Cap-and-Trade

Definition

Cap-and-trade is a market-based approach to controlling pollution by providing economic incentives for achieving reductions in the emissions of pollutants. It establishes a limit or 'cap' on the total amount of a specific pollutant that can be emitted, and then allows entities to buy and sell emission allowances or 'credits' to meet their individual compliance obligations.

5 Must Know Facts For Your Next Test

1. Cap-and-trade systems set an overall limit or 'cap' on the total amount of a specific pollutant that can be emitted, and then distribute or sell emission allowances within that cap.
2. Entities that emit the pollutant must hold enough allowances to cover their emissions, creating a financial incentive to reduce emissions and sell any excess allowances.
3. Cap-and-trade systems are designed to achieve environmental goals in a cost-effective manner by allowing entities to find the least expensive ways to reduce emissions.
4. The cap is gradually lowered over time, forcing emitters to find ways to reduce their emissions or purchase additional allowances, thereby driving innovation and investment in clean technologies.
5. Cap-and-trade programs have been implemented for various pollutants, including greenhouse gases, sulfur dioxide, and nitrogen oxides, in different regions around the world.

Review Questions

• Explain how a cap-and-trade system works to reduce emissions.
  • In a cap-and-trade system, the government sets a limit or 'cap' on the total amount of a specific pollutant that can be emitted. Entities that emit the pollutant, such as power plants or industrial facilities, must hold enough emission allowances to cover their emissions. These allowances can be bought and sold on a market, creating a financial incentive for entities to reduce their emissions and sell any excess allowances. The cap is gradually lowered over time, forcing emitters to find ways to reduce their emissions or purchase additional allowances, thereby driving innovation and investment in clean technologies.
• Analyze the key advantages of a cap-and-trade system compared to other pollution control approaches.
  • One of the main advantages of a cap-and-trade system is its cost-effectiveness. By allowing entities to find the least expensive ways to reduce emissions, cap-and-trade systems can achieve environmental goals more efficiently than traditional command-and-control regulations. Additionally, the market-based approach provides a financial incentive for entities to innovate and invest in clean technologies, as reducing emissions can generate revenue from selling excess allowances. Furthermore, the gradual lowering of the emissions cap over time ensures continuous progress towards environmental targets, unlike a static regulatory approach.
• Evaluate the potential challenges and criticisms associated with the implementation of cap-and-trade programs.
  • While cap-and-trade systems offer potential benefits, they also face some challenges and criticisms. Establishing the appropriate emissions cap and distribution of allowances can be politically contentious, as it affects the relative costs and burdens on different industries and stakeholders. There are also concerns about the potential for market manipulation, price volatility, and the unequal distribution of benefits and costs within a cap-and-trade system. Additionally, some argue that cap-and-trade programs may not be sufficient to drive the transformative changes needed to address complex environmental issues like climate change, and that complementary policies may be necessary to achieve more ambitious emissions reductions.

Related terms

Emissions Trading: A system where emitters of greenhouse gases can buy or sell emission allowances to meet their regulatory obligations. The total number of allowances is capped, creating a market for the trade of these credits.

Carbon Pricing: A policy tool that puts a price on carbon emissions, either through a carbon tax or a cap-and-trade system, to incentivize reductions in greenhouse gas emissions.

Pollution Abatement: The process of reducing or eliminating the release of pollutants into the environment through various methods, such as technological improvements, operational changes, or emissions trading.