An increasingly complex greenhouse gas trading system seems to be the preferred way of tackling emissions but is there a simpler and more transparent way to do it? Many business leaders think there is and that is to just tax emissions.
The cap and trade system aims to reduce carbon dioxide by setting a cap or ceiling on carbon dioxide emissions and issuing permits which are bought by the public and traded in the open market. Over time, the system reduces the number of permits which will then force organisations to lower their emissions. A tax imposes a fee for every tonne of carbon dioxide used. The main users, or emitters, of carbon dioxide are the users of fossil fuels. A tax would increase over time forcing users to switch to low carbon technologies. Both cap and trade and a tax should have the same result. They provide a stick for industry to move to a lower carbon economy and both will increase the cost of energy.
Advocates of a system of tax argue that it is more transparent, easier to regulate and more easily understood. The price of carbon would be fixed and periodically reviewed, cap and trade leaves that to markets, and there would be greater certainity in the amount of funds raised. However the idea of an explicit tax, especially directed at business, is always politically sensitive.
The momentum for cap and trade has been building and it may be too late for a rethink. Europe has a trading system, Australia and Japan propose to adopt something similar and cap and trade is the Obama Administration's first option. Cap and trade requires regulation and monitoring, both can be expensive exercises.
Cap and trade is also linked to the UN's Clean Development Mechanism, a programme that allows business to purchase carbon credits created from approved clean energy projects in the developing world. This system of credits is designed to give developed nations and their businesses more flexibility around their emissions allowances while encouraging developing nations to deploy and prefer low carbon emissions' projects. However, these are proving difficult to monitor and already, there has been instances of projects being created just for carbon credits. The price of carbon, which is created from the permits used in the cap and trade system, has been very volitile in the last year and will always be prone to the process and number of permits issued. This volitility is not always good for business especially if the price of carbon is passed onto consumers.
A direct tax can also be levied at different levels. Most simply it could be directed at industries that emit carbon dioxide or it could be levied like VAT on any transaction that involves the emission of carbon dioxide. If the latter were adopted, strict emissions targets and targets for renewable energy in the electricity grid and tansport industries should be set.
The world is set for cap and trade, but a direct tax is another solution and if the accountability of cap and trade is ever questioned, then there is fall back. It may be politically ugly but it may also be simpler and it will get the same result.
