Carbon pricing isn’t the only tool in the climate policy tool kit. Yet not all policies that reduce GHG emissions do so cost-effectively. Which other GHG policies might make economic sense? Can they make sense in addition to carbon pricing? Or even instead of carbon pricing?

Let’s play “complement or substitute,” climate policy edition

Our recent report on biofuel policies found that existing biofuel policies—in particular, production subsidies and renewable fuel mandates—are expensive ways to reduce GHG emissions. And as a result, carbon pricing is a better, more cost-effective approach to reduce emissions. In other words, it finds these policies aren’t great “substitutes” for carbon pricing.

Nor, however, are these biofuel policies great “complements” to carbon pricing. Even if we do need additional GHG policies for the transportation sector, there are better—i.e., less costly—alternatives available (for example, flexible performance standards, such as low-carbon fuel standards or flexible vehicle standards).

So what about other policies; could they work as substitutes for carbon pricing? How about as complements? Let’s unpack each of these concepts a little more.

Substitute policies could (almost) match the economic performance of carbon pricing

A substitute climate policy is one that works instead of carbon pricing. They both have the same core objective of broad emissions reductions. Yet Ecofiscal has argued that other policy instruments—such as command-and-control regulations, or subsidies—tend to cost more than carbon pricing. The reasons? Carbon pricing maximizes flexibility for emitters, giving them choice as to how they reduce emissions, or not, and letting market forces identify lowest-cost emissions reductions. It also generates revenue that be used to generate other benefits.

Mark Jaccard argues that well-designed, flexible regulations can come close to—though never quite achieving—the cost-effectiveness of carbon pricing (but potentially be easier to implement, politically-speaking). These kinds of policies are flexible in that they are technology neutral. Rather than requiring a specific technology, they set benchmarks for emissions performance. They can even rely on market mechanisms such as compliance trading to further increase flexibility and lower costs. Still, to truly replicate the cost-effectiveness of carbon pricing, various flexible regulations for all sectors—including vehicles, buildings, industrial emitters—would have to be carefully harmonized and calibrated with each other to avoid leaning too hard on any one source of emissions. In practice, this is a tricky design task to say the least. Further, unlike carbon pricing, regulations don’t generate revenue that can be used to achieve other benefits.

Smart complementary policies do things that carbon pricing can’t

Ecofiscal is in the process of taking a deep look at what makes a good complementary policy (i.e., policies that can combine with carbon pricing to improve the performance of climate policy overall). A poor complementary policy simply overlaps with carbon pricing and raises overall costs. A smart complementary policy, on the other hand, can reduce more emissions at lower cost because it does something that carbon pricing can’t. Maybe it reduces GHG emissions that are hard to price. Maybe it makes carbon pricing work better, by addressing other issues in the market. Or maybe it has other objectives and therefore other benefits. Stay tuned for much more coming from Ecofiscal on this issue.

Coming up next

In the meantime, over the next few weeks we’ll explore the performance of a few specific (non-carbon pricing) climate policies. Coming up later this week: subsidies for carbon capture and storage (CCS). Substitute? Complement? Stay tuned.