Online Journal | Dhruvi Singh Raghuwanshi | January 2023
Background
The government provides corporate incentives to produce eco-friendly automobiles through carbon credits. In most cases, an emission permit enables its owner to emit one tonne of a pollutant including carbon dioxide (Farrington, 2022). In this article, we dive into the analysis of the carbon credit market, through a study of property rights, externalities, and the Coase Theorem, while focusing on the debate of whether Tesla’s strategy of making profits through the secondary carbon credit market is efficient and whether there should be restrictions on the trade of carbon emissions.
Market-based Solutions and Why they matter
The key aim of carbon emission laws is to implement market-based solutions to a grave environmental crisis. The solutions are implemented to mitigate the environmental crisis without restricting market production and the supply chain. CO2 emission goals were established as a result of The Kyoto Protocol of 1997 and the Paris Agreement of 2015. These agreements are the pillar for the national emissions targets and sustainability regulations for environmental protection. Carbon emissions can be bought or sold in the carbon market and consist of the main two categories: carbon offsets and carbon credit. Carbon credits refer to permits that enable the owners/producers to emit a certain amount of greenhouse gasses (Carbon Credits, 2022). In a carbon market, investors and corporations can trade carbon credits and carbon offsets simultaneously. A limit is set on carbon emissions by the regulators, and is referred to as “the cap.” This cap aims to provide incentives to corporations to reduce the emissions produced by their business and industrial operations. The carbon emission regulations put pressure on corporations to seek innovative and efficient ways to reduce their carbon footprint while the contemporary world is heavily dependent on technologies that produce a large number of carbon pollutants. The majority of the interim solutions that can be adopted to tackle this pressure involve the use of carbon markets (Carbon Credits, 2022).
A company is granted permission to generate one tonne of a pollutant such as CO2 through an emission permit which is granted to them by a national or international authority based on established criteria and the national emissions targets provided within the framework of the Kyoto Protocol. The company generates a carbon offset when they remove a unit of carbon from the atmosphere in the course of its normal business operations. These offsets are then available for purchase by other companies to reduce their carbon footprints. Many companies that are primarily dependent on sustainable industries end up with excess credits that can be sold to other corporations and businesses that are exceeding the cap set forth by the regulators. Despite technological advancements, most companies are not projected to substantially reduce their emission levels in the near future (Carbon Credits, 2022). As a result, to ensure compliance with their emissions cap, companies look to the regulatory market to “trade” so they can stay under that cap (Carbon Credits, 2022). This trade of emissions makes the companies less accountable for their excessive carbon production and defeats the purpose of multiple initiatives taken to decarbonize the production from industries such as the 2030 Emissions Reduction Plan by the Canadian Government and the Net Zero Commitments by the United Nations.
Case Study: Automobile Industry
The automobile industry is one of the largest producers of carbon emissions due to its dependency on fossil fuels. Hence, incentives to develop electric vehicles in exchange for carbon credits are developed across the globe (Kharpal, 2021). Tesla, Inc. is a multinational company that aims to accelerate automotive and clean energy production through “integrated renewable energy solutions.” Despite their green cred, Tesla cars create pollution and carbon emissions in ways that are easily overlooked by consumers and investors. Tesla primarily sells electric cars and solar panels, which leads it to have excess unused carbon credits, in addition to the credits it receives from the government due to the development of electric vehicles. Tesla, in turn, sells them to corporations and automakers that are exceeding the regulatory requirements to make huge profits. In the last five years, the company has earned over 5 billion USD by selling carbon credits, making its recent profitable quarters almost entirely credited to the profit they gain by transferring these carbon credits.
However, there is an ongoing debate about whether a big determinant of a grave issue, such as climate change, should be made a transferable property right or not. Should there be restrictions and policies regarding carbon taxes? What are the tradeoffs associated with the administration of these policies? Keeping in mind the negative externalities associated with climate change, many people believe that corporations that transfer carbon emissions into the market should be held legally liable. Many social and economical factors come into play when we consider companies transferring carbon credits.
Rethink of Coase Theorem
“The motivating principle behind creating emissions markets is the Coase Theorem: in the absence of transaction costs, the involved parties can bargain to a mutually beneficial efficient outcome” (Kiesling et al., 2002). Coase Theorem states that in the absence of transaction costs, if property rights are well-defined and tradable, then the initial allocation of rights does not affect efficiency. An individual’s property rights define their theoretical and legal ownership of resources as well as their ability to utilize them. Property rules are rulings that assign a tradable property right. A property right is a socially enforced right to select uses of an economic good. (Eatwell & Alchian, 1998). For instance, natural resources have been viewed as property rights to minimize the overexploitation of local resources. However, carbon emission is a relatively new domain, to which we have not been exposed at this scale. This induces confusion among many economists and policy-makers about its nature in the context of it being a property right. Based on Coase’s property economics theory, carbon emission rights are endowed with the properties of possession and exclusivity so that the companies can facilitate the production process while ensuring sustainability. Property rights are often at the heart of externalities (Ross, 2022). A negative externality exists when the production or consumption of a product result in a cost to a third party (Summary & Henry, 2022). Transferring carbon rights across corporations imposes a lot of negative externalities on the general population. The impacts of climate change are seen on a global level and are worsened due to excessive carbon emissions by industries. The purpose of carbon emission regulations is defeated when the carbon credits are conveniently transferred, as this leads to no reduction in carbon emissions despite the robust reduction schemes. It takes away the accountability from the firms when it comes to building sustainable production units. It also adds transaction costs for the corporations that have to buy these carbon credits to avoid violating the regulations.
Economists need to consider an array of issues when they think about making carbon credits a non-transferable property right. The first issue is the transaction costs that arise as a cost to establish these laws, and whether the enforcement costs are greater than the benefit. As long as the cost of enforcement is less than the benefit of restricting the transfer of carbon credits, this is an efficient model. The potential gains from trade are the difference in social wealth between an efficient allocation and an alternative allocation. Lastly, there is the issue of calculating the social wealth in the allocations, as we don’t have a definite value of the benefits of tackling climate change. Some of the tradeoffs associated with restrictions in transfers of carbon credits would include the decrease in production, supply, and efficiency of many industries in the short run. This might also lead the prices of products in the markets to go up, due to a decrease in supply. Additionally, the corporations would be pressured to invest in research and production of more sustainable solutions to limit their carbon emissions. However, in the long run, this has many benefits including more sustainable, efficient, and clean technological systems. We must compare the opportunity costs and benefits in the long run to the tradeoffs that would be imposed in the short run.
Discussion
A portion of the Ecological Footprint can also be attributed to the Carbon Footprint since it is one of the factors competing for biologically productive space. A possible solution to the drawbacks of carbon emission as a property right would be for the government to consider making it non-transferrable until the planet recovers from the visible effects of climate change to a certain extent. This has many implications for the productivity of the environment. However, restrictions in the transfer of carbon credits have tradeoffs that impact the supply chain and the economy in the short run. Hence, when we consider grave issues such as climate change, it is difficult to estimate the tradeoffs and costs associated with the adoption of new policies. We certainly need to look at ways to maximize the total wealth to achieve an efficient allocation.
REFERENCE
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