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How does cap and trade work?

On Behalf of | Jun 8, 2021 | Uncategorized

Cap and trade is a government supervisory program designed to cap or limit the emission level of certain chemicals. This approach is used to harness market forces to reduce toxic emissions but cost-effectively. An example of one such emission is carbon dioxide which is a product of many industrial activities.

Cap and trade is an excellent alternative to carbon tax, although both work to minimize environmental damage without causing economic dents.

How it works

Simply put, the basics of cap and trade involve the government putting measures that limit carbon dioxide emission. For example, it can issue a limited number of annual permits to industries, allowing them to emit a controlled amount of carbon dioxide.

Therefore, the total amount emitted is referred to as the cap. If these companies produce a higher amount of carbon dioxide than they are allowed to, they are taxed. Those companies that produce an amount lower than what they are permitted to can trade their unused permits to other industries.

Global warming is becoming a bigger threat with every passing year, and for this reason, the government has resolved to reduce the number of permits issued annually. Consequently, permits have become very expensive, pushing industries to invest in green technology since it’s a cost-effective alternative.

Sometimes, in business law, this system is described as a market system. Looking closely, you will note that it is business. Companies pay the value of their emissions. Additionally, cap and trade permit the market forces to determine the price of carbon. This price will then drive or motivate innovations and influence market decisions.

Challenges faced

While a cap-and-trade policy looks like an ideal way to protect the environment, it is with its challenges. For example, it is not easy to tell whether the government will enact the right cap on industries producing emissions.

A cap too high leads to higher emissions, while one that is too low affects the manufacturing industry. These companies will not be operating optimally. Consumers are likely to feel this drop since the prices of goods are likely to skyrocket.