home > by publication type > expert briefs > Trade and Climate Change
Email
| Author: | Michael A. Levi, David M. Rubenstein Senior Fellow for Energy and the Environment and Director of the Program on Energy Security and Climate Change |
|---|
Updated: June 27, 2009
House passage of the American Clean Energy and Security Act on June 26 is a historic step forward in U.S. efforts to confront climate change. But as it works its way through Congress there is still much that can be improved. The bill's approach to helping vulnerable U.S. industries through the transition to a low-carbon economy is particularly problematic: In pursuit of a sensible goal, Congress is taking steps other nations could see as protectionist. The flaws aren't reason to reject the legislation. But Congress should be careful, in addressing climate change, to avoid undermining the global trade regime.
Concerns about the possible competitive impact of climate regulations have been grossly exaggerated. The macroeconomic impact of smart climate policy will likely be small, meaning that robust U.S. economic growth will still be able to power a vibrant and internationally competitive economy. Most companies will see at most limited changes in how they function day to day. Nonetheless, industries that use lots of energy and whose goods are traded globally have some reason to be nervous about a cap-and-trade system. High carbon prices could tilt the competitive playing field in areas like steel, aluminum, cement, and chemicals toward unregulated (or less regulated) competitors abroad. The climate bill, known as Waxman-Markey, addresses that by providing rebates to firms in those sectors to blunt the cost. That approach is, in principle, reasonable. It would cushion the blow for trade-exposed heavy industry while maintaining the integrity of a U.S. emissions cap. But the devil is in the details--and the current bill gets the details wrong.
The flaws arise in the way the bill calculates rebates. Regulators are required to determine the average greenhouse-gas emissions associated with a unit of output (such as a ton of steel or cement) in each vulnerable sector. That figure is then multiplied by the average price of an emissions permit in the cap-and-trade system to estimate the per-unit compliance cost the typical producer incurs. The amount calculated is rebated to each producer in proportion to its own output.
The problem [with the Waxman-Markey bill] is that some producers are more efficient than others. The result is a subsidy for many producers.
The problem is that some producers are more efficient than others. Imagine that the steel sector had two producers, Firm A and Firm B, each of which made one ton of steel each and faced a carbon price of $20 for each ton of emissions. Assume that Firm A emitted 1.1 tons of CO2 in its process while Firm B emitted only 0.9 tons. The government would calculate their rebates based on the industry average (1 ton of CO2 per ton of steel) and send $20 to each company. Firm A would have most but not all of its costs covered--but Firm B would actually come out ahead by two dollars. The system would, in effect, be subsidizing relatively efficient production. Worse, Firm B would now have an incentive to expand its production, since doing so would net it a bigger rebate. Other countries would probably see this rebate system as an unfair trade subsidy.
The fix is simple but politically challenging: Give companies rebates based on only a fraction of their output. Imagine, for example, that rebates were provided on only 75 percent of output. In that scenario, neither firm would get a net subsidy, but both would still largely be cushioned from the impact of a cap-and-trade system. Even with that adjustment, though, there's a second problem: The Waxman-Markey bill uses historical rather than current output to calculate rebates. Imagine that Firm A produces 1 ton of steel in 2013 and another ton in 2014. In 2015, though, it decides that its costs are too high and cuts production to half a ton. The bill as currently written still gives Firm A its full $20 rebate, even though its carbon costs have dropped from $22 to $11. This is a massive relative subsidy and a waste of taxpayer money to boot. It could also encourage some marginally profitable firms to cut production in order to reap carbon credit windfalls, killing the very jobs that the rebates were originally designed to protect. The bill should be fixed so that any excessive rebates (which are paid up front) are ultimately clawed back.
[I]f major U.S. trade competitors all impose new and similar climate costs on their energy-intensive industries, no one country's industries will be unfairly disadvantaged. As a result, most of the rationale for the U.S. rebates will vanish.
Things could certainly be worse. There has been much talk of imposing carbon tariffs at the border as a way of leveling the playing field, a step that would be enormously provocative on the trade front. The bill's rebates to energy-intensive industries have allowed a political deal that puts that stick aside until at least 2026. On balance that's a superior outcome. Better yet would be a more prudent rebate system that still let policymakers hold off on setting new tariffs.
[Note: The final version of Waxman-Markey as passed in the House is reported to now include near-automatic border tariffs that could come into effect in 2018. This could be easily abused for protectionist purposes and is probably a bigger problem than the rebates. In addition, if the rebates and tariffs overlap, the result would be a clean violation of World Trade Organization rules. The Senate should make sure that this is fixed.]
In the long term, though, the United States can't cut through this thicket by itself. Over time, the problem for heavy industry--and the associated trade issues--could become worse as the United States tightens its own rules and regulated companies face steadily higher costs. But if major U.S. trade competitors all impose new and similar climate costs on their energy-intensive industries, no one country's industries will be unfairly disadvantaged. As a result, most of the rationale for the U.S. rebates will vanish. Ultimately, then, the only solution to the competitiveness problem is global climate action. Since the United States has few sticks to bring to the climate negotiating table, progress on the international front will depend mainly on cooperative action. Congress should make sure that in crafting U.S. climate legislation, its trade measures don't unnecessarily aggravate the external relationships that will be needed to get that done.
Weigh in on this issue by emailing CFR.org.
To order Task Force reports, Council Special Reports, and Critical Policy Choices, please call, fax, or order online from our distributor, the Brookings Institution Press: phone +1.800.537.5487, fax +1.410.516.6998.
For information on other reports that are not for sale, or for general publications information, please call +1.212.434.9516 or email publications@cfr.org.
Start-Up Nation addresses the trillion-dollar question: How is it that Israel—a country of 7.1 million, only sixty years old, surrounded by enemies— produces more start-up companies than large, peaceful, and stable nations like Japan, China, India, Korea, Canada, and the UK? With the insights of geopolitical experts and investors, the authors examine this nation’s adversity-driven culture to answer this question and offer prescriptions for a global economy on the rebound.
In Forces of Fortune, Vali Nasr presents a paradigm-changing revelation that will transform the understanding of the Muslim world at large. He reveals that there is a vital but unseen rising force in the Islamic world—a new business-minded middle class—that is building a vibrant new Muslim world economy and that holds the key to winning the cold war against Iran and extremists.
In Cuba: What Everyone Needs to Know, Julia E. Sweig presents a remarkably accessible portrait of Cuba's unique place on the world stage over the past fifty years, including its internal politics, its often fraught relationship with the United States, and its shifting relationship with the global community.
Complete list of CFR Books
The report of this bipartisan Task Force of distinguished leaders and experts represents a strong consensus on the importance of repairing America's immigration policy. It makes the case that maintaining America's political and economic leadership depends on attracting talented and hard-working immigrants, and on securing the country's borders in a smart, effective, and humane way.
This report finds that nuclear weapons will remain a fundamental element of U.S. national security in the near term, and makes recommendations on how to ensure the safety, security, and reliability of the U.S. deterrent nuclear force, prevent nuclear terrorism, and strengthen the nuclear nonproliferation regime.
About Independent Task Forces at CFR
Complete list of Task Force reports
Identifying international threats and acting on them may be the most difficult job for U.S. policymakers. This report
provides an actionable road map for managing international threats before they erupt into crises and makes a strong case that preventive action is not a luxury but a necessity.
For more than a decade, the United States has mostly watched from the sidelines as Asian countries organize themselves into an alphabet soup of new multilateral groups. In this report, the authors review the relationship between pan-Asian and trans-Pacific institutions and suggest policy guidelines for a new U.S. approach to this new Asian landscape.
Complete list of Council Special Reports
To request permission to reprint or reuse CFR material, please fill out this permissions request form (PDF), referring to the instructions on page 1.
Copyright 2009 by the Council on Foreign Relations. All Rights Reserved.