This week listening to the radio I heard the cap and trade system described as something that would raise the price of carbon-based energy while lowering the cost of alternative energy. That cap and trade will raise carbon-based energy prices is correct. However, that cap and trade will lower alternative energy prices is correct only if one makes several other assumptions.

First, the statement is true if one adds the qualifier “relative;” alternative energy prices will fall relative to carbon-based energy. But this doesn’t mean alternative energy becomes cheaper, only that it becomes slightly more attractive in relation to oil and gas. Unfortunately because the price of alternative energy is currently much more expensive than carbon based fuels, this may not induce much substitution unless the price of carbon based rises substantially. Ron Bailey’s article “Cap and Trade Delusions” in Reason points out that electricity from solar energy costs 33 cents per KwH, from wind costs 9 cents per KwH and from coal costs just 6.5 cents per KwH. Cap and trade may only induce substitution to these alternatives if the carbon fuel prices rise substantially.

The statement is also potentially true if cap and trade induces sufficient innovation in alternative fuels that lowers the cost of these energy options. This is indeed likely to occur but there is no way to know how long it will take. Research has been conducted for many years on alternatives but they still don’t come close to providing energy at the same cost.

Thus, as Bailey points out, there is no way that cap and trade will not raise energy prices and reduce the overall number of jobs throughout the economy as a result of the drag on the economy. Remember that energy is an input into every good and service in the economy and with higher energy prices the cost of all goods will rise, without a comparable increase in individual incomes to compensate … That is unless you take latch onto the new rents that will accrue to the lucky few. (See today’s article by Bjorn Lomborg in the WSJ)

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