The current financial crisis would cause any thinking soul to ponder on the many things that could go wrong with emissions trading.
Given that in Europe the credits from carbon emissions are bundled by financial institutions and sold by investors, how long will it take before complex derivatives appear on the carbon markets? If, an in New Zealand where forests are accepted carbon sinks, investors want to cover themselves against the risk of forest fires, what would stop them from innovating “fire destruction swaps”? Or given the uncertainty in the amount of carbon sequestrated by forests, derivatives maybe invented that transfer the risk to a third party … essentially taking care of business.
Some like to think that regulation is the preventive medication that will cure the “boom-bust-bailout” trend in the financial systems. This comes from a perception that the current crisis was caused largely by deregulation. That might be so, although on close speculation, one will see that there were a number of factors involved, including, questionable risk models based on the Gaussion distribution, short-term historical data that conveniently did include stressful periods used for financial forecasting and risk management, investment in subprime mortgage-backed securities and careless credit risk transfer using credit default swaps.
If our conventional “risk-intelligence” produced anything like what we are witnessing now in the financial system, then I am afraid emissions trading is going down the same route. We need better models in risk management, regulations that are better policed, transparency (does it mean no more OTC trading?), and remuneration for execs matched against long-term performance.
Having said all that, I kinda like the idea of a “Cap and Dividend” system. I have no idea where this concept originated from, but its about the government setting a carbon emissions cap, get the companies that emit CO2 to buy permits and give the revenue back to taxpayers (in the form of dividends) who will be paying high utility rates from those companies. It sounds like socialism, but what do you all think?
