Initial Allocation of Emissions Permits in the Two-Sided Matching Framework

For the initial allocation of emissions permits, auctioning has been theoretically the most preferred allocation mechanism; but to attract the participation of polluting industries these permits have been generally grandfathered. Following two-sided matching literature, we model an auction market for emissions permits as a two-sided matching procedure and based on the objectives of all the players, characterize a set of stable matching rules that lead to the core allocation. We show that matching based allocation mechanism retains the essence of grandfathering by keeping the reservation price for permits at zero, by giving firms more maneuvering space in auctioning and also by rewarding more environmentally efficient firms and are thus more suitable for the emissions markets.