"Allowance Allocation and Auctioning"
Allowance Allocation and Auctioning John Larsen Franz T. Litz Associate Senior Fellow WORLD RESOURCES INSTITUTE Allowance Distribution Key Concepts • Allowances are assets created by government • Value is not known in advance • Distribution is much like handing out money • Allocation is inherently a political exercise Allowance Distribution Key Concepts • Allowance distribution does not affect the environmental integrity of the cap • Distribution does affect who bears the costs of the program • Distribution methods present a series of economic trade-offs • Regardless of distribution method, the monetary incentive to reduce emissions remains the same Setting the emissions Cap • How many tons of CO2e are permitted from all covered entities combined at the start of the program? – What are the emissions baselines for each set of emissions sources or entities? – How will the emissions baselines be used in setting the initial allowance budgets? • How will subsequent allowance budgets be determined? i.e., what reductions will take place where? Allocate Allowances to Sectors • Should allowances be divided among covered sectors and/or other entities or should they be put up for auction? • If apportioned among sectors, then how many allowances does each covered sector get? – What are the key criteria for dividing up allowances among sectors to establish sectoral allowance budgets? • Emissions baselines for each sector? • Relative competitive posture of each sector? • Relative ability to reduce emissions? • Ability to pass through costs? • Other? • How will subsequent sectoral allowance budgets be determined? i.e., what reductions will take place where? Distributing Allowances to Covered Entities • How should allowances be distributed? – Allocate to covered entities based on: • Past emissions, or “grandfathering”? • “Recent” emissions relative to output on an updating basis? • Output only – Auction? • Will amount auctioned increase over time? Summary of primary distribution options Type Description Examples Grandfathering Allocations to existing U.S. SO2 Program; sources, based on Most EU ETS past emissions. Members Output-based, Allocations to existing Certain Northeast emissions sources, States in NOx Updated based on recent Program. emissions per unit of output; updated every X years Input-based, Allocations to existing Certain Northeast sources, based on States in NOx Updated recent heat input; Program. updated every X years Auction Allowances sold at Most RGGI states; auction Partial Auctions in EU; Small US SO2 Auction Pros and Cons of Distribution Options Type Pros Cons Grandfathering Familiar approach, May penalize early insures proportional action, reward large distribution for all emitters emitters Output-based, Rewards and incentivizes May generate windfalls efficiency for non-emitters Updated Input-based, Avoids penalizing Does not fully reward cogeneration efficiency Updated Auction Price discovery, revenue May adversely affect generation for cost GHG intensive sources mitigation, other in early years, programs international competitiveness issues Allocation to non-regulated entities • Allowances can be distributed to mitigate cost to affected groups • Examples – Consumers – Displaced workers – Local governments • Allowances can also be distributed to reward GHG reductions • Examples: – Increased carbon sequestration – Low carbon technology deployment – Energy efficiency Why Auction? • Avoids politics of allocation but introduces politics of revenue distribution • Price discovery • Raise revenue for complementary purposes • Most economically efficient way to distribute allowances but not always most politically viable RGGI approach: Nearly 100% auction • Deregulated electricity market means states cannot control generators’ electricity bids • Value of allowance ends up in bid because allowances have value • Therefore, consumer pays cost whether allowance is given to generators or the generators pay for them at auction • Revenue for program administration, energy efficiency, renewables Auctioning and Price Discovery • Title IV of the Clean Air Act Amendments provides for a small SO2 auction (about 2.8%) • Auction proceeds are returned to sources • SO2 auctions are a very small part of the SO2 market • Provide source of allowances for new entrants SO2 auction clearing price has mirrored secondary market price. SO2 Allowance Price vs. Auction Clearing Price $1,600.00 $1,400.00 Allowance Price Auction Clearing Price $1,200.00 $1,000.00 $800.00 $600.00 $400.00 $200.00 $- Aug-94 Aug-95 Aug-96 Aug-97 Aug-98 Aug-99 Aug-00 Aug-01 Aug-02 Aug-03 Aug-04 Aug-05 Aug-06 Distribution methods are not an “either – or” proposition • A mix of approaches may be optimal • Some hybrid of auctions, free allocation and bonus allowances • Approach is under consideration in Congress Lieberman-Warner changes allocation over time • 40 percent to regulated industry (grandfathered), decreasing over time • 24 percent auctioned (proceeds go to range of public benefits), increasing over time • Set-asides for early action, energy efficiency, sequestration, CCS and states Lieberman-Warner allowance distribution changes over time Allowance Distribution under Lieberman-Warner Industrial Sector 6,000 Rural Electric Cooperatives General Electric Power Sector Allowances (million metric tons CO2e) 5,000 International forest protection Domestic ag. and forestry 4,000 CCS Electricity consumers 3,000 States/Tribes 2,000 States exceeding targets Energy efficient buildings 1,000 Energy savings Early action 0 Annual auction 2012 2016 2020 2024 2028 2032 2036 2040 2044 2048 Year Early auctions Allowance distribution in 5 steps Simplified Allocation Decision Tree Will allowances Government auction Distribution of revenue 1 be distributed no ALLOCATION FORMULA free of charge? On what basis will Will allowances 3 4 yes allowances be pro- be designated for rated among special recipients? incentives? upstream fuel carbon content new entrants suppliers market share renewable downstream emissions energy 2 Who will emitters fuel input receive the CCS & non - emitters output efficiency allowances? efficiency consumers & Load consumption mitigation of price end - users per capita impacts 5 Will the allocation formula be updated over time? How? Questions? Comments? 18