Endogenizing the cap in a cap-and-trade system: Assessing the agreement on EU ETS phase 4

TY - UNPB

T1 - Endogenizing the cap in a cap-and-trade system

T2 - Assessing the agreement on EU ETS phase 4

AU - Beck, Ulrik Richardt

AU - Kruse-Andersen, Peter Kjær

N1 - Working Paper 2018:2, Danish Economic Councils, 2018

PY - 2018

Y1 - 2018

N2 - In early 2018, a reform of the world’s largest functioning greenhouse gas emissions cap-and-trade system, the EU Emissions Trading System (ETS), was formally approved. The reform changes the main principles of the system by endogenizing the previously fixed emissions cap. We show that the effective emissions cap is now affected by the allowance demand and therefore not set directly by EU policymakers. One consequence of this is that national policies that reduce allowance demand can reduce long-run cumulative emissions, which is not possible in a standard cap-and-trade system. Using a newly developed dynamic model of the EU ETS, we show that policies reducing allowance demand can have substantial effects on cumulative emissions. Our model simulations also suggest that the reform reduces aggregate emissions in both the short and long run, but the long-run impact is substantially larger. Yet, the reform has a small impact on the currently large allowance surplus.

AB - In early 2018, a reform of the world’s largest functioning greenhouse gas emissions cap-and-trade system, the EU Emissions Trading System (ETS), was formally approved. The reform changes the main principles of the system by endogenizing the previously fixed emissions cap. We show that the effective emissions cap is now affected by the allowance demand and therefore not set directly by EU policymakers. One consequence of this is that national policies that reduce allowance demand can reduce long-run cumulative emissions, which is not possible in a standard cap-and-trade system. Using a newly developed dynamic model of the EU ETS, we show that policies reducing allowance demand can have substantial effects on cumulative emissions. Our model simulations also suggest that the reform reduces aggregate emissions in both the short and long run, but the long-run impact is substantially larger. Yet, the reform has a small impact on the currently large allowance surplus.

M3 - Working paper

VL - 2018:2

BT - Endogenizing the cap in a cap-and-trade system

PB - De Økonomiske Råd

ER -