After months of speculation, Premier Wynne announced on Monday that her government will soon begin pricing Ontario’s carbon emissions through a cap and trade system. The finer details of the plan are still being worked out, but here’s what we know so far:
- Ontario’s cap and trade market will be integrated with Quebec’s and California’s as part of the inter-jurisdictional Western Climate Initiative
- The cap and trade system will create a new revenue source for the Province
- The government plans to reinvest the new revenue into projects that further reduce greenhouse gas (GHG) emissions and support business competitiveness
In my last blog I argued that Ontario’s carbon pricing system needs to effectively constrain emissions while delivering wider societal benefits. Today’s blog looks at two more important principles that should guide the design of Ontario’s cap and trade system: fairness and transparency.
Principle #3: Fairness
In the context of carbon pricing, fairness usually refers to the need to protect vulnerable individuals as well as businesses that could be disproportionately affected by the policy.
Protect low-income households. Depending on which sectors are covered by Ontario’s cap and trade system, households could face slightly higher prices for certain goods and services. While these costs are moderate – for example, the Premier estimates that Ontario’s cap and trade system would increase gasoline prices by 2.5 cents per litre – they would have the greatest economic impact on those who are least able to afford them.
However, the system can be designed in a way that protects vulnerable populations. The government could, for example, refund a portion of revenues directly back to low-income households; it could provide targeted information and resources to help low-income people save on energy while still meeting their essential needs; or it could reinvest some of the revenues into projects specifically designed to assist disadvantaged communities. (This third approach was taken by California, which has a legislative requirement to invest at least 25% of the permit auction proceeds in the most disadvantaged communities.)
Ensure economic competitiveness. Another component of fairness is protecting domestic businesses from being placed at a competitive disadvantage. This is particularly important for high-emitting industries that compete against foreign firms not subject to the carbon price – commonly known as emissions-intensive, trade exposed industries – such as mining, pulp and paper, iron and steel, and cement.
Here too, there are several ways to address potentially adverse impacts, such as free allocations of allowances, tax preferences, or border carbon adjustments (i.e., trade measures intended to level the playing field for domestic producers facing increased production costs due to carbon pricing). Each approach has its own benefits and drawbacks; the key here is to address issues of competitiveness while preserving the environmental integrity of the cap and trade system – a balance that many governments have struggled to find.
Principle #4: Transparency
Be transparent in the design. The flip side of protecting vulnerable populations is eliminating special privileges for powerful groups – especially when it comes to distributing free permits to industry players. Several people who were closely involved in developing Quebec’s cap and trade system criticized the government for making key decisions in closed-door meetings with individual sectors, and for failing to publish the number of free allocations distributed to each recipient. While there may be a need to protect Ontario’s most vulnerable industries, the government should clearly communicate the extent of, and rationale for, any preferential measures it bestows on selected industries.
Make the price clear and predictable. A carbon price tends to increase gradually after its initial introduction. For example, BC’s tax published a clear ramp-up schedule from the outset, starting at $10/tonne in 2008 and increasing by $5 annually until it reached $30/tonne in 2012. This predictable price progression enabled households and businesses to anticipate the price and adjust over time.
Predicting future prices for a cap and trade system is trickier than for a carbon tax because the price will depend on how the market responds to the constraints of the cap. To help address this uncertainty, the WCI uses a price floor and a soft price ceiling (the latter takes the form of a strategic reserve of allowances that can be made available if the allowance prices rise to a pre-specified level). The key is that there needs to be enough predictability to guide future decision-making, particularly for businesses considering long-term investments.
Ensure third-party review. The reliability of emissions data varies considerably among cap and trade systems. It’s best to start out with third-party emissions reporting to monitor the system’s effectiveness and uphold its integrity. This is the approach taken in Quebec, which requires emitters to have a third-party verifier assess their emissions report in compliance with ISO standards.
Third-party review can extend beyond data verification to wider management of the cap and trade system. While the Quebec government manages the rules for its own system, California’s system is managed by an independent government agency known as the California Air Resources Board (CARB). CARB has the flexibility to seek outside support in key areas of program development; there is no equivalent process in Quebec, which has drawn criticism over a lack of transparent decision-making.
As the government fleshes out the details of Ontario’s cap and trade system, it should adhere to the key principles of effectiveness, wider social benefits, fairness and transparency. We will be assessing how well Ontario’s program stacks up against these principles as more details emerge.
Note: This is Part 2 of a blog series examining key principles that should inform the design of Ontario’s carbon pricing system. You can read Part 1 of the series here.