sources within the same plant. Offsets can be particularly useful in allowing new or expanded sources of pollution to exist in a region already failing to meet its environmental objectives.

A more ambitious approach, which requires additional governmental infrastructure, is the open-market trading system. This approach allows a pollution source to earn marketable emission rights by reducing its emissions to levels below a regulatory standard or by making reductions in advance of a prescribed deadline. The credits earned may be sold to other sources and used to offset an equal amount of excess emissions. The credits may also be resold or (where allowed) banked for future use. Open-market trading has not been formally implemented in the United States.

Still more ambitious, flexible, and demanding in terms of government infrastructure is a cap-and-trade system, where sources in an area may trade pollution reduction responsibilities among themselves to meet an aggregate emissions cap for a given region. Under this system, the regulatory authorities decide on the aggregate level of allowable emissions for all the parties participating in the program (the "cap") and then it allocates to each party a portion of this amount in the form of "allowances," which are tradable rights to pollute. Once allowances are allocated, parties are prohibited from emitting more pollution than their allocation, unless they purchase additional allowances from another party.

The Environmental Protection Agency's (EPA) acid rain program, widely hailed a success from both environmental and economic perspectives, is the most prominent example of the cap-and-trade type of emissions trading. Emission reductions are ahead of schedule and the costs are considerably lower than anticipated.

Emissions trading has several potential advantages compared to traditional regulatory approaches. Firms are free to use the options they believe to be most cost-effective, and they do not need to seek approval from government authorities or engage in lengthy negotiations about the "appropriateness" of their actions. At the same time, some remain skeptical of emissions trading, on both ethical and technical grounds. One thing that is widely agreed upon is that credible monitoring systems are essential to ensure the environmental integrity of emissions trading regimes.

Richard D. Morgenstern

(see also: Acid Rain; Ambient Air Quality [Air Pollution]; Environmental Protection Agency; Hazardous Air Pollutants; Pollution; Sulfur-Containing Air Pollutants [Particulates] )