With thehistorical release of the Environmental Protection Agencys new carbon emissions policy, I took an extra day to comb through and digest the news. I have organized my intermediate microeconomics class around something called the Yoga Theorem. This almost universal truth states that the less flexible you are, the more you will suffer. It holds in a very largenumber of settings (e.g., tax incidence, market power). On Monday, June 2, the Obama administration barred from implementing a national price based (= very yogaesque) policy like a carbon tax or cap and trade turned up the heat on existing coal fired power plants. This is big news. Almost 40% of energy-related U.S. CO2 emissions come from power generation and the new rule will cut these emissions by 30%. This means that this rule will result in a 12% overall reduction in emissions by 203, relative to 2005 baseline emissions. I hear cheering from the left and jeering from the right.
As far as standards are concerned, there is a lot to like about the new rule. Each state has a target spelled out in terms of pounds of CO2 per megawatt hour (MWH). Instead of prescribing what states have to do to meet these standards, there are a number of flexibility mechanisms designed to help states meet their targets. For example, states can upgrade older plants, switch from coal to natural gas, ramp up their energy-efficiency efforts or increase renewable generation off site. This strategy is designed to help states tailor approaches to their local economies and fuel mixes. States can even meet the targets by implementing their own carbon taxes or joining existing cap and trade schemes. This is conceptually very similar to a global climate regulation architecture, which allows countries to choose how to meet a pre-specified target. Only that in this context, there is an enforcer with a big stick, which we do not have globally. By the numbers Lets take a brief step back and look at the broader picture. In 1990 U.S. energy-related CO2 emissions were 5040 million metric tons (MMT).Had we ratified it, the Kyoto Protocol would have pushed us to 7% below that level by 2008-2012. That would mean a target of 4873.2 MMT. In 2005, we emitted 5999 MMT. The new rules, if they get implemented, would get us to 5279 MMT by 2030. That is 8.3% above the Kyoto target. If we compare the new target to todays (2013) emissions (5393 MMT), the new plan only reduces emissions by 2.1% by 2030, since emissions have come down drastically since 2005 due to the natural-gas revolution. So the choice of 2005 as a baseline to advertise reductions superficially includes what has happened already. The 30% reduction from the power sector is equivalent to a 7.5% percent reduction if you use today as a baseline, not 2005. Heavy hitters
Another thing that has changed since 1997, the year the Kyoto protocol was signed, is that emissions from China have skyrocketed. Negotiators from China, India and other rapidly developing economies have always argued that they would never agree to a regulation unless the EU and U.S. would have their own. And even then, there should be a common but differentiated responsibility. Meaning we should do more and they should do less. I applaud the Obama administration for this very smart piece of regulation in a world where the right side of the aisle is hostile to least-cost, market-based approaches. But I am concerned that this will do little to move the countries that matter to act in a significant way. China, one day after the new rule was published, signaled that it is likely to put a total cap on carbon emissions not just the carbon intensity of GDP. We will find out soon whether the negotiating strategies of the less-developed countries will change at the all-important Paris meeting of the parties, and how big that Chinese cap is. I am certain that this new rule is part of a solution, but by no means the last word in mitigation policy. We need to do much more. And very soon. Cross-posted from Energy Economics Exchange (tag line: Research that Informs Business and Public Policy), a blog of the Energy Institute at Haas.