In or out? Efficient inclusion of installations in an emissions trading scheme

Regulators around the world are currently considering national emissions trading systems (ETS) as a cost-effective way to reduce greenhouse gas emissions. ETS installations coverage is one of the numerous design issues confronting them. ‘Blanket coverage’ that includes all an economy’s industrial emitters of greenhouse gases has some intuitive appeal. Although it seems equitable it does not, however, take into full account all the costs related to the extent of coverage. This report shows how an alternative approach of ‘efficient coverage’ can achieve the same emission reduction outcome at lower social cost. The approach is based on maximising the benefits of including installations in an ETS, while at the same time taking into account all relevant transaction costs. A broad definition of transaction costs is used – the regulatory costs to the government as well as regulatory costs imposed on covered installations. Particularly for relatively modest emissions reduction targets, the study found there are significant cost savings with an ‘efficient coverage’ compared with ‘blanket coverage’. Key words: Emissions Trading Scheme, Environmental Policy, Installation Coverage, Transaction costs.