CO2 abatement costs and permits price: exploring the impact of banking and the role of future commitments

Since the signing of the Kyoto Protocol in December 1997, several authors have computed the costs of reducing greenhouse gas emissions by the amount specified in the Protocol, while accounting for the possibility to use the flexible mechanisms of the Protocol (internationally tradable emission permits). A number of such studies have recently shown that, following the US withdrawal and the Bonn and Marrakesh agreements, these abatement costs will be very low and the price of the permits could reach zero. However, these analyses usually take only the first commitment period (20082012) into account and do not explicitly consider the possibility of banking permits from one commitment period to the other (Art. 3.13 of the Protocol). The simple dynamic model that we develop here introduces this possibility. It allows one to analyze the impact of alternative future commitments (post 2012) for the US and the non-Annex B countries on world emissions, abatement costs and the permits price. We find that, provided ambituous post-Kyoto commitments are negotiated: (i) in 2008-2012, the amount of banked permits will largely exceed the amount of hot air and permits prices will be much higher than predicted by most other studies, (ii) the banking provision significantly reduces world total costs but increases total costs for all permit-importing Annex B countries (i.e. all Annex B countries except countries of eastern Europe) via a rise in the permits price in 2008-2017 and (iii) the issue of market power on hot air is not likely to be a relevant one.