Week of July 19, 2009

I recently ploughed through two lengthy treatises on climate policy authored by Gwyn Prins and Steve Rayner, both academic economists associated with English universities, Oxford and the London School of Economics, respectively. Unlike so much academic writing, these pieces are lively, passionate, and wise.

The first is entitled "The Wrong Trousers: Radically Rethinking Climate Policy" and the second, "How to get Climate Policy Back on Course". They should be read together because the second is essentially a sequel to the first.

Before attempting to summarize, analyze, and expand upon these papers, I should mention that I was briefly the editorial director of a publishing venture devoted to all matters carbon and carbon mitigation. Unfortunately, we began publishing when only the most vestigial carbon trading market existed within the U.S. and when the actual sale of heavy equipment intended to perform carbon mitigation functions within industrial settings was essentially nonexistent. Publications exist to sell advertising and there wasn't enough to advertise back then. Now, of course, we have an Administration in Washington whose leadership professes to believe in global climate change and in the necessity of doing something about it. Whether that will lead to the revival of our publishing venture remains to seen, but it certainly changes the nature of the discussion in policy circles and makes "The Wrong Trousers", published in 2006, much more timely today.

The "wrong trousers" refers to a pair of "techno trousers" in a Wallace & Gromit cartoon which take the hapless Wallace in directions he does not wish to go when he foolishly puts them on. Authors Prins and Rayner suggest that the climate change policies adopted throughout most of the world in the wake of Kyoto Summit constitute a analogous wrong pair of trousers drawing the hapless participating governments into courses of action that are ultimately at cross purposes to the larger goal of reducing carbon dioxide in the atmosphere.

The authors are particularly opposed to the notion of carbon trading which they regard as thoroughly misguided policy. I have long harbored similar reservations, though in my position as editorial director I could scarcely express them without alienating potential sponsors.

The Kyoto initiatives and subsequent international and national resolutions posited ambitious goals for carbon reduction—well over 50% lower emissions by mid-century in many cases. That such goals will be met appears highly unlikely. Since the Kyoto meetings in the early nineties, carbon emissions have not only increased worldwide, the rate with which they have increased has risen as well so that emissions may be said to be accelerating. No nation has succeeded in holding emissions stable let alone reducing them. This is spite of trades in emission credits now approaching $100 billion dollars per annum, and likely to rise to over a trillion dollars once mandatory carbon caps are imposed on major U.S. emitters.

Carbon trading was proposed as a market solution to an environmental problem, a notion calculated to please all shades of the political spectrum. But, as the authors point out, the market is largely artificial. While there are certain well established industrial markets for CO2, the carbon traders never sought to enter those or to tap off industrial effluents to supply them which might have made sense. Instead they traded in credits and offsets, financial derivatives based upon supposed carbon reduction effects of certain activities and upon unused carbon allocations assigned by national governments. Furthermore, the whole thing had a top down, command economy air about it, it wasn't about meeting real market demands.

We all know approximately how this works. Al Gore buys a bunch of credits and then runs up his electricity bill but still comes out carbon neutral. The whole process has been subject to much derision on the part of the right wing pundits, but in this rare case they're right according to both the authors and my own reckoning. The fact is carbon trading has made enormous profits for the same kinds of cowboys who touted securitized debt instruments to gullible investors, but it hasn't had any discernible benign effect on our overburdened atmosphere. It's a gift to the financial industry, not to the populace at large. And if you look at the demented screeds still issued by global warming denialists, you'll see that the publications and think tanks that run them are funded primarily by old line Republican stalwarts from the declining industrial sector, not by investment bankers. The financial industry loves cap and trade, and its representatives are on all the discussion panels at the carbon conferences.

So why hasn't carbon trading achieved its intended effects? Prins and Rayner correctly point out two salient points in this regard. First of all, the instruments are artificial, difficult to associate with any larger positive result, and subject to being gamed. Somebody is paid a pittance from a carbon credits fund to replant a forest in Borneo that will presumably soak up a certain amount of CO2. Nothing wrong with that, but what if that local takes land out of cultivation to do this and then burns down a forest nearby to plant the crop that would have gone on the land now devoted to reforestation? Most developing nations do not enjoy agricultural surpluses, and when they are asked to atone for the sins of the industrial world by planting more trees, unintended consequences may manifest themselves. Not to mention the monumental inequity of the transaction. Carbon traders commonly resell offsets for ten times what they pay the individuals actually undertaking the projects upon which the offsets are based. There's no fair trade in carbon offsets business. The subsidence farmer enlisted in these efforts is paid as little as possible while the trader enjoys an enormous rate of return—if he can find a corporate customer.

Unfortunately, carbon markets themselves have been very lightly regulated even though they are ultimately based on a overbearing regulatory regime, and rampant speculation led to a carbon bubble in 2006 as the market was flooded with dubious credits, far more than anyone wanted to buy. That this will happen again in the United States is altogether likely. Perhaps the market of last resort will be Government itself. Perhaps governments can be induced to part with taxpayers' money to buy credits from speculators, and the price of carbon can thereby supported. In this time of fiscal folly almost no depredation, however flagrant, now seems inconceivable.

The authors further point out that there is no effective international enforcement mechanism. No international agreement applies sanctions to those who are not in compliance and no nation save one has a carbon tax that would ensure compliance. Carbon taxes are universally abhorred by carbon traders who claim that they distort the market, but, again as the authors point out, there's no real incentive for anyone to buy carbon credits absent the disincentive of carbon taxes or fines. They don't make a business more profitable and they don't provide one with a competitive edge or new capabilities. They're pure overhead. Only in the case of unbridled speculation are carbon derivatives attractive, and then in the same way that any hedge or derivative might be attractive—buy it, flip it, and then buy something else or use it as collateral or leverage. But, since C02 itself is not yet a real commodity, derivatives based upon it have an air of unreality about them.

I'll have more to say about these two papers in an entry to follow.