A Primer on Market - Based Approaches to CO 2 Emissions Reductions PB 0701 . SEPTEMBER 2007

Recent political developments have brought to the political fore the issue of controlling emissions of greenhouse gases. In the United States, numerous proposals have surfaced promoting policies to limit domestic emissions of gases like carbon dioxide (CO2), a primary contributor to climate change. Many of these proposals embrace “market-based” approaches, including the creation of a new tax or a new trading program for carbon emissions. In this flurry of political advocacy and activity, a fair amount of ambiguity and confusion has arisen concerning what these policy options might entail, and how their impacts might differ. The purpose of this policy brief is to describe some of the basic features of carbon taxes and carbon-based emissions trading. Our goal is to aid decision makers to more effectively weigh the advantages and disadvantages of these approaches. The brief proceeds in five sections. First, we review how cap and trade emissions trading systems work. Second, we outline the history of emissions trading as a policy option in the United States and elsewhere. Third, we review the similarities and differences between a cap and trade system and an emissions tax. We then discuss some critical issues for policymakers contemplating either approach. After concluding we offer a few suggestions for further reading. Purdue Climate Change Research Center