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Climate Economics Seminar: Low Carbon Fuel Standards as a Policy Instrument to Achieve Greenhouse Gas Emissions Reductions

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Date(s): November 10, 2010; 2-3 pm

Location: Room 4150, EPA West Building, 1301 Constitution Ave., NW, Washington, DC

Contact: Carl Pasurka, 202-566-2275

Presenter: Stephen Holland (Department of Economics, University of North Carolina Greensboro)

Description: Stephen is planning to talk about his work on Low Carbon Fuel Standards in particular and on Intensity Standards in general. His presentation will draw on material from the three following papers (abstracts pasted below):




Greenhouse Gas Reductions under Low Carbon Fuel Standards?

A low carbon fuel standard (LCFS) seeks to reduce greenhouse gas emissions by capping an industry's carbon emissions per unit of output. California has launched an LCFS for automotive fuels; others have called for a national LCFS. We show that this policy causes production of high-carbon fuels to decrease but production of low-carbon fuels to increase. The net effect of this may be an increase in carbon emissions. The LCFS may also reduce welfare, and the best LCFS may be no LCFS. We simulate the outcomes of a national LCFS, focusing on gasoline and ethanol as the high- and low-carbon fuels. For a broad range of parameters, we find that the LCFS is unlikely to increase CO2 emissions. However, the surplus losses from the LCFS are quite large ($80 to $760 billion annually for a national LCFS reducing carbon intensities by 10 percent), and the average carbon cost ($307 to $2,272 per ton of CO2 for the same LCFS) can be much larger than damage estimates. We propose an efficient policy that achieves the same emissions reduction at a much lower surplus cost ($16 to $290 billion) and much lower average carbon cost ($60 to $868 per ton of CO2).

Taxes and Trading versus Intensity Standards: Second-Best Environmental Policies with Incomplete Regulation (Leakage) or Market Power

This paper investigates whether an emissions tax (equivalent to an emissions cap) is the best policy in the presence of incomplete regulation (leakage) or market power by analyzing an intensity standard regulating emissions per unit of output. With no other market failures, an intensity standard is indeed inferior, although combining it with a consumption tax eliminates this inferiority. For incomplete regulation, I show that under certain conditions an intensity standard can dominate any emissions tax (including the optimal emissions tax). This dominance persists even with the addition of a consumption tax,which ameliorates output distortions and can sometimes help the intensity standard attain the first best (when an emissions tax/consumption tax combination cannot). Comparing intensity standards to output-based updating shows
that the latter dominates because of its additional flexibility. Finally, I show that with market power an intensity standard can dominate the optimal emissions tax.

The intuition of these results is relatively straightforward. The weakness of an intensity standard is that it relies more on substitution effects than output effects to reduce emissions. With incomplete regulation or market power, this disadvantage may be helpful since leakage may offset gains from reducing output and since market power
already inefficiently reduces output.

Transportation Carbon Policies Lead to Large Differences in Land Use

Transportation-sector carbon policies that increase biofuel consumption can have vastly different impacts on land use. Land-use changes have important implications for indirect carbon emissions, food prices, runoff, erosion, and habitat loss. We simulate biofuel production under the 2022 Federal Renewable Fuel Standard (RFS), and find that carbon emissions fall by about 9% and energy crop production increases by 38 million acres, including 28 million acres for corn production. A low carbon fuel standard (LCFS), that achieves equivalent emission reductions, has similar land use changes. However, an equivalent cap and trade system (CAT) has minimal land use changes (< 1 million acres). These results highlight the potential negative effects of  the RFS and LCFS, effects that would be less severe under a CAT policy.

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