Distributing Pollution Rights in Cap-and-Trade Programs: Are Outcomes Independent of Allocation?∗

Standard economic theory predicts that if property rights to pollute are clearly established, equilibrium outcomes in an effi cient emissions permit market will be independent of how the emissions permits are initially distributed. This so-called independence property has important implications for policy design and implementation. Past studies document a strong positive correlation between the initial permit allocation and firm-level emissions, raising concerns that the independence property is failing to hold in real-world settings. We exploit the random assignment of firms to different permit allocation cycles in Southern California’s RECLAIM Program in order to test the independence of permit allocation and emissions. Our results lend empirical support to the independence hypothesis. JEL Classifications : D21, D23, H11, Q50, Q53, Q58 ∗We thank Peter Berck, John DiNardo, Michael Greenstone, Gloria Helfand, and Michael Moore for valuable comments and suggestions. The paper has also benefitted from conversations with Denny Ellerman, Stephen Holland and Erin Mansur. Employees at the South Coast Air Quality Management District were exceptionally helpful in responding to our multuple data requests and helping us to understand how the RECLAIM program was developed and implemented. This research was supported by the UC Energy Institute’s Center for the Study of Energy Market under a research grant from the CEC. Dilek Uz provided excellent research assistance. All remaining errors are ours. †Corresponding author. UC Berkeley Department of Agricultural and Resource Economics. email: [email protected]