Doing the maths on Copenhagen

A ban on petrol?

Think, for a moment, of petrol. Every use of it brings that moment when Bangladesh sinks below the waves that tiniest amount closer. So, should we immediately ban all use of petrol? What, even for the ambulance taking the woman in labour to hospital? Maybe I should walk rather than drive to the shops though? And this is exactly what that carbon tax is supposed to do. We should only be producing emissions if our emissions are worth more than the damage. So if the damage is as Lord Stern says, then $80 a tonne it is.

But this is where the subtlety gets missed: a Stern tax on petrol would be 11p a litre. We've already used the fuel duty escalator to raise duty by 23p since we agreed to “meet our Rio commitments” in Ken Clarke's words. So we don't want to raise the carbon tax further. We're already done. We're already balancing the benefits of our using petrol with the costs we impose upon others.

Air Passenger Duty likewise already covers the costs of aviation pollution. Indeed, total green taxes are around and about the level of total costs imposed by UK emissions, but you never hear a politician saying this, do you? APD must rise further to stop people from flying, fuel duty to stop them from driving. Which is to entirely miss the point that Pigou was making about such taxation as above.

Of course it is not the first time that politics and campaigners have made a mockery of well crafted economics, and it won't be the last, as the alternative, economists' second solution - cap and trade - will show.

Cap and trade starts from the other end: what are the maximum emissions that can be allowed before disaster strikes? Fine, make that the cap and give (better to sell to but that's something that will be phased in over time) everyone permits. If an organisation wants to emit more than they have permits for, then they've got to go and buy them.

Some people will reduce emissions to sell permits and so we've got a market. As markets tend to do, we'll get a price set on carbon and only those activities which are worth more than that price will happen. We've again done what we all want, which is for people to internalise the costs they impose upon others. Once again, we can go away, having solved the problem.

But again there's a subtlety here. We want just one cap and trade system for everything. We want it to be global and we want it to be across all sectors. Imagine, just as an example, that we have to reduce emissions by 80% by 2050. So, which 20% of our current emissions do we still want to be doing? I dunno, nor do you and nor does anyone else. OK, so how do we find out? Well, markets are not just distribution systems. They're also information systems. Those emissions that people value most will be the ones they're willing to pay most for.

It might be that we're all happiest using cement (currently, cement production is about 6% of global emissions) plus a bit of driving. It might be that we don't care about cement and that fuel cells really work so we want to spend that 20% allowance on the methane inevitable in steak production. Could be we'll care not a whit for Charolais and Cheddar and we'd really rather spend that allowance on flying to Malaga.

So what we want from our cap and trade system is one cap and then trade so that we can a) find out which emissions people value the most and b) allow them to make the emissions they value most. We want trade across sectors that is, we absolutely do not want to try and have different caps and different targets for each sector on its own: that obviates the very point of what we're trying to do.

So what are the politicians and the campaigners trying to set up? Yes, separate caps and targets for different sectors and no trading of permits across sectors. There are a number of people running around (yes, Plane Stupid, I'm looking at you) telling us that if we don't restrain aviation emissions then it'll be 50 per cent, 70 per cent, umptybignumber per cent of all allowable emissions by Thursday week. This entirely fails to understand that this is the whole damn point of what we're trying to do: discover which emissions we value most so that we get the greatest value from the amount allowed under our cap.

This is why I'm cheering that Copenhagen has failed: what economists have been shouting we should be doing for this past decade will work, but what the politicians and activists have been hearing is very different from what has been said.

What has been said is that we can use either method: carbon tax or cap and trade. Make people pay the cost of their pollution and they'll pollute less. The tax should be the cost the pollution imposes, or the cap should allow trade amongst all nations and all activities. What we absolutely should not be doing is taxing more than the cost of the pollution nor should we be trying to to exempt, favour, punish, or ban any particular activities by selective use of caps and permits.

In short, set the system up and then leave well alone: no politics please, no special interest groups and no “civil society organisations” trying to ram their prejudices down other peoples' throats. And what was Copenhagen other than that politics, those special interest groups (it was especially pleasing to see the Third World Dictator's Pension Fund come up short) and prejudices being forced down peoples' throats?

We're well shot of it. There's even the vague possibility that the adults will take over at some point and we'll end up with something that actually works: a simple carbon tax or a simple cap and trade scheme. ®