As California, environment stewards and the sixth largest economy in the world, prepares to launch the most extensive carbon market in North America Nov. 14, stakeholders can look to Europe to learn the dangers from selling too many unverifiable emission credits and permits.
The state plans to auction off 10 percent hand of the credits and hand out the others free of charge. California anticipates that businesses will pay some $1 billion over the next five years for the credits. The model is similar to Europe's.
The European Union Emission Trading System (EU ETS) works on the "cap and trade" principle. This means there is a "cap," or limit, on the total amount of certain greenhouse gases that can be emitted by the factories, utilities and other installations in the system. These businesses receive emission allowances which they can sell to or buy from one another as needed. The limit on the total number of allowances available is supposed to ensure that they have a value.
EU ETS permits traded about $10.50 per ton Oct 15.
At the end of each year each company must submit enough allowances to cover all its emissions, otherwise heavy fines are imposed. If a company reduces its emissions, it can keep the spare allowances to cover its future needs or else sell them to another business that is short of allowances. The flexibility that trading brings is supposed to confirm that emissions are cut where it costs least to do so.
But the European carbon markets are on the verge of collapse, according to the Clean Development Mechanism Executive Board. The global business community has not agreed on fighting climate change, the board found. Consequently, a hodgepodge of regional efforts is attempting to fill the gap. A lack of demand due to lower demand of countries is leading to corrosion of carbon markets.
One problem the EU ETS has faced from the start is an overallocation of free permits. First phase trading between 2007-2009 resulted in emissions increasing and market prices falling. Eastern Europe, i.e. Russia's vast forests, entered the fray in the second phase, with questionable verification, and both prices and emissions decreased.
However, critics note the 12.5 percent emissions decrease between 2008 and 2011 was due to a poor economyÂ—not carbon trading. The decrease is expected to add more emission permits to the glut from the first phase. In the third phase (2013-2015) companies will be allowed to "grandfather" or "bank" their permits.
Consequently, the EU could fulfill its 20 percent emissions rateÂ—on paperÂ—by 2020 by doing nothing, according to Ricardo Coelho of Carbon Trade Watch.
European consumers have paid more than $300 billion to polluting companies for climate change while seeing "almost zero" reduction in carbon emissions, according to Swiss bank. The companies charged expenses for new technologies on to users.
So much for the environment.
Will California repeat the same mistakes? State politicians want the governor to provide more free permits. Prices have not been set but expect them to drop. The state is reportedly short on Clean Development Mechanism (CDM) offsets. Since CDM futures between 2013 and 2015 traded at about $3 Oct. 17, the shortage may not mean much financially.
Industrialized countries can trade CDM credits with developing country to, at least in theory, spark clean development in developing countries.
Ironically, the EU is scheduled to announce its plan to curb the oversupply of credits Nov. 14.