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Carbon Prices Around the World are Consistently Too Low

Carbon pricing is spreading rapidly around the world [i].  However prices almost everywhere are far too low at the moment to price emissions efficiently.  The chart below summarises carbon prices in those jurisdictions with pricing.  The horizontal axis shows volumes, the vertical axis shows prices, as in a conventional commodity supply curve.  The vast majority of priced emissions – about 90% of the total – are priced below $14/tCO2.  Higher carbon prices are invariably for small volumes, and are found only in Europe and British Columbia.  They include prices under the French carbon tax, which covers sectors outside the EUETS, the UK carbon price floor, where the EUA price is topped up, and longstanding carbon taxes in Scandinavia.

The chart also shows the social cost of carbon – which represents the cost of the environmental damage caused by emissions – as estimated the US EPA.  This is almost certainly an underestimate[ii] of the true cost, and the concept has other limitations that imply it is no more than a lower bound to what it is worth paying to avoid emissions.  Carbon prices are thus too low even compared with a likely underestimate of the cost of emissions.  Taxes are too low and caps are too loose to price carbon adequately.  Consequently efficient abatement is not happening[iii].

Prices and volumes of carbon pricing around the world

Carbon supply curve

Price data is from May 2015.  I have excluded the Mexican carbon tax on the grounds that it does not apply to natural gas and so does not fully tax carbon.  The Chilean carbon tax is included although it does not come into force until 2018.  The South African carbon tax is scheduled to be introduced next year, but may be postponed, or may not be introduced at all.  The EUTES price would be somewhat higher but for the weakness of the Euro against the dollar at the moment.   The Social Cost of Carbon is the US EPA estimate at a 3% discount rate and converted to $2015 – see reference 2.

Prices may increase in future.  However this process looks likely to be too slow in most cases.  For example, under the California and Quebec scheme prices are currently at the floor set by the auction reserve.  This escalates at 5% p.a. real terms.  However at the present rate this will take until around 2050 to catch up even with the EPA’s estimate of the social cost of carbon[iv], which also shows increases in real terms over time.  Prices elsewhere in North America are mostly lower still.  In the EU there is little evidence from forward markets that allowances will reach significantly closer to the social cost of carbon over the next few years, and it seems unlikely that China will seek to price emissions at much above levels that prevail in the EU and North America.  It therefore seems likely on present trends to be a long time before prices in major jurisdictions reach levels that reflect the cost of damage from climate change, or are sufficient to limit temperature rises to two degrees.

This implies that further action is needed to make higher prices more politically acceptable.  Doing this will be a huge challenge, but two strands of any solution appear clear.  Ensuring that industry that is genuinely vulnerable to carbon leakage is appropriately safeguarded from competitive distortions will help mitigate political obstacles to higher pricing.  And efficient carbon pricing may further be helped by more explicit recycling of revenue to citizens, including ideas such as cap-and-dividend, in which the proceeds of sale of allowances under a cap-and-trade scheme are returned directly to citizens.  This in effect defines citizens as owners of the right to emit and so gives everyone a stake in higher prices (more on this in a future post).  Elements of such an approach are evident in British Columbia and were part of the former Australian scheme.

Measures other than carbon pricing are in any case necessary to bring about the required transformation of the energy sector[v].  And while carbon prices remain too low there will be an even greater need for such approaches, even if these may sometimes themselves help keep the carbon price low.  Funds to subsidise deployment of low carbon technologies may come from the proceeds of carbon pricing, especially in jurisdictions such as North America where earmarking of revenues is common.

The spread of carbon pricing is a success story, but a limited one in view of the prices prevailing to date.  Efforts both to strengthen the carbon price and enhance complementary policy approaches are needed if climate change is to be limited to acceptable levels.

Notes

[i] See  here

[ii] See  here

[iii] The marginal price signal is at too low a level, so some economically efficient abatement is not being signalled.  It is possible that an inefficient mix of abatement is being purchased, even though the level of abatement is efficient.  This could be the case if, for example, there was too much expensive abatement through renewables programmes.  However for a number of reasons this does not seem plausible.  For example, abatement is currently insufficient to meet the agreed 2 degree target, and support for renewables globally is clearly not excessive in view of their present share of generation and the required speed of reduction (although it may well be desirable for more of the support to be in the form of a higher carbon price on fossil fuel use).

[iv] Escalating the current carbon price at 5% real terms to 2050 gives a price of about $74/tCO2, roughly in line with the EPA’s central estimate of the Social Cost of Carbon at that date of 2011$76/tCO2.

[v] See here

Adam Whitmore's picture

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Robert Hargraves's picture
Robert Hargraves on Jun 3, 2015 5:06 pm GMT

“Carbon Prices Around the World are Consistently Too Low” …for the purpose of making energy from burning fossil fuels unafordable. The result of such an “unafordability” strategy would be to forever damn people in developing nations from achieving the lifestyle and prosperity we have in the US and EU. It also reduces economic growth in the OECD nations because energy is an important component of all products and services. That’s why it’s politically immpossible, as we will see again, soon, in Paris.

The proper solution is to provide a safe, clean energy source that is cheaper than coal. Renewables can’t do it, as Google found out in its pioneering RE<C program. Advanced nuclear power can drive fossil fuels out of business. That’s why forward thinking philanthropists such as Bill Gates are investing in it. Another example is the hybrid thorium/uranium molten salt reactor mentioned in THORIUM: energy cheaper than coal and now described technically at thorconpower.com .

Hops Gegangen's picture
Hops Gegangen on Jun 3, 2015 10:45 pm GMT

 

I don’t buy the unaffordability argument. 

If I have a 100 watt incandesent bulb and you double my cost per watt, sure that becomes unaffordable. But if I replace it with an LED of the same lumens at 10 watts, you can double the cost per watt and I am still ahead by a factor of 5. We are not just changing to renewables, we are changing to renewables plus efficiency.

We also need to consider that most of the developing world is in the tropics, which is the very place that global warming will make uninhabitable. It’s bad enough that those of us in the industrialized north are condemning them to heat prostration; they don’t need to also condemn themselves.

 

 

J Elliott's picture
J Elliott on Jun 4, 2015 2:39 am GMT

 

The reason why carbon prices have been and continue to be low is that they are not related to the actual ‘social costs of carbon’ or at sufficient levels to discourage fossil fuels consumption.  They are established primarily by fairly dysfunctional markets and political influences.  We could debate the actual social costs of carbon endlessly since the variables and probabilities of most estimates or assumed environmental and social negative impacts are extremely complex, and the accuracy is very uncertain.

The EU is a prime example of how or why $10 per MT range carbon prices are generally ineffective in actually increasing consumer incentives to reduce their consumption of fossil fuels or switch to non-fossil fuels.  For example, due to various existing fuel/energy taxes the cost of petroleum motor fuels and electric power in the EU averages over double U.S. market prices.  Even with this equivalent level of carbon taxes (approximately $300 per MT), the impact on EU petroleum gasoline & diesel consumption has been relatively insignificant in recent years; adjusted for the recent and current recessions.

 

Bruce McFarling's picture
Bruce McFarling on Jun 4, 2015 5:41 am GMT

“The result of such an “unafordability” strategy would be to forever damn people in developing nations from achieving the lifestyle and prosperity we have in the US and EU.”

Having the hypothetical opportunity to achieve the lifestyle and prosperity that the US and EU used to enjoy before catastrophic climate change tanked the global economy under the counterfactual assumption that CO2 emissions had not led to catastrophic climate change … is not an offer of an actual benefit to actual developing nations.

Indeed, in developing nations with substantial fossil fuel resources, “Dutch Disease” depression of industrial development and corruption of government institutions prevent that resource wealth from being translated into benefit for the majority of the population, and for the developing nations without substantial fossil fuel resources, they can’t afford to consume fossil fuels at the scale that the US and EU does, so they are locked out of using the fossil fuel development path to arrive at an US or EU standard of living.

Sieren Ernst's picture
Sieren Ernst on Jun 4, 2015 10:24 am GMT

Great analysis and graphics, thanks for this. 

Mark Heslep's picture
Mark Heslep on Jun 5, 2015 9:48 pm GMT

“…catastrophic climate change tanked the global economy”

Bruce – That some warming is caused by GHGs has overwheming scientific support.  The description you make above for current CO2 emissions, “catastrophic”, “tanked…economy”, does not.  So while the worst climate outcome might by possible, the trade off between climate and cheap fuels to the developing world is a valid debate and deserves more than dismissal by hyperbole. 


Bruce McFarling's picture
Bruce McFarling on Jun 6, 2015 3:21 am GMT

The balance of scientific opinion is that if we continue to emit GHG at the current rate, we will push average temperatures up well in excess of 2 degrees C on a worldwide basis, and that that is risking catastrophic climate change.

As far as “overwhelming scientific evidence”, that burden of proof is a foolish standard to apply when the balance of scientific opinion is that continuing on the present track will lead to disaster.

It is those who are emitting CO2 and other GHG who are changing the balance of the atmosphere. The burden of proof should lie with emitters that it is safe to make the changes that they are making on an ongoing basis. None of the consequences of the changes in the balance of the atmosphere made to date give grounds that it is safe.

The supposed trade-off between fuel cost and economic development of low income nations does not justify high income nations insisting on giving their emitters a free ride on emission. And there is no substantial real world evidence that the trade-off between fuel cost and economic development of low income nations exists as anything more than a convenient talking point for those interests that benefit from that free riding. After all, countries which are low income nations after the very low energy prices of the 50’s and 60’s and the medium low energy prices of the 80’s and 90’s are not nations that are experiencing a substantial development benefit from low energy prices. 

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