3.9 Environmental Regulatory Issues

3.9.2 Emissions Trading (Cap-and-Trade)

An alternative to the use of RECs is emission trading (often referred to as Cap-and-Trade). These carbon emissions trading programs use penalties and incentives to achieve established emissions targets, such as reductions in the emissions of pollutants, including greenhouse gases.

A central authority (usually a governmental body) sets a limit or cap on the amount of a pollutant that may be emitted. The limit or cap is allocated and/or sold by the central authority to firms in the form of emissions permits which represent the right to emit or discharge a specific volume of the specified pollutant. Permits (and possibly also derivatives of permits) can then be traded on secondary markets. For example, Californian companies trade “California Carbon Allowances”.

Cap-and-trade has been very effectively used to reduce acid rain, and is seen as providing the private sector with the flexibility required to reduce emissions while simultaneously stimulating technological innovation and economic growth. However, except for California, this method is not widely used in the US for greenhouse gases.