Consignment Auctions of Free Emissions Allowances

• Free initial distribution of allowances is expected in China and elsewhere.
• It may produce thin markets, weak prices and poor recognition of opportunity cost.
• Fairness concerns may result from poor access to allowances and poor transparency.
• Consignment auctions offer a low-cost way to may mitigate these problems.
• They may be run independently of government and have been successful historically.

While the initial distribution of emissions allowances is usually thought to be independent of the emissions outcome, 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 the recognition of opportunity costs. Concerns about fairness may result from intransparency in the process of transferring substantial allowance value. We explore the role of consignment auctions in mitigating these concerns. These revenue-neutral auctions return the financial value of allowances to their original holders while revealing prices and directing allowances to their highest-valued use. They also can be used to support a minimum price when allowances are freely distributed, which may facilitate program linkage. Consignment auctions have minimal administrative costs and do not necessarily involve government. Experience indicates that they can play an important role, especially in new markets.