ECONOMIC AND BUDGET ISSUE BRIEF

The Costs of Reducing Greenhouse-Gas Emissions

Human activities around the world are producing increasingly large quantities of greenhouse gases, particularly 

carbon dioxide (CO2) resulting from the consumption of 

fossil fuels and deforestation. Most experts expect that the 

accumulation of such gases in the atmosphere will result 

in a variety of environmental changes over time, including a gradual warming of the global climate, extensive 

changes in regional weather patterns, and significant 

shifts in the chemistry of the oceans.1 Although the magnitude and consequences of such developments are highly 

uncertain, researchers generally conclude that a continued increase in atmospheric concentrations of greenhouse 

gases would have serious and costly effects.2

A comprehensive response to that problem would include 

a collection of strategies: research to better understand 

the scientific processes at work and to develop technologies to address them; measures to help the economy and 

society adapt to the projected warming and other 

expected changes; and efforts to reduce emissions, averting at least some of the potential damage to the environment and attendant economic losses. Those strategies 

would all present technological challenges and entail 

economic costs. 

Reducing emissions would impose a burden on the economy because it would require lessening the use of fossil 

fuels and altering patterns of land use. This issue brief 

discusses the economic costs of reducing greenhouse-gas 

emissions in the United States, describing the main determinants of costs, how analysts estimate those costs, and 

the magnitude of estimated costs. The brief also illustrates the uncertainty surrounding such estimates using 

studies of a recent legislative proposal, H.R. 2454, the 

American Clean Energy and Security Act of 2009.

What Determines the Costs of 

Reducing Emissions?

The costs of reducing emissions would depend on several 

factors: the growth of emissions in the absence of policy 

changes; the types of policies used to restrict emissions; 

the magnitude of the reductions achieved by those policies; the extent to which producers and consumers could 

moderate emission-intensive activities without reducing 

their material well-being; and the policies pursued by 

other countries. (For a discussion of different concepts 

of cost, see Box 1.)

Emissions in the Absence of Policy Changes

In 2006, the United States emitted roughly 7 billion 

metric tons (MT) of greenhouse gases, measured in 

CO2 equivalents (CO2e, or the amount of CO2 that 

would cause an equivalent amount of warming).3

 Eighty 

percent of domestic emissions consisted of CO2 from the 

burning of fossil fuels in activities such as manufacturing, 

electricity generation, transportation, agriculture, and the 

heating and cooling of buildings. The remaining 20 percent—consisting of CO2 emitted from sources other than 

fossil fuels, methane (CH4), nitrous oxide (N2O), and a 

variety of fluorinated gases—were produced by myriad 

processes and activities throughout the economy. Under 

current land-use patterns in the United States, forests 

and soils absorb nearly 900 million MT CO2 every year, 

CBO A series of issue summaries from

the Congressional Budget Office

NOVEMBER 23, 2009

1. For a discussion of expected effects, see Congressional Budget 

Office, Potential Impacts of Climate Change in the United States

(May 2009), available at www.cbo.gov/ftpdocs/101xx/doc10107/

05-04-ClimateChange_forWeb.pdf.

2. For a general discussion of the economics of climate change, see 

Congressional Budget Office, The Economics of Climate Change: A 

Primer (April 2003), available at www.cbo.gov/ftpdocs/41xx/

doc4171/04-25-ClimateChange.pdf. For a general discussion of 

uncertainty and climate change, see Congressional Budget Office, 

Uncertainty in Analyzing Climate Change: Policy Implications

(January 2005), available at www.cbo.gov/ftpdocs/60xx/doc

6061/01-24-ClimateChange.pdf.

3. See Environmental Protection Agency, Inventory of U.S. Greenhouse Gas Emissions and Sinks: 1990–2006 (April 15, 2008).
2 CONGRESSIONAL BUDGET OFFICE

ECONOMIC AND BUDGET ISSUE BRIEF

Box 1.

Measuring the Costs of Reducing Greenhouse-Gas Emissions

Economists characterize and measure the costs of reducing 

emissions in a number of related ways, each of which provides a useful perspective on how a program to control 

emissions would affect the economy.

Incremental Cost

Not all emissions of greenhouse gases are equally expensive 

to reduce. If emissions were restricted in a manner that 

allowed firms and households flexibility in how they met 

the restriction, the least costly reductions would tend to 

be undertaken first. If the restriction was tightened and 

people had to forgo increasingly highly valued activities to 

further reduce their emissions, each additional ton of 

reductions would be more expensive. For any amount of 

reduction, the incremental cost of cutting the last ton necessary—what economists call the marginal cost—reflects 

how much consumption of goods and services people 

would have to forgo to eliminate that last ton of emissions. 

If emissions were restricted using a cap-and-trade system, 

the incremental cost would determine the market price of 

allowances, even if most of the reductions were less expensive than the very last, incremental ton. If, instead, a tax 

was imposed on emissions, the incremental cost would 

equal the tax rate: People would make reductions that cost 

less than the tax; for the rest, they would simply pay the 

tax. Traditional command-and-control approaches are 

unlikely to mandate the least expensive ways of restricting 

emissions and therefore are likely to achieve any given 

reduction in emissions at greater cost than market-based 

approaches such as taxes or cap-and-trade programs.

Aggregate Cost 

Researchers measure and report the aggregate cost of 

restrictions in a variety of ways. One common measure, 

the direct resource cost of restrictions on emissions, is simply the sum of all resources that society must give up to 

meet the restrictions—that is, the sum of all the incremental costs discussed above. However, significant restrictions 

would impose costs on the economy over and above the 

direct cost as economic effects rippled beyond markets 

directly related to emissions and into other parts of the 

economy. Such adjustments would include changes in 

aggregate spending, saving, investment, and nonpaid activities, such as childrearing, production of goods and services 

in the home, and leisure activities. Those broader impacts 

would depend not only on how emission restrictions were 

implemented but also on whether the program raised revenues for the government and how the revenues were used. 

An ideal measure of the overall effect of the policy on 

households’ welfare would account for all such aspects of 

the policy as well as all the changes in behavior that might 

be triggered by the policy. Unfortunately, little information 

is available regarding the likely magnitude of many of 

those changes, so estimates of the overall economic burden 

of policies are highly uncertain. Most researchers avoid 

the difficulties associated with estimating that burden by 

focusing on the impacts of policies on less comprehensive 

but more readily estimated measures of aggregate economic activity, such as gross domestic product, personal 

consumption expenditures, or employment.

The Distribution of Costs

Some studies analyze how the costs of policies to reduce 

emissions would be distributed among households and 

among industries. Most policies would not only generate 

a cost to the economy as a whole but would also cause significant shifts of income among households. Such shifts 

would not involve net costs to the economy, since one 

household’s gain would be another’s loss, but the gains and 

losses clearly would matter for the well-being of the 

affected households. For example, if fossil-fuel producers 

were required to pay a tax per ton of emissions resulting 

from the burning of their products, the tax burden would 

be passed on to consumers in the form of higher prices and 

to some owners of capital in the form of reduced profits. 

The distribution of the tax revenues would depend on how 

the government used them either to reduce other taxes or 

to increase spending. By contrast, if the government instituted a cap-and-trade policy and gave away emission 

allowances, the recipients would receive the full value of 

the allowances. Such transfers would probably be significantly larger than the aggregate costs associated with a 

given policy, particularly in the initial years of the policy.

Distributional studies typically find that, ignoring the 

allocation of tax revenue or allowance value flowing from 

the policy, low-income households would bear lower costs 

than high-income households in absolute terms. However, 

the former group would bear higher costs measured as a 

fraction of their income because they consume a larger 

share of their income and because their consumption is 

more energy-intensive. Studies also conclude that the owners of fossil-fuel-producing or energy-intensive industries 

would bear a disproportionate share of producers’ costs 

(ignoring any effects from the allocation of allowances or 

tax revenues). However, the allocation of allowances or 

revenues from the policy could greatly affect those distributional impacts.
ECONOMIC AND BUDGET ISSUE BRIEF

THE COSTS OF REDUCING GREENHOUSE-GAS EMISSIONS 3

putting net U.S. emissions in 2006 at about 6 billion 

MT CO2e. U.S. emissions of CO2 from the burning of 

fossil fuels accounted for one-fifth of global CO2 emissions from such activities. However, net U.S. emissions of 

all greenhouse gases accounted for only about 12 percent 

of net global emissions.

Experts generally expect that, in the absence of policy 

changes to reduce them, domestic greenhouse-gas emissions will grow substantially in the next few decades, 

totaling roughly 330 billion MT CO2e between now and 

2050. However, long-term trends in emissions are notoriously difficult to project because they will be influenced 

by population and income growth, by advances in technology, and by the availability and price of fossil fuels; 

total emissions, therefore, could be substantially higher or 

lower than that central estimate.4

 The more rapidly that 

emissions are projected to grow without policy changes, 

the greater the changes that would be required and the 

greater the mitigation costs that would be incurred to 

keep emissions below any specific level. 

The Types of Policies Adopted

The costs of reducing emissions would depend critically 

on the approach that policymakers adopted to achieve 

that goal. In particular, costs would depend on whether 

the policy worked primarily through conventional regulation or market-based approaches, on the stringency of 

emission reductions, and on other policy choices.

Conventional Regulation Versus Market-Based 

Approaches. A basic choice facing policymakers is 

whether to adopt conventional regulatory approaches, 

such as setting standards for machinery, equipment, and 

appliances, or to employ market-based approaches, such 

as imposing taxes on emissions or establishing cap-andtrade programs. Experts generally conclude that marketbased approaches would reduce emissions to a specified 

level at significantly lower cost than conventional regulations.5

 Whereas conventional regulatory approaches 

impose specific requirements that may not be the least 

costly means of reducing emissions, market-based 

approaches would provide much more latitude for firms 

and households to determine the most cost-effective 

means of accomplishing that goal.

Alternative Market-Based Approaches. If a tax was 

imposed on emissions, people would make reductions 

that cost less than the tax, and the incremental cost would 

equal the tax rate. Proposals for such taxes generally specify rates that gradually rise year by year, with the aim of 

making emission-producing activities increasingly expensive. Cap-and-trade proposals, by contrast, explicitly 

restrict the quantity of emissions that can be produced 

over any given period. Under such programs, allowances 

to emit greenhouse gases would be allocated or sold, and 

then could be traded. Market forces would yield an allowance price equal to the incremental cost of meeting the 

cap. Cap-and-trade proposals generally specify caps that 

gradually decrease over time in absolute terms, so households and firms would incur gradually rising incremental 

costs to reduce emissions.

If policymakers had full and accurate information about 

the costs of reducing emissions, either taxes or caps could 

be used to achieve a given goal for emissions. Policymakers could set a cap and know what allowance price it 

would yield; or they could set a tax at that same allowance 

price and achieve the same reduction in emissions. Thus, 

policymakers could use either approach to balance the 

incremental costs of reducing emissions against the incremental benefits of doing so, thereby achieving the greatest possible net benefit.

However, policymakers face great uncertainty about the 

cost of reducing emissions. The two approaches therefore 

are likely to yield different outcomes: A tax on emissions 

would leave the resulting amount of emissions uncertain, 

4. For example, in 2000, the Energy Information Administration 

(EIA) overpredicted the amount of energy-related CO2 that would 

be emitted in 2006 by 350 million tons, or by about 6 percent, 

largely because it overpredicted manufacturing output. EIA has 

subsequently reduced its projection of such emissions in 2020 by 

about 18 percent, resulting in lower estimates of future incremental costs for meeting any given target. (EIA’s projections of greenhouse-gas emissions are particularly important for analysts of 

climate policy because nearly every estimate of the costs of mitigating those emissions takes the EIA reference case as its baseline. 

For this reason and others, the range of estimates among analysts 

does not fully represent the actual degree of uncertainty about 

mitigation costs.)

5. For further discussion, see Congressional Budget Office, Policy 

Options for Reducing CO2 Emissions (February 2008), available at 

www.cbo.gov/ftpdocs/89xx/doc8934/02-12-Carbon.pdf; and 

Congressional Budget Office, How Regulatory Standards Can 

Affect a Cap-and-Trade Program for Greenhouse Gases, Issue Brief 

(September 16, 2009), available at www.cbo.gov/ftpdocs/105xx/

doc10562/09-16-CapandStandards.pdf.
4 CONGRESSIONAL BUDGET OFFICE

ECONOMIC AND BUDGET ISSUE BRIEF

whereas a cap would leave the resulting allowance price 

uncertain. 

Most experts conclude that, in the face of such uncertainty, policies that set the year-by-year price of emissions 

to be consistent with the projected incremental benefits 

of reducing emissions (as with a tax) would probably 

yield higher net benefits than policies that specified yearby-year caps on emissions or even a cap on cumulative 

emissions over many years.6 The cost of meeting a fixed 

emission cap is likely to vary substantially from year to 

year—depending on the weather, economic activity, and 

the price of fossil fuels. A tax would ensure that firms and 

households had an incentive to make all reductions that 

cost less to achieve than that expected incremental benefit. By contrast, a cap could easily generate incremental 

reductions that cost substantially more or less than the 

expected benefit. 

Even if policymakers chose a target measured in terms 

of average global temperature or atmospheric concentrations (for example, staying under 450 parts per million 

CO2e), meeting rigid year-to-year (or even cumulative) 

targets for emissions would be relatively unimportant. 

The uncertainty about how a given quantity of emissions 

would ultimately affect concentrations or temperatures is 

so great that little additional certainty would be gained 

from choosing fixed emission goals over price paths that 

were expected to achieve the same goal.

If policymakers chose cumulative emission targets, policies that offered firms and households greater flexibility as 

to when they reduced their emissions would achieve such 

targets at a lower cost than policies that afforded them 

less flexibility. Various provisions of a cap-and-trade program could provide greater flexibility in the timing of 

emission reductions.7 One important provision of this 

sort would permit regulated entities to “bank” emission 

allowances in any given year for use in future years. Such 

provisions would tend to moderate the overall costs of the 

policy by giving firms flexibility to make larger emissions 

reductions when such reductions were less expensive. A 

related “borrowing” provision would enable firms to use 

allowances from future years (to be repaid with interest) 

during periods when particularly high demand led to 

spikes in allowance prices. A variant would create a 

“reserve pool” of allowances from future years that could 

be used only under certain circumstances (for instance, 

when allowance prices rose above a designated threshold). 

Another widely discussed provision—referred to as a 

“safety valve”—would allow firms to exceed annual caps 

if the market price for allowances rose above some specified value. That value, typically specified to rise over 

time, would determine the maximum incremental cost of 

reducing greenhouse-gas emissions in any given period. 

Proposals could also keep incremental costs above a minimum by specifying a “price floor.” A “price collar” would 

specify both a ceiling and a floor. Unlike banking, borrowing, and a reserve pool, a safety valve or a price collar 

would not guarantee that a given cumulative cap would 

be achieved. Policymakers might have to shift the price 

collar in order to ensure that a desired cap was met.8

Other Policy Approaches. Some proposals would augment basic cap-and-trade or tax provisions with subsidies 

for activities that reduced emissions or with regulations 

such as standards for machinery, equipment, and appliances. Some such approaches—subsidies for basic energy 

research, for example—would probably be useful and 

effective supplements to market-based approaches. Standards might also be effective when the nature of the emission-producing activities made caps difficult to implement and taxes difficult to levy (as would be the case with 

6. The greater efficiency of taxes ar emissions associated with agricultural practices) or where ises because the incremental cost 

of reducing emissions is relatively sensitive to the quantity of emission reductions (especially within a given year), while the incremental benefit is expected to be relatively insensitive to the 

quantity of reductions (and errors in estimating incremental benefits and costs are not expected to be correlated). The latter is true 

primarily because scientists are very unsure about the extent to 

which additional reductions would alter future climate outcomes. 

For further discussion, see Congressional Budget Office, Potential 

Impacts of Climate Change in the United States, pp. 14–17; and 

Congressional Budget Office, Limiting Carbon Dioxide Emissions: 

Prices Versus Caps, Issue Brief (March 15, 2005), available at 

www.cbo.gov/ftpdocs/61xx/doc6148/03-15-PriceVSQuantity

.pdf.

7. For a detailed description of cap-and-trade programs, see 

Congressional Budget Office, Policy Options for Reducing CO2 

Emissions.

8. For a discussion of potential outcomes associated with alternative 

design features that are intended to provide firms with greater 

flexibility in shifting emission reductions over time, see Statement 

of Douglas W. Elmendorf, Director, Congressional Budget Office, 

before the House Committee on Ways and Means, Flexibility in 

the Timing of Emission Reductions Under a Cap-and-Trade Program

(March 26, 2009), available at www.cbo.gov/ftpdocs/100xx/

doc10020/03-26-Cap-Trade_Testimony.pdf.
ECONOMIC AND BUDGET ISSUE BRIEF

THE COSTS OF REDUCING GREENHOUSE-GAS EMISSIONS 5

market forces did not convey appropriate incentives (for 

example, when a tax on energy would not spur landlords 

to make efficiency improvements if renters were responsible for paying the electricity bills and rents were not 

adjusted to reflect the energy efficiency of apartments). 

However, standards would tend to increase the costs of a 

cap-and-trade program if they supplanted the effective 

reliance on market forces—even though they would also 

tend to reduce the allowance price in the program by 

reducing emissions covered under the program.

Other types of government activity could also affect the 

costs of restricting emissions. Many experts believe that 

nuclear power could displace a significant amount of 

fossil-fuel use, but only if the regulatory framework was 

adjusted to allow for the greater use of nuclear power 

to generate electricity. Similarly, generators would be 

unlikely to adopt technologies for the capture of CO2 and 

its sequestration in the ground unless an extensive regulatory structure was put in place to address issues involving 

property rights, rights-of-way for pipelines, and liability 

for emissions that escape from the ground. 

Governmental activities not immediately related to the 

energy sector could affect the costs of reducing emissions 

as well. For example, the tax treatment of investment 

could influence the cost and availability of particular 

technologies. Similarly, existing land-use regulations and 

the continued construction of highways might hinder 

efforts to increase urban density and to foster the development of public transportation networks.

Coverage, Timing, and Stringency. Policymakers also face 

decisions about which types of emissions to control, and 

when and how much to reduce them.9

 Coverage (that is, 

the types of emissions subject to control) could sharply 

affect costs. Most recent policy proposals would control 

all or nearly all CO2 emissions produced by the burning 

of fossil fuels and would cover at least some other emissions of CO2 and non-CO2 greenhouse gases. Because 

monitoring and measuring emissions from some sources 

would be difficult, no proposals include all emissions 

from all sources. Nevertheless, many cap-and-trade proposals provide incentives for reducing emissions from 

sources not covered under the cap-and-trade program. 

For example, many proposals would allow landowners to 

earn credits by planting trees that absorb CO2 from the 

atmosphere—credits that could then be sold to entities 

covered by the cap-and-trade program, who might submit those credits in lieu of allowances. Proposals often 

limit the use of such “offsets” (which, in some proposals, 

could be purchased in foreign countries as well) to a fixed 

annual amount or a fixed fraction of the total quantity of 

emissions allowed. Greater latitude for the use of offsets 

could help moderate the costs of achieving a given emission target because inexpensive reductions by uncovered 

sources could then substitute for a larger share of costlier 

reductions that covered sources would otherwise have to 

achieve. However, difficulties in ensuring the credibility 

and permanence of offsets could at least partially undermine the effectiveness of policies at achieving their stated 

emission goals.10

Proposals vary as to where in the chain of production and 

consumption the restrictions on emissions would apply. 

For example, emissions from petroleum products could 

be restricted by limiting production at refineries or by 

limiting consumers’ purchases at the gas pump; emissions 

from coal could be restricted by limiting shipments of 

coal from mines or by limiting emissions from coal-fired 

power plants. Such differences, however, would have only 

small effects on incremental costs or on the distribution 

of costs among producers or consumers: No matter where 

the restrictions applied, costs would be determined 

mainly by the characteristics of supply and demand in the 

markets for fossil fuels and other goods and services.11

Most recent proposals call for gradual reductions in 

emissions through 2050, a significant shift in focus from 

that in the 1990s, when policy proposals usually focused 

on establishing targets for the 2007–2011 period to be 

9. A given quantity of reductions in greenhouse-gas emissions could 

be achieved at a lower cost if the cap covered more types of gases 

and more sources of emissions. (For example, although CO2 from 

the burning of fossil fuels accounts for roughly 80 percent of 

domestic greenhouse-gas emissions, some cuts in emissions of 

other greenhouse gases, such as methane or nitrous oxide, could 

be achieved at a relatively low cost.) Policy proposals are often 

expressed in terms of reducing emissions by a certain percentage; 

and the greater the required percentage reduction, the greater the 

costs are likely to be. However, the percentage usually applies to 

covered emissions rather than to total emissions, and a given percentage target is likely to be more expensive to achieve if it covers 

more sources: For instance, a 90 percent reduction in CO2 emissions from the burning of fossil fuels would not be as stringent as a 

90 percent reduction in all greenhouse-gas emissions.

10. For further discussion of offsets, see Congressional Budget 

Office, The Use of Offsets to Reduce Greenhouse Gases, Issue Brief 

(August 3, 2009), available at www.cbo.gov/ftpdocs/104xx/

doc10497/08-03-Offsets.pdf.

11. One important exception involves CO2 capture and storage. Capture would occur mainly at power plants, so if a policy imposed 

caps at the point of production (at the minemouth for coal, for 

example), it would also have to provide additional allowances as 

credit for capture and storage. 
6 CONGRESSIONAL BUDGET OFFICE

ECONOMIC AND BUDGET ISSUE BRIEF

incorporated in the 1997 Kyoto Amendment to the 

Framework Convention on Climate Change. Recent proposals typically would impose relatively modest tax rates 

or restrictions on emissions in the early years and then 

gradually raise rates or tighten caps over time. Gradually 

increasing levels of stringency would provide firms and 

households time to anticipate and adapt to rising costs by 

slowly replacing long-lived energy-using structures and 

equipment with newly developed, more energy-efficient 

or non-fossil-fuel substitutes. Such policies would cost a 

good deal less than policies that imposed severe restrictions all at once—even if they resulted in equivalent 

amounts of total emissions over time. Some recent proposals would limit cumulative emissions through 2050 

(which are projected to total roughly 330 billion MT 

CO2e) to less than 200 billion MT CO2e, leading to 

annual emissions in 2050 that would be a fraction of 

today’s. The more stringent the cuts, the higher the incremental and total costs eventually would be, other things 

being equal.

Allocation of Allowances and Use of Additional 

Government Revenue. If policymakers decided to adopt 

market mechanisms to control emissions, they would also 

face decisions about how to allocate allowances under a 

cap-and-trade program or how to use the revenues generated by taxes on emissions. No matter which approach 

they adopted, the resulting policy would almost certainly 

involve shifts of resources among households, in their 

capacity as consumers, workers, and owners or shareholders of firms. For example, a program that distributed 

allowances to firms for free would be giving those firms a 

valuable right to emit gases—a right they could then 

exercise or sell—while consumers would pay more for 

fossil fuels and fossil-fuel-intensive goods and services. 

Such a program and allocation would effectively shift 

income from consumers of fossil-fuel-intensive goods and 

services to recipients of allowances. Alternatively, the government could auction allowances to firms and use the 

revenue to provide new tax credits or rebates, reduce 

existing taxes, or finance government spending. (Revenue 

raised from a tax on emissions could be used in any of 

those ways as well.) Revenue-raising approaches would 

effectively shift income from consumers of fossil-fuelintensive goods and services to the people who would 

benefit from the resulting spending increases or tax 

reductions.12

In a cap-and-trade system, policymakers’ choices about 

the allocation of allowances and the uses of additional 

government revenue would affect both the overall economic cost of the program and the distribution of that 

cost. If allowances were given away in a manner that offset the increases in prices of fossil fuels (increases that 

would otherwise encourage households and businesses to 

reduce their consumption of such fuels), then a larger 

share of the overall reduction in carbon emissions would 

need to occur elsewhere in the economy. For example, 

some recent proposals would direct a portion of tax revenues or proceeds from the sale of allowances to households or businesses to help compensate for some of the 

loss in purchasing power they would experience under a 

climate policy. To the extent that such an allocation 

masked the price signals needed to alter behavior, it 

would raise the overall economic cost of meeting the cap. 

However, to the extent that the allocation did not mask 

price signals, the overall cost would not be affected by 

who received the allowances—although the distribution 

of that cost might be greatly affected. 

If allowances were auctioned rather than freely allocated, 

and the revenue was used to reduce marginal rates on 

taxes on labor and capital, the economic cost of a capand-trade program would be reduced.13 If the revenue 

from auctions was not used to reduce marginal rates, then 

decisions about who received that revenue would have 

little effect on the program’s overall economic cost—

although they could have important effects on the distribution of that cost.

The Response of the Economy

By gradually increasing the prices of fossil fuels and other 

goods and services associated with greenhouse-gas emissions, market-based policies would induce firms and 

households to change their practices—in the short run, 

by driving slightly less, adjusting thermostats, and switching fuels in the power sector; and in the long run, by buying more-efficient vehicles and equipment, building 

more-energy-efficient buildings in denser neighborhoods, 

and building power plants that used less (or no) fossil fuel 

or that captured CO2 and sequestered it in the ground. 

Depending on the specifics of the policy, people might 

12. See Congressional Budget Office, The Economic Effects of 

Legislation to Reduce Greenhouse-Gas Emissions (September 2009), 

available at www.cbo.gov/ftpdocs/105xx/doc10573/09-17-

Greenhouse-Gas.pdf.

13. See Congressional Budget Office, Trade-Offs in Allocating Allowances for CO2 Emissions, Issue Brief (April 25, 2007), available at 

www.cbo.gov/ftpdocs/89xx/doc8946/04-25-Cap_Trade.pdf.
ECONOMIC AND BUDGET ISSUE BRIEF

THE COSTS OF REDUCING GREENHOUSE-GAS EMISSIONS 7

also plant trees and change agricultural practices to 

absorb and sequester CO2.

Rising costs of emission-intensive activities would tend to 

dampen overall economic activity by reducing the productive capacity of existing capital and labor; by reducing 

households’ income (which, in turn, would tend to 

reduce consumption and saving); by reducing real (inflation-adjusted) wages and, thereby, the supply of labor; 

and by discouraging investment through increasing the 

costs of producing capital goods (which is a relatively 

energy-intensive process) and through diverting investment and research toward the production of less emission-intensive but more expensive sources of energy.14

Taken together, those changes would affect the levels and 

composition of both gross domestic product (GDP) and 

employment and would thus influence households’ economic well-being, although the effect on overall output 

would be modest compared with expected future economic growth. The more easily that producers and consumers can respond to price changes by altering their production techniques and behavior and by bringing lowemission fuels and technologies to market, the lower the 

costs of reducing emissions would be.

However, analysts have only a limited understanding of 

how easily such responses can occur—especially over an 

extended period—because energy use is important in so 

many economic activities and because such a wide range 

of activities besides energy use generate emissions. Uncertainty about how the economy would respond to price 

changes contributes importantly to the wide variation in 

estimates of the cost of achieving any particular emission 

target. For example, expert opinion varies considerably 

about which types of technologies are likely to be available at different points in the future or how emissions 

restrictions might shift the pace of their development and 

deployment. Some experts argue that nuclear energy is 

likely to dominate other alternatives to fossil fuels; others 

believe that CO2 capture and storage shows greater promise; and still others believe that renewable energy sources 

could be most promising of all. 

Efforts by Other Countries

The stringency of other nations’ efforts to reduce emissions could strongly influence the costs of reducing them 

in the United States. As long as a significant percentage 

of the world’s economy did not restrict greenhouse-gas 

emissions, a portion of any reductions achieved in the 

United States would probably be offset by increases in 

emissions elsewhere. For example, as U.S. consumption 

of oil declined, pushing down international oil prices, 

foreign consumption of oil would rise. In addition, 

energy-intensive production overseas (and exports of 

such products to the United States) would most likely 

grow as U.S. manufacturing costs rose relative to foreign 

costs. Such emissions “leakage” would lead countries that 

were controlling emissions to achieve smaller net reductions in global emissions and to incur greater costs than 

they would if all countries were controlling emissions 

simultaneously.

Leakage could be avoided if most countries restricted 

emissions at the same time. Even so, the policies used in 

other countries would influence costs in the United 

States. For example, demand for biofuels from many 

countries would raise biofuel prices more than would 

demand from the United States alone. Moreover, if a 

domestic cap-and-trade system was linked to similar systems in other countries, the United States might benefit 

from being able to buy low-cost foreign allowances—or 

it could find that prices for domestic allowances were 

driven up by foreign demand.

How Are Costs Estimated?

Researchers estimate the costs of reducing emissions 

using a variety of techniques. Those techniques range 

from detailed analyses of specific technologies—which 

can be termed “engineering estimates”—to highly 

aggregated analyses—which can be termed “economic 

estimates.”

Engineering Estimates

Often referred to as bottom-up studies, engineering estimates typically analyze the net direct costs of installing 

and operating many specific types of equipment.15 Engi14. In addition, higher energy prices would interact with the distortions of economic behavior imposed by the existing tax system, 

tending to magnify those distortions in some cases but to offset 

them in others.

15. A useful recent such study is McKinsey & Company, Pathways to 

a Low-Carbon Economy: Version 2 of the Global Greenhouse Gas 

Abatement Cost Curve (McKinsey & Company, January 2009), 

available at https://solutions.mckinsey.com/ClimateDesk/

default.aspx.
8 CONGRESSIONAL BUDGET OFFICE

ECONOMIC AND BUDGET ISSUE BRIEF

neering studies frequently yield low estimates of the cost 

of achieving particular emission targets and can yield estimates of negative costs for some applications—that is, 

energy savings appear to more than outweigh the capital 

costs of investing in certain types of equipment. Most 

economists conclude that such estimates generally do not 

represent the full costs of adopting the specific technologies, partly because they may not adequately consider all 

of the costs of installing new equipment or the costs of 

various impediments—such as borrowing constraints or 

the effort to acquire needed information about alternatives—that deter firms and households from making certain investments. Moreover, such estimates may not sufficiently account for all of the characteristics that users 

value in the equipment. 

Economic Estimates

Economic estimates typically rely on aggregate data to 

project the cost of reducing energy use across broad 

classes of activities. Such studies often simulate the effects 

of policies using large-scale economic models that 

attempt to measure not only the full range of emissionproducing activities that would be directly affected by 

restrictions on carbon emissions but myriad other economic activities that might be indirectly affected as 

firms and households adjust their behavior in response 

to the restrictions.16 Most studies use so-called generalequilibrium models that simulate how idealized households and businesses would respond to policies by adjusting their consumption, saving, hours worked, and production behavior; simulations using those models often 

run for decades into the future. In many of the models 

used to analyze climate policies, however, households are 

assumed to have perfect foresight—that is, to take into 

account fully and accurately events far into the future. As 

a consequence, the modeled economies respond rather 

quickly to changes in policy. A smaller set of studies uses 

so-called macroeconometric models, which are designed 

to simulate gradual responses of consumer spending and 

investment to unexpected economic shocks over shorter 

time periods. Those models show how adjustments 

in behavior might result in lower aggregate economic 

activity.

Some economic estimates also include considerable engineering detail about different technologies used in the 

energy sector. One well-known example is the Energy 

Information Administration’s National Energy Modeling 

System (NEMS), which integrates a highly detailed representation of the energy sector with a macroeconometric 

model of the U.S. economy. Some models include only 

cursory representations of international linkages, while 

others include the entire global economy. Nearly all 

modeling efforts in the United States rely on the EIA for 

baseline (reference) forecasts, and they draw on engineering estimates of abatement costs by the Environmental 

Protection Agency for nearly all types of greenhouse-gas 

emissions other than CO2 resulting from the combustion 

of fossil fuels. 

How Large Are Estimated Costs?

In recent years, a few legislative proposals for long-term 

emission reductions have been analyzed using several 

different models, providing an opportunity to compare 

cost estimates and to understand the sources of differences in estimates. Most recently, several groups have 

released estimates of the economic impact of H.R. 2454, 

the American Clean Energy and Security Act of 2009.17

(For more information on those estimates, see Box 2.) 

That bill would create two cap-and-trade programs for 

greenhouse-gas emissions—a large one applying to CO2

and most other greenhouse gases, and a much smaller one 

applying to hydrofluorocarbons—and would make further significant changes in climate and energy policy. The 

larger cap-and-trade program, on which most analyses 

focus, would restrict greenhouse-gas emissions from covered entities by requiring them to hold allowances or offset credits for their emissions. The annual allocation of 

allowances would fall to 83 percent of 2005 emission levels by 2020 and to 17 percent of 2005 levels by 2050. 

Fully phased in by 2016, the cap would cover roughly 

85 percent of projected total U.S. greenhouse-gas emissions. The bill would allow for unlimited banking, and 

limited borrowing, of allowances. The bill also would 

allow covered entities to meet a significant portion of 

their compliance obligations by purchasing offset credits 

from domestic and international providers; in total, entities could use offset credits in lieu of reducing up to 2 billion tons of greenhouse-gas emissions annually (which 

would represent more than half of the annual emission 

reductions projected until about 2030).

16. Almost none of those models provide estimates of the economic 

effects of climate change or the benefits of averting climate damage, so they usually cannot be used to compare costs and benefits 

of different policies. 

17. For a more detailed discussion of the studies reviewed in this 

section, see Congressional Research Service, Climate Change: Costs 

and Benefits of the Cap-and-Trade Provisions of H.R. 2454, CRS 

Report for Congress R40809 (September 14, 2009).
ECONOMIC AND BUDGET ISSUE BRIEF

THE COSTS OF REDUCING GREENHOUSE-GAS EMISSIONS 9

Estimates of the economic cost of this proposal vary 

because of differences in assumptions about a number of 

factors: future economic growth and emission trends, 

firms’ and households’ responses to the policy, the future 

cost and availability of various technologies, the climate 

policies pursued by other countries, and the availability 

and cost of credible international offsets. Moreover, no 

single model or scenario addresses the full complexity of 

the domestic and global economies or the full range of 

activities associated with greenhouse-gas emissions, and 

thus no framework provides a comprehensive treatment 

of all the potential effects of any climate policy. For example, few models include an explicit channel through 

which a climate policy would influence the pace of develBox 2.

Recent Analyses of H.R. 2454, the American Clean Energy and 

Security Act of 2009

A number of analyses of different versions of the American 

Clean Energy and Security Act of 2009 have been published (some at the request of Members of Congress) by 

government agencies, academic institutions, and private 

organizations. The Congressional Budget Office published 

cost estimates for two versions of the bill, one as ordered 

reported by the House Committee on Energy and Commerce (available online at www.cbo.gov/ftpdocs/102xx/

doc10262/hr2454.pdf) and another as amended and 

reported by the House Committee on Rules (available at 

www.cbo.gov/ftpdocs/103xx/doc10376/hr2998Waxman

Ltr.pdf). In addition, CBO reported on other aspects 

of the bill in the following publications: The Estimated 

Costs to Households from the Cap-and-Trade Provisions of 

H.R. 2454 (June 19, 2009), www.cbo.gov/ftpdocs/103xx/

doc10327/06-19-CapAndTradeCosts.pdf; The Economic 

Effects of Legislation to Reduce Greenhouse-Gas Emissions

(September 2009), www.cbo.gov/ftpdocs/105xx/doc

10573/09-17-Greenhouse-Gas.pdf; The Use of Offsets to 

Reduce Greenhouse Gases, Issue Brief (August 3, 2009), 

www.cbo.gov/ftpdocs/104xx/doc10497/08-03-Offsets

.pdf; and How Regulatory Standards Can Affect a Cap-andTrade Program for Greenhouse Gases (September 16, 2009), 

www.cbo.gov/ftpdocs/105xx/doc10562/09-16-Capand

Standards.pdf. 

Analyses from other sources include the following:

Sergey Paltsev and others, The Cost of Climate Policy in the 

United States, Report No. 173 (Cambridge, Mass.: Massachusetts Institute of Technology, Joint Program on the 

Science and Policy of Global Change, April 2009), 

“Appendix C: Analysis of the Waxman-Markey American 

Clean Energy and Security Act of 2009 (H.R. 2454),” 

available at http://globalchange.mit.edu/files/document/

MITJPSPGC_Rpt173.pdf. To perform the analysis, the 

authors used the Integrated Global System Model, including the Emissions Prediction and Policy Analysis model 

(IGSM-EPPA).

Department of Energy, Energy Information Administration, Office of Integrated Analysis and Forecasting, Energy 

Market and Economic Impacts of H.R. 2454, the American 

Clean Energy and Security Act of 2009, SR/OIAF/2009-05 

(August 2009), available at www.eia.doe.gov/oiaf/service

rpt/hr2454/pdf/sroiaf%282009%2905.pdf. The analysis 

was conducted using the National Energy Modeling System (NEMS).

Environmental Protection Agency, Office of Atmospheric 

Programs, EPA Analysis of the American Clean Energy and 

Security Act of 2009, H.R. 2454 in the 111th Congress 

(June 23, 2009), available at www.epa.gov/climatechange/

economics/pdfs/HR2454_Analysis.pdf and www.epa.gov/

climatechange/economics/pdfs/HR2454_Analysis_

Appendix.pdf. The analysis was performed using the Intertemporal General Equilibrium Model of the U.S. (IGEM) 

and the Applied Dynamic Analysis of the Global Economy 

(ADAGE).

CRA International, Impact on the Economy of the American 

Clean Energy and Security Act of 2009 (H.R. 2454)

(prepared for the National Black Chamber of Commerce, 

May 2009), available at www.crai.com/uploadedFiles/

Publications/impact-on-the-economy-of-the-americanclean-energy-and-security-act-of-2009.pdf. The analysis 

was conducted using the Multi-Region NationalNorth American Electricity and Environment Model 

(MRN-NEEM). 

A few other organizations have reported estimates of the 

economic impact of H.R. 2454, but their estimates appear 

not to have incorporated key features of the bill, such as 

the full range of greenhouse gases covered and the potential for the banking of allowances and the extensive use of 

international offsets.
10 CONGRESSIONAL BUDGET OFFICE

ECONOMIC AND BUDGET ISSUE BRIEF

opment of new technologies (although at least some 

effects of policies on technological development are 

included implicitly in the responses of consumers and 

producers of energy to changes in energy prices). In addition, none of the models incorporates the effect of climate change itself on economic activity or incomes. As a 

consequence, the results provide information about the 

costs of policies to reduce greenhouse-gas emissions but 

do not provide enough information to do cost-benefit 

analyses of such policies. Moreover, since most models 

use many similar assumptions, even the wide range of 

reported estimates does not illustrate the full degree of 

uncertainty regarding the costs of mitigating emissions.

All of the models used to estimate the effects of climate 

policies provide estimates of the annual prices of allowances and offsets necessary to achieve the specified levels 

of emissions. Most of those models also provide estimates 

of macroeconomic impacts, such as changes in inflationadjusted gross domestic product and personal consumption expenditures. Very few, however, provide comprehensive estimates of changes in households’ economic 

well-being—what economists refer to as welfare impacts 

or the economic burden.

Changes in Energy Use and Emissions

The qualitative findings of the leading models are similar. 

In nearly all of the reported scenarios, changes in the 

demand for energy and reductions in overall energy use 

are only modest in the near term—that is, roughly 

through 2025. Instead, emission reductions over that 

period would stem primarily from shifting the mix of 

fuels used in electricity generation away from coal and 

toward natural gas, and from domestic and international 

offsets (particularly the sequestration of carbon in forests). The heavy use of offsets predicted by the models 

presumes that offsets could be provided with only modest 

administrative and other costs; if offsets proved not to 

be available at modest cost, allowance prices and the economic costs of the proposal would be much higher.

Over the longer term, the use of domestic and international offsets would be constrained by the limits specified 

in the legislation, and reductions would come increasingly from the energy sector. Technological developments 

would play a critical role in that process, and some of the 

variation among results reflects a lack of consensus about 

which technologies would be adopted. Energy conservation and most renewable energy sources are projected to 

play relatively limited roles over the entire period, mainly 

because most kinds of renewable energy provide power 

intermittently. Instead, a substantial increase in the use of 

nuclear power plays a dominant role under some assumptions, while significant increases in the use of biofuels or 

carbon capture and sequestration play a much more 

important role under other assumptions. 

All of the reported estimates that take into account the 

potential to bank emissions find that during the early 

years of the program, covered entities would reduce emissions and purchase offsets to a greater extent than necessary to meet the cap’s specified for those years. They 

would thus accumulate a substantial quantity of allowances that they could use in later years. Those allowances, 

combined with the extensive purchase of offsets in later 

years, would allow covered entities to maintain levels of 

emissions that were much larger than the levels specified 

by the annual caps for those later years.

Allowance Prices

The left panel of Figure 1 illustrates the range of estimates of allowance prices required to induce the emission 

reductions specified by H.R. 2454 according to several 

prominent models; for comparability, all of the estimates 

are presented in constant 2009 dollars per metric ton of 

CO2 equivalent.18 The estimates shown in the figure all 

reflect the full range of greenhouse gases covered by the 

bill, the banking of allowances, and the extensive use of 

international offsets. However, the estimates incorporate 

varying assumptions about economic growth, policy 

implementation, households’ and firms’ responses, the 

development and cost of various types of technology over 

time, and the availability of offsets. 

For 2020, estimates of the allowance price vary by nearly 

a factor of three, ranging from under $18 to almost $50. 

The allowance prices rise over time at rates that reflect 

modelers’ assumptions about rates of return that firms 

would require to bank allowances; for 2050, allowance 

prices range from about $70 to nearly $160 per metric 

ton of CO2 equivalent. (If offsets were assumed not to be 

18. Somewhat confusingly, estimates are often provided in different 

years’ constant dollars and in different physical quantities as well, 

such as metric tons of carbon—MTC—instead of MT CO2e. 

Because of inflation, $10 per MT CO2e in constant 2009 dollars 

is equivalent to roughly $8 per MT CO2e in constant 2000 dollars; and because carbon dioxide is composed only partly of carbon, it is equivalent to roughly $37 per MTC in constant 2009 

dollars.
ECONOMIC AND BUDGET ISSUE BRIEF

THE COSTS OF REDUCING GREENHOUSE-GAS EMISSIONS 11

Figure 1.

Projections Under the American Clean Energy and Security Act of 2009

(2009 dollars per MT CO2e)

Price Projections for Emission Allowances

(Percent)

Percentage Change in Real Gross Domestic Product

Source: Congressional Budget Office.

Notes: MT CO2e = metric tons of carbon dioxide equivalent (or the amount of CO2 that would cause an equivalent amount of warming).

The figures illustrate a range of estimates of the impacts of the emission reductions specified in the cap-and-trade portions of 

H.R. 2454, the American Clean Energy and Security Act of 2009. The estimates of allowance prices (shown in the figure on the left) 

reflect all greenhouse gases covered by the bill, the banking of allowances, and the extensive use of international offsets. The estimates of changes in real gross domestic product (shown in the figure on the right) reflect a wider range of assumptions about coverage, allowance banking, and the use of offsets. Both sets of estimates incorporate varying assumptions about economic growth, policy 

implementation, households’ and firms’ responses, the development and cost of various types of technology over time, and the availability of offsets. [Note revised on May 28, 2010]

The projections displayed in the figures were produced by the Energy Information Administration, the Environmental Protection 

Agency, CRA International, Massachusetts Institute of Technology, the Brookings Institution, and the Congressional Budget Office.

available, projected allowance prices would be substantially higher.) CBO’s estimate of allowance prices lies near 

the middle of the range shown here, but it rises slightly 

faster than in most other estimates because CBO uses a 

rate of return for the banking of allowances that is slightly 

higher than that used by most other modeling groups.

Macroeconomic Impact

All of the models reporting macroeconomic impacts project that the emission reductions required by H.R. 2454 

would slightly dampen the growth of GDP over the long 

term. (One model projects small increases in the early 

years of the program). Quantitative estimates of the losses 

in GDP and consumption vary among studies, depending in large part on differences in assumptions about the 

availability of offsets (reduced availability of offsets 

increases the emission reductions required in the energy 

sector and thus increases economic costs) and differences 

in assumptions about the sensitivity of energy use to 

changes in prices (reduced sensitivity increases the price 

increases required to reach emission targets and thus 

increases economic costs). On the basis of those estimates 

and its own analysis, CBO concluded that H.R. 2454 

would slightly reduce real GDP—by roughly 0.25 percent to 0.75 percent in 2020 and by between 1.0 percent 

and 3.5 percent in 2050 (see the right panel of 

Figure 1).19 By way of comparison, CBO projects that 

real GDP will be roughly two-and-a-half times as large in 

2050 as it is today. Losses in consumption and overall 

well-being would probably be smaller than losses in GDP. 

Unchecked increases in greenhouse-gas emissions would 

also tend to reduce output compared with a situation 

where climate change did not occur—especially later in 

2015 2020 2025 2030 2035 2040 2045 2050

0

20

40

60

80

100

120

140

160

CBO's

Projections

Other

Projections

1

0

-1

-2

-3

-4

-5

2015 2020 2025 2030 2035 2040 2045 2050

CBO’s Range

Range from 

Other Studies

19. See Congressional Budget Office, The Economic Effects of Legislation to Reduce Greenhouse-Gas Emissions.
12 CONGRESSIONAL BUDGET OFFICE

ECONOMIC AND BUDGET ISSUE BRIEF

this century as emissions accumulated in the atmosphere. 

Nonetheless, CBO concludes that the net effects on GDP 

of restricting emissions in the United States—combining 

the effects of diverting resources to reduce emissions and 

moderating losses in GDP by averting warming—are 

likely to be negative over the next few decades because 

most of the benefits from averting warming are expected 

to accrue in the second half of the 21st century and 

beyond.

Impact on Employment

H.R. 2454 would cause a significant shift in the composition of employment over time. Production and employment would shift away from industries related to the production of carbon-based energy and energy-intensive 

goods and services and toward the production of alternative and lower-emission energy sources, goods that use 

energy more efficiently, and non-energy-intensive goods 

and services. Those shifts in employment would occur 

gradually over a long period, as the cap on emissions 

became progressively more stringent and the allowance 

price became progressively higher. The experience of the 

U.S. economy over the past half-century in adjusting to a 

sustained decline in manufacturing employment strongly 

suggests that the economy can absorb such long-term 

changes and maintain high levels of overall employment. 

As a result, CBO concludes that the cap would probably 

have only a small effect on total employment in the long 

run.

Nevertheless, the employment effects of H.R. 2454 could 

be substantial for some workers, families, and communities. Labor markets would take time to adjust to shifts in 

demand. Job losses would be concentrated in particular 

industries and in particular geographic regions. Some 

workers would probably end up working fewer hours or 

at lower wages than they did previously, and some might 

leave the labor force entirely. Involuntary job losses could 

significantly reduce the lifetime earnings of some affected 

workers. Several provisions of H.R. 2454 would subsidize 

the development and deployment of technologies that 

reduced emissions or would subsidize production by specific industries and firms, tending to dampen the bill’s 

effects on employment—especially in industries and areas 

where they are expected to be most severe.

The Distribution of Costs

Few analysts have assessed how the costs and transfers 

associated with the cap-and-trade program established 

under H.R. 2454 would be distributed among groups of 

households. As a rough indication of those distributional 

impacts, CBO estimated the effect on households’ purchasing power of the costs of complying with the policy 

(by reducing emissions and purchasing allowances and 

offsets) minus any associated compensation (such as 

freely allocated allowances, earnings from sales of allowances, and profits from producing offsets).20 CBO concluded that under H.R. 2454 the loss of aggregate purchasing power would increase from about 0.1 percent in 

2012 to 0.8 percent in 2050. Those losses would be distributed in ways that tend to benefit lower-income households. In 2020, households in the highest income quintile would see a loss in purchasing power of 0.1 percent of 

after-tax income, and households in the middle quintile 

would experience a loss equivalent to 0.6 percent. Households in the lowest quintile, by contrast, would see an 

average gain of 0.7 percent. By 2050, households in the 

highest quintile would see a loss in purchasing power of 

0.7 percent of after-tax income, and households in the 

middle quintile would see a loss of 1.1 percent. Those in 

the lowest quintile would see a 2.1 percent increase.

20. See Congressional Budget Office, The Economic Effects of Legislation to Reduce Greenhouse-Gas Emissions.

This brief was prepared by Robert Shackleton of CBO’s 

Macroeconomic Analysis Division. In addition to the 

reports mentioned in the text and footnotes of this 

brief, the following CBO publications focus on policy 

choices associated with climate change: The Potential 

for Carbon Sequestration in the United States (September 

2007), Evaluating the Role of Prices and R&D in Reducing Carbon Dioxide Emissions (September 2006), and 

Shifting the Cost Burden of a Carbon Cap-and-Trade Program (July 2003). Those and other reports on climate 

policy are available at CBO’s Web site, www.cbo.gov/

publications/collections/collections.cfm?collect=9.

Douglas W. Elmendorf

Director