Cap and trade and financial 

markets

Suzi Kerr

CFTC – EEMAC

3 June, 2021
1. What drives cap-and-trade prices?

Government created property rights

Impacts of other climate policies

2. Cap-and-trade prices and clean investment

Volatility and politically driven system shifts

3. Environmental justice and equity concerns

How will it affect policy choice?

Avoiding risk of market manipulation

Protecting small actors

4. Fundamental changes coming to carbon markets

Ambition

Voluntary and compliance markets

International trades
What drives cap-and-trade prices?

Quantity of emissions / allowances

$ cost of reductions

Demand to 

emit / Mirror 

of MACC
What drives cap-and-trade prices?

Quantity of emissions / allowances

Demand to 

emit / Mirror 

of MACC

1. Actual and expected 

stringency of cap cap

$ cost of reductions / price of allowances

P
What drives cap-and-trade prices?

Quantity of emissions / allowances

Demand to 

emit / Mirror 

of MACC

1. Actual and expected 

stringency of cap cap

$ cost of reductions / price of allowances
What drives cap-and-trade prices?

Quantity of emissions / allowances

Demand to 

emit / Mirror 

of MACC

1. Actual and expected 

stringency of cap

2. Other climate 

mitigation policies

cap

$ cost of reductions / price of allowances
What drives cap-and-trade prices?

Quantity of emissions / allowances

Demand to 

emit / Mirror 

of MACC

1. Actual and expected 

stringency of cap

2. Other climate 

mitigation policies

3. Changes in 

expected mitigation 

costs – including 

business as usual 

emissions

cap

$ cost of reductions / price of allowances
What drives cap-and-trade prices?

Quantity of emissions / allowances

Demand to 

emit / Mirror 

of MACC

1. Actual and expected 

stringency of cap

2. Other climate 

mitigation policies

3. Changes in 

expected mitigation 

costs – including 

business as usual 

emissions

4. Price management

cap

Price 

band

$ cost of reductions / price of allowances
What drives cap-and-trade prices?

Quantity of emissions / allowances

Demand to 

emit / Mirror 

of MACC

1. Actual and expected 

stringency of cap

2. Other climate 

mitigation policies

3. Changes in 

expected mitigation 

costs – including 

business as usual 

emissions

4. Price management

cap

Price 

band

Policy, politics and diplomacy drive 

prices

$ cost of reductions / price of allowances
EU prices: short-term volatility and longerterm shifts
Cap and trade prices and clean 

investment

Key role of pricing is to enable and drive clean 

investment – but that requires confidence about longer- term carbon prices.

Investors use financial market instruments to lay off 

and manage risk

Who has the best ability to share and manage cap-and-trade risks?

Are foreign exchange markets a good comparison? 

Volatility versus policy uncertainty 

Lots of focus in policy design on the former, but is that the biggest 

concern here? 

Deeper challenges with long-term governance of the policies that drive prices
Environmental justice and equity 

concerns

Criticism of ‘market’ solutions – what 

impact could that have?

Procedural: Loss of local control

Distributional: Impacts on workers, consumers

Market manipulation

Some solutions 

Inclusive governance

Simultaneous policies for local benefits: 

pollution monitoring, strategic use of auction 

revenues

Guardrails around cap-and-trade markets: 

Price protection, auction purchase limits, 

strong registries

Not clear that 

these 

challenges are 

unique to cap 

and trade
Environmental justice and equity 

concerns

Small sellers – can be exposed to 

unnecessary risk and ‘snake oil’ 

merchants

Nature-based solutions - players are small 

and liabilities can be created.

Solutions

Certify advisors; Develop alternative ways 

to engage and reward small actors.

Equity concerns still pose risks to the existence of and 

reliance on cap-and-trade markets particularly in the US.

Major source of potential price risk
Fundamental changes coming to 

carbon markets

1. Prices are likely to rise – or temperatures will!

2. International carbon markets are evolving

This will affect domestic cap and trade prices – not clear how

3. Voluntary markets

Their roles, and options, will change as ‘compliance markets’ have wider 

scope. 

If compliance markets do well, voluntary ones are likely to shrink. Maybe 

rapidly.

Desire for standardization could invalidate many current credits

Risks will arise during the transitions from voluntary to compliance 

and from domestic only (or State only) to larger scale.

some types of credits might lose all value

prices may be driven by new political forces
Key messages

1. Cap-and-trade markets are created by 

regulation so politics creates price risk

2. Supporting clean investment is a central goal 

so managing policy-driven risk is key

3. Equity and avoidance of manipulation are 

possible but require attention

4. Prices are likely to rise and markets are 

evolving fast – watch them
Suzi Kerr

skerr@edf.org