Climate Policy as Sausage Making:

The NYT has an interesting article this morning on how cap-and-trade became the greenhouse gas emission-control strategy of choice.

How did cap and trade, hatched as an academic theory in obscure economic journals half a century ago, become the policy of choice in the debate over how to slow the heating of the planet? And how did it come to eclipse the idea of simply slapping a tax on energy consumption that befouls the public square or leaves the nation hostage to foreign oil producers?

The answer is not to be found in the study of economics or environmental science, but in the realm where most policy debates are ultimately settled: politics.

Many members of Congress remember the painful political lesson of 1993, when President Bill Clinton proposed a tax on all forms of energy, a plan that went down to defeat and helped take the Democratic majority in Congress down with it a year later.

Cap and trade, by contrast, is almost perfectly designed for the buying and selling of political support through the granting of valuable emissions permits to favor specific industries and even specific Congressional districts. That is precisely what is taking place now in the House Energy and Commerce Committee, which has used such concessions to patch together a Democratic majority to pass a far-reaching bill to regulate carbon emissions through a cap-and-trade plan.

Yet the same things that make cap-and-trade politically viable — the ability to buy off special interests — also makes it particularly vulnerable to rent-seeking and interest group manipulation. In politics this may be a feature, but for sound policy it is a bug. Rent seeking may grease the skids for a law's enactment (and help the sausage get made), it can also compromise the law's ultimate effectiveness (as Europe has discovered). And the more complex and comprehensive a cap-and-trade system becomes, the greater its vulnerabilities. The compromises in the House bill go beyond doling out free credits, and therein lies the larger policy risk. And insofar as cap-and-trade, in theory, can resemble a carbon tax — it's really a carbon tax plus corporate welfare.

Paul Krugman weighs whether the current House climate bill is "good enough" to merit liberal support. To some, a leaky cap-and-trade bill is still a major leap forward. In the short run, creating the regulatory architecture for carbon control is more important than precise emission limits. Yet Krugman goes farther, arguing that cap-and-trade would be superior to a carbon tax even if the latter were politically viable.

One objection — the claim that carbon taxes are better than cap and trade — is, in my view, just wrong. In principle, emission taxes and tradable emission permits are equally effective at limiting pollution. In practice, cap and trade has some major advantages, especially for achieving effective international cooperation.

Not to put too fine a point on it, think about how hard it would be to verify whether China was really implementing a promise to tax carbon emissions, as opposed to letting factory owners with the right connections off the hook. By contrast, it would be fairly easy to determine whether China was holding its total emissions below agreed-upon levels.

In my view, Krugman is just wrong. The idea that monitoring China's emission levels is "fairly easy" is, well, ludicrous. It's difficult to do in the United States and Europe — where annual emission inventories are regularly revised to incorporate new knowledge about emission sources and sinks — but Krugman thinks it will be "easy" to do in China?!? Even assuming we could monitor China's major industry, this does not account for all China's emissions. And if we're interested in monitoring net carbon impacts — and awarding offsets — the enterprise becomes vastly more complex. Measuring offsets would be tricky in the U.S., but impossible over there. In this regard, the relative simplicity of the carbon tax is a virtue, not a vice, even if it would be more difficult to enact. Add the fact that a carbon tax could be adopted without increasing the total tax burden on the economy, by offsetting it with reductions in other taxes, and I remain firmly in the carbon tax camp.