(Mar. 22, 2010) Question: If Canada stopped selling leaded gas in 1986, and stopped making leaded gas in 1989—what happened in the intervening years when access to the US market was restricted? Why would our refiners eat the 30% premium to enter the US market? Is it just because they had to exhaust their leaded gas capital, or is there another story here?

The Canadian and US regulatory stories differ in the way they treat production facilities in the leaded gasoline case, just as they do in the ultra low sulphur diesel context. While no Canadian refinery was making leaded gasoline in 1990, most had actually cut out the production of lead ahead of 1986—even though Canadian law did not require early refinery changes.

Our primary leaded gasoline market was the US, and the US allowance-based tariffs on our leaded gas exports made the economics of producing lead in Canada unfavourable. The small volume of leaded fuel that was still made in Canada in 1990 that was not marketable to domestic specialty markets (car racing, for example) was exported to US refiners who blended it in with the leaded fuel they then exported to developing nation markets.

Despite being net exporters, could we mirror the protectionist scheme in the US if it ends up happening?

No, and that is the problem. Let’s say Canada and the US agree to the same national GHG reduction schedules and the same GHG quota allocation scheme. The problem is that we are net exporters and they are net importers. 70% – 80% of the GHGs for the transportation fuel life-cycle is in the form of tailpipe emissions. 60% of the natural gas life-cycle GHGs occur at the point of end use. 80% to 90% of coal life-cycle GHGs occur at the point of end use. So every time the US, EU, Japan or South Korea cut back coal, petroleum, natural gas or LNG consumption, they cut back imports from Canada. The result is:

• Canada loses export revenues,

• the Canada-other nation trade balance shifts in favour of the other nation and

• for every TCO2e in global GHG reductions, Canada gets 0.2 to 0.4 TCO2e in credits bankable to the Canadian GHG inventory and the traditional carbon commodity importing nation gets 0.6 to 0.8 credits bankable to the their national GHG inventory

And:

• in a closed, global cap-and-trade market (such as the one that the UN proposes), if Canadian exporters wished to divert carbon-based commodity exports from the US to a new export market, Canada’s new foreign customers would have to buy GHG quota from the open market to cover the GHGs arising from their consumption of new Canadian imports. In that closed global cap and trade market, Canada’s new customers would likely have to source their GHG quota requirement from the US customers who would be sitting on surplus GHG quota due to their declining dependence on Canadian carbon-based products.

In a fairer quota market, 100% of the global GHG emissions associated with our domestic production would be booked to Canada’s national GHG inventory and 100% of the global reduction credits associated with a Canadian reduction in output/sales would also be booked as reductions in Canada’s GHG inventory if/as Canadian petroleum product sales decline over time.

The reason the US does not propose this fair accounting method is the method the US proposes delivers a systematic wealth transfer to the US from all energy, food and building product exporting nations on which the US currently depends.

While I do acknowledge that a way does exist to construct a fairer quota market system, I still oppose quota as a GHG control mechanism because any quota regime introduces significant inefficiencies to any market. Continental or wider-reaching product standards without any quota allocation—like the ultra low sulphur diesel product standard—can spawn efficient, fair and free secondary markets for emission reduction credits.

Remember, “cap and trade” for carbon-based commodities is really no different from how Canada’s dairy quota market works.

In 1970, Canadians agreed that, in perpetuity, each province’s continuing share of total Canadian milk and butterfat production quota would reflect their shares of total national dairy product consumption in 1970.  So, today, Quebec gets 37% of all Canadian dairy quota/production rights. BC gets only 2.7%.  But BC’s share of total dairy product consumption has grown to 13% and Quebec’s share is now down below 25%.

The net result is that BC is forced to be inefficient and import 30% of the milk products we consume in BC from Quebec, because the national quota regime precludes us from producing locally to meet our needs.

If/when we agree to introduce a similar quota regime to govern the location of the production of all carbon-based products (energy, food and building products) and if/when we agree to assign national and sub-national carbon production quota allocations based on historical consumption levels, we achieve the same highly inefficient outcome for energy, food and building products that we currently live with in the dairy market.

This quota system favours, over time, any regional economy with high carbon product consumption and import levels in the base year for quota allocation, at the expense of any economy that is more efficient, has a smaller population and is a net exporter of the soon-to-be-quota-governed products in that same base year.

Is this case study written up in a journal somewhere? Would be nice to pass more formal docs around?

I have not seen it written up in a journal article, though the topic is indirectly addressed in Reitze, Arnold. “Mobile Source Air Pollution Control.” Environmental Lawyer 6 (2000): 309–27.

All of the data and information in the slides I have attached is from official government sources and in the public domain. So to contradict my slides one would have to use data that contradicts the official information provided by the governments involved.

One big problem, in my view, is that our academic community tends to have their eyes on modelling and not facts. Most of the relevant work in academic peer-reviewed journals fails to consider actual data and deals only in modelled (and often unrealistic) outcomes.

I also find that the mainstream academic community is not receptive to evidence that consumption taxes may not always be efficient behavioural change mechanisms.

On the question of how quota affects markets, I find the track record of mainstream academia quite puzzling. To date, most leading western economists quickly describe “cap and trade” as a mechanism that will lead to market efficiencies. However, most of the very same academics have documented the inefficiencies of the Canadian dairy market that derives directly from the quota regime. I cannot explain why they recognize the inefficient nature of the exact same market mechanism in one application but not in the other.

On taxes, I should note that the issue is not the economic theory, but the modelling techniques that our leading economists have adopted. General Equilibrium economic theory suggests that consumption taxes are the most efficient mechanisms for incenting consumer behavioural change if/when:

• the tax is applied at the point of a primary consumption decision and

• demand for the taxed commodity or service is price elastic.

But Canada’s (and many other) ”leading” economic modellers describe a world in which:

• the tax is applied at the point of a secondary consumption decision (most energy purchases derive from the home and vehicle purchase decisions we have made, and are, therefore, not primary consumption decisions); and

• the taxed commodity income, not price, is elastic, and then

• project that consumers will behave as if the tax was applied at a primary consumption decision and demand for the commodity is price and not income elastic.

Since most of the models we are now using to project consumer behaviour are inconsistent with the economic theory they purport to represent, it should not be a surprise to use that the modelled projections will fail to be realized.  As far as I can see, the economic theory is pretty sound. The problem, as I see it anyway, is that many of the econometric models we have come to rely on for projections have abandoned the theory in critical areas.

And we have also come to confuse “model projections” with “forecasts”. These are very different things.

Aldyen Donnelly, March 22, 2010