Comparing the Clean Air Act and a Carbon Price

As readers likely have heard by this point, EPA proposed performance standards for carbon emissions from existing power plants on Monday. This major climate policy move is perhaps most notable in that it happened without new legislation from Congress. Economists have long argued that an economywide carbon price is the most cost-effective way to reduce emissions. This would require new legislation (though EPA's policy does allow states to use some trading programs). Many (myself included) believe a carbon price remains the endgame for U.S. climate policy. But what advantages (if any) would it have over EPA policy? My colleague Art Fraas and I asked this question in a paper we wrote last year, which has just been published in the Environmental Law Reporter this week. Here's a brief summary of our conclusions (re-posted from last year).

We plan to revisit our analysis in this space now that we have a concrete proposal to examine (though of course we don't have a carbon price proposal from Congress to compare it to).

Though President Obama is set for a major address on climate tomorrow, US climate policy faces an uncertain future. EPA is moving haltingly ahead with regulations under the Clean Air Act (and may redouble its efforts after the speech most notably its proposed existing source standards), but some in Congress are pushing to revoke its authority. Others in Congress support new legislation setting a price on carbon (with most recent attention focused on a revenue-neutral carbon tax). While the near future is in EPA’s hands, Congress will—by action or inaction—determine the longer term path for US policy. That path hinges on two decisions. First, will Congress pass new comprehensive legislation, like a carbon tax? And second, will Congress preempt EPA’s authority? These are independent decisions, so there are four possible outcomes:

Preemption is a real possibility. Any new climate legislation appears (to us) likely to preempt at least some EPA authority, as the Waxman-Markey cap-and-trade bill would have done. Removing EPA’s authority without any new policy is also possible, but less likely given the President’s veto. That means two options - the Clean Air Act status quo and a new policy replacing it - appear the most likely outcomes.

In a new paper, Comparing the Clean Air Act and a Carbon Price, we try to evaluate these two pathways. We don’t choose one or the other, since there is a lot we don’t know about both policies and since much depends on one’s prior convictions. But we do think we’ve identified many of the right questions to ask. And even if you disagree with us on what the most likely policy outcome is here (for example, if you think EPA regulation and a carbon price will coexist), we think you’ll find our discussion is still useful.

For politicians, the choice between regulation and a carbon price has likely always seemed difficult: they allocate power differently between government and markets, and between different parts of government, and are likely to have different distributional effects. All of these issues are inherently political.

At first, it may seem like economists would have a much easier time deciding: the consensus in the profession has long been that pricing externalities is the most cost-effective way to deal with them. That may be true given a blackboard-ideal policy. But any legislated carbon price will fall short of that ideal. Moreover, EPA regulation is not necessarily the command-and-control caricature implied by the simplistic view. In reality, the choice between the two policies is not so straightforward. The reasons why are the subject of our paper.

For example, just having a climate policy in place would be a major achievement. But experience in many policy areas shows that flexibility in light of new information is important. If costs or benefits are different from what we expect, it’s important to be able to make the policy more or less stringent to account for that change. A simple carbon tax can’t do that without additional intervention from Congress. But EPA, as an expert agency is required by law to account for new information on risks and (often) cost. On the other hand, a carbon price needn’t be so simplistic - automatic triggers could be included to change the price if certain events happen, such as including a trigger requiring a higher tax when global CO2 concentrations exceed a certain level or, alternatively, when other major emitters like China adopt policies of their own.

In the paper, we look at this and nine other issues on which either policy might come out ahead, including their scope, cost-effectiveness, ability to generate revenue, and their impact on international climate negotiations. For each one, there’s no easy answer to whether regulation or a carbon price is the better instrument. The answer depends on how EPA decides to regulate and what carbon price proposal is on the table. When and if we finally have that information, we hope we’ve given the right questions to ask to make an effective comparison.