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Is an emissions trading scheme a carbon tax?

August 4th, 2015

I was recently asked this question by ABC Fact Check. Here’s my answer:

The core idea of an ETS is to limit the volume of emissions (of carbon dioxide) by creating a set of permits that must be used by emitters. The permits may initially be auctioned or given away. Since the permits are tradeable a market price will be determined by the demand for permits and the willingness of permit holders to sell their permits. By contrast, a carbon tax sets a price on carbon emissions and allows the market to determine the volume of emissions.

There are a large variety of schemes that resemble the ETS in general structure. Within the environmental area, both the Renewable Energy Target and the government’s Emissions Reduction Fund (if augmented with a baseline allocation and penalty structure) fall into this class. Other examples include taxi licenses, electronic spectrum auctions, and tradeable catch quotas in fisheries. None of these policies is normally described as a tax.

  1. bjb
    August 4th, 2015 at 16:55 | #1

    What happens with an ETS if the government at some time in the future says the volume of emissions allowed will be X/2 or whatever, where the current volume = X ? Do permits get cancelled, bought back ?

  2. John Quiggin
    August 4th, 2015 at 17:02 | #2


    Permits are typically issued for a few years’ worth of emissions at a time. So, governments just reduce the number in the next auction.

    I believe Warwick McKibbin has proposed the idea of long-lived permits, but I don’t think anyone went for it.

  3. Chris O’Neill
    August 4th, 2015 at 17:09 | #3

    The people who voted against Carbon pricing at the last election don’t care what the difference between a Carbon tax and an ETS is. If they vote against a Carbon tax then they will vote against an ETS.

    If a political party tries to avoid losing votes by promising an ETS instead of a Carbon tax then their strategy will fail.

  4. John Quiggin
    August 4th, 2015 at 17:35 | #4

    @Chris O’Neill

    The people who voted against a carbon tax mostly did so because Gillard had promised there wouldn’t be one. The same people mostly support the Renewable Energy Target which is effectively an emissions trading scheme for electricity.

  5. Alphonse
    August 4th, 2015 at 17:41 | #5

    What’s the practical difference between a price that generates a cap and a cap that generates a price?

  6. Megan
    August 4th, 2015 at 18:52 | #6


    I’d say the practical difference is the “cap”.

    If you fix the price, the cap will end up somewhere, and if you fix the cap the price will end up somewhere.

  7. Donald Oats
    August 4th, 2015 at 20:28 | #7

    If a price is set on a per tonne of CO2 emissions, such as through a tax mechanism, then the government has uncertainty in how many tonnes will eventually be emitted; obviously the government would have some economic modelling done to establish a price which they would estimate as reducing emissions by X tonnes for a given year, but it is a forecast, not certainty.

    In the case of selling permits, the permit provides the right to emit up to some fixed number of tonnes of CO2, and the permits are purchased through a market place. The permits could be sold at a fixed price, or could be auctioned, but once sold in the primary market, they are tradeable assets like shares are. So, by adding up all the permit units of CO2, the government knows the total amount of CO2 which the market participants are allowed to emit; what the government doesn’t know is the price a given company is willing to pay to be allowed to emit X tonnes of CO2.

    For example, company A purchases a permit to emit 100 tonnes CO2 per year for three years, sold at a government initial price of $15 per tonne per year, making that permit worth $4500. Later on, company B decides they need an extra 100 tonnes of emission rights, so they enter the secondary market to purchase a permit; company A, not needing their permit, puts a price of $5100 on it, and waits. B needs it to continue operating their business, and they take it at that price, effectively stating that $17 per tonne per year is the market price now.

    Should the market participants fail to use up the credits, the emissions have declined even more than the government’s capped emissions limit, capped by the total number of permits it sold in the first place. On the other hand, if companies are continuing to emit heavily, that makes the permits a scarce resource, and drives up the price.

    First scenario: fixed price, quantity of curtailed emissions uncertain. Second scenario: maximum emissions possible is known, but the spot price is a function of market demand, not government control.

  8. Donald Oats
    August 4th, 2015 at 20:35 | #8

    @Donald Oats
    Perhaps I’ll add that, in the case of a fixed price, a business can fold that fixed price into their calculations for running the business, and know that if the numbers stack up, they can grow the business and emit more CO2, or if the price is a bit steeper, deflect some energy into finding ways of not emitting so much CO2 while continuing their business, growing it, etc.

    The effect of the cap and trade system is a bit different: since the spot price is unknown until you need to purchase more permits, or sell them, the business imperatives involve better planning ahead so as not to get caught short of permits as the end of the permit termination date nears; perhaps there is a rollover facility, or perhaps not. Whatever the case, the businesses have to decide whether they can afford to wait and see, or whether they should concentrate on a planned reduction in emissions, even as business expands, and make that a company strategic objective.

    It’s not my area of expertise (what is?), so perhaps an economist can wade in on this.

  9. Chris O’Neill
    August 4th, 2015 at 21:54 | #9

    @John Quiggin

    the Renewable Energy Target which is effectively an emissions trading scheme

    Of course the Abbott government doesn’t want to get into calling the RET a Carbon tax because it would then have to defend its own action in perpetuating it. Recent rumblings about this appear to have been suppressed, probably helped by Helicoptergate.

    Notwithstanding RET, it would only take a few milliseconds before the Abbott government let everyone who wants to believe it that the ETS is a Carbon tax. The people who voted against the Carbon tax won’t care that the RET is effectively an ETS. That is too conceptually complex for the vast majority of people to care about. The only thing that people who voted against what they knew as a Carbon tax will care about is that they can believe the ETS is a Carbon tax. They could believe the RET is a Carbon tax too but Abbott won’t be trying that on.

  10. Rob Barwick
    August 4th, 2015 at 22:13 | #10

    An ETS is an invention of Enron, the corporate fraudsters who used derivatives and debt to rig the US energy market and fake profits before they imploded in 2001. A tax is a government levy to raise revenue for infrastructure or services that benefit the public. A CO2 ETS is a fraud on a fraud, a speculative trading scheme to profit the likes of Goldman Sachs purporting to solve a nonexistent problem. A CO2 tax is intended to crush the energy infrastructure that benefits the public, denying them reliable baseload power (unless it is used to fund the only possible alternative baseload source–nuclear).

  11. August 4th, 2015 at 22:35 | #11

    I have one question, Rob Barwick. Who is currently in possession of Enron’s tardis?

  12. Ikonoclast
    August 5th, 2015 at 08:59 | #12

    Short answer:-

    “They are both prices on CO2 emissions.”

    And if that didn’t satisfy you could have added;

    “A tax is a compulsory contribution to state revenue. A permit cost may be considered compulsory or non-compulsory by the potential payer. Their view might depend on whether or not the action requiring the permit is considered necessary for life, amenity or business.”

  13. Ikonoclast
    August 5th, 2015 at 09:21 | #13

    @Rob Barwick

    Wikipedia says;

    “The efficiency of what later was to be called the “cap-and-trade” approach to air pollution abatement was first demonstrated in a series of micro-economic computer simulation studies between 1967 and 1970 for the National Air Pollution Control Administration (predecessor to the United States Environmental Protection Agency’s Office of Air and Radiation) by Ellison Burton and William Sanjour.

    The development of emissions trading over the course of its history can be divided into four phases:[40]

    Gestation: Theoretical articulation of the instrument (by Coase,[41] Crocker,[42] Dales,[43] Montgomery[5] etc.) and, independent of the former, tinkering with “flexible regulation” at the US Environmental Protection Agency.
    Proof of Principle: First developments towards trading of emission certificates based on the “offset-mechanism” taken up in Clean Air Act in 1977. A company could get allowance from the Act on greater amount of emission when it paid another company to reduce the same pollutant.[44]
    Prototype: Launching of a first “cap-and-trade” system as part of the US Acid Rain Program in Title IV of the 1990 Clean Air Act, officially announced as a paradigm shift in environmental policy, as prepared by “Project 88”, a network-building effort to bring together environmental and industrial interests in the US.
    Regime formation: branching out from the US clean air policy to global climate policy, and from there to the European Union, along with the expectation of an emerging global carbon market and the formation of the “carbon industry”.

    I don’t see any mention of Enron here.

    This doesn’t mean I support cap and trade over a tax but both are a price (with different effects) and there is no sign Enron invented the ETS.

    I do however think the neoliberals and the fossil fuel industry saw an ETS as game-able (when the government was weak or unwise about its specific form of implementation).

  14. Uncle Milton
    August 5th, 2015 at 09:49 | #14

    @John Quiggin

    The same people [who opposed Gillard’s carbon tax] mostly support the Renewable Energy Target which is effectively an emissions trading scheme for electricity.

    Indeed they do, despite it putting their electricity bills up by more than the carbon tax. Go figure.

  15. August 5th, 2015 at 12:19 | #15

    If anyone thinks a carbon price is not politically possible because of voter sentiment, I’ll mention that after declaring that Australia’s carbon price was destroying the economy and possibly the world, and hinting that it was actually responsible for the destruction of Alderaan and nothing to do with that nice friendly Imperial Detention Centre floating near by; the Coalition had no compunction and little difficulty in raising the fuel excise, which is a limited form of carbon tax on oil products. Just one that doesn’t apply to the coal or other mining industries.

  16. Chris O’Neill
    August 5th, 2015 at 12:32 | #16

    @Ronald Brak

    If anyone thinks a carbon price is not politically possible because of voter sentiment

    No one thinks that of course.

    What people do think is that a carbon price is not politically possible because of voter sentiment AND the ruthless exploitation of that sentiment by political parties hell-bent on winning at any cost.

  17. August 5th, 2015 at 12:59 | #17

    Chris, I wouldn’t be surprised if one day politicians start exploiting people’s zenophobia and start mistreating victims of war and climate change in order to win elections at any cost. Now you might think that we would never stoop that low, but I saw hints in the media that we were capable of such things before I stopped reading newspapers and watching television over 10 years ago.

  18. Chris O’Neill
    August 5th, 2015 at 13:50 | #18

    @Ronald Brak
    Indeed. I think you could say that if one party whips up opposition to a progressive policy (Carbon tax, dealing with asylum seekers, etc) then they can move many voters position against such a policy and thus win government with their ruthless whipping-up of opposition. That’s the way it is with a lot of policies, if conservatives don’t like them then they are capable of influencing the electorate to hold back. If the political community is divided on an issue then the most likely response by the general community is to be conservative (in the political sense, other meanings for conservative notwithstanding).

  19. August 5th, 2015 at 15:17 | #19

    Chris, indeed. And the whipping boy (or rather whipping youth, let’s not be sexist here) can change from election cycle to election cycle and indeed week to week. And there are so many to choose from! Poor people, foreigners, poor foreign people, people with low rates of skin cancer, poor foreign people without skin cancer, lazy people who suddenly decide to stop working when ever the economy suffers a downturn, unmarried mothers, married mothers, people who have or had the potential to become mothers at some point in their lives, lesbians, people who are not real men enough to enjoy lesbian themed pornography, people who put their penises where we don’t think they should, people who don’t have penises at all (I think think this category may overlap with mothers), dirty hippies, clean hippies, people who use horrible drugs except the horrible drugs tobacco or alcohol, young people, older young people who are under 30, people who have children, people who don’t have children, the unemployed, the under employed, the employed who are too stupid to make a lot of money, people who try to steal the intellectual property of cigarette or pharmacutical companies, people who think the very term intellectual property is idiotic, regulation, protesters, people who get in the way of large companies doing whatever they want, and so on. With so many to choose from, maybe they will pick a different hobby horse to ride if they think it will take them further. I suggest they decide to pick on this internet thing this time around. I think only unemployed young disabled people use that and it’s not like it’s important. As Tony Abbott said, it is “…essentially a video entertainment system.”

  20. rog
    August 5th, 2015 at 20:21 | #20

    It seems that the govt is happy to regulate asylum seekers via a quota, the same could be applied to emissions.

    The problem is that the LNP have yet to acknowledge that burning coal produces emissions.

  21. August 5th, 2015 at 23:50 | #21

    To be fair, Rog, combustion is only a theory.

  22. August 8th, 2015 at 20:43 | #22

    One safeguard has been put in place in Direct Action, to ensure that for the sectors not covered by Direct Action, their emissions growth doesn t dwarf any reductions seen by companies that are reducing emissions inside the Direct Action tent. Probably the most peculiar thing in today s announcement was Clive Palmer saying that an emissions trading scheme is the most important thing for Australia, and therefore we will wait until after the United Nations climate negotiations in Paris in December 2015 to see whether Australia will adopt one.

  23. Dave McRae
    August 13th, 2015 at 17:11 | #23

    I had a win a few years back (~2010) explaining some Clean Energy Future policy details.

    My audience was a dairy farmer who was fearful of the “TAX”.

    I asked him what he thought of irrigation water trading Howard had introduced. He loved it, thought it was the best thing, it enabled him to get through the drought without downsizing and he could buy water. Some people he knew who were able to exit the industry, or sit out the drought, without going bust by selling their water allocations/allotments.

    I asked if he would call it a water tax, and the answer was of course not. One would have to be stupid or partisan to call it so.

    I explained the so-called Carbon Tax was pretty much the same, permit trading with most permits initially allocated for free – the fixed cost bullshit was just that.

    And struggling companies could decide to cash out. Alcoa did this later getting near $50million for their free permits by shutting down Pt Henry Al smelter.

    To call this a tax means one is misinformed, corrupt or partisan.

    It’s a shocker the ABC are involved in this pushing this lie.

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