climex

Issue #44

Last Update March 2, 2006

Finance The Chicago Climate Exchange by David Katz No, it's not a joke, though many residents would be glad to exchange Chicago's climate for that of anywhere else save the polar regions and the Sahara. The Chicago Climate Exchange is industry's mechanism for reducing greenhouse gases by creating a market in pollution credits. Active trading began in December, 2003 among members recording a baseline CO₂ emission volume of 226,302,530 metric tons. Since trading began, membership has grown from the founding 14 members to over 50 in a variety of industries, including aerospace, automotive, diversified manufacturing, power generation, forest products, pharmaceuticals, steel, transportation and others. In addition to those companies producing greenhouse gases, membership includes financial firms that provide trading liquidity, non-governmental organizations, offset providers (more on this later), universities, and the City of Chicago.

To participate, greenhouse gas emitters join the exchange and have a baseline emission level calculated for them. This baseline is the average emissions for which they were responsible over the years 1998-2001. The exchange member then commits to reducing these emissions over a three year period by a total of four percent (two percent the first year, one percent for each of the next two years). For the initial members, with a total baseline of approximately 1/4 billion metric tons, this represents a three year reduction of over 10 million metric tons of CO₂ or its equivalent in other greenhouse gases. Any company that exceeds its annual commitment receives credits for the excess. Any company that falls short of its commitment must buy credits from members that have them, or earn credits by funding greenhouse gas reductions elsewhere. The Chicago Climate Exchange is the place where these credits are traded, and is also responsible for setting baselines and monitoring the claimed reductions for accuracy. Penalties are assessed if commitments are not met and not offset by the purchase of credits.

In addition to greenhouse-emitting members, two other kinds of members trade emission credits: offset providers and liquidity providers. Offset providers, based in the US (for example, the Iowa Farm Bureau) and abroad (for example, Klabin S.A. in Brazil) enable emissions creators to earn credits by funding reforestation projects, renewable energy initiatives and other activities that reduce CO₂ or other greenhouse gases. Liquidity providers act like specialists in the equities markets or locals in the commodities markets, making a market in emissions credits in the absence of sufficient demand from other emitters or offset providers. All trades are done electronically, and are cleared through the exchange. The exchange is a self-regulatory organization, but the emissions reports that members submit annually are to be audited by NASD.

The Chicago Climate Exchange is not the first of its kind. Similar exchanges exist in Denmark and the UK, and have met with some success in reducing emissions. This kind of free-market, non-governmental approach to environmental amelioration appeals to those who do not want to see government regulation increased. Nevertheless, most industry leaders see governmental regulation as inevitable as global warming becomes increasingly apparent. To some extent, the Chicago Climate Exchange is industry's bid to preempt regulation; by establishing a track record for environmental self-regulation, Exchange members hope to be exempted from stringent governmental oversight.

The Climate Exchange concept has several flaws, however. Establishment of baselines and verification of annual emissions figures are difficult tasks; even with outside auditing from NASD, it is not yet clear that these tasks can be accomplished with sufficient accuracy. In addition, the basic concept of trading emissions credits assumes that greenhouse gas emission is fungible - that is, a ton of CO₂ emitted or saved is the same no matter where in the world it occurs, and that reducing emissions and absorbing emissions are equivalent. Perhaps, with respect to global warming, these assumptions are true, but emissions in the L.A. basin and emissions in Alaska do not have the same impact on people in the short term, and it is by no means clear that global atmospheric circulation makes it all come out even in the long run. In addition, one per cent per year reduction targets would seem to be a soft-ball goal; given current measurement technology, a one per cent reduction falls within the margin of measurement error. Nevertheless, the Chicago Climate Exchange provides, at the very least, an ideologically palatable method for easing industrial polluters into the kind of investments that must be made to avert radical climatic changes over the next century.