There is now widespread agreement amongst both scientists and politicians that

global climate change (sometimes called global warming) is underway. Such a process
is seen as a threat to humanity as it may lead to more extreme weather events, such
as hurricanes, droughts and floods, as well as a rise in sea levels as a result of
global warming melting polar ice caps, which would result in the loss of many low-
lying coastal areas. Global warming may also bring tropical diseases to previously
temperate regions such as Europe and North America, although some also worry that
it could also alter the Gulf Stream which warms Western Europe and so lead to that
area becoming significantly colder than at present.
There is also a consensus that human emissions of carbon into the atmosphere,
largely created by the burning of fossil fuels such as coal, oil and natural gas,
are responsible for climate change. Some scientists and some politicians still
question this consensus, but this topic will not address that debate (see �Global
Warming: Is More Action Needed?� elsewhere in Debatabase). Most governments
accepted the reality of global climate change in the late 1990s, when the large
majority of states signed up for the Kyoto Agreement which attempted to check the
increase in carbon emissions in developed countries and provide a framework for
future action to reduce overall emissions. Although some countries, in particular
the USA, refused to sign up to the Kyoto Agreement, and expressed scepticism over
the whole climate change issue, most have now come to accept the conclusions
reached by the United Nations� Intergovernmental Panel on Climate Change. For
example, in 2007 President Bush committed the USA to action to combat climate
change through reductions in America�s carbon emissions; a move that was widely
seen as a significant policy shift.
Global attention is now focused on the best ways to reduce carbon emissions,
bearing in mind the potential economic costs of doing so. A key issue is whether it
would be best to seek reduced emissions through direct government regulation, or
whether market mechanisms are preferable. While regulation might ban certain
polluting practices, such as coal-fired power stations, and force businesses and
consumers to adopt cleaner technologies, market mechanisms seek to put a price on
carbon emissions and so provide a strong financial incentive to reduce them. This
could be done either by taxing carbon emissions, or through a cap-and-trade
mechanism whereby businesses must obtain permits giving them the right to pollute
to a certain level � allowing companies which reduced emissions dramatically to
profit from selling their unused permits to their more polluting peers. Another
topic will examine which of these market mechanisms should be considered
preferable, while this case will compare market mechanisms in general to regulation
as a means of reducing carbon emissions.

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Arguments

Pros

Market mechanisms are open ended and provide and an ongoing profit motive for
companies, state agencies, and individuals to reduce emissions, as doing so either
creates additional profits (cap and trade) or yields up additional tax reductions
(carbon tax). Either is better than a regulatory approach, which only requires cuts
to a certain level and provides no longer-term incentive for companies to drive
down emissions by investing in new technology � meaning companies will take the
minimum action necessary to meet the regulatory standard.
cons
Regulation already exists and has proved effective, so it is unnecessary to try to
construct market-based solutions. Pollution and climate change is essentially a
result of market failure, and governments need to intervene to resolve this.
Regulations are flexible as they can be strengthened and extended over time,
building on initially moderate measures. Regulations can also be introduced in such
a way that companies are given an incentive to reduce their carbon emissions as
much as possible, for example through progressive fines for CAFE vehicle emissions
standards in the USA

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pros

Market mechanisms provide a better means of tackling climate change at a global

level. With the exception of the European Union, regulations are set by individual
countries so there is a great risk that each state will come up with its own set of
regulations in an attempt to limit carbon emissions. Not only will this be
unnecessarily complicated and raise the costs of compliance considerably, there is
also a risk that states will have an incentive to introduce only lax regulations in
an attempt to attract more business investment than other, more demanding
jurisdictions.
By contrast, market mechanisms can provide a more coordinated and effective
international response. A cap and trade system will sit alongside existing
international financial and commodities markets. Cap and trade also provides
incentives for developing countries to participate by offering them a chance to
profit by adopting green technologies and preserving their forests. And although an
identical global tax level for carbon emissions seems as unlikely as coordinated
regulation, agreement on the principle of carbon taxation would be much easier to
achieve. Individual countries could set their own carbon tax rates if they wished,
but as they will all be taxing the same damaging emissions the overall impact in
the market will be to provide a powerful push to reduce emissions.

cons

Because it is not possible to achieve a perfect market in carbon emissions,

regulations are to be preferred. Firstly, some types of emissions are more damaging
to the environment than others, but this is hard to recognise in a carbon tax or
trading system. Regulations can be more targeted in order to deal with the biggest
problems first. For example, government policy has required vehicle exhausts to
become much less damaging to the environment over the past few years, and can also
demand that companies (e.g. power generators) update their equipment and working
methods. The deadlines and potential sanctions accompanying such government demands
can also focus investment into research and development which the market alone
would not provide.
Secondly, the existing global marketplace is quite imperfect. Many countries (e.g.
China, India) lack the kind of open economies needed for market mechanism to
operate effectively. Unless efforts to curb carbon emissions are to be put on hold
until their economies are sufficiently reformed for market incentives to have a
chance of working, regulations will have to be the main method of emissions
reductions in such places. And on a global scale market incentives are hugely
distorted by such oddities as the exemption of aircraft fuel from taxation.
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pros

Using market mechanisms is likely to have a greater impact on people�s behaviour

than regulation alone. Both a carbon tax and a trading system that prices emissions
would raise the cost of fuel and electricity for ordinary people, providing an
incentive to reduce their personal carbon footprint. This would have an immediate
impact, and would affect all kinds of consumers, whereas regulations mandating
efficiency standards for vehicles or homes would apply only to new purchases and
not to the huge number of existing automobiles and houses, making any overall
progress in reducing emissions extremely slow. Regulations can also have perverse
effects � for example, requiring higher fuel efficiency standards may reduce the
cost per mile to the motorist and so actually encourage more driving and so more
pollution. By contrast, raising the cost of the fuel itself (as either cap and
trade or a carbon tax would) will provide incentives for both greater engine
efficiency and reducing mileage.

cons

Market-based proposals can sound great in theory but economists fail to recognize
the way in which people actually live their lives. Because people value the
personal freedom their motor vehicle gives them, and feel that they have no choice
but to use it to get to work, take the kids to school, etc., they will swallow very
high increases in fuel taxes without changing their behaviour. Similarly, making
your home energy efficient can involve a lot of initial expense, and even if this
investment would pay for itself in lower bills or taxes over a number of years,
many people will not feel the investment is worthwhile. Only by regulation
requiring people to change their behaviour can this inertia be addressed.

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pros

Market mechanisms such as carbon trading allow the greatest reduction in emissions
at the least cost � this damages the world economy less and will ultimately allow
more rapid decreases in emissions than costly regulations would achieve. Power
generating plants and motor vehicles in the developing world and the former Soviet
Union are often hugely more polluting than those in the most developed nations, and
it would be relatively cheap to equip them with more modern technology in order to
bring emissions down. By contrast, achieving even a tiny additional reduction in
more efficient developed world plants and vehicles would be hugely costly, as it
would require completely new technologies to be developed. Carbon trading (or an
international carbon tax) would encourage firms to direct investment into whatever
would reduce their emissions most cost-effectively, either by direct investment in
their developing world operations, or by buying carbon credits from such countries.
If this means emissions in the rich world stay level while carbon reduction efforts
are concentrated elsewhere, then fine � the world as a whole gains from this. And
if it transfers money and directs investment into developing nations, then that is
an additional benefit of the scheme.

cons

Market mechanisms like carbon trading can act as a way for the rich countries
historically responsible for causing climate change to avoid their
responsibilities. By allowing developed countries and their businesses to purchase
carbon offsetting credits in the developing world, they can effectively export
their obligation to reduce carbon emissions. This is not morally justifiable as the
problem was largely created by developed nations, so they should be required (by
regulations) to make sacrifices to deal with it. Furthermore, as such market
systems often trade virtual carbon reductions, whereby schemes in the developing
world are meant to prevent increases in emissions which might otherwise have taken
place, they do not reduce the actual amount of carbon emitted into the earth�s
atmosphere. Questions have also been raised about the potential for fraud and
corruption in many carbon offset schemes in the developing world.

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pros

Badly designed market mechanisms will not promote effective emissions reduction,
but that is also true of badly designed regulations (which are often highly
politicised, e.g. US vehicle exhaust emissions standards). The European Union�s
system has had problems, but the EU Commission has been much stricter with the
second round of permit allocations and there is every prospect that the carbon
market will prove successful in the next few years. Already EU companies have been
incentivised to invest in carbon-reduction schemes in developing countries, so cap
and trade is having a positive global impact. Extending cap and trade to other
countries would allow us to learn from the EU�s experience, perhaps by making
companies pay for permits to pollute rather than giving permits to them for free.
On the other hand, many economists argue that a carbon tax is preferable to both
regulations or cap and trade, as it is much more transparent in the way it creates
incentives to reduce emissions.

cons

Regulations are more stable and effective than carbon markets. The European Union�s
recent experience of running a cap and trade system for carbon emissions does not
inspire confidence. Allocations of permits to pollute have been politicised amid
competition between member states, so too many permits have been handed out, often
to the wrong industries. As a result the carbon price was initially extremely
volatile before settling at a very low level � neither of which is likely to
inspire any company to make big investments in green technology. Given that the
level of any carbon tax is also likely to be highly politicised, the predictability
of clear emissions standards is much the best way to promote emissions reductions.

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pros
Consumers are not unfairly punished by carbon taxes or by higher energy prices as a
result of cap and trade schemes. Ultimately climate change is caused by all of us,
and ordinary people will have to change their behaviour in order to tackle global
climate change. But there is no reason to think that market mechanisms will create
victims � carbon taxes can be offset by reductions in the level of other taxes, so
that their overall impact is neutral. And regulations do not just affect big
businesses � they create costs which industry passes on to consumers in the form of
more expensive electricity, vehicles, gasoline, etc. In fact, regulations often
favour particular industries over others for political reasons, which is far more
unfair than using market mechanisms to send green price signals to consumers.

cons

Carbon taxes unfairly punish consumers of energy by raising the cost of heating
their homes, travelling to work, etc. Hard-working families already face a very
high tax burden and so-called �green� taxes are just another excuse for politicians
to dip into their wallets. Cap and trade is little better as it puts energy
consumers at the mercy of volatile markets, making ordinary families prone to the
same unpredictable price spikes and supply failures which affected California a few
years ago. Regulations force those really responsible for carbon emissions � power
generators, the auto industry, fuel companies � to face up to their
responsibilities and to invest some of their vast profits in green technology.

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pros

Regulations to reduce carbon emissions will suffer all the problems of government
bureaucracy. While market mechanisms will appeal to companies� and consumers� self-
interest in a transparent way, regulations are always complex and burdensome. A
massive and expensive administrative system will be needed to frame and introduce
meaningful regulations, and this will impose unnecessary costs upon our economy
(and probably raise taxes). Worse, because government is always so bad at
regulation, companies will calculate that they need not obey the rules anyway �
because poor monitoring means they are unlikely to get caught, and weak penalties
mean that even if they are caught the fines will still be less than the cost of
complying with the regulations.

cons

Regulations such as efficiency standards will be easier to introduce than market

mechanisms. In a democracy the public need to be convinced of any major new policy
initiative, and polls suggest the public would prefer more stringent emissions
standards. By contrast market mechanisms find little favour with the public,
meaning that any attempt to introduce them may be doomed to failure, along with the
politicians associated with them. Carbon taxes are unpopular because the public
very reasonably sees them as another way for the state to take money off them;
politicians� promises to offset the impact with reductions in other taxes are not
believed. Cap and trade systems are so complicated to explain that it is unlikely
the public would ever learn to understand and trust them. What the public will see
is that cap and trade schemes would require a large and costly bureaucracy of their
own, but at international level, so that our sovereign independence would be
threatened by some global body.