Climate

IETA's Derwent assesses costs of restricting trading

Can the Senate reach a compromise on energy and climate issues ahead of August recess? During today's show, Henry Derwent, president of the International Emissions Trading Association, gives his take on how the Senate should proceed on energy and climate. He also discusses new research on the costs of restricting trading.

Transcript

Monica Trauzzi: Welcome to the show. I'm Monica Trauzzi. Joining me today is Henry Derwent, president of the International Emissions Trading Association. Henry, thanks for coming back on the show.

Henry Derwent: Thanks for inviting me.

Monica Trauzzi: Henry, we're waiting on a final decision from Senate leadership on the direction of the climate and energy debate. Up until this point, Democrats haven't really developed a clear strategy of how they want to move forward. They've gone from cap and trade to utility only to talk about an energy only bill. Is the lack of direction a signal that this measure is going to fail?

Henry Derwent: I think it's a signal of the fact that this is really difficult stuff, working out what to do about climate change when it comes down to real choices that you need to make to transform a real economy with real disruption, real changes, increases in prices, but also new opportunities. That's hard and really what we're seeing now I think is the result of legislators, who've never really had this in their sights before, contemplating all the issues. So, it's not surprising that people are moving one way and moving another. I don't know what to bet on the outcome, certainly short term it doesn't look so great, medium term perhaps better, longer term I think inevitable. That's the issue for us enthusiasts for a trading approach. What we see is obviously acceptance of the difficulty, but no real change to the basic position, which is this is the least worst alternative.

Monica Trauzzi: So, you're saying it's inevitable in the long term. There has been a lot of discussion though that if it doesn't pass this year, that it's basically dead because it's failed a few times already and that the Congress will have to move on to another idea, something else?

Henry Derwent: I wouldn't see it like that. I think actually that what we've seen over the past couple of years is an astonishing run of success and against a background which is as bad as you could possibly hope, against a falling, if not a failing economy, against all the concern about the science of climate change which has whipped up, against a background of freak cold weather. You remember the cold weather? Against the background of totally different markets going wrong and giving a bad impression of what trading is about and what the market's about. We still, for the first time, got a cap-and-trade bill through one house of Congress and got very, very close to getting a majority in the second house. If it doesn't happen now I don't think that means it's bad. I think it means that actually people have bitten off about as much as they can chew at the moment, but that doesn't mean that they don't need to keep on having a meal later.

Monica Trauzzi: So, this utility-only approach, is it effective? Does it make sense to go that route and not do something comprehensive?

Henry Derwent: Well, you know, from the point of view of both fairness and economic efficiency, you really should be designing a cap-and-trade scheme to be as wide as possible, to cover as many sectors of the economy as possible. That enables you to search out the low-cost emissions, the opportunities wherever they are to be found. But it's quite hard to do everything at once. It's worth remembering that the E.U. emissions trading scheme, which despite what you may still hear sometimes in Washington, has been remarkably successful in what it's done, started on the basis of utilities plus some major industrials. Other scheme designs have gone a bit further, but many people have thought that there is quite a lot to be said for starting with utilities, particularly if you are not feeling that you're getting emissions reductions quickly enough otherwise.

Monica Trauzzi: Among your member companies you have oil industry and the electric utilities, the electric sector. Do these sectors go head-to-head among your membership or do you see some point where they can find common ground when it comes to cap and trade?

Henry Derwent: Well, all our members are interested in a cap and trade as being the best and most flexible approach to achieving emissions reductions. Obviously, once you get past that point and you start talking about allocation methodologies you find yourself talking about fairness, fairness in terms of what individual sectors can actually afford, what the customers of individual sectors would be able to put up with, and what actually is a proper reflection of action they may already have taken without the requirements of legislation. So, you're going to find people saying that this aspect of an allocation methodology, well, that is not really fair. Certainly, the oil industry found that the first proposals that came out of Congress were not really fair. I think the notion of a linked fee, while not straightforward, was not a bad way of dealing with the special issues of the oil sector wanting predictability and wanting transparency. So, we've had different views amongst our members, but, on the whole, I think people think that we are moving in the right direction.

Monica Trauzzi: So, with the utility-only approach then, what's the reaction from the oil companies?

Henry Derwent: I think that many people are sort of torn between thinking that this is the way that the economy has got to go and also that it's quite good to see somebody else sort of getting in there first and having to deal with this first. But, on the whole, I think that you're going to find most of these companies acknowledging that over time we need to move towards an economy-wide approach, but it has to be done in a fair way and it has to be done at a speed that those companies can manage, that doesn't strand their assets or, frankly, cause real difficulties for their customers.

Monica Trauzzi: So, in terms of the international discussion, will a failed bill mean that the U.N. discussions in Mexico are also going to fail, that we won't see much progress there?

Henry Derwent: It is true that, to a very large extent, what happens on the international level depends on what happens in the United States, but I don't think that one should underestimate the extent to which American politics and what goes on inside the Beltway is a completely closed book to most even quite sophisticated political observers as in the rest of the world. Many of them have their own peculiarities and long periods. It is reputed to take, for example, Belgium seven years to ratify an international treaty just because their system is so amazingly complex. So, I think there's some understanding that it can take the U.S. quite some time to come to a legislative position. So, I don't think it's the end of it and I think actually expectations for Mexico, for Cancun, are comparatively low, which is good news after the over expectations of Copenhagen. So I think the work will continue there.

Monica Trauzzi: IETA and EEI are holding a symposium later this week looking at trade restrictions. What does IETA's research show about the costs of restricting trading?

Henry Derwent: Well, the best answer to that is come along to the symposium and we'll watch the conclusion to the symposium and find out, because we've got a number of economists and practitioners who've been looking at this from a variety of different angles. And the general conclusion, as you might expect, is that if you artificially limit trading then you are actually going to cause significant additional costs. And it's worth just thinking for a bit about how that works, because many people are going to say, well, you know, why should that be? And let's take it in two different ways. Let's look at the perspective of an investor deciding to build a new power station or some major carbon intensive or maybe lower carbon facility. They need to know what actually is the price of carbon, the total price relating to the regulatory environment that they're expecting turned into a price, into a dollar level, looking a long way out into the future. And a market helps enormously, a market which has actually got forward prices, which has got an indication of a sort of curve of prices going into the future. That helps them enormously. They can begin to see what are sensible prices, what are not. If they're not there, then they have to be conservative. They have to make assumptions which may turn out to be ones which really don't help us get towards the goal of low carbon and actually wastes money. And it is wasting money as well, because if you look at the second area, think about trading, the to and fro between people in the market who are hedging their positions, which is really just another way of saying ensuring against the fact that they made a wrong call on one sort of price or another. If you don't have a liquid market, if you don't have a good number of buyers and sellers in there, then what happens is that essentially people protect themselves because they don't quite know what the price is going to be and that means that the gap between what they're prepared buy at and what they're prepared to sell at is big. That big gap turns into a dollar number and that dollar number, multiplied by the number of transactions, can be very large. One of the estimates is that without extra liquidity from trading, you could find that the total cost of compliance in a system like this could be over a third higher than it would otherwise be.

Monica Trauzzi: All right, interesting. It sounds like that symposium would be a good thing to attend.

Henry Derwent: That's right. Tell your readers that, tell your listeners that.

Monica Trauzzi: All right, well, thank you for coming on the show again.

Henry Derwent: Not at all.

Monica Trauzzi: And thanks for watching. We'll see you back here tomorrow.

[End of Audio]

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