The EU carbon trading scheme is currently the largest in the world, but let's not congratulate ourselves too quickly. In carbon trading schemes, polluters that qualify hold allowances equal in amount to their emissions, and those who want to increase their emissions buy permits from others willing to sell. The current scheme for the US auto industry is a good example: car manufacturers with emissions below the mandated target sell their carbon credits to car manufacturers above the target who can then sell their more polluting cars in various US states with stringent regulations such as California.
Based on economic theory the polluters who can reduce emissions most cheaply will do so, achieving overall emission reductions at the lowest cost to society. However, national trading programmes for pollutants are distracting market-based schemes that do not deal directly with the fundamental industry challenges. Instead, we see financial derivatives of carbon credits happily traded and speculated on secondary markets.
Selling carbon credits is reminiscent of the medieval practice of selling indulgences. There was no evidence that these remissions worked, but there was plenty of money to be made by some people in helping everyone feel better. Tesla is a high-profile example, benefiting in Q2 this year from reported income of $428 million from selling emissions credits to its rivals.
The estimate is that Tesla will earn a staggering $1 billion from these credits in 2020 alone. It is unclear which other US car manufacturers are buying these carbon credits and how many, because they do not have to declare it. Of course, none of this is Tesla’s fault and we want electric car manufacturers to succeed in replacing motorised vehicles that run on fossil fuels. But when it’s cheaper for more polluting manufacturers to pay a competitor than build cars to meet regulations, you know that such carbon credit schemes are broken.
At best, selling carbon credits is a transitory policy tool to shift companies and investors away from polluting companies. At worst, they are a complicated financial mechanism that adds delay and provides little financial imperative for polluters to change behaviour. Our collective focus should be on treating carbon emissions as dangerous pollutants rather than tradable derivatives: we should be spending our energy on reducing emissions at source instead of devising the trading rules for a shell game.