Leakage, Carbon Taxes, And Early Warnings

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A recent paper by Cullenward and Weiskopf of Stanford University’s Environmental and Natural Resources Law & Policy Program lends additional gravitas to an important message E&E Legal’s Tom Tanton has been pointing out for years: California’s cap-and-trade program could end up causing larger net global emissions of greenhouse gasses than without the regulations. Cullenward and Weiskopf focused on electricity markets and a related form of leakage termed ‘resource shuffling.’ Nationally, perverse outcomes, such as increased global emissions, are true for the carbon tax proposals that are floating around in Washington.

At issue is the concept of ‘leakage.’ Leakage is the economic or environmental relocation of productive activity to other locales, in response to relative prices, taxes and regulation.

In 2012, the non-partisan California Legislative Analyst Office (LAO) reported implementation of AB 32 – the state’s cap-and-trade law signed by Governor Schwarzenegger in 2006 – will cause ‘economic leakage’ to states

[and countries] in the region with far less regulation.  The LAO evaluated the cost of California’s ‘go it alone’ approach to climate change and found a negative, near-term economic loss.  The LAO reported California’s economy will likely be adversely affected in the near term.

Implementing the California Air Resource Board’s (CARB’s) Scoping Plan will raise the state’s energy prices that are already among the highest in the country. This will further impact the state’s economy by causing the prices of in-state produced goods and services to rise, lowering business profits, and reducing in-state production, income, and jobs. It will also worsen the already devastating state and local budget crises. These adverse effects will occur, in large part, through ‘economic leakage.’  In other words, in order to avoid such burdensome regulations, California businesses will relocate to another state and out-of-state businesses will avoid moving or expanding to the state.

However, equally important, not only will implementation harm the state’s bottom line, it will also do nothing to effectively reduce greenhouse gas emissions (GHGs). The LAO only analyzed ‘economic leakage’ but ‘emissions leakage’ is equally important when evaluating the effectiveness of AB 32.  Based on data from the Energy Information Administration and Bureau of Economic Affairs, California is already the third best performing state in terms of minimizing GHGs.  Every dollar we send out of state (via purchases, outside manufacturing etc.) increases the amount of emissions in states and countries with lower GHG performance records. Depending on where California sends those dollars, the increase in emissions can be anywhere from 2 to 9 times as much. Therefore, implementing AB 32 as proposed by CARB is completely counter to the law’s stated intent – to reduce emissions.

The LAO correctly notes a shift away from manufacturing towards service industries.  While that shift has been going on for years, manufacturing remains a vital aspect of California’s economy along with agriculture and mining. Manufacturing’s contribution remains over 4 times that of the service sector. These productive areas are particularly trade sensitive, and are critically important to ensuring businesses and individuals acquire enough capital to spend on services like education and transportation.  This aspect of the LAO analysis and, more importantly, the underlying CARB analysis is particularly troublesome. It ignores the difference in income producing activities and expenditure activities. This further disregards low wage earners in service sector jobs and associated reduction in taxable state personal income.

Writing in 2011, Tanton noted the emission’s leakage problem with AB32, specifying the phenomenon’s legal implications:

It may be this oversight that proves to be the Achilles Tendon of CARB’s cap and trade program. The California Environmental Quality Act (CEQA) lays out specific requirements for evaluating alternatives in agency decisions. California Code of Regulations, Title 14: Chapter 3: Article 9. Section 15126.6 Consideration and Discussion of Alternatives to the Proposed Project , subsection (e) describes the requirement to include:  “No project” alternative. (1) The specific alternative of “no project” shall also be evaluated along with its impact.

The purpose of describing and analyzing a “no project alternative” is to allow decision makers to compare the impacts of approving the proposed project with the impacts of not approving the proposed project. In other words, what if CARB were less myopically focused on adopting something (anything), and simply monitored emissions? They would find that emission reductions and intensity have been occurring, were occurring, and would likely continue to occur, without their heavy handed and intrusive regulation. They’d also find out that global emissions are made worse by the regulations. From 2000 to 2010, the carbon dioxide intensity of the U.S. economy—measured as metric tons carbon dioxide equivalent (MTCO2e) emitted per million dollars of gross domestic product (GDP) — improved by over 17 percent or 1.7 percent per year. The decrease in U.S. CO2 emissions in 2009 resulted primarily from three factors: an economy in recession, a particularly hard-hit energy-intensive industries sector, and a large drop in the price of natural gas that caused fuel switching away from coal to natural gas, which further lowered our emissions intensity. Improvements occurred even in years of economic growth, not just recession.

California is better on average than the rest of the country. In a late 2007 report by the Congressional Research Service, the various states were compared on both total GHG emissions and by GHG emissions intensity. Naturally, as the eighth or ninth largest global economy (albeit falling from 5th or 6th in 1990) the TOTAL emissions for California ranked second highest (worst) nationally but second LOWEST (best) in intensity. California’s emissions intensity may be a beacon to other states and countries, but implementing Cap and Trade, and more generally AB32, will increase global emissions, by forcing businesses, manufacturing, and even agriculture out of state, where emissions intensities are much worse, leading to emissions “leakage.” California will simply begin importing more goods we used to make and grow—cement from Arizona, food from South America, high tech devices from Asia– with a net increase in global emissions.

So what does this  mean for national calls to impose a carbon tax? While California brags about being a ‘leader’ on environmental programs, or even ‘a state level living laboratory’ for new program ideas, in this case the state is demonstrating that certain approaches are neither effective nor efficient. If the goal of a carbon tax is to lower global greenhouse gas emissions, before any more discussion about imposing a carbon tax, folks should look seriously at what driving domestic costs higher will do to trade and to net emissions. It is not as simple as comparing economy wide intensities, as different industrial sectors have different comparative advantages. But policy should be focused on encouraging exports of those commodities where we have an intensity advantage, not on penalizing our entire economy with a carbon tax, nor increasing emissions by driving companies out of state or offshore to jurisdictions with less burdensome regulations.

2016-12-11T17:08:17+00:00October 29th, 2013|Carbon Tax, Tanton|