Determining a fair price for carbon: Flexible Global Carbon Pricing

Flexible Global Carbon PricingKyoto Redesigned to Gain Cooperation
This approach focuses on gaining a strong agreement by leveraging self interest. Strong targets will flow from a strong agreement and not the reverse. The design focuses on incentives and cooperation not tons emitted or temperatures.

What has gone wrong? In frustration over Copenhagen, Todd Stern, the US Climate Envoy, famously remarked, “It’s not a matter of politics or morality or anything else. It’s just math.”

That’s what’s gone wrong. A focus on numbers instead of strategy leads to bickering, not cooperation. And numbers have no force — as Canada showed by rejecting its Kyoto target right in the middle of the Copenhagen summit.

The problem is not that Canada is a rogue state, but that it had no idea what it was committing to back in 1997 because it could not foresee the future 15 years in advance. Moreover there is no enforcement. The reason for these problem is that the treaty designers focussed on environmental numerics instead of cooperation. Dependable cooperation must come first, then the numbers and math will have meaning.

With many such flaws in the Kyoto design, Copenhagen’s failure was inevitable, so in preparation, an alternative approach was designed (see Carbonomics 2008), which we present here.

Global Carbon Pricing is not taxing. It’s an international commitment and not a national policy. Like a commitment to a cap it can be met in various ways.

Commit to a price, and implement:

  • Cap and trade
  • A carbon tax
  • Feebates
  • Any combination
Commit to a cap, and implement:

  • Cap and trade
  • A carbon tax
  • Feebates
  • Any combination

Since the two commitments can be met with the same policies, why is committing to a cap so unpopular?

Over the last few years, in anticipation of Copenhagen’s failure, a new approach, Flexible Global Carbon Pricing, has beendeveloped. It preserves the central carbon-pricing goal of Kyoto, but encourages cooperation by changing the climate game.

How it Works

The values of $30/ton and $2/ton are strictly for illustrative purposes, as PT and G must be selectedby international agreement. The price target, PT, is the hit with using the pricing incentive, which works on a country’s actual and target revenues.

Rule 1: A country’s target revenue = R* = PT× E, where E = total national carbon emission. It’s actual carbon revenue is R.

Carbon revenues can come from cap-and-trade, fossil-fuel taxes and feebates. As with caps, over- and under-achievement of the target price (or equivalently, target revenue) is inevitable, and as with caps, an over-achiever can sell carbon-revenue credits and an under-achiever must buy them. This works through a central market in which the effective price, Z, is adjusted annually.

Rule 2: A country is paid  Z × ( R R* ), where Z ~ 10%.

Note that if actual carbon revenue R < R*, then the country is paid a negative amount, or in other words must pay. The parameter Z is set automatically to control the global average price of carbon. Increasing Z rewards over-achievers more and charges under-achiever more, so raising Z encourages all countries to raise their carbon prices and collect more carbon revenue. The leads to

Rule 3: Adjust Z annually to make the global average carbon price, P, equal  PT, the price target.

This completes the main carbon pricing mechanism, so we turn now to the Green Fund, which transfers funds from high-emission countries to low-emission countries according to Rule 4.

Rule 4: A country is paid G × ( Eg E ), where E is the country’s and Eg is the world’s emissions per capita.

Rule 4 holds for high-emission countries and for low-emission countries that are collecting their target carbon revenues. But the Green Fund should be used to provide an incentive for low-emission countries to participate and comply with global carbon pricing, and this is accomplished with the Clean Development Incentive.

Rule 5: If a country’s carbon price, P, is less than PT, its Green-Fund payment is scaled back by: P / PT.

This completes the basic rules of Flexible Global Carbon Pricing.

Carbon Pricing Is Far Cheaper than Realized

Why 23¢ per person per day does the job

Our job is to put in place a climate policy capable of solving the problem, but our job is not to solve it. That will take 50 or 100 years. We cannot commit commit future generations; we can only put in place an agreement capable of carrying out the necessary changes.

Wreck the economy? The main reason people oppose climate and energy policies is because the believe they are expensive. Unfortunately, many environmental policy proposals inadvertently lend credence to this concern. Two strategic mistakes account for most of the self-inflicted damage:
  • The revenues from carbon pricing, and not the price, are seen lever for change.
  • Environmentalists focus on far of targets, when cost are unknown will be many times higher.
Focus on what is needed. We cannot lock in the future 40 years in advance. What we need is a solid first step. Here is why that step is exceedingly cheap, if we let carbon pricing do the job rather than handing the carbon revenues to special interests.

Proof by example. Consider a simple example of carbon pricing. If the price of carbon is $30/ton, would anyone pay $50/ton to save carbon? No, they would just pay the price of carbon instead.

That puts a limit on the cost of abatement — at most a $30 carbon price can cost us $30 for each ton saved. But that’s “at most.” Insulating houses can save more money in heating bills than it costs to insulate. That’s a negative net cost. The Environmental Protection Agency assumes that on average the cost of saving emission will be half way between zero and $30 the the carbon price is $30. That gives us the EPA formula for cost, which is the most important formula in global-energy economics.

Abatement Costs = 1/2 × (the emission reduction) × (the price of carbon)

Table 1 uses this formula.  In the US, we emit about almost 20 tons/person per year. So reducing that 20% means a 4 ton reduction per year. If the price of carbon is $30 then our abatement cost will be (on average) 4 × $30 / 2 = $60/year, which is just under 16¢/person/day — just as shown in Table 1. (See calculations)

Table 1 also assumes a Green Fund that charges countries $2/ton for emissions above the world-average per-capita rate, and that funds low-emission countries at the same rate for emissions below the world average. It also assumes carbon pricing cuts emissions almost as much as the Waxman-Markey bill says it will — a 20% reduction by 2020.

Table 1. shows how cheap carbon pricing really is — without subsidies and give-aways. Note that the cost is given in cents per day per person. This global system would be far more effective that what the U.S. can do alone.


1. A global price target is fair to developing countries

It’s not completely fair, but it avoids treating India more stringently than the US. India can see that it could become equally rich, since both have the same price target. (This holds for all developing countries.)

2. A global price target is less risky politically

If a country grows faster than expected, it will not have to pay other countries for the right to emit more, it will only have to price the new emissions the same as its old emissions and keep the resulting carbon revenues.

3. A global price target is easier to negotiate

  • There is only 1 target to negotiate, not 100
  • No ambiguous fairness considerations are required to set targets
    • With emission caps, these complexities include past emissions, income, per-capita emission, expected growth rate, and the carbon intensity of imports and exports.
  • On average, self-interested countries want a price target that is just about right.
    • While all self-interested countries want their emissions caps as weak as possible.

4. A global price target is easier to enforce

  • It’s easier to comply with pricing, so countries like Canada will likely succeed—less enforcement is needed.
  • End-of-year evaluations mean problems are caught before they are too big to manage.


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