How Carbon Cap-and-Trade Could Increase, Not Decrease, Coal Usage and Greenhouse Gas Emissions

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It’s official. President Obama wants cap-and-trade. “So I ask this Congress,” he said in his speech last week, “to send me legislation that places a market-based cap on carbon pollution and drives the production of more renewable energy in America.”

But will cap-and-trade drive the production of more clean energy? Or will the law of unintended consequences take over, leading to more, not less, coal being burned to generate electricity?

Everyone assumes that it is going to cost between roughly $30 to $70 to buy a one-ton carbon credit in the open market Obama’s legislation would create. What if the price is significantly less than that? What if the price is so low it is more economical for a power plant owner to keep burning coal, instead of switching to cleaner natural gas, and simply buy enough credits to offset the plant’s excess CO2 emissions?

In that case, coal usage will be likely to increase, not decrease.

It isn’t just coal-fired power plants but CO2-emitting enterprises of all kinds that might choose to keep spewing CO2 into the atmosphere because it’s cheaper. Indeed, every smelter, landfill, factory and farm in the world might do the same thing.

The current depressed state of the global economy has caused the price of carbon credits to plunge in the European market. Point Carbon, a provider of advisory services for energy and environmental markets, predicts that even though the global volume of carbon trading will be up 20% in 2009 over 2008, the market will be worth only $79.7 million, down 32% from 2008.

Even when the global economy recovers, prices may stay under pressure as Russia (and other countries) unload millions of certified credits that they have been keeping off the market because of low prices.

Further, who is to say if, even after carbon credits recover sufficiently in price to make switching to natural gas the cheaper option, there won’t be another recession in, say, 2015 or 2020 that causes carbon prices to collapse once more?

That’s the thing about markets – prices go down as well as up. Then again, scientists are in near universal agreement that something must be done, and carbon taxation could be a heavier financial burden on the U.S. taxpayer than cap-and-trade.

For now, investors might want to take a closer look at Climate Exchange PLC (Pink: CXCHF), parent of both the European and the Chicago climate exchanges, which logically should benefit from increased trading volumes whether or not cap-and-trade succeeds in reducing carbon emissions. Another firm worth considering is Peabody Energy Corp. (Symbol BTU), the big coal producer that logically would do well if cap-and-trade winds up increasing coal usage.

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