Price Containment for
Cap-and-Trade
Camp Resources
6/24/2010
Peter Maniloff* and Brian Murray*^
*Nicholas School of the Environment
^Nicholas Institute for Environmental Policy Solutions
Prices are volatile
Dec 2007
Dec 2008
Dec 2012
Prices from Point Carbon
Strategic Reserve Fund
Supply
$
Price Cap
Reserve fund
size
Expected
Price
Expected Demand
Q*
Pollution (Emissions)
3
Strategic Reserve Fund
Supply
$
Price Cap
Reserve fund
size
Q*
2
1
Realized Demand
Pollution (Emissions)
4
Model
reserve
price
expected
price
allowance
price
time
Model
• Random walk in prices
reserve
price
allowance
price
realized
price
time
Model
• Random walk in prices
• Constant elasticity of demand
reserve
price
allowance
price
realized
price
P
time
Model
• Jump diffusion random walk in prices
pt  pt 1 *(1  r )  N (0,  1 )
 dojump * jumpsign * N ( jumpsize,  2 )
• Constant elasticity of demand
• Parameterization based on simulation models and the EU
ETS experience
Model
• Jump diffusion random walk in prices
pt  pt 1 *(1  r )  N (0,  1 )
 dojump * jumpsign * N ( jumpsize,  2 )
• Constant elasticity of demand
Qt
Pt   *
* Pt
Qt
• Parameterization based on simulation models and the EU
ETS experience
Sample price paths
Sample price paths, central scenario
250
Reserve Price
Expected Price
2009 Dollars
200
150
100
50
0
2012
2014
2016
2018
2020
2022
Year
2024
2026
2028
2030
Results
High offsets availability
Low offsets availability
36% probability
79% probability
Hit reserve in any given year
10%
33%
Prices are contained to target
price cap
91%
80%
Reserve contains prices
(conditional on being triggered)
75%
75%
6 billion tons is enough
cumulatively
93%
67%
10 billion tons is enough
cumulatively
98%
80%
Hit reserve
Acknowledgements
Thanks to
• Nat Keohane and Alexander Golub
• Randy Kramer, Lori Bennear, Justin Baker, and
participants in the Duke environmental social
sciences seminar
• Two reviewers
• The Nicholas Institute for Environmental Policy
Solutions
Next Steps
• Further estimation and projection of
parameters. This may include an expert
elicitation process.
• Add a utility framework to model optimal
reserve size given price cap.
Review comments
• Review comment - Are upward price spikes more likely in
early years of the program when banks have not had time
to build and downward spikes more common in later years
for reverse reason?
– Explored: Yes, perhaps, but balances out to have little effect on
effective reserve size
• Review comment – lots of comments about our
parameters.
– We are exploring other estimation and projection methods.
– We are also considering an expert elicitation process.
• Consider a price floor
– That is omitted from these results, but does not substantially
alter them. Very few runs substantially trigger both a price
ceiling and price floor.