1 Climate Change Policy and Regulatory Jurisdiction James Bushnell UC Energy Institute Comments drawn from Bushnell, Peterman, and Wolfram, Local Solutions to Global Problems: Climate Change Policy and Regulatory Jurisdiction

2 Environmental Policy Trends More jurisdictions are embracing market- based environmental regulatory systems Actions are being taken at a more local level relative to environmental problems –Climate change initiatives of US cities –US state policies (RGGI and California) –Individual offsets Are these trends in conflict?

3 US Climate Change Policies Northeast Regional Greenhouse Gas Initiative (RGGI) California AB 32

4 Carbon Emissions at US Power Plants, 2002

5 Environmental Policy Options Traditional command and control regulation Subsidies and other preferences for alternative (clean) energy Market Based Regulations –Taxes, –traditional cap & trade –Downstream or life-cycle based accounting

6 Challenges to achieving real emissions reductions local policies face several potential challenges: 1.Leakage. Regulations cause economic activity to move to less regulated regions. 2.Reshuffling. Regulations cause buyers and sellers to adjust their counterparties, without changing the location of the economic activity.

7 Example of leakage Previous work has shown that polluting industries grew less quickly in nonattainment counties than in attainment counties (Becker and Henderson, JPE, 2000).

8 Reshuffling mechanics To mitigate leakage, it is tempting to impose regulations on consumers. Potential for reshuffling. Reshuffling is different from leakage as it does not involve any change in where the economic activity takes place. Like an ineffective boycott, it simply involves a change in who transacts with whom.

9 Reshuffling example Diamond market before boycott Homogenous good Homogenous buyers

10 Reshuffling example Diamond market with boycott Red = subject to boycott Green = participant in boycott

11 Reshuffling example Diamond market with boycott Red = subject to boycott Green = participant in boycott

12 Reshuffling example Diamond market with boycott Red = subject to boycott Green = participant in boycott

13 Reshuffling example Diamond market with boycott Red = subject to boycott Green = participant in boycott

14 An effective boycott Diamond market with boycott Red = subject to boycott Green = participant in boycott

15 An effective boycott Diamond market with boycott Red = subject to boycott Green = participant in boycott Boycotts are effective when the fraction of participating buyers is greater than the fraction of clean sellers.

16 An effective boycott Diamond market with boycott Red = subject to boycott Green = participant in boycott Boycotts are effective when the fraction of participating buyers is greater than the fraction of clean sellers.

17 Other potential examples of reshuffling in the GHG context Low-carbon fuel standard. –Designed to reduce the lifecycle GHG emissions of transportation fuels. –For instance, by favoring corn-based ethanol produced using lower carbon growing techniques, CA may simply reshuffle where the clean ethanol goes. Generally, attempts to get to upstream sources are potentially subject to reshuffling.

18 What Works? Any cost imposing regulation will create incentives for leakage/reshuffling –Emissions standards, cap-and-trade –Downstream cap-and-trade, life-cycle cost assessments Subsidies for alternatives produce no incentive to evade (just the opposite) –Mandates (like RPS) do create costs for buyers Reshuffling concerns apply –If extremely effective - subsidies can increase consumption of the bad elsewhere Demand-side leakage

19 How bad can it be? Determinants of unintended consequences Leakage –Relationship of environmental costs to relocation costs Reshuffling –Relationship of environmental costs to costs of switching Subsidies –Elasticity of demand for the product being replaced

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23 Summary All climate change policies will be more local than the problem –And subject to evasion of jurisdiction Ironically, less flexible (and less efficient) policies are often less vulnerable to evasion –Subsidies & very specific mandates The best policy choice will vary by product and industry

24 Thank You.

25 Modeling Source-Based California C&T Options Immediate question: What would 2007 have looked like with Carbon regulation? Data derived from actual 2007 market outcomes Re-dispatch or simulate the market under various carbon regulation assumptions –West-wide cap, –CA Source-based –updating Simplified 3 node market model of transmission Solved as a complementarity problem –Each firm equilibrates MR and MC (including emissions costs) –Permit prices endogenously linked to emissions cap –Buidling on work of Zhao, Hobbs, and Pang, & Helman and Hobbs

26 q sim p sim p actual Demand q others q tot MC sim q cems Figure 1: Supply Costs, Imports and Others q others q imports

27 q sim p sim p actual Demand q others q tot MC sim q cems Figure 2: Emissions Rates and Supply costs q others q imports

28 Market Equilibrium Conditions

29 Output Based Updating Policy allocates new permits based upon production quantities –Provides incentive to continue local production –Can weaken incentives provided by cap- and-trade by (indirectly) reducing costs of pollution –Can stimulate cleaner production

30 Output-Based Updating Marginal Revenue Marginal Generation Cost Emissions market Allocations/costs

31 Summary Results

32 Summary Results

33 Carbon Emissions: by region and fuel type