Cap and Trade

In this article I want to explore in very broad terms the concept of a carbon trading system. Cap and Trade has become one of those technical terms that have become politicized to the point of being unrecognizable. Essentially, cap and trade is a relatively standard, low risk and proven approach to a particular type of problem.

Without getting immersed in political discussion, I think Cap and Trade as a strategy has been given a bad rap as if it were a pilot scheme that has never been tried before.

It is true to say Cap and Trade hasn’t been used at the scale being envisaged to address a global challenge. However, that assertion is equally true of every human endeavor short of maybe free market economics, democracy and war.

Cap and Trade was used successfully to move the fuel industry to low sulphur diesel. Atmospheric sulphur being the main cause of Acid Rain. For those not aware of it Acid Rain was the global challenge in the late 1980’s as entire evergreen forest ecosystems (particularly in Europe) faced destruction from the top down. Sulphur was the natural lubricant that helped keep diesel engines from seizing up under load (think Trucks, Tractors, Buses and Trains). When cap and trade for sulphur was introduced there were no financially feasible alternatives. Should the engine makers invest in manufacturing new engines or the fuel companies find a new additive to replace sulphur? Once the incentive was created the manufacturers industry quickly scaled up the development of engines that could cope with low sulphur diesel. Rather than tie themselves to a potentially expensive new fuel additive they could financially justify creating a new type of engine.

Putting a price on sulphur didn’t reduce the use of diesel, it altered the mindset, separating sulphur the lubricant from diesel the transport fuel.

A Cap and Trade system ensured alternatives were developed in a timely manner and spread through the industry quickly. The basic motivation was financial – innovate or pay the cost, but beyond that failure to innovate opened an opportunity for the competition to capitalize on innovations other established players were not willing to support.

The problem for advanced economies is that the infrastructure has already been built for a high carbon polluting lifestyle – centralized electricity generation with thousands of miles of cable, roads for single occupant cars etc.

The rapidly developing countries have less existing bricks and mortar infrastructure at risk of becoming obsolete.

The existing energy and transport industries have almost no incentive to support implementation of a potentially dramatic Cap and Trade reform. The slow evolution of higher fuel prices will achieve the same result at a rate that will allow them to utilize their existing infrastructure for its effective life. The longer the debate goes on the more value is being extracted from the existing infrastructure.

Historically, if we had allowed vested interests and the existing players to dictate industry policy the government wouldn’t have built a network of interstate roads. With roads available people bought that first car. Without the push from the government investment we might all still be walking to the local train station to get anywhere. There are many who think that would be a good thing, however I suspect the associated financial boom of the last sixty years would have been stifled to a crawl.

Letting vested interests stifle the next generation of innovations comes at a massive cost to future growth.