A cap and trade system is a method for managing pollution, with the end goal of reducing the overall pollution in a nation, region, or industry. Many proponents of pollution control support the concept of such systems, arguing that they are extremely effective, and that they make sense economically as well. It is only one option among many for reducing the emission of pollutants, most notably carbon dioxide, a greenhouse gas that has attracted a great deal of attention due to its environmental impacts.
Under a cap and trade system, a government authority first sets a cap, deciding how much pollution in total will be allowed. Next, companies are issued credits, essentially licenses to pollute, based on how large they are, what industries they work in, and so forth. If a company comes in below its cap, it has extra credits that it may trade with other companies.
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For companies that come in below their caps, this system is great, because they can sell their extra credits, profiting while reducing their pollution. For companies that cannot get their pollution under control, the system penalizes them for their excess pollution while still bringing overall pollution rates down. In a sense, the need to purchase credits acts as a fine, encouraging companies to reduce their emissions.
By creating a cap, nations make it clear that they want to reduce overall emissions, rather than just fining companies for excessive emissions or trying to force all companies to reduce their emissions by a set percentage. Cap and trade systems allow for flexibility, which usually benefits the market. Some people view the concept as preferable to a taxation or fining system, because it is easier to administer and it results in a pollution reduction. These systems are most commonly used for carbon emissions, leading people to refer to it as “carbon trading,” and there is a potential for a global carbon trading market, in which more efficient nations could trade credits with other countries.
A cap and trade system still requires regulation. Government agencies must monitor emissions from companies to ensure that they are reporting them truthfully, for example, and companies can still be fined for releasing harmful pollutants into the atmosphere, water, or soil. Cap and trade systems also benefit from investment in alternative energy on the part of the government, providing additional incentive to convert to more energy efficient and less polluting ways of generating energy to run companies, from paper mills to computer manufacturers.