California Approves the First U.S. Cap and Trade Scheme

Late yesterday evening, the California Air Resources Board (CARB) voted nine to one in favour of adopting a statewide cap and trade program, mandated under AB32, known as the California Global Warming Solutions Act. When AB32 was signed into effect by Arnold Schwarzenegger in 2006, the associated CARB Scoping Plan required that a cap and trade system framework be adopted by no later than January 11, 2011, and that the program itself needed to be put into effect at the beginning of 2012. The move makes California the first U.S. state to approve a carbon-trading plan aimed at cutting greenhouse gas emissions, and is one more initiative in the push to reduce statewide emissions to 1990 levels by 2020.

Cap and Trade Systems

The purpose of a cap and trade system is to impose an absolute limit on the greenhouse gas emissions produced by a particular sector in a particular area. In the case of California, the program will cover 360 businesses representing 600 facilities, through a two-phase implementation period.

Such a program is initiated when a governing body, in this case CARB, sets an initial limit, known as a ‘cap’, on emissions. The limit is typically based on historical benchmark data, and in the case of the California system, will be based on efficiency benchmark data for each industry. The cap is implemented through the issuance of emission allowances to the companies covered by the scheme. These allowances may either be handed out for free by the central authority, a practice known as ‘grandfathering’, or companies may be required to purchase the allowances at a fixed or market price or through an auction.

At the conclusion of each scheme time period, which is often one year, organizations covered by the scheme must surrender enough allowances to the relevant authority to cover all of their emissions from that period. If a company did not purchase, or was not issued, enough allowances at the onset of the period, they will need to purchase additional allowances from other companies covered by the scheme that have managed to reduce emissions to the point that they have extra allowances. Over time, the cap is gradually reduced, with the goal of reducing greenhouse gas pollution by providing companies with economic incentives to reduce emissions.

CARB Emissions Trading Program Overview

A quick summary of known details is presented below. For more information, and to follow developments in the design and implementation of the scheme, head to the ARB Emissions Trading Overview.

Scope

The first phase of the system begins January 1, 2012, and will cover emissions from electricity, including imports, and from large industrial facilities. The 2012 start data allows ample ramp-up time for affected companies, which is necessary for long term planning and budgeting. Phase Two, effective January 2015, expands the scope of the program to include emissions from the distributors of transportation fuels, natural gas, and other fuels.

The Cap and Allowance Distribution

The initial cap, which applies to Phase One, will be set near the emissions forecast level for 2012, and allowances for each sector will therefore total to close to (~90%) average sector emissions, computed from recent efficiency data. The cap will decline at a rate of approximately 2% per year between 2012 and 2014. In 2015, concurrent with the inclusion of the fuels industry, the cap, and the number of allowances, will increase to include emissions from the combustion of fuels, and the cap will then be reduced at a rate of 3% per year after 2015. As a result, the 2020 cap will be about 15% below 2012 levels. Industrial sources and utilities will start with free allocation, while the remainder of the allowances will be auctioned.

Broader Applications

It is California’s hope that the scheme will gradually be copied in other states, and that it will grow to be the second largest in the field, behind only the European Union’s Emission Trading Scheme (EU ETS). The adoption is welcome news to other similar schemes currently being developed or planned, such as the Western Climate Initiative (WCI), a regional cap and trade program covering several U.S. states and Canadian provinces. California has been working closely with the WCI in developing the regional program, and in July a program design document was released by CARB. Relevant Air Resources Board staff are also rumored to eventually provide recommendations to the Board on linking the California program with programs in New Mexico, British Columbia, Ontario, and Quebec.