Wednesday, January 30, 2008

Economic collapse and corporate foresight

Russia has cleared the way to begin selling carbon credits, exposing a slightly troubling issue for the carbon allowance market: the issue of overhang.

Anyone who invested in a newly listed tech stock during the dot-com bubble probably remembers overhang, or the excess shares that were not traded in the market. As the tech bubble deflated, much of the overhang that was held by company founders and venture capitalists came flooding into the market, adding to the downward spiral.

Russia is currently well below its emissions limits under Kyoto, thanks to its economic collapse in the 1990s which forced the closure of uneconomic pollution-belching factories. Thus, it has carbon credits galore. One investment bank has estimated this 'overhang' could total $10 billion. The Russian company Gazprom, which is the world's largest natural gas supplier, has hit on the ingenious idea of selling carbon credits bundled with its energy, thus providing carbon-neutral gas. The company has said it has no intention of flooding Europe with cheap carbon allowances, but it might change its tune if emissions permits became so expensive that its customers switched to wind power.

So what does this have to do with the United States? Du Pont, Entergy and other companies in carbon-intensive industries have accumulated carbon offsets and credits for reducing greenhouse gas emissions through foresight (rather than economic crisis). Du Pont, for example, committed itself more than a decade ago to cutting its emissions 65 percent below the 1990 level by 2010. They've probably been quite careful to have to reductions certified and verified, giving them a potential windfall if legislation recognizes these cuts.
Could this 'overhang' reduce the effectiveness of a cap-and-trade system aimed at cutting greenhouse gases? In theory, it shouldn't. But it might distort pricing of carbon allowances, easing the pain of reducing greenhouse gas emissions -- and that pain is precisely what is needed to change behavior.

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