Will Carbon Trading Work?

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The second part of cap-and-trade -- trading -- provides covered entities with the freedom and flexibility to identify the most efficient, least cost means of reducing emissions. A well-designed emissions trading program will reduce costs for both consumers and businesses alike, and achieve the greatest emissions reductions for a given input of societal resources.

The United States invented emissions trading as a means to reduce acid rain while keeping electricity prices down. Under the 1990 Clean Air Act Amendments, the US required major reductions of the emissions which cause acid rain, SO2 and NOx, but allowed companies to trade in order to make it easier to reduce emissions. Most studies estimate the savings to be between $700 and $800 million per year -- for a savings of over 40%. Some studies estimate the savings were twice as high -- $1.6 billion per year.

When Congress was considering ratifying the Kyoto Protocol, the Congressional Research Service compiled 17 different estimates, by eight different organizations including the US government, of the costs of complying with the Protocol with and without trading. All 17 analyses estimated dramatically lower costs when trading was allowed. Cost estimates with no trading allowed ranged from $193 to $348 per ton. Trading within developed countries reduced these estimates to between $61 and $175 per ton, while global trading reduced the estimated prices to between $14 and $50 per ton of carbon.  The US Energy Information Administration estimated that partial trading would reduce US costs by 68%, and full trading by 88%. More recent analyses, such as the Stern Review on the Economics of Climate Change, draw similar conclusions.