Allowance Allocation - An Introduction to Climate Change Legislation

An Introduction to Climate Change Legislation

Allowance Allocation

Allowances associated with a cap-and-trade system represent an asset with considerable monetary value, perhaps $100 billion or more annually. The method by which allowances are allocated therefore has important implications for both the efficiency and the distributional impacts of climate policy.

There are two major approaches to allocation: giving allowances away freely, or auctioning them. If given away freely, allowances are often "grandfathered" to regulated entities based on past emissions or related historic benchmarks. Arguments for grandfathering frequently center on the need to compensate vulnerable economic sectors or make asset owners "whole".

On the other hand, because the cost of emissions permits (whether actual or in terms of opportunity costs) will be largely passed on to consumers, giving allowances to producers freely often leads to windfall profits and makes them better off under climate policy than before. An important exception is among regulated utilities - roughly half the United States market - where the benefits of grandfathered permits would be passed on to consumers. In an allowance auction, the government receives the auction revenue from the firms that purchase the allowances. Arguments for auctioning include reducing the program's overall economic cost and raising revenues that the government can use to reduce other taxes or fund other programs.

Further Reading

The Effect of Allowance Allocations on Cap-and-Trade System Performance
Robert W. Hahn, Robert N. Stavins
Discussion Paper 10-21

Climate Policy’s Uncertain Outcomes for Households: The Role of Complex Allocation Schemes in Cap-and-Trade
Joshua Blonz, Dallas Burtraw, Margaret A. Walls
Discussion Paper 10-12

Emissions Offsets in a Greenhouse Gas Cap-and-Trade Policy
Brian C. Murray
Weekly Policy Commentary, November 17,  2008

How Should Emissions Allowance Auctions Be Designed?
Karen Palmer
Weekly Policy Commentary, April 7, 2008

Allowance Allocation
Raymond J. Kopp
Assessing U.S. Climate Policy Options
Issue Brief #6

Cap, Auction, and Trade: Auctions and Revenue Recycling under Carbon
Cap and Trade

Dallas Burtraw
Congressional Testimony

The Incidence of U.S. Climate Policy: Where You Stand Depends on Where You Sit
Dallas Burtraw, Richard Sweeney, Margaret A. Walls
Discussion Paper 08-28

Crafting a Fair and Equitable Climate Policy: A Closer Look at the Options
Dallas Burtraw, Richard Sweeney, Margaret A. Walls
Resources, Fall 2008

Simple Rules for Targeting CO2 Allowance Allocations to Compensate Firms
Karen L. Palmer, Dallas Burtraw, Daniel B. Kahn
Discussion Paper 06-28

Output-Based Allocations of Emissions Permits: Efficiency and Distributional Effects in a General Equilibrium Setting with Taxes and Trade 
Carolyn Fischer, Alan Fox
Discussion Paper 04-37


CoverageAllowance AllocationCost Containment

Link to Assessing US Climate Policy Options

Link to climate change bills and targets
Key elements and
targets of Climate
Change Bills Introduced
in the 111th Congress 

Emission Allowance Allocations Under The American Power (Kerry-Lieberman) Act (.xls)