This blog was written by John D. Wilson, former Deputy Director for Regulatory Policy at the Southern Alliance for Clean Energy.

Guest Blog | November 15, 2011 | Climate Change, Energy Policy

This blog is one of a series of posts about how the “power of free markets” may be able to help solve climate change. You can view the rest of the posts here.

As Grist’s David Roberts might remind us, Bob Inglis’ recent climate change commentaries are a throwback to an era when policy and appeals to self interest had a role in national politics. A year after reasoned debate abruptly surrendered to unhinged anti-environmental sentiment, Bob Inglis’ perspective is barely heard by the most vocal members of his Republican party, for whom “policy [is] merely an instrument to reinforce the status quo and punish out-groups.”

A new poll illustrates the impact of partisan spin on policy: Edward Maibach of George Mason University is quoted as associating falling support for renewable energy with efforts to reframe “every news story of note … to make a partisan point.” Inglis is no doubt well aware of the challenge he faces, but even if the odds are against a reasoned debate, it is urgent that we figure out “what needs to be done to allow a better outcome when the next opportunity finally does appear?”

Yesterday, I offered an overview of Inglis’ call to use the “power of free markets” as a good starting point for re-engaging the debate about how to provide both certainty and flexibility in a policy to reduce greenhouse gas emissions. Bob Inglis clearly understands, however, that for a carbon tax to be seriously considered, a complete reversal of the Republican demonization of the cap-and-trade system is required.

Frequently, government policy options to solve climate change are boiled down to a choice between cap-and-trade and regulation. And some conservatives have the notion that those two alternatives are one and the same. Both descriptions conveniently fit into stereotypical notions of left and right.

These stereotypes are simply wrong. On both the left and the right, there is a widely shared perspective that the most effective way to reduce greenhouse gases involves applying a market-based mechanism. In other words, the “power of the free market” is a widely shared value.

What is not widely shared is a common understanding of what that means. For the public, one recent study suggests that there is wide agreement that government should be involved in energy markets. People who follow these issues closely, however, tremble at a force that may be more powerful than supply or demand … politics.

Market forces can be overcome by political power

In theory, mainstream economists view cap and trade systems as potentially equivalent to carbon taxes (click for more detail). In theory, either approach offers both the certainty and the flexibility that we and many others feel are the essential elements of climate policy.

However, the cap-and-trade system featured in 2009 climate legislation included the free allocation of permits to polluters and direct investment in numerous policies (click for more detail). Greg Mankiw quipped that, “Cap-and-trade = Carbon tax + Corporate welfare.”

Cap-and-trade systems were broadly “demonized,” as Duke Energy CEO Jim Rogers put it, by “the people who invented it … the Republicans. When they created it, they called it the greatest use of market forces to solve the problems of the world.”Instead, cap-and-trade was demonized as “cap-and-tax” and a carbon tax was viewed as a “pipe dream.”

The 2009 climate legislation would have replaced the existing authority of the Environmental Protection Agency to regulate greenhouse gases under the Clean Air Act. For this reason, opponents of EPA regulation of greenhouse gases who argued that the decision should be left to Congress are widely viewed as hypocritical. Under its Clean Air Act authority, EPA is moving forward with a mix of partnerships and programs as well as a regulatory initiatives to reduce greenhouse gas emissions.

Nevertheless, this regulatory alternative is, indeed, unloved by economists (click for more detail). Economists usually prefer the efficiency of the market to regulation. Another widely shared reason for opposing federal regulation is that it simply isn’t likely to get the job done.

World Resources Institute (WRI) assessed the potential for federal regulation to reduce greenhouse gas emissions. WRI and others have shown that federal regulations could be used flexibly, and are a satisfactory substitute for market-based mechanisms in the near term. But it is clear that regulation alone will not achieve longer-term, more ambitious greenhouse gas reduction goals.

Sadly, state regulation is not a good alternative to federal action. While states have different authority that in some areas (such as transportation planning) could be more effective than federal authority, state action alone has little promise of achieving the necessary reductions in global warming pollution (click for more detail).

Is a carbon tax a politically viable, free market policy?

So perhaps Bob Inglis is right. Cap-and-trade is dead. Regulation isn’t cheap or effective. Addressing climate change means a carbon tax.

As noted above, most “free market” advocates believe either fully-auctioned permits or a carbon tax are the most economically efficient method of sending a “price signal” to the market to reduce climate pollution. Differences of opinion emerge regarding the use of revenues from the permit auction or tax: Should revenues be refunded, or spent? And what impact would the policy have on poor households? (click for more detail) Recently, James Hansen split the difference: He advocated a “carbon fee” with a dividend returned either as a lump sum or in the form of a payroll tax reduction.

Even though widely-cited experts and high-profile reports demonstrate widespread preference for market-based mechanisms over regulations as the primary federal strategy to address global warming pollution, it seems there is little immediate prospect for a consensus among “free market” advocates to form on these issues. One honest reason is that the design of any market-based policy engages interests beyond the need for certainty and flexibility in reducing greenhouse gas emissions.

For many of these questions, SACE’s mission and values don’t always lead to an obvious choice … we tend to leave those parts of the debate to others. We spoke out on the auction vs allocation issue early on in the debate because the free distribution of pollution allowances would likely undermine the effectiveness of the overall proposal. Similarly, we weighed in on the numerous provisions in the proposed national renewable energy and energy efficiency standard that rendered it mostly meaningless for the Southeast.

Beyond the uncertainty created by policy debates about fairness and liberty, politics intrudes as well. Yes, cynical voices do sometimes stir the pot in the interest of stalling action.

Many think just such cynical motives explain the otherwise surprising announcement that the American Petroleum Institute and its members support for a carbon tax. It seemed too good to be true that the oil industry would favor anything that raises prices on gasoline at the pump. But as ThinkProgress’ Brad Johnson pointed out, the oil & gas industry simultaneously indicated support for a carbon tax while attacking that same policy in print. Johnson explains that the oil industry isn’t contradicting itself: it wants a policy that will allow it to blame high prices at the pump on “U.S. efforts to deal with climate change.”

In addition to honest – and cynical – differences in perspective, there are real world challenges to implementing these relatively idealistic “free market” visions. Challenges that mean that an effective “free market” solution embodies some very un-market-like policies.

Tomorrow, we’ll explore why government action is needed to help price signals connect meaningfully with consumers. And then Thursday, I’ll offer some thoughts on the role of energy subsidies in the market: policies that rely on price signals and subsidy reform will occur in a market that is not “free” in many respects. Friday, I’ll try to bring it all together, by suggesting next steps towards finding a way to enact policies that not only offer a certain and flexible path to greenhouse gas reductions, but also engage the broader questions raised by opening the “free market” debate in Washington.