Working Paper

Consignment Auctions of Free Emissions Allowances under EPA’s Clean Power Plan

Jun 2, 2016 | Dallas Burtraw, Kristen McCormack

Summary

Free allocation of emissions allowances can affect the efficiency and fairness of trading in the market, but consignment auctions can play an important role in mitigating these concerns, with minimal administrative costs.

Key Findings

  • Free initial distribution of emissions allowances may affect the efficiency and perceived fairness of allowance trading, especially in small or new markets, by enabling firms to remain outside the allowance market and comply on a go-it-alone basis.
  • Revenue-neutral consignment auctions involve the sale of freely allocated allowances. The revenue is returned to the original holders of the allowances, and firms can repurchase allowances they need for compliance.
  • Consignment auctions help account for the opportunity costs associated with using freely allocated allowances for compliance, in contrast with other market options, and help overcome potential regulatory and organizational hurdles to efficient outcomes.
  • The market for sulfur dioxide emissions in the United States exemplifies the importance of consignment auctions in facilitating an emissions trading market. These auctions were run independent of the government at zero cost.
  • States could consider integrating this simple, virtually zero-cost element of market design into their plans to comply with EPA’s Clean Power Plan. Consignment auctions could be beneficial regardless of the allocation choices made by states.

Abstract

The initial distribution of emissions allowances is usually thought to be independent of the emissions outcome, but free allocation can affect the efficiency and fairness of allowance trading. Inefficiency may result from thin allowance markets, poor price discovery, and regulatory or organizational complexities that hinder recognition of opportunity costs and innovation. Concerns about fairness may result from lack of access to allowances for some entities and lack of transparency with respect to transfers of substantial value in the program. We explore the role of consignment auctions in mitigating these concerns. These revenue-neutral auctions return revenue to the original allowance holders, whose compliance obligations can be met by reacquiring allowances through purchase. Consignment auctions have minimal administrative costs and do not necessarily involve government. Experience indicates that they can play an important role in a new market. EPA and states could consider consignment auctions in planning for the Clean Power Plan.