Where are the incentives on the demand side of Waxman-Markey?

Update:  I really need to eat some crow here.  The demand side incentives are in place on Waxman-Markey, so long as utilities pass through the value of permits to consumers in "lump-sum" fashion as the bill prescribes (see Stavins, with hat tip to 'R' in the comments of this post).  Darn it all.  My apologies.  I now remember reading this post by Stavins.  I'm going prematurely senile...

The key idea underlying cap-and-trade is to create a market price for carbon emissions that wouldn't otherwise exist. While this provides a useful incentive to cut carbon emissions, it also means higher energy bills for the consumer.

But a clever idea in the Waxman-Markey bill limits the price effect for consumers.** It does this by issuing a share of the tradeable carbon permits to local utility distributors.  Local utility companies are regulated not-for-profit enterprises due to their status as a natural monopoly.  Thus they are not free to charge consumers any price they wish.  Instead they are required to charge prices than just cover their costs, which are reviewed by a local commission.  By giving these local distributors carbon permits (which they would presumably sell to coal-fired power plants), it gives them an additional revenue stream to offset presumably higher wholesale prices.  Thus, consumer prices may rise very little, if at all, even while wholesale price would rise under Waxman-Markey.

This is extremely clever from a political viewpoint.  It is also helpful if you prefer progressive taxation: if the less well-to-do pay a larger share of their income on energy, higher energy prices would translate into higher "tax" burden from cap-and-trade, making the "tax" regressive. Giving local utilities carbon-permits keeps the tax burden on relatively progressive Federal income taxes.  I don't have a real problem with these objectives.

But there is a downside to this.  This approach effectively eliminates all demand-side [price] incentives for energy conservation.  The beauty of cap-and-trade is that it puts a price on carbon no matter where it exists, which allows for all kinds of creative ways to avoid paying that price.  Maybe it is true that the real gains long term are to be had in the way energy is generated.  But right now the cheapest ways to reduce carbon emissions appear to be on the demand side of the market, in the form of greater energy conservation--better-insulated homes, more efficient appliances, smaller home, and so on...

While there are proposals for other kinds of tax-related incentives to insulate your home, replace windows, and so on, these stop-gap approaches don't have the beauty or robustness of price-based incentives.  It's a bit more like command and control.

Is there another way?  I think so.  I think W-M could enforce some kind of increasing marginal price rule for local utilities.  This is basically the opposite of what a monopoly would do.  The idea is to charge a low price for the first X megawatts of energy each household consumes and then gradually increase the price as household consumption rises.  This way household could pay the same average price as they normally would but potentially pay a very high marginal price, and thus have a stronger incentive to conserve.  I think some local utilities do this but I wouldn't complain if all were required to do it, at least to some degree, under Waxman Markey.  I think it would do a lot to lower the overall costs of reducing carbon emissions while keeping the effective tax burden reasonably progressive.

**Warning: I'm paraphrasing this from what I learned from talking with others who know more about this than I do.  I haven't, alas, actually read Waxman-Markey.  If you know something I don't please let me know in a comment.

Comments

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  2. I like your "increasing marginal price" mechanism. Alternately, Waxman-Markey attempts to preserve the price signal by encouraging local distribution companies to rebate consumers through lump sums rather than lower prices. I'm not an authority on how it turned out - Stavins seemed to think it was going to be fine, whereas this Climate Progress post parses how "airtight" the language is (the answer seems to be "indicative, but not totally airtight.")

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