Pollution Allowances: Corporate Loophole Or Necessary Evil?

Companies can buy allowances to pollute, which are issued by governments under emissions cap-and-trade regulatory programs. Each allowance permits its owner to emit one tonne of a pollutant, such as CO2e. The number of allowances available is limited by the mandated 'cap', which gets stricter over time. Companies that cut their pollution faster can sell allowances to companies that pollute more, or 'bank' them for future use.

How cap and trade works

Cap and trade is a system that limits the amount of pollution companies are allowed to emit. The cap is set by the government and gets stricter over time. Companies that cut their pollution faster can sell allowances to companies that pollute more, or "bank" them for future use. This market gives companies flexibility and increases the pool of available capital to make reductions. It also encourages companies to cut pollution faster and rewards innovation.

The trade part of cap and trade is a market for companies to buy and sell allowances that let them emit only a certain amount, as supply and demand set the price. Trading gives companies a strong incentive to save money by cutting emissions in the most cost-effective ways. The government decides the penalties for violations. Carbon dioxide and related pollutants that drive global warming are the main targets of such caps.

Carbon allowances are issued by governments under emissions cap-and-trade regulatory programs. Each allowance (or emissions permit) typically allows its owner to emit one tonne of a pollutant such as CO2e. Under a cap-and-trade system, the supply of GHG allowances is limited by the mandated ‘cap’. Allowances can be allocated freely by the governing program, be purchased when auctions are held, or be purchased from other entities that have excess.

Emissions sources participating in emissions trading programs, like power plants, receive allowances that authorize them to emit up to a certain amount of pollution over a specific amount of time. For example, in the EPA’s Acid Rain Program, each allowance authorizes an emissions source to emit one ton of sulfur dioxide during an annual compliance period. Once an emissions source has an allowance, it can choose to use it to cover its emissions, sell it in the market, or bank (i.e., save) it to cover future emissions.

Carbon allowances

The trade part is a market for companies to buy and sell allowances. Companies that cut their pollution faster can sell allowances to companies that pollute more, or "bank" them for future use. This market gives companies flexibility and increases the pool of available capital to make reductions. It encourages companies to cut pollution faster and rewards innovation.

Allowances can be allocated freely by the governing program, be purchased when auctions are held, or be purchased from other entities that have excess. Once an emissions source has an allowance, it can choose to use it to cover its emissions, sell it in the market, or bank (i.e., save) it to cover future emissions.

There are a number of different avenues for the environmentally-savvy investor, all with their respective pros and cons, which now include buying and selling European Union (EU) carbon allowances.

Cap-and-trade systems

The allowances are issued by governments and each one typically allows its owner to emit one tonne of a pollutant, such as CO2. The allowances can be allocated freely by the government, purchased at auction, or bought from other companies that have excess allowances to sell.

There are cap-and-trade systems in place in the European Union, the United States (California, Washington, and RGGI), Canada (Alberta and Quebec), China, Korea, and New Zealand, among others.

The trade part of cap and trade

Carbon allowances are issued by governments under emissions cap-and-trade regulatory programs. Each allowance (or emissions permit) typically allows its owner to emit one tonne of a pollutant such as CO2e. Under a cap-and-trade system (also called emission trading systems (ETSs)), the supply of GHG allowances is limited by the mandated ‘cap’. Allowances can be allocated freely by the governing program, be purchased when auctions are held, or be purchased from other entities that have excess.

Emissions sources participating in emissions trading programs, like power plants, receive allowances that authorize them to emit up to a certain amount of pollution over a specific amount of time. For example, in the EPA’s Acid Rain Program, each allowance authorizes an emissions source to emit one ton of sulfur dioxide during an annual compliance period. Once an emissions source has an allowance, it can choose to use it to cover its emissions, sell it in the market, or bank (i.e., save) it to cover future emissions.

There are a number of different avenues for the environmentally-savvy investor, all with their respective pros and cons, which now include buying and selling European Union (EU) carbon allowances.

Emissions trading programs

Companies that cut their pollution faster can sell their allowances to companies that pollute more, or "bank" them for future use. This market-based approach gives companies flexibility and increases the pool of available capital to make reductions. It also encourages companies to cut pollution faster and rewards innovation. As companies use established techniques to lower emissions, such as adopting energy-efficient technology, entrepreneurs see opportunities.

The trade part of the program is a market for companies to buy and sell allowances, with supply and demand setting the price. Trading gives companies a strong incentive to save money by cutting emissions in the most cost-effective ways. The government sets the cap across a given industry or the whole economy and decides on the penalties for violations.

There are emissions trading programs in various parts of the world, including the European Union, the United States (California, Washington, and RGGI), Canada (Alberta and Quebec), China, Korea, and New Zealand.

Frequently asked questions