The Future of Carbon Markets and Their Economic Potential

Abstract

After the recent climate science reports and breakthroughs in major carbon emitting countries, the focus on carbon markets have gained a renewed interest. The architecture and potential implementation aspects of carbon markets have been on the negotiation tables and many countries have either announced new market programs or have enlarged existing ones. Understanding of the roles markets have and can play has increased substantially. Before the First Markets’ session took place in establishment of the Kyoto Protocol in 1997, regulation through more direct command and control measures was considered the most likely means to emulate mitigation strategies. The idea of trading tradable permit had of course been around since the environmental economist first mentioned it in his classes in the early 1960s. If the idea of trading the right to pollute was with us for over three decades before putting in place markets to realize that potential, there were two good reasons for doing so once the discussions gained momentum.

Within a cap-and-trade framework any additional abatement required under the time-path is realized where it is cheapest. In addition to this, and unlike under a tax regulation, once the cap has been defined the stream of emission reductions is fixed. Apart from the cap and the trading operations per se, there is no further uncertainty throughout the lifetime of the scheme. After three years of the first markets opening, the world market transacted 350 million (tCO2) and avoided $700 million in abatement costs. More recent growth and price developments are discussed under different autonomous expectations scenarios.

Keywords-carbon markets, economic potential, climate change, cap-and-trade, emission reductions, environmental policy, market implementation, trading permits