In and when observing emissions by end-use

In order to come up with any effective mechanism
for carbon dioxide (CO2) emissions in Indiana, it is first important to understand its
energy sources, emissions, markets and consumption trends. Coal has been the
backbone of Indiana energy with more than 80% of Indiana’s electricity being
generated from coal-fired power plants: in 2015, the state ranked eighth in the
country for coal production and third for coal consumption (EIA, 2017-b). This
availability and usage of coal is one of the factors that has kept electricity
prices relatively low in Indiana, attracting industry to the Midwestern state,
which uses more energy than both the residential and commercial sectors
combined (Dillon & Slaper, 2015). Accordingly, in 2014, the vast majority
of state’s CO2 emissions were caused by electricity generation (66.9%) and
industry (27.8%) (DOE, 2014), and when observing emissions by end-use sector,
electric power remained the leading source with industry and transportation
being the next largest sources (EPA, 2014).

Over the last few years, the state has
diversified its energy portfolio due to environmental regulations on emissions
as well as dropping natural gas prices (Dillon & Slaper, 2015), but its
reliance on coal has caused it to have the eighth-highest carbon emissions in
the U.S. (EIA, 2017-b). In order to address CO2 emissions, there are
various policies that Indiana can implement: these may be market-based, such as
a carbon tax or cap-and-trade, or command-and-control policies, which include
regulations and technology specifications.

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The three options to cut emissions



Based on Indiana’s energy background,
command-and-control policies would likely regulate power plants or possibly
enforce fuel standards. Regulations regarding power plants and fuel standards
would focus on reducing the carbon intensity of power generators and
transportation fuel, respectively, setting CO2 emissions reductions
targets to be achieved by a certain year. In general, command-and-control
policies are useful when addressing market failures, such as externalities in
the case of emissions, but can be inefficient in terms of which carbon uses
they target: mandates can reduce emissions from high-value uses of carbon when
power plants and energy production are regulated (Lecture B12b, slide 15)
while they should aim to reduce carbon use where willingness to pay is lower
and closer to the social cost of carbon, which has a central estimate of $36
per ton (Lecture B14, slide 29). For example, much emissions are caused by
transportation, which should be targeted because they include low-value uses like
recreational driving and idling. Additionally, command-and control approaches
can be expensive and are less flexible than their market-based counterparts.



            Cap-and-trade could also assist the state in reducing emissions
from electricity generation and industry. The cap on emissions could be applied
to particular sectors or all companies with the latter option being more
beneficial but less politically feasible. In order to implement this system,
the state would set a cap that limited its emissions to an ideal level;
eventually, this would be where the social cost of carbon intersects the
state’s demand for carbon (Lecture B12b, slide 29), but the cap would likely
decrease over time to achieve this level. It would then issue permits in
accordance with the cap, auctioning or distributing them to emitters.

            Unlike some mandates, cap-and-trade passes on the correct price
signal for carbon and therefore targets low-value uses of carbon (Lecture
B12b, slide 30). Furthermore, when permits are allocated, it grants companies
a valuable property right, which would create necessary political support, and
if other areas implement similar programs, permits could potentially be traded
between states, further reducing low-value emissions (Lecture B12B, slide
30). However, setting the cap is a challenging task, and allowing for too many
emissions, which is likely with the state’s conservative climate, fails to
fully affect the targeted carbon uses and results in insignificant reductions.
The policy is also likely to disadvantage state trade and impact low-income
households more severely (Lecture B12b, slide 24), and these issues would
need to be effectively addressed to improve political support. Lastly, although
allocating permits would garner support, the right to pollute should ultimately
belong to the state due to the resulting effects on society.


Carbon Tax

            A carbon tax could reduce state emissions by “targeting the
carbon content of fuel combustion and other processes of emitting carbon”
(Lecture B12b, slide 18) and therefore raising the price of gasoline, natural
gas, coal, and electricity. The state would ideally set the tax equal to the
social cost of carbon in order to reflect the negative externalities of carbon
use, but a rising tax could also be implemented to achieve emissions reductions
over time and gain political support. Like cap-and-trade, this approach passes
on the correct price signal, changing the targeted carbon-emitting behaviors,
but is considered the most efficient, least expensive way to reduce emissions
(Lecture B12b, slide 23). Additionally, a carbon tax has the potential to
raise a significant amount of revenue, depending on the state’s tax rate; based
on total retail sales in 2015, a tax of $25 per ton would result in about $1.25
billion in revenues from electricity consumption alone (EIA, 2017-a). Because
energy taxes are very difficult to evade, a carbon tax would also reduce total
tax evasion in the state as well as make the informal economy less appealing,
helping diminish its size (Lecture B13, slide 25). However, the tax would be
difficult to implement due to opposition to emissions reductions in the state,
and again, it is likely to disadvantage state manufacturing and place a larger
burden on the poor, as it is regressive (Lecture B12b, slide 24). Lastly, the
tax would also create deadweight loss, or a loss of economic efficiency.



Lessons from other states with similar emissions cutting options



Command-and-control policies at the federal and
state level could help guide the implementation of these regulations in
Indiana. The Clean Power Plan, which was proposed in 2014, aims to reduce power
plant emissions 30% by 2030, using carbon intensity standards, and it allows
states to achieve reductions with demand side energy efficiency, renewable
portfolio standards or goals, or market-based greenhouse gas emissions programs
(Lecture B22-1, slide 34). Similarly allowing power plants in the state to
implement a variety of emissions reduction methods could help increase
efficiency and garner political support. The Plan’s benefits also largely rely
on resulting health co-benefits (Lecture B22-1, slide 38), so it would be
more effective for the state to regulate these co-benefits separately through
mandates for filters and other measures that improve health. Additionally,
under California’s Assembly Bill 32 (AB 32), the state uses fuel standards to
reduce the carbon intensity of transportation fuel 10% by 2020, setting annual
standards for gasoline, diesel, and other replacement fuels that apply to
petroleum and biofuel providers (California Air Resources Board, 2017). Such
standards successfully target low-value uses of carbon, but the program has a high
potential for leakage, meaning the state could lose producers, jobs, and tax



Several states have implemented cap-and-trade
programs that offer insight. In addition to fuel standards, California’s AB 32
also uses cap-and-trade: it auctions most available permits and enforces a
price floor of $10 per ton that grows 5% annually (Lecture B22-1, slide 25).
However, as previously mentioned, it has a problem with leakage; state trade is
disadvantaged, as companies must compete for permits, giving them incentive to
produce elsewhere. For this reason, virtually all permits have been given away
for free – a practice that will continue until 2030 (Sexton & Sexton,
2017). Nine states participate in another cap-and-trade program, the Regional
Greenhouse Gas Initiative (RGGI), which caps the emissions of fossil fuel
plants with a capacity of 25 megawatts or more (Lecture B22-1, slide 9). Upon
implementation of RGGI, the price of permits immediately dropped to the price
floor of $1.86, indicating that the cap was too high. This has been a common
problem with such programs, and like these states, Indiana should set a price
floor to prevent prices from falling to $0 if cap revisions are necessary. To
address leakage issues, the state should also consider capping the emissions of
power plants rather than all carbon-emitting companies, as power plants are
already heavily regulated and cannot move if taxed (Lecture B22-1, slide 10).


Carbon Tax

Boulder, Colorado, levies a
carbon tax on electricity consumption of residents and businesses in an effort
to reduce overall emissions 80% by 2050, using separate residential,
commercial, and industrial tax rates (City of Boulder, Colorado, 2017). Each of
these tax rates is much lower than the price increases we would observe under a
carbon tax of $25 per ton, indicating that the tax is well below the social
cost of carbon. This would likely be the case in Indiana as well due to the
state’s conservative climate and existing opposition. While a lower tax would fail
to reduce emissions to the optimal level, Colorado’s tax demonstrates that
improvements are still possible, as it avoided over 50,000 metric tons of
emissions between 2007 and 2015 despite population and economic growth (City of
Boulder, Colorado, 2017). Additionally, a lower tax would still allow