Plugging a Carbon Leak

Just as a heads up I’m stuck with effectively no internet for the next week (it took me over an hour to even upload this). Unfortunately this means that I can’t spend all my time looking up cartoons and youtube videos to spice up the content a bit. But don’t worry I’ll double up my efforts as soon as I can.

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In this post I’m going to look at some of the approaches available to counter arbitrage in climate change mitigation.

Firstly I thought it best to point out just how much of an issue this is:

The IPCC defines carbon leakage (a climate change specific type of arbitrage) as “the increase in CO2 emissions outside the countries taking domestic mitigation action divided by the reduction in the emissions of these countries” (IPCC, 2014). Based upon this definition, the IPCC stated that since the Kyoto principle, up to 20% of total emission reductions have leaked into non-participatory countries (IPCC, 2014).

So then, what can we do to prevent this from occurring? Well the most obvious solution is a uniform worldwide carbon price (Carbon Trust, 2010); arbitrage can’t occur where there are no differences to exploit! Proponents of this notion suggest that even though the largest 15 countries produce roughly 80% of total emissions, simply targeting these states will ultimately redistribute rather than reduce emissions around the world (Arroyo-Currás et al. 2015).

The big issue: climate change negotiations have highlighted just how difficult it is to get 180 countries to unite in a simultaneous effort. While fragmented mitigation creates the potential for arbitrage, a globally agreed upon and enforced mitigative strategy doesn't look to be on the horizon (King, 2004). In the Carbon Trust’s 2010 report on Carbon Leakage they therefore concluded that we need other methods to deal with the leakage issue.

And it just so happens that there are approaches available:

Compensation Measures

This approach involves states compensating their domestic industries for loss of competitiveness resulting from mitigation schemes. In fact the EU allows its member states to do just this as a part of the Emission Trading Scheme (ETS). This is known as leveling down, where States lower other taxes to compensate for a higher emissions tax.

The issue I (and turn out others) have with this approach is that it only really passes on the problem. In the EU, for example, the ETS is a Top-down EU-wide program whereas compensation is dealt with at the level of the member state. It has been criticised for fragmenting the internal market and creating internal competition (Marcu et al., 2013). It seems like in an effort to avoid leakage, the approach reduces the internal stability of the ETS itself.

Support Measures

Funding can be provided to sectors especially at risk to leakage (generally emission intensive industries), to aid in the transition into low-carbon emissions. In Kumar et al. 2003’s assessment of the potential to reduce emissions in the electricity sector, they concluded that although technologies are available their dissemination is restricted by high sunk costs and limited technological sharing between companies. State investment into low-carbon R&D, as well as the technologies themselves, can help support the transition necessary to remain competitive under higher carbon costs.

This approach seems reasonable to me. Technology sharing is extremely effective at promoting innovation in other sectors (The IT sector is probably the best example). Novel energy related technologies, by comparison, only become industry standards slowly (Kumar etal., 2003). There is certainly room for state support to help promote awareness of new technologies as well as supporting the cost of transition itself.

So then, in an ideal world we would avoid the issue of Carbon Leakage by simply standardising carbon costs. However, unless something amazing happens in the 2015 Climate Change Conference (in which case I will happily accept I was wrong), this doesn't look like a realistic possibility in the near future (Dröge et al., 2009). Luckily there are options available to help reduce carbon leakage in a fragmented mitigative future and that’s certainly good to know!