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Friday, September 24, 2010

Efficiency in a Carbon Market

The U.N. has set up a market to regulate the production of greenhouse gases using cap and trade. The Clean Development Mechanism is a policy that focuses on reducing greenhouse gases. Also in developing countries that produce HCFC-22 as well as HFC- 23, two chemicals that developed countries have been banned from producing but developing countries can produce until 2030. As well those companies that destroy their HFC- 23 become eligible for Certified Emissions Credits(CERs), while reducing carbon production also grants you CERs it is much more profitable to reduce the production of HFC-23 in the same market.

Now the article also points to an interesting fact that in this market companies have found no incentive to reduce their emissions of HFC-23. The companies actually use the system, since you have to be eligible for the CERs to gain from destroying HFC-23 they do not when they are not eligible and do destroy it when they are. So while the U.N. may have been trying to achieve an efficient outcome where marginal social benefit might have been equal to marginal social cost it seems that very little was done to truly achieve it. In actuality the companies gained from the system by being able to trade those CERs when they received them and did not work on new methods to destroy the HFC- 23. The companies however were merely responding to the incentives presented to them.

This article presents interesting thought on what a cap and trade market might act like. It should be important when setting one up that incentives are made to have the actors actually reduce emissions and allow for them to research and develop technologies that reduce or completely eliminate them. In order to get an efficient outcome the incentives must be in line with the goal. Also it would be important to ensure that the rules are enforced. Clearly if a cap and trade market is set up it should be well thought out.

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