Administrative Conference of the United States
MARKETABLE PERMITS:
RECOMMENDATIONS ON APPLICATIONS AND MANAGEMENT

Final Report: December 11, 2017

Jason A. Schwartz
Adjunct Professor & Legal Director at the Institute for Policy Integrity,
New York University School of Law

This report was prepared for the consideration of the Administrative Conference of the United States. The opinions, views and
recommendations expressed are those of the author and do not necessarily reflect those of the members of the Conference or its
committees, except where formal recommendations of the Conference are cited.
This report does not necessarily reflect the views of NYU, if any.

Table of Contents
Executive Summary ......................................................................................................................... i
Overview of Research Methodology and Scope ..............................................................................vi

I.

What Are Marketable Permits?.............................................................................................. 1
A.
B.

Overview: Characteristics of a Prototypical Marketable Permit Program ..................................1
Concepts and Definitions.........................................................................................................2
1. Definition and Categorization of Marketable Permits .............................................................2
2. Distinction from Other Market-Based Tools: Bubbles, Banking, and Fees ................................3
3. Avoided Terminology: “Command-and-Control” and “Marketable Rights” ..............................5
C. The History and Current Applications of Marketable Permits ...................................................6
1. The Evolution and Future of the Idea of Marketable Permits ..................................................6
2. Overview of Existing Federal and Interstate Applications........................................................7
3. Notable Local and Foreign Applications............................................................................... 12
4. Roads Not (Yet) Taken........................................................................................................ 13
D. Legal Status .......................................................................................................................... 14
1. Is Explicit Statutory Authorization Required for Markets or Auctions? ................................... 15
2. Are Marketable Permits Property Rights? ............................................................................ 23
3. Do Marketable Permits Commodify Resources?................................................................... 26
4. Are the Terms Defined by Regulation, Guidance, or Case-by-Case?....................................... 26

II.

Efficiency and Distributional Consequences ........................................................................ 29
A. Do Marketable Permits Efficiently Lower Compliance Costs and Prioritize the Highest Value
Uses of Resources?....................................................................................................................... 29
1. Theory .............................................................................................................................. 29
2. Evidence............................................................................................................................ 30
B. Do Marketable Permits Better Incentivize Innovation? .......................................................... 32
1. Theory .............................................................................................................................. 32
2. Evidence............................................................................................................................ 33
C. Do Marketable Permits Save Administrative Resources? ........................................................ 34
1. Theory .............................................................................................................................. 34
2. Evidence............................................................................................................................ 36
D. Distributional Consequences ................................................................................................. 38
1. Grandfathering, Windfalls, and Barriers to Entry .................................................................. 38
2. Small Entities and Communities .......................................................................................... 40
3. Consumer Effects and Auction Revenue .............................................................................. 42

III.
A.

Policy Effectiveness ........................................................................................................... 43

Currency and Exchange Restrictions: Fungibility, Externalities, Uncertainty ............................ 43
1. Spatial Issues and Hot Spots ............................................................................................... 45
2. Temporal Issues and Banking/Borrowing............................................................................. 47
3. Type and Value Issues ........................................................................................................ 47
4. Institutional Review Mechanisms........................................................................................ 49
B. Setting a Cap and Adaptive Management .............................................................................. 49
1. Capping Total Activity Levels Is More Efficient Than Capping the Rate................................... 50
2. Features of a Market-Based System Can Increase Stringency ................................................ 51
3. Adjusting the Cap............................................................................................................... 53
4. Exemptions ....................................................................................................................... 53

5.
6.

Uncovered Sources ............................................................................................................ 54
Effect of Allocation Options on Policy Outcomes.................................................................. 54
C. Setting Baselines and Verifying Credits .................................................................................. 55
1. Additionality and Gaming the Baseline ................................................................................ 55
2. Quantification and Certainty............................................................................................... 56
3. Leakage and Permanence ................................................................................................... 56
4. Double Counting: Stacked and Voluntary Credits ................................................................. 57
5. Other Risks........................................................................................................................ 58
6. Quality Assurance Tools ..................................................................................................... 59
D. Responsibility and Compliance .............................................................................................. 61
1. Liability, Performance Guarantees, and Contingencies ......................................................... 61
2. Compliance Monitoring...................................................................................................... 63
3. Enforcing Compliance ........................................................................................................ 64
E. Ancillary Benefits.................................................................................................................. 66
F. Policy Performances.............................................................................................................. 67

IV.

Market Integrity and Oversight ........................................................................................ 70

A.

Creating a Market ................................................................................................................. 70
Auctions............................................................................................................................ 70
Secondary Markets ............................................................................................................ 72
Derivatives ........................................................................................................................ 74
B. Oversight of Primary, Secondary, and Derivative Markets ...................................................... 76
C. Fraud and Manipulation........................................................................................................ 78
D. Volatility............................................................................................................................... 79
E. Thinness, Hoarding, and Monopolies..................................................................................... 80
F. Speculators and Other Participants........................................................................................ 82
G. Information and Communication........................................................................................... 84
1. Information for the Regulators: Tracking Transaction........................................................... 84
2. Information for Market Actors: Price Discovery ................................................................... 86
3. Information for the Public: Transparency and Participation .................................................. 88
4. Information on Related Markets ......................................................................................... 90
5. Intra-agency Communication and Resource Sharing............................................................. 91
6. Inter-Agency Communication ............................................................................................. 92
7. Market-Moving Communications........................................................................................ 94
1.
2.
3.

Final Report

Executive Summary
Marketable permits are regulatory tools designed to allocate privileges or obligations more efficiently by
harnessing the market’s decision-making powers. Evidence suggests that marketable permits lower
compliance costs, incentivize innovation, and may ease administrative burdens more than traditional
regulation. Historically, marketable permits have enjoyed bipartisan support. The administrations of
Presidents Reagan, Bush (41), Clinton, Bush (43), and Obama all used marketable pe rmits. President
Clinton’s Executive Order 12,866 calls for agencies to assess the advantages of regulating through
“economic incentives to encourage the desired behavior, such as user fees or marketable permits.”
Regulators have often applied marketable permits to environmental policies. Multiple markets exist for
air pollution, including most famously the acid rain market, as well as for global pollutants like
greenhouse gases. Other environmental markets include water quality trading, tradable fish catch
shares, and habitat banks that sell credits to project developers who need to offset their impacts to
wetlands or endangered species. Tradable obligations also exist for renewable energy production and
energy efficiency, like markets for vehicle efficiency standards and renewable fuel credits.
Non-environmental marketable permit programs include the auctions and secondary trading of
electromagnetic spectrum licenses, the trading (and proposed, but currently defunct, auction) of airport
landing slots, and—at the state and local levels—transferable development rights, liquor license
markets, and taxi medallion auctions. Other ideas for marketable permit programs considered by federal
agencies or proposed by academics include transferrable permits for aircraft noise levels, auctions for
satellite congestion in space, and tradable limits to control the over-prescription of antibiotics.
Marketable permits are permits: they are government-created licenses or obligations for a specific level
of a particular activity. Many kinds of permits can be transferred together with the sale of a business or
underlying assets. What distinguishes marketable permits is that they can be bought or sold
independently of any real property or other interest. The primary and secondary markets for these
permit exchanges are often regulatory creations as well and require oversight.
Marketable permits depart from the prescriptive, inflexible, or highly particularized approaches often
seen in traditional regulation. Traditional environmental regulation, for example, may require each
individual polluter to comply with a specific standard and may even prescribe exactly which
technological or operational changes sources must make to comply. Traditional licensing of access to the
electromagnetic spectrum was similarly particularized and inflexible: individual applicants had to
navigate complex administrative hearings, and once spectrum was assigned it was difficult to reassign.
By contrast, marketable permits rely on the market to identify the most cost-efficient way to allocate
regulatory privileges or obligations. For example, under a cap-and-trade system for greenhouse gases, a
regulator sets an overall maximum budget of permitted emissions per time period, but individual
regulated sources decide for themselves, based on their own abatement costs, what emissions
reductions to make and how: they can choose to emit as many tons as they can afford to buy additional
permits for, or they can reduce emissions and sell any unused permits for profit. Similarly, instead of
forcing regulators to divine how to allocate electromagnetic spectrum to the highest value uses,
auctioning licenses and allowing re-sale entrusts the market to identify the most valuable uses.
Two main categories of marketable permits are cap-and-trade programs and credit trading programs.
Though political debates often associate the term “cap-and-trade” with pollution reduction, the capand-trade framework applies to a range of marketable permit schemes, including allocation of a capped
number of tradable electromagnetic spectrum licenses. In cap-and-trade programs, regulators set an
absolute budget of pollutant tons or allowable fish catch or number of airport landing slots. In credit
trading, regulators set a relative goal, like no net emissions increases or no net loss of wetlands, and

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then any new entrants seeking to increase emissions or develop over wetlands must purchase offsetting
credits that are sold by third parties and verified by regulators. Cap-and-trade and credit systems can be
combined. For example, in a greenhouse gas cap-and-trade program, unregulated sources may be
allowed to voluntarily reduce their emissions and sell verified credits into the market.
Evidence confirms that, in many regulatory applications, marketable permits allocate privileges and
obligations more efficiently than traditional regulation, by allowing the market to identify and prioritize
the lowest-cost abatement opportunities or the highest value use of scarce resources. For example, the
acid rain market reduced costs by as much as 90% versus alternatives without tradable permits, with
savings estimated at up to $1 billion annually. Marketable permit programs also likely incentivize
innovation better than traditional regulation. For example, the trading and leasing of electromagnetic
spectrum licenses has helped users develop novel arrangements, such as sharing channels and
voluntarily accepting more interference than FCC typically allowed in its direct licensing. Finally,
marketable permits may lower long-term administrative costs compared to traditional regulation. For
example, the acid rain market famously achieved nearly 100% compliance with only about 100 EPA staff.
Like traditional regulation, marketable permits may create some positive or negative distributional
consequences in certain applications. For example, small, rural providers have had trouble accessing
electromagnetic spectrum licenses on secondary markets, and under a program of catch shares, Alaska’s
halibut and sablefish fisheries endured layoffs, with small fishers and communities hit hardest. At the
same time, some features and options of marketable permits can remedy distributional problems: open
auctions of permits help put all firms—large, small, new, existing—on relatively equal footing, and
revenue generated by auctions can, in some cases, be returned to consumers or taxpayers as dividends.
Many marketable permit programs have achieved policy goals as well as or better than prescriptive
regulation. Markets’ cost savings have enabled regulators to set more stringent caps than they could
under prescriptive regulation, or even break a political logjam blocking any regulation. For example,
many credit the acid rain market’s cost savings as making dramatic cuts to sulfur dioxide pollution
politically feasible. Other evidence includes that annual harvest limits in fish catch share programs are
rarely exceed, while quota overruns were common before catch share programs. Many regulators
believe in the benefits of marketable permits. For example, 80% of Fish and Wildlife Service staff feel
that habitat banks are as or more effective at aiding species recovery than other regulatory options.
Marketable permits are more advantageous in some regulatory contexts than others. Factors to
consider in deciding whether a marketable permit approach is appropriate include:


Marketable permits work best when regulators care more about overall activity levels than the
identity of actors.
o For example, global pollutants like greenhouse gases are ideal for marketable permits
because they have no localized effects. Consequently, it does not matter which individual
sources or regions reduce their emissions; what matters is the aggregate reductions.
o This is not an absolute precondition. Marketable permit programs can be effective while
requiring minimum standards to prevent trades between activities with dissimilar or
unintended consequences. For example, habitat banks can operate efficiently without
allowing land developers to offset the impacts of paving over 10 acres of ecologically rich
wetlands just by paying to create a 10-acre “two-snake mud puddle” in a completely
different state. However, if too many trade restrictions or review requirements become
necessary, the market loses its efficiency. Some permit categories, like occupational
licenses, that require individualized regulatory approvals should not be marketable.

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o







Some experts disfavor the application of marketable permits to highly localized problems, as
trading might inadvertently authorize spatially concentrated activity levels with undesirable
consequences, such as pollution “hot spots.” However, the hot spots much feared in existing
air pollution markets largely did not materialize, and several strategies exist to prevent
transfers that would create disproportionate hot spots.
o Regulators should consider whether distributional concerns, such as effects on small
entities, new entrants, or hot spots, counsel against use of marketable permit programs. At
the same time, marketable permit structures can help remedy distributional issues in certain
contexts. For example, when auctions of permits are available and feasible, that choice may
help protect the interests of small and new firms better than traditional regulation.
Marketable permits work best when sufficient variation exists between permittees’ compliance
costs or their utilities in the resources traded.
o For example, if it costs each regulated source of pollution the exact same to reduce a ton of
emissions, there is nothing to gain from trading emissions permits. However, if one source
can reduce its emissions at $1 per ton while another faces $1000 per ton costs, and if the
environmental consequences are comparable regardless of which source reduces the
emissions, allowing the second source to pay the first to make extra reductions achieves the
same emissions level at lower overall cost than prescribing the same standard for both
sources (i.e., about $2 instead of $1001 for the first two tons).
o When the regulator has less information than the regulated entities have about compliance
costs and utility differentials, marketable permit approaches may be advantageous. In the
above example, if the regulator lacks information on which source s face either $1 or $1000
per ton costs, the regulator would do a poor job of prescribing individualized emissions
standards. The market can more easily identify the best opportunities.
o The case for markets initially rises with increasing stringency, because the potential for large
cost savings increase as compliance becomes more expensive. However, at the point when
increased stringency demands every source to comply maximally, there will be little room
left for efficient trades. With low abatement costs and very high monitoring costs,
prescriptive regulation may be more efficient than market-based regulation.
Compared to prescriptive regulation, marketable permit approaches may be better able to handle
regulating a large number of heterogeneous or small sources. Marketable permits may also be
appropriate when regulating more sophisticated actors, like large power pl ants.
o Ideally, permittees should be sufficiently sophisticated and knowledgeable about their
choices to make efficient decisions in the market. If a market contains small sources that will
trade infrequently, regulators may need to provide training and technical assistance.
o Regulators should be reasonably confident that enough regulated entities will want to
participate in a market. A “build and they will come” assumption has not worked well in
water quality trading, for example. Sufficient supply and demand must exist to create a
competitive and efficient market.
o Marketable permit programs may work better when covered entities do not compete
directly in product markets, or at least are unlikely to be tempted to use the permit market
to influence the product market in anti-competitive ways.
Regulators need at least implicit regulatory authority from broad statutory language, or else explicit
authority, to create a marketable permit program.
o Regulators should also have sufficient legal authority to monitor permit markets for fraud,
manipulation, and other abuses.

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Even when marketable permit programs are legally authorized and are advantageous compared to
traditional regulation, following some best practices for market design and oversight will increase the
benefits of marketable permits.




Clear and consistent legal standards will reduce uncertainty for market participants.
o Several marketable permit programs do not have explicit statutory authority, including
water quality trading under the Clean Water Act. Courts have expressed some concern
about the lack of explicit authority. Though agencies may successfully rely on their
discretion to interpret broad statutory language, if marketable permit programs exist
without explicit statutory authority, Congress should consider endorsing those programs.
Agencies should communicate to Congress any legal barriers to marketable permits.
o Courts have also at times struggled to distinguish permissible regulatory fees from
unconstitutional regulatory taxes. To preemptively protect the legal status of permit
auctions in future litigation, agencies should emphasize the market management and
distributional reasons for choosing auctions besides raising revenue, to avoid potential
categorization of the permit auction as an impermissible tax.
o Referring to marketable permits as “property rights” may create misleading perceptions
about permits’ permanence or compensation for takings. At various points the Clean Air Act
refers to the auctioning of “emissions rights.” Congress and agencies should avoid creating
misperceptions by calling marketable permits “rights,” and should instead use the
language of marketable licenses or obligations.
o While requiring agencies always to adopt codified regulations to establish marketable
permit programs would limit flexibility, lack of clear guidance from federal agencies has at
times confused federal field officers, state implementers, and market participants. Guidance
on marketable permit programs should minimally go through public notice and comment,
and agencies should consider codifying regulations to resolve lingering uncertainty or
inconsistencies.
Some design features will enhance the natural cost-efficiencies or distributional benefits of
marketable permits.
o In cap-and-trade programs, regulators typically allocate permits either by auction or free
allocation to historical users of the resource (a.k.a., “grandfathering”) . Grandfathering can
be inequitable, as it awards the regulated industry a windfall enrichment and creates
barriers to new entry. Federal agencies should opt for auctions over grandfathering to
prevent windfalls and barriers to entry, and should encourage states to use an auctionand-dividend approach to return revenue to consumers and taxpayers. If auctions are not
feasible, agencies should consider alternate allocation techniques. Alternate techniques
include setting aside a reserve pool of permits for new entrants; allocating pollution permits
based not on historical emissions but on electricity output, to reward renewable energy
generators; and community-based allocations, like the 40% of fish catch shares that New
Zealand awards to the Maori, so the community can protect its own interests.
o To better guarantee achieving the desired level of activity, agencies should cap the total
activity level, rather than just capping the rate of activity. (For example, in a hypothetical
market to control the issuance of antibiotic prescriptions, cap total prescriptions, not just
the number of prescriptions a doctor can write per patient.) Similarly, to facilitate adjusting
the cap over time, agencies should consider allocating percentages of a cap, rather than
allocating absolute subunits of a cap.
o To use the market’s advantages to enhance policy effectiveness, agencies should focus on
fine-tuning the cap’s stringency in light of cost savings and should allow open access to the

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

market so citizens can retire credits. “Retirement ratios”—such as requiring the purchase of
11 credits to offset 10 pounds of pollution, with the extra credit “retired”—undermine a
program’s efficiency and should be avoided unless it is impossible to tighten the cap itself.
o Agencies should have clearly defined criteria for credit approval, to ensure credits are
“real.” Credit approval systems should not reward behavior that would have happened
anyway (“additionality”), should allow for predictable and repeatable calculations, should
address uncertainty, and should avoid double-counting. Credit approval programs should
include procedures for selecting clear baselines, developing predictable and pre-approved
calculation tools, and establishing policies on “credit stacking” (i.e., allowing a single project
to generate credits for multiple permit markets). Uncertainty trading ratios—requiring an
extra cushion of credits to buffer against the risk of inaccurate calculations or unpredictable
outcomes—should be based on science, consistently applied, and kept transparently distinct
from any other trading ratios (like ratios to manage hot spot risks).
o Agencies should establish clear rules for liability and responsibility for acts of nature.
Performance bonds and reserve pools may be useful tools.
o Marketable permit programs need clear, adequate sanctions, ideally including both
penalties and plans for coming into compliance.
o When possible, regulators should pursue economies of scale in management, for example
by spreading the costs of credit registries over multiple species or multiple fisheries.
Federal agencies should provide clear guidance on trading policy to regional and state
officials, including through trainings. Public trainings are also useful.
Careful oversight of markets will help prevent fraud, manipulation, and other inefficiencies.
o If direct agency oversight is not efficient and self-verification is not effective to verify
credits, agencies should set standards to ensure that third-party credit verifiers are
qualified, insured, and conflict-free.
o In some marketable permit programs, robust secondary markets have been slow to dev elop
without active involvement of regulators. For example, EPA’s market for vehicle emissions
provides no centralized setting for trading, and the agency does not disclose the prices of
traded permits, which raises the costs of participating in the market and possibly explains
initial low trading volumes. Regulators should consider whether they can address barriers
to efficient secondary transactions, for example by facilitating price discovery. Without
revealing proprietary or confidential business information, regulators should act as
information brokers, collecting and disseminating data on trade prices and volumes.
Regulators can also help minimize transaction costs and ensure adequate market
participation by supporting or operating brokerages or exchanges.
o Though the Commodity Futures Trading Commission (CFTC) has fairly comprehensive
authority over derivative markets, it has not fully exercised its authority with respect to
derivatives based on permit markets. CFTC should monitor active derivative markets
relating to regulatory permits and exercise its authority to prevent fraud, manipulation,
and excessive speculation. CFTC should set position limits for active permit derivatives or
require permit derivatives be traded on exchanges.
o Neither CFTC nor any other agency has comprehensive authority to oversee secondary
permit markets. However, compared to relatively unregulated “over-the-counter”
transactions, secondary transactions conducted on registered exchanges are subject to
some CFTC oversight. CFTC should consult with other agencies on the oversight of
secondary permit markets, and should identify to Congress any need for additional
statutory authorities to regulate permit markets. Agencies should presumptively limit
secondary trading of allowances and credits to exchanges, as appropriate and consistent

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o

o

o

o

with their legal authority. Exceptions could be made for over-the-counter contracts that
cannot be standardized, like forward contracts for the delivery of offset credits. Permit
market regulators should explore additional memoranda of understanding with related
agencies. In particular, permit market regulators should develop relationships with CFTC to
coordinate investigative and enforcement activities.
Regulators should adopt position limits on purchasing and holding marketable permits, or
employ other tools to adequately prevent monopolies, excessive speculation, and other
manipulations. Additional tools include careful auction design, reporting requirements,
transparent price information, effective surveillance, and price circuit breakers. “Circuit
breakers,” which limit how much prices can rise or fall in a given period, can also help
manage price volatility caused by reasons other than fraud. Agencies should prevent
extreme price volatility by creating broad markets, allowing the banking and borrowing of
permits over time, or using circuit breakers, safety valves, or reserve pools.
Regulators need to thoroughly track transactions and holdings. Marketable permit
programs should assign unique serial numbers to allowances and credits. Registries should
track the status of each allowance and credit in as close to real time as practical, as well as
transaction prices and each account’s total holdings. That does not necessarily mean such
information should be publicly disclosed in real time. Regulators need to monitor
international markets and related private markets as well.
To balance the public’s need for transparency against confidentiality concerns, agencies
should implement a system of weekly disclosures of aggregate market information, to
allow the general public to assess the marketable permit program’s efficiency and
effectiveness. Agencies should release any non-confidential data that would help the public
gauge a market’s policy effectiveness, and should periodically assess both the policy and
economic effectiveness of a program.
Marketable permit regulators should develop communication policies to prevent pre publication leaks and information asymmetries.

Overview of Research Methodology and Scope
Research for this project began with a thorough review of the legal literature on marketable permits, as
well as a more targeted review of the economic literature on the advantages, disadvantages, challenges,
and past successes and failures of various marketable permit programs. Existing marketable permit
programs were further identified through searches of the U.S. Code and the Code of Federal
Regulations, key agency websites, and case law on the legal status of marketable permit programs.
Evaluations of the economic and policy effectiveness of programs, from regulatory agencies;
investigative agencies like GAO, CBO, and CRS; consultants; think tanks; and advocacy groups that were
available online were reviewed. Notable state and foreign marketable permit programs were also
examined when relevant. The legal authorities of the Commodity Futures Trading Commission and other
potential oversight agencies to supervise federal and interstate permit markets were assessed through
statutory analysis and review of the relevant literature. Informal conversations with six experts on
marketable permits were also conducted.
The research and recommendations focus on factors for weighing the appropriate applications of
marketable permit programs and the general management of an efficient and effective permit market.
Some complex and highly context-specific issues, such as the most efficient bid structure for permit
auctions, are not covered.

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I.

What Are Marketable Permits?
A.

Overview: Characteristics of a Prototypical Marketable Permit Program

Marketable permits are regulatory tools designed to allocate privileges or obligations more efficiently by
harnessing the market’s decision-making powers. Marketable permits are intended to lower compliance
costs, ease administrative burdens, and incentivize innovation more than traditional regulatory
approaches, all while (in theory) achieving policy goals with greater certainty. They have been used most
prominently to advance environmental and energy policies, though they have other applications, such
as in transportation policy (addressing aerospace congestion and allocating taxi medallions) and
communication policy (allocating electromagnetic spectrum).
Marketable permits depart from the prescriptive, inflexible, or highly particularized approaches often
seen in traditional regulation. Traditional environmental regulation, for example, may require each
individual polluter to comply with a specific standard and may even prescribe exactly which
technological or operational changes sources must make to comply. Such an approach might, for
instance, require each individual power plant to limit greenhouse emissions to the same numerical
maximum of pollution per unit of electricity generated—regardless of whether compliance may be
vastly more expensive for some plants while other plants could cheaply reduce emissions even further
beyond the numerical limit. As an example in a different context, traditional licensing of access to the
electromagnetic spectrum was similarly particularized and inflexible: individual applicants had to
navigate long, complex administrative hearings, and once spectrum was assigned it may have been
difficult to reassign.
By contrast, marketable permits rely on the market to identify the most cost-efficient way to allocate
regulatory privileges or obligations. For example, under a marketable permit system for greenhouse
gases called “cap-and-trade,” a regulator would first set an overall maximum budget of permitted
emissions per time period. The regulator would then initially allocate those emission allowances to the
regulated sources, and may further authorize unregulated sources to generate additional “credits” or
“offsets” for sale by voluntarily undertaking verified emissions reductions not otherwise required by law.
Because the allowances and credits can be traded between sources, the marketable permit system
empowers individual regulated sources to decide for themselves, based on their own abatement costs,
what emissions reductions to make and how: they can choose to emit as many tons as they can afford to
buy additional permits for, or they can reduce emissions and sell any unused permits for profit, all
without (in theory) losing any regulatory benefits. Similarly, instead of forcing regulators to divine how
to allocate electromagnetic spectrum to the highest value uses, by auctioning off spectrum licenses and
allowing subsequent re-sales and leases, regulators entrust the market to identify the most valuable use
of the resource. 1
Though there are many variations, a prototypical marketable permit scheme entails the following steps:


First, a regulator determines the quantity of privileges or obligations to be allocated. This
determination may take the form of a cap on tons of pollution emitted or tons of fish caught per
year, a baseline level of ecosystem services from wetlands or other habitat that must be
maintained, or the amount of spectrum or number of airport landing slots to be allocated.

1 See Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory

Alternative 3 (1981) (explaining market-based regulation helps ensure that firms with highest-value use of the resource will
obta in the permit).

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




Second, a regulator allocates those privileges or obligations. The initial allocation may be by
open auction; by lottery, either for free or with a fixed price per allocation awarded; by criteriabased rules, such as historical use of the resource, again either free or with a fixed charge; or by
approving the sale of verified credits generated by unregulated sources or third parties.
Third, the regulator determines the rules for trading permits on a secondary market.
Finally, the regulator monitors permit transactions and holdings, and compares holdings to the
use of the common resource to determine compliance. For example, under a greenhouse gas
cap-and-trade system, each allowance or credit authorizes the emission of one ton of
greenhouse gases, and each regulated source must hold enough permits to cover its total actual
emissions over the compliance period.

B.

Concepts and Definitions
1.

Definition and Categorization of Marketable Permits

Marketable permits are, first and foremost, permits: they are government-created licenses or
obligations for a specific level of a particular activity. Often they ration use of common public resources
like clean air, fisheries, or electromagnetic spectrum,2 but in addition to such marketable privileges,
marketable obligations also exist, like tradable requirements to produce renewable energy.3
What distinguishes marketable permits is that they can be bought or sold independently of any real
property or other interest. Independent alienability is a crucial distinction, since many permits can be
transferred together with the sale of a business or underlying assets. For example, if a factory previously
secured a traditional, prescriptive air pollution permit to authorize its emissions, when the factory is sold
the permit may transfer, too, and the permit has its own value that contributes to the overall sale price.4
What makes marketable permits special is that they can be exchanged by themselves on markets. Those
markets are often regulatory creations as well and require careful oversight.
Marketable permits can be traded on primary markets, secondary markets, or both. Primary markets
refer to the first transfer of permits and include auctions of allowances or licenses as well as sales of
credits generated by approved third parties. Secondary markets include all subsequent transfers of the
permits, including spot transactions and forward contracts. Some permits that are tradable on a
secondary market are not allocated in the first place by a market mechanism like an auction, but rather
are distributed by lottery or criteria-based rules.5 Some permits initially allocated on a market by auction
or credit sale may then have limited or no transferability on secondary markets. Some secondary permit
2 Tom Ti etenberg, Tradable Permits in Principle and Practice, in Movi ng to Ma rkets in Environmental Regulation: Lessons from

Twenty Years of Experience (Jody Freeman & Cha rles Kolstad eds., 2006).
3 Ki rs ten Engel, Dormant Commerce Clause Threat to Market-Based Environmental Regulation: The Case of Electricity
Deregulation, 26 Eco. L. Q. 243 (1999).
4 Jona than Remy Nash, Framing Effects and Regulatory Choice, 82 Notre Da me L. Rev. 313 (2006). A few fi sh quota s hare
progra ms typically grouped wi th individually tra nsferrable quota programs may, in fact, only a llow tra nsfer of the fish catch
s ha re along with the fishing license. See Ka trina Wyman, Why Regulators Turn to Tradable Permits: A Canadian Case Study, 52
U. Toronto L.J. 419 (2002); see also Na t’l Ma rine Fisheries Serv., Ca tch Share Spotlights (the Bering Sea Groundfish Cooperative
a l lows tra nsfer of quota with vessel). Such programs, even if often called marketable permit programs, would not be included
under this report’s definition.
5 Hybri d s tructures a re also possible. For example, most a cid rain permits are freely allocated, but a zero-revenue secondary
a ucti on requires holders to publicly a uction 2.8% of permits each year, sold at a ctual bid prices (ra ther than a t a single ma rketcl ea ring price), with revenue distributed pro ra ta back to sellers from whom the permits were wi thheld, ra ther than to
government. Jonathan Nash & Ri chard Revesz, Markets and Geography: Designing Marketable Permit Schemes to Control Local
and Regional Pollutants, 28 Ecol . L. Q. 569 (2002).

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markets also give rise to separate derivative markets, where futures, options, and swaps based on the
value of the underlying permit are traded.
Unlike commodity or property markets, in marketable permit systems the government principally
controls both supply and demand. 6 For example, in a greenhouse gas cap-and-trade system, the
government controls supply by determining the cap on total emissions allowances and controls demand
by legally requiring regulated sources to hold enough permits to cover their emissions. The control is
never absolute: a factory could always relocate to a different jurisdiction, or a fisher to state waters, to
avoid being forced into the federal market. And control over demand is always mediated by outside
factors like innovation: a factory that develops the techniques to mitigate its own emissions need not
enter an auction for emissions allowances. Marketable permits are usually discussed separately from
other types of government sales, like auctions of government-owned oil and gas deposits, where supply
is even more heavily influenced by private and international sources, though perhaps the distinction is
only a matter of degrees. 7
Two main categories of marketable permits, which can exist in combination, are cap-and-trade
programs and credit trading programs. Though the term “cap-and-trade” is most often associated in
political debates with pollution reduction measures, the cap-and-trade framework applies to a range of
marketable permit schemes, including the allocation of a capped number of tradable licenses in
electromagnetic spectrum or aerospace. In cap-and-trade programs, regulators set an “absolute
baseline” by capping the budget of emissions allowances or allowable fish catch or number of airport
landing slots. In credit trading, regulators set a “relative baseline”: for example, regulators may set a
goal of no net emissions increases or no net loss of wetlands, and then any new entrants seeking to
increase air emissions or destroy wetlands must purchase offsetting credits sold by third parties that
voluntarily reduce their emissions or create new wetlands. 8 Regulators must set standards to determine
the number of credits that may be sold and to verify that the credits represent real mitigation.9 Cap-andtrade and credit systems can be combined. For example, in a greenhouse gas cap-and-trade program,
unregulated sources may also be allowed to voluntarily reduce their own emissions and sell verified
credits into the cap-and-trade market.

2.

Distinction from Other Market-Based Tools: Bubbles, Banking, and Fees

Other market-based regulatory tools, such as bubbles, averaging, and netting, are often grouped
together with marketable permits.10 These tools, common in environmental policy, allow single firms or
sources, or units within such sources, to trade emission reduction requirements internally across
location and time, so long as the overall average or net emissions meet the regulatory requirements.
Because these approaches only involve internal, intra-firm decision-making, they raise fundamentally

6 See Ja mes Salzman & J.B. Ruhl, Currencies and the Commodification of Environmental Law, 53 Sta nford L. Rev. 607 (2000)

(ci ti ng Royal C. Ga rdner).
7 A ma rketable permit program, wherein a central regulator determines optimal a mount of tradable permits for use of a
common resource, is different from scheme where all of the resource is allocated to private parties who then negotiate to
a chi eve their optimal a llocation. See Mi chael Li vermore, Reviving Environmental Protection: Preference-Directed Regulation and
Regulatory Ossification, 25 Va . Envtl . L. J. 311 (2007). Federal auctions of ri ghts to access coal, oil, gas, and mineral deposits are
not di scussed i n this report, even though s uch l icenses may s ometimes be tra nsferred between parties with government
a pproval. E.g., 30 U.S.C. § 1411-1428 (Deep Seabed Hard Mineral Resource licenses may be transferred with NOAA a pproval).
8 Ti etenberg, Tradable Permits, supra note 2.
9 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 18-19 (2006, 2d ed).
10 See Robert Ha hn & Gordon Hester, Where Did All the Markets Go? An Analysis of EPA’s Emissions Trading Program , 6 Ya l e J.
Reg. 109 (1989).

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different management issues compared to marketable permit systems, which create new regulatory
markets and require oversight of risks like market power and price manipulation.
The same is true of banking and borrowing, which allow the temporal trading of regulatory privileges or
obligations over time, such as over-complying with an emissions limit this year to generate credits to
offset additional emissions in future years. While banking and borrowing can play important roles in
marketable permit programs, they can also be applied under more prescriptive and particularized
regulatory approaches, to allow some intra-firm, temporal flexibility about compliance decisions.
Banking and borrowing are only addressed in this report to the extent they present special challenges in
the market context, such as how banking may contribute to the risk of hoarding permits.
Finally, regulatory fees and marketable permits share many similar features and, at least in theory, could
be somewhat interchangeable. Compare, for example, a carbon tax with a cap-and-trade program for
greenhouse gases. If the government sets the carbon tax accurately, firms will pollute only up to the
point when paying the tax exceeds the value of the underlying activity, thus achieving a certain limit on
total pollution much the same way a cap would. Conversely, if the government sets the cap and
regulatory requirements accurately, supply and demand in the cap-and-trade market will balance to
reach a set price for emissions allowances, which will act very similarly to a carbon tax set at that same
price. Theoretically, both fees and marketable permits share the same kinds of economic advantages
over traditional, prescriptive regulation. 11
However, many similarities break down under real-world uncertainty.12 For example, uncertainty about
abatement costs may mean that actual emissions reductions cost more than the regulator anticipated.
In that scenario, a cap-and-trade program can still guarantee the desired environmental outcome by
virtue of the hard cap on total emissions, but the increased demand for allowances wi ll mean the
program’s total compliance costs will exceed expectations. Uncertainty over abatement costs interacts
with a tax in exactly the opposite way: per-unit compliance costs will still be guaranteed because firms
facing costly abatement options can opt to pay the set tax, but as more firms opt to pay the tax rather
than abate, total emissions will exceed expectations. The same pattern occurs with uncertainty about
future economic growth: a cap-and-trade program will continue to guarantee a limit on emissions even
if demand for the polluting activities rises with economic growth; a tax, on the other hand, can not stop
firms from choosing to simply pay the tax to increase emissions in order to increase output.13 Some
theories predict that marketable permits will perform better than fees in the face of imperfect
enforcement;14 some theories suggest that when marketable permit prices fluctuate too much, fees are
preferable for sending the kind of consistent price signals necessary for long-term capital investments.15
Ultimately, neither marketable permits nor fees are the unambiguously superior choice.
For the most part, this report will not discuss regulatory fees further. The “in-lieu fees” allowed for
wetland mitigation are best thought of not as true fees, but as a kind of advance payment on a credit,
and are discussed as such in this report. Because permit auctions can strongly resemble regulatory fees,
11 See Wi l liam Pi zer, Dallas Burtraw et al., Modeling Economywide vs Sectoral Climate Policies Using Combine Aggregate-

Sectoral Models 7 (RFF 05-08, 2003, republished as 27 Energy J. 135 (2006)) (explaining that, under certain conditions,
ma rketable permits and ta xes a re “equivalent policies”); Gilbert Metcalf & Da vid Weisbach, The Design of a Carbon Tax 3 (Uni v.
Chi ca go Public La w & Legal Theory Working Pa per 254, 2009) (explaining the design issues a re largely similar).
12 OECD, Envi ronmental-Related Taxes and Tradable Permit Systems in Pra ctice (2008).
13 Robert Stavins, Ma rket-Based Envi ronmental Policies: What Ca n We Learn from U.S. Experience (and Related Research)? 29,
in Movi ng to Ma rkets, supra note 2; Ma rshall J. Breger, Richard B. Stewart, E. Donald Elliott & Da vid Hawkins, Providing
Economic Incentive in Environmental Regulation, 6 Ya l e J. on Reg. 463 (1991) (tra dable permits handle economic growth more
a utomatically than ta xes, because taxes are fundamentally ra te-based, not mass-based).
14 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 176 (2006, 2d ed).
15 Interview with Don Elliott.

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and because courts could question whether permit auctions represent an unconstitutional tax, the legal
status of auctions as compared to regulatory fees is discussed below. Regulatory fees are also distinct
from user fees, which is a charge on a particular service to recoup the government’s costs. User fees
may be applied in conjunction with marketable permit programs to cover the costs of monitoring
transactions and compliance.
It is notable that marketable permits and regulatory fees can be applied simultaneously and can interact
both as complements and as substitutes. For example, the Environmental Protecti on Agency developed
a cap-and-trade program for ozone-depleting substances, but in 1989 an excise tax was added to
compensate for the windfall profits from the initial allowance allocation (see below for more on
allocation options and windfalls). Eventually the tax increased enough that it, not the allowance cap,
controlled production. 16 Permit markets can also be designed with features that approximate taxes. For
example, regulators can set a ceiling on permit prices in an emissions allowance market or set a fixed
penalty for any excess emissions once the market hits a certain price .17 These kinds of “safety valves” on
prices are discussed below.

3.

Avoided Terminology: “Command-and-Control” and “Marketable Rights”

The literature comparing marketable permit programs with traditional regulatory approaches often
refers to the latter as “command-and-control” regulation. This terminology seeks to draw the line
between a system that flexibly lets the market decide how to allocate regulatory privileges and
responsibilities, and a system that “commands” each individual regulated entity to “control” their
actions in a highly prescriptive and inflexible manner. An environmental regulation that instructs each
regulated source to install a particular technological or operational system of emissions control (often
called a “design standard” or “work practice standard”) is the stereotypical “command-and-control”
regulation.
However, such prescriptive design and operational standards are relatively rare these days;
environmental regulators today, when not applying market-based tools, typically prefers a more flexible
“performance standard” that allows a source to achieve its individual emissions target however it sees
fit. Even many technology-based regulations are not “uniformly prescriptive,” but rather are tailored to
individual sources. 18 Uniformly prescriptive design and operational standards are most often still applied
to environmental problems when measuring a source’s performance would be difficult or impossible, as
with “fugitive” emissions that cannot be readily measured from the end of a smokestack. Because
environmental market approaches require the regulator to monitor actual emissions against the number
of permits held, marketable permits are, in fact, an unlikely alternative to the true “command-andcontrol” regulations applied to these hard-to-measure problems. 19
Since even the staunchest advocates of market-based tools admit a continuing need for traditional
regulation in certain circumstances, scholar David Driesen suggests avoiding the disparaging and
misleading terminology of “command-and-control.”20 Others, such as Jody Freeman and Charles Kolstad,
have copied that approach, 21 and this report will, too. Because what truly distinguishes marketable
16 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 10 (2006, 2d ed).
17 Breger, Stewart, Elliott, & Ha wkins, supra note 13.
18 Da vi d Driesen, Is Emission Trading an Economic Incentive Program?, 55 Wa s h. & Lee L. Rev. 289 (1998) (for example, best

a va ilable control technology under the Cl ean Air Act, a nd va rious s tandards under the Cl ean Water Act).
19 Id.
20 Id.
21 Jody Freeman & Cha rles Kolstad, Preface, in Movi ng to Ma rkets, supra note 2.

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Draft Report
permits from traditional regulations is the specificity and rigidity about who must comply, this reports
uses the terms “traditional,” “prescriptive,” or “particularized” regulation instead.
This report also does not follow some of the literature in referring to “marketable rights.” The word
“rights” implies a permanence or property status that may not apply to marketable permits (see below
on property). 22 Instead, this report uses the terms “permits” or “licenses.”

C.

The History and Current Applications of Marketable Permits
1.

The Evolution and Future of the Idea of Marketable Permits

Expanding on Ronald Coase’s influential 1960 article The Problem of Social Cost, Thomas Crocker and
John Dales developed the idea of tradable pollution permits in the 1960s. 23 The idea steadily gained
proponents in academic circles and among U.S. regulatory experts through the 1970s and 1980s, with
the Environmental Protection Agency beginning to experiment with tradable permits and credits for air
pollution. As Richard Revesz and Michael Livermore recount, “The concept entered the [U.S.] political
arena in the 1980s, when C. Boyden Gray, then a high-ranking Reagan Administration official, promoted
it as a preferable approach to the traditional method of addressing air pollution.” 24
The 1990 amendments to the Clean Air Act ushered in an age of growing bipartisan political support for
the idea of marketable permits. That legislation, which authorized EPA’s landmark acid rain permit
market, passed by overwhelming bipartisan majorities in both chambers of Congress and was signed
into law by President George H.W. Bush. 25 From there the consensus grew, as did the number and
range of applications. 26 For example, Presidents Bill Clinton, George W. Bush, and Barack Obama all
turned to marketable permits to deal with problems of cross-state air pollution. The year 2008 was a
high watermark, with both candidates for president (Barack Obama and John McCain) supporting cap and-trade for greenhouse gas emissions. In general, President Obama’s administration embraced
marketable permits, applying them to greenhouse gas and interstate air pollution controls, and issuing a
presidential directive to further encourage conservation banks for the mitigation of wetlands and
endangered species habitat. 27 Though both Democrats and Republicans have at times resisted applying
marketable permits to particular policy contexts,28 historically marketable permits have enjoyed
bipartisan support.
The new Trump administration is expected to back away from President Obama’s plans for national
greenhouse gas regulation and may attempt to roll back other regulatory systems that currently rely on
marketable permits. However, marketable permits were long a favorite tool of Republicans, lauded for
22 Breger, Stewart, Elliott, & Ha wkins, supra note 13 (s tatement of Hawkins).
23 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 2-4 (2006, 2d ed) (Crocker fi rst a pplied tra ding to air pollution,

Da l es to water pollution); Lesley McAl lister, Beyond Playing “Banker”, 59 Admi n. L. Rev. 269 (2007).
24 Mi cha el Livermore & Ri chard Revesz, Interest Groups and Environmental Policy, Envtl . L. 12-13 (2015).
25 EPA, Legi slative Chronology: Cl ean Ai r Act Amendments of 1990, http://www3.epa.gov/ttn/caaa/gen/chron.txt.
26 Mi cha el Livermore & Ri chard Revesz, Interest Groups and Environmental Policy, Envtl . L. 10-11 (2015).
27 Pres i dential Memorandum, Mitigating Impacts on Natural Resources from Development, Nov. 3, 2015.
28 For exa mple, Congressional Republicans l abeled cap -and-trade proposals for greenhouse gas emissions a s “cap-and-tax” a nd
opposed s uch proposals a s harmful to the economy a nd employment. House Republicans, A Pledge to America: A New
Governing Agenda Built on the Priorities of Our Nation, the Principles We Stand for & America’s Founding Values 43 (2010).
Democrats have also a ttacked marketable permit ideas as “taxes.” A pl an from George W. Bush’s Federal Aviation
Admi nistration to auction off l anding slots a t congested New York a irports, 73 Fed. Reg. 60,544 & 60.574, wa s l abeled a “sky
ta x” by New York’s Senator Chuck Schumer. Schumer l ed the Democratic charge to pass an a ppropriations ri der temporarily
bl ocking the auction in 2009, Omnibus Appropriations Act of 2009, a nd later that year the Obama a dministration rescinded the
rul e, 74 Fed. Reg. 52132 & 52134.

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achieving policy goals at the lowest cost. It is possible that, under a Trump administration, marketable
permits could see a resurgence, perhaps in areas where they have not yet fully flourished, like wate r
quality trading. Regardless, marketable permit programs will continue at the state level, and federal
agencies may be called upon to oversee interstate markets.

2.

Overview of Existing Federal and Interstate Applications

This section provides background on the application of marketable programs to federal regulation,
including marketable programs implemented by states to meet federal standards, as well as interstate
applications that may necessitate some federal oversight of markets.
a)

Air Pollution Markets

A number of prominent marketable permit programs exist to implement provisions of the Clean Air Act.
The Clean Air Act’s program to allow new sources to trade offsetting credits of “criteria” 29 pollutant
reductions began in 1974.30 Starting in 1982, EPA allowed permit trading to help phase out lead from
gasoline.31 (Technically, the lead phase-out program is no longer an “existing” program, as its goal of
zero lead in gasoline has long been achieved.)
The 1990 amendments to the Clean Air Act included two significant provisions on marketable permits.
First, they mandated a system of tradable sulfur dioxide emission allowances to address power plants’
contributions to acid rain. For years, the acid rain program has been held up as a paradigm of market based regulation. Despite seeing significant trading activity through much of its life, recently the acid
rain market has become somewhat less important, as other regulations have partly superseded it.32
The 1990 amendments also explicitly authorized states to use marketable permits to implement the
various federal standards they are responsible for through their “state implementation plans,” or SIPs.
When states fail to properly implement the Clean Air Act’s standard, EPA steps in with a “federal
implementation plan,” or FIP. In 1994, a group of states organized a system for trading obligations to
reduce nitrogen oxide emissions. EPA subsequently expanded on those efforts by proposing marketable
permit solutions to problems of interstate pollution. These efforts included President Clinton’s 1993 NOx
SIP Call, President Bush’s Clean Air Interstate Regulation, and President Obama’s Cross-State Air
Pollution Regulation. Various other SIPs and FIPs use marketable permit programs for visibility and other
air pollution issues. 33
The most famous (or infamous, depending on who you ask) and well-studied use of marketable permits
under a SIP is the urban smog trading program administered by the South Coast Air Quality
Management District as part of California’s SIP. The program, known as RECLAIM, consists principally of
a mandatory cap-and-trade for large sources of smog-producing pollutants, as well as related voluntary
programs to generate credits from smaller “area sources” and from scraping fleets of older, heavily polluting cars. 34

29 Cri teri a pollutants are the s ix widely emitted pollutants for which EPA s ets ambient a ir quality s tandards: particulate ma tter,

s ul fur dioxide, nitrogen dioxide, ground-level ozone, carbon monoxide, and lead.
30 E.g., 42 U.S.C. § 7503(c) (a l lowing offsets to comply with non-attainment new source review).
31 47 Fed. Reg. 49,322 (Oct. 29, 1982) (ca l led “i nter-refinery a veraging”).
32 Benjamin Leard & Vi rginia McConnell, New Markets for Credit Trading under U.S. Automobile Greenhouse Gas and Fuel
Economy Standards (Res ources for the Future Discussion Paper 15-16, 2015).
33 56 Fed. Reg. 5173 (1991); see also 70 Fed. Reg. 58,154 (2003).
34 Na s h & Revesz, supra note 5.

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EPA has finalized various emission standards for vehicles that allow “averaging, banking, and trading”
(ABT) among and between car manufacturers. 35 However, there has been very little if any trading
between manufacturers under these programs, 36 at least until the recent greenhouse gas standards for
motor vehicles (discussed below).37
b)

Climate Change and Stratospheric Ozone Markets

Because global pollutants like greenhouse gases and ozone-depleting substances have few if any
localized effects, total emission reductions matter much more than which source is making those
reductions. As a result, global pollutants are ideal candidates for marketable permits. Compared to
applications of marketable permits to local and regional pollutants like sulfur dioxide, marketable permit
programs for global pollutants may encounter fewer problems with fungibility and therefore may need
fewer exchange restrictions (see below on fungibility and exchange restrictions).
In 1988, EPA created a marketable permit program for ozone-depleting chlorofluorocarbons, which
included both a cap on tradable production allowances and credits for certified destructions of the
harmful substances.38
In the second term of the Obama administration, EPA issued the Clean Power Plan standards for carbon
dioxide emissions from existing coal- and gas-fired power plants. The standards, to be implemented by
the states, can be achieved through marketable permits, emission taxes, or any other approaches that
states prefer. EPA expected most states to either opt into regional or national cap-and-trade programs,
or else defer to a federal implementation plan that would use marketable permits. The Clean Power
Plan is currently being litigated before the U.S. Court of Appeals for the District of Columbia, and the
new Trump administration is anticipated either to not advance implementation of the standards or to
attempt to repeal the standards.
Nevertheless, greenhouse gas markets will continue to operate at the state level. Several New England
states have developed the Regional Greenhouse Gas Initiative for carbon pollution for their power
plants, and California has begun implementing a state-wide greenhouse gas cap-and-trade program.
California’s program authorizes both linking permit markets with and purchasing offsets from Canada.
Federal agencies may need to supervise such interstate and international markets.
Market-based programs for vehicles’ greenhouse gas emissions are discussed below, since EPA issued
them jointly with the Department of Transportation’s vehicle efficiency standards. Energy efficiency and
renewable energy programs, while contributing to greenhouse gas reductions, are focused on more
than environmental benefits, including issues like national security and consumer cost savings.
c)

Renewable Energy Credits and Vehicle Efficiency Trading

In 2010, EPA and the Department of Transportation’s National Highway Traffic Safety Administration
(NHTSA) finalized joint standards to regulate the greenhouse gas emissions from passenger motor
vehicles and to increase the fuel efficiency requirements; similar joint proposals on heavy -duty trucks
followed. Trading credits among vehicle manufacturers is permitted to achieve these standards, and EPA
and NHTSA technically each operate separate trading programs. Though at first some researchers

35 Hea vy-Duty Engines, 55 Fed. Reg. 30,584 (1990).
36 EPA, Ma nufacturer Performance Report for 2015 MY (2015).
37 For other programs with marketable permit elements, see a lso the Oxygenated Gas Credit Program, 57 Fed. Reg. 47,853

(1992), a nd the Cl ean Fuel Fleet Emission Standards, 58 Fed. Reg. 32,474 (1993).
38 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 9 (2006, 2d ed).

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expressed concerns about the limited number of transactions on the markets and the corresponding risk
of monopolies forming, in recent years the markets have been relatively “active.” 39
In the Energy Policy Act of 2005, 40 Congress mandated that EPA develop a Renewable Fuel Standards
(RFS) program, to require fuel importers and refiners to blend a certain proporti on of renewable fuels
together with any fossil fuel-based gasoline sold. Importers and refiners may purchase and blend
renewable fuels directly, or they may purchase credits (called RINs, for renewable identification
numbers) from generators of renewable fuels.
Many states apply similar requirements to their electricity producers. As of August 2016, 29 states, the
District of Columbia, and three U.S. territories have renewable electricity standards (often called
Renewable Portfolio Standards, or RPS).41 Because states may allow interstate or even international
trading of renewable energy credits or certifications (RECs), and because individual states may lack the
authority to oversee adequately such interstate and international markets, federal oversight may be
desired to ensure the integrity of these markets. In 2012, states on average sourced 39% of required
credits from out-of-state resources (ranging from 94% in Delaware and Missouri, to 0% in New Mexico,
Iowa, and Texas); some states traded with Quebec.42
The Department of Energy also implements requirements for state-owned fleets of vehicles and certain
other large fleets to purchase a set proportion of alternative fuel vehicles. Besides direct purchases of
alternative vehicles, these requirements can also be met with marketable credits. The market for credits
is small, with only 13 transactions totaling 383 credits traded for model year 2014 (out of about 20,000
credits).43
d)

Water Quality Trading

Like the Clean Air Act, the Clean Water Act has a cooperative federalism structure, and states are often
responsible for implementing federally-set water quality standards. Some Clean Water Act standards are
technology-based prescriptive requirements, and EPA does not currently support the use of trading
programs to comply with such technology-based limits (though EPA has expressed willingness to
consider in the future how even technology-based standards might be met through marketable
permits).44 Other Clean Water Act standards apply more holistically to entire bodies of water, including
setting pollution budgets, or total maximum daily loads (TMDLs), for water bodies. Some states use
marketable permits to comply with TMDLs and other standards. In particular, trading may be authorized
both among point sources and between point sources and non-point sources. A point source, like a
factory sitting on a river, is a regulated source with a measurable flow of pollution, often emitted from
the end of a pipe. A non-point source, like a farm, has more diffuse, often un-measurable discharges.
Because TMDLs provide a fixed cap on pollution and because non-point sources are largely unregulated,
water quality trading often takes the form of a cap-and-trade program combined with a credit program.
Compared to air pollution markets, water quality trading has developed relatively slowly. The slow
development across the United States could be blamed partly on the slow development of TMDLs
themselves. However, even worldwide only a few dozen active water quality trading programs exist, and
39 EPA & NHTSA, Dra ft Technical Assessment Report: Mi dterm Evaluation, 420-D-16-900.
40 Expa nded by the Energy Independence and Security Act of 2007.
41 Da ta base of State Incentives for Renewables and Efficiency (DSIRE), Renewable Portfolio Standards Policies,

http://ncsolarcen-prod.s3.amazonaws.com/wp-content/uploads/2017/03/Renewable-Portfolio-Standards.pdf.
42 NREL, Qua ntifyi ng the Level of Cross-State Renewable Energy Tra nsactions (2015).
43 Dept. of Energy-EERE, Fleet Compliance Results for MY2014/FY2015.
44 EPA, Wa ter Qua lity Tra ding Policy, 68 Fed. Reg. 1609 (Ja n. 13, 2003).

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globally only $32 million in water quality trades took place in 2015, compared to hundred of billions of
dollars in worldwide carbon markets. 45
The first U.S. pilot water quality trading project was at Wisconsin’s Fox River in the 1980s. 46 Currently
about two dozen active programs exist across 16 states. 47 Because some watersheds cross state lines,
some trading programs are interstate as well, 48 like the Ohio River Basin program. 49 Yet as of 2008, only
100 point sources nationwide had participated in water quality trading, and 80% of participants were
under a single program in Long Island Sound. 50 More recently, significant water quality trading programs
have been developed in the Chesapeake Bay.
e)

Natural Resource Mitigation Banks

The Army Corps of Engineers, in consultation with EPA, issues permits for development projects
affecting wetlands, streams, and other aquatic resources. Under Section 404 of the Clean Water Act and
Sections 9 and 10 of the Rivers and Harbors Act of 1899, the Corps requires permittees first to avoid
impacts and then to mitigate any unavoidable effects. Such mitigation can take the form of the creation,
restoration, expansion, or preservation of other aquatic resources. In the 1980s, EPA and the Corps
disagreed on whether mitigation should be done exclusively on-site by the individual permittees
themselves, or if off-site mitigation was also permissible.51 By 1995, EPA and the Corps issued joint
guidance on the use of wetland mitigation banks, wherein permittees purchase mitigation credits from
third parties that complete verified creation, restoration, or preservation projects. Approval for “in-lieu
fees” soon followed: in-lieu fees are essentially mitigation banks from which credits can be purchased,
for a fee, in advance of the mitigation actually being accomplished; by contrast, mitigation banks sell
credits for already-completed mitigation projects. By 2014, 52% of projects requiring mitigation used
either banks or in-lieu fees rather than permittee-conducted efforts, though in terms of total acres of
mitigation, permittee-responsible projects continue to outpace mitigation banks.52 Nearly 1500 banks
and in-lieu instruments have been approved.53
Copying the model of wetlands mitigation,54 the Fish and Wildlife Service (FWS) implemented a
conservation bank program for habitat mitigation. Section 10 of the Endangered Species Act allows FWS
to grant permits for incidental harms to endangered species. 55 After permittees first try to avoid
impacts, they must develop a habitat conservation plan that includes mitigation for the incidental

45 Ecos ys tem Ma rketplace, State of Watershed Investment (2016); see also Ecos ystem Ma rketplace/Forest Trends, State of

Wa tershed Pa yments (2010) ($118 billion i n regulated carbon markets).
46 Wi l lamette Pa rtnership, In It Together: A How-To Reference for Building Point-Nonpoint Water Quality Trading Programs
(2012).
47 Id. (As of 2011, 24 a cti ve point-nonpoint tra ding programs a cross 16 s tates; 80% of programs focus on phosphorus).
48 EPA, Wa ter Qua lity Tra ding Toolkit (2009).
49 Wi l lamette Pa rtnership, In It Together: A How-To Reference Part 2 (2012). EPA noted i n comments on the draft version of this
report tha t the Ohio River program is currently vol untary a nd awaiting regulatory drivers i n the form of nutrient or s ediment
NPDES l i mits.
50 Wi l lamette Pa rtnership, In It Together: A How-To Reference Part 2 (2012); see also Industrial Economics Inc. (IEc), Water
Qua l ity Tra ding Evaluation (2008, produced for EPA) (reported “limited practical success”).
51 U.S. Army Corps -Jacksonville District, Key Concepts of Mi tigation Banking (2003).
52 U.S. Army Corps , Institute for Water Resources, The Mi tigation Rule Retrospective (2015) (s tats for years 2010-2014); see also
Corps -EPA, Fi nal Rule: Compensating Mitigation for Losses of Aquatic Resources, 73 Fed. Reg. 19,593 (2008) (In 2005,
permi ttee-responsible represented 60% of a cres, banks 33%).
53 U.S. Army Corps , Institute for Water Resources, The Mi tigation Rule Retrospective (2015).
54 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003).
55 Al s o, Section 7 of the Endangered Species Act requires mitigation for a ctions by federal agencies.

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harms.56 In 1995, the California Department of Fish and Game innovated the first conservation bank, 57
and FWS now allows both conservation banks and in-lieu fees for the required habitat mitigation
nationwide.58 The National Oceanic and Atmospheric Administration (NOAA) is responsible for certain
endangered species permits affecting marine resources, and some regional offices of the National
Marine Fisheries Service (NMFS) also allow use of conservation banks, though FWS-approved banks far
outnumber NOAA-approved banks. As of January 2017, 158 conservation banks had been approved
(including 23 sold-out banks and 12 banks pending approval).59 As with wetlands, use of mitigation
banks and in-lieu fees continues to lag slightly behind reliance on permittee-responsible mitigation
projects for habitat conservation.60
Overall, the use of natural resource mitigation banks has been impressive. As of 2011, U.S. wetland,
stream, and habitat conservation banking programs had $2-$3.4 billion in transactions, with 15,000
hectares traded annually.61
Conservation bank credits may also be used to mitigate under other programs, like the National
Environmental Policy Act,62 though few examples of such use exist.63
f)

Tradable Fish Catch Shares

Historically, many fisheries have been overwhelmed by “derby” conditions: a race among licensed
fishers to catch the allowed amount before the end of the season. Fishers were incentivized to build
bigger, more expensive fleets to try to outcompete each other, and the derby conditions encouraged
overfishing and unsafe conditions.64 Catch share programs that allocate precise quotas to individual
fishers can alleviate these inefficient derby conditions. Catch shares can be distributed and made
tradable or can be allocated by auction (though no U.S. catch share programs currently use auctions).
The first individually transferrable quota program was established in 1990 by the Mid-Atlantic regional
fishery council for catch of surfclams and ocean quahogs; today there are 16 U.S. catch share programs,
with varying levels of marketability.65 Most catch share programs are administered by regional councils;
the program for highly-migratory Bluefin tuna is administered directly by the National Oceanic and
Atmospheric Administration’s National Marine Fisheries Service (NMFS). Environmental Defense Fund
estimates that 65% of fish caught in U.S. federal waters are under catch shares. 66

56 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003).
57 Id.
58 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016).
59 U.S. Army Corps , Regulatory In-lieu Fee and Bank Information Tracking Sys tem (RIBITS),

https ://ribits.usace.army.mil/ribits_apex/f?p=107:2.
60 Ecos ys tem Ma rketplace, State of Biodiversity Ma rkets (2011) (In 2011, 67% of mi tigation was from permittee-responsible
a cti vi ty, 26% from mitigation banks, a nd 7% from in-lieu fees).
61 Id.
62 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003).
63 See NMFS Wes t Coast Region, Conservation Banking Guidance (2015). Initial searches did not reveal a ny examples of
mi ti gation banking i n environmental i mpact s tatements under NEPA. The National Oceanic a nd Atmospheric Administration
a nd the Federal Highway Administration also use RIBITS. FERC a llows off-site mitigation, but is not preferred, occurs ra rely, a nd
ma y not be considered trading. See Pub. Serv. Co. of Col o., 132 FERC P 61,224, 62,261 (2010).
64 NOAA, Ca tch Sha re Policy (2010).
65 NOAA, Ma p of Ca tch Share Programs by Region,
http://www.nmfs.noaa.gov/sfa/management/catch_shares/about/programs_by_region.html.
66 Ka tri na Wyman, The Recovery in U.S. Fisheries, J. La nd Us e (forthcoming) (admitting that may be a high estimate; a nother
es timate is 25% of s pecies ca ught i n U.S. fisheries are under ca tch shares).

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g)

Markets in Other Common Resources

The Federal Communications Commission (FCC) is responsible for licensing use of the electromagnetic
spectrum by television and radio broadcasters, broadband and cellular providers, and other services.
FCC has been conducting auctions to distribute licenses since 1994,67 and has been working to improve
the transferability of licenses since 2003.68 The most famous FCC auction is the ongoing broadcast
incentive auction, a first-of-its-kind two-step auction wherein first broadcasters propose sale of their
underutilized spectrum and then broadband providers compete to purchase the freed spectrum.
Secondary markets for trading spectrum licenses are somewhat constrained, since applicants for
transfer must demonstrate that the transfer serves the public interest,69 and historically FCC only rarely
allowed sublease or resale.70 Various legal 71 and technical limits, like potential interference between
users of neighboring bandwidth, sometimes block the secondary transfer of spectrum to a different use
than the originally approved use.72
Finally, landing slots at congested airports are licensed by the Federal Aviation Administration (FAA). For
purposes of this report, landing slots are most relevant for the failed attempt by FAA to auction off some
landing slots at New York City-area airports. Private, secondary trades of landing slots between airline
operators are also permitted, subject to FAA approval.

3.

Notable Local and Foreign Applications

The most important foreign marketable permit programs fall under the United Nations Framework
Convention on Climate Change. To implement its collective responsibility to reduce greenhouse gas
emissions, the European Union established an Emissions Trading System (EU-ETS). The Framework
Convention’s Kyoto Protocol also allowed countries with emissions reduction obligations to earn credits
by funding mitigation in countries that do not yet have emissions reduction obligations, through a
program called the Clean Development Mechanism (CDM). 73 Both EU-ETS and CDM have experienced
some issues with market management and fraud, and U.S. markets may learn important lessons by
studying those examples. Foreign countries also have a host of marketable trading programs in similar
applications as seen in the United States, like air and water quality or fisheries,74 as well as some
additional contexts, like the U.K.’s waste management market for municipal waste.75 Foreign programs
will be referenced in subsequent sections of this report when relevant.
At the U.S. state and local level, some of the best known examples of marketable permits are
transferable development rights, liquor licenses, and taxi medallions, as well as water quantity trading.76
These applications first are notable reminders that marketable permit structures can be used to address
67 FCC, About Auctions, http://wireless.fcc.gov/auctions/default.htm?job=about_auctions.
68 FCC, Secondary Ma rket Initiative, http://wireless.fcc.gov/licensing/index.htm?job=secondary_markets.
69 47 C.F.R. § 20.22.
70 Pa bl o Spiller & Ca rl o Ca rdilli, Toward a Property Rights Approach to Communications Spectrum, 16 Ya l e J. of Reg. 53 (1999).
71 Jes sica El der, Voluntary Incentive Auctions: The Benefits of a Market-Based Spectrum Policy, 20 Comm. L. Cons pectus 163

(2011).
72 FCC, Connecting America: The National Broadband Plan 82 (2010) (“In many spectrum bands, the government i ssues
excl usive flexible use licenses that allow licensees to choose what s ervices to offer a nd to transfer, l ease, or s ubdivide their
s pectrum ri ghts. Ma ny spectrum licensees, however, have i nflexible licenses that l imit the spectrum to specific uses.”).
73 There is also Joint Implementation, which allows tra ding between Annex I countries.
74 In fa ct, Iceland, Ca nada, a nd other countries pioneered tra dable fish catch shares l ong before they became popular i n the
Uni ted States.
75 Breger, Stewart, Elliott, & Ha wkins, Providing Economic Incentive in Environmental Regulation, supra note 13.
76 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 38, 48-50 (1981).

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policy goals beyond the environmental and energy contexts. Additionally, these local applications
contain some unique structures that federal regulators can learn from. Take, for example, transferable
development rights. Under this land management tool, “a property owner retains ownership of his land
but sells his rights to further develop it to another landowner who can use the permit to exceed the
density permitted on his land under the applicable zoning. . . . Development rights can be bought, stored
or banked, and sold until they are actually used to develop a piece of property.” 77 Puerto Rico has
interestingly implemented transferrable development rights through a public, rather than private,
market: “[T]he Puerto Rico Plan does not allow direct transfers of development rights among private
property owners. Rather, the Puerto Rico Planning Board acts as buyer and seller in all development
rights transfers.”78 With the government acting as middleman, undesirable transfers can be prevented,
but perhaps at the expense of economic and administrative efficiency. Federal regulators should study
local applications of marketable permits, and this report will draw from local case studies when useful.

4.

Roads Not (Yet) Taken

Though some legal scholars have wondered whether all the good opportunities for regulatory permit
markets have already been implemented,79 a variety of other ideas for marketable permit programs
have been proposed over the years.
First, some notable failures and false-starts:






In the early 1990s, the Federal Aviation Administration (FAA) considered transferrable permits
for phasing out noisy aircraft and replacing them with quieter fleets.80 FAA indicated it would
adopt a market-based approach unless public commenters opposed it—and commenters
strongly opposed it. First, airport neighbors worried about a problem known as “additionality,”
which is whether the market inadvertently rewards behavior that would have happened
anyway. These concerned neighbors noted that some aircraft operators were already on track
to switch to quieter aircraft even without regulations, yet now FAA was proposing to reward
them with credits that could be sold to other operators who will then phase-out their own noisy
aircraft more slowly than otherwise. Even industry could not get together behind a marketable
permit proposal: neither large and small carriers, nor owners and operators could agree on a
design for the market. In the face of such lack of consensus support, FAA jettisoned the idea.
In 2008, FAA issued rules on slot auctions for three heavily congested New York-area airports:
LaGuardia, JFK, and Newark. 81 Up until that point, landing slots were allocated free of charge
through a licensing procedure. Senator Schumer led the attack against this so-called “sky tax,”
alleging the auction will hurt customers’ pocketbooks. Following a temporary congressional
moratorium on the plan, the Obama administration rescinded the rule in 2009.82 Landing slots
continue to have some limited transferability between airlines.
In 1990, the Army Corps of Engineers rejected the idea of marketable permits for managing
shoreline degradation connected to civil works projects. The estimated administrative costs of
such a program were cited as justification. 83

77 Id. a t 37.
78 Id. a t 38.
79 Ja mes Salzman & J.B. Ruhl, supra note 6. (wondering whether a ll the “l ow-hanging fruit” were picked early (e.g., acid ra in,

l ead in gas), and there might be few a reas l eft ri pe for markets).
80 See 56 Fed. Reg. 48,628 (1991).
81 73 Fed. Reg. 60,544 & 60574.
82 74 Fed. Reg. 52,132 & 52,134. Ama zi ngly, the proposal to rescind only received five sets of public comments, a ll a gainst.
83 55 Fed. Reg. 30,690 (1990).

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



The original version of the Clean Air Act Amendments of 1990, as proposed by the George H.W.
Bush administration, included a national trading system between fuel refiners and automobile
manufacturers. The provision was deleted in congressional committee mark-ups, following
opposition from environmental groups. Environmentalists were concerned about swapping the
diffuse pollution of countless individual motor vehicles for the concentrated, local effects of
pollution from a small number of refineries.84 This issue of localized effects and “hot spots”
comes up repeatedly in debates over marketable permit programs.
Finally, in 2005, the George W. Bush administration’s EPA issued the Clean Air Mercury Rule ,
which set limits on mercury emissions from power plants to be implemented by the states. The
Rule encouraged inter-plant and interstate trading of emissions allowances. The Rule was
vacated by the U.S. Court of Appeals for the District of Columbia in 2008, but on grounds
completely unrelated to trading. Essentially, the court found that mercury emissions needed to
be controlled under a different provision of the Clean Air Act than the one EPA first picked:
Section 112, instead of Section 111(d). Under the Obama administration, EPA determined that
Section 112 generally, and mercury emissions in particular, were not good candidates for
marketable permits, and opted for a prescriptive standard instead.

Other examples of ideas for marketable permits that were briefly considered by federal agencies include
an EPA task force’s recommendations for tradable recycled newsprint quantity requirements 85 and
battery recycling trading, as well as recommendations from the Department of Justice that EPA use
auctions for an asbestos phase-down.86 EPA currently does not support water quality trading for bioaccumulative toxics, though has expressed openness to a future pilot project. 87
Academics have been even more creative, proposing marketable permits for: satellite congestion in
space,88 pesticides-related risk,89 wastewater from hydraulic fracturing,90 environmental quality relating
to dams,91 introduction of non-indigenous species,92 and various health risks including to control
antimicrobial resistance. 93 An idea has even been floated that the right to initiate a citizen suit against
polluters for violations of regulatory standards should be auctioned off .94

D.

Legal Status

84 Breger, Stewart, Elliott, & Ha wkins, Providing Economic Incentive in Environmental Regulation, supra note 13.
85 Id.
86 OECD, Emi s sion Permits a nd Competition (2010).
87 EPA, Wa ter Qua lity Tra ding Toolkit (2009).
88 See pers onal.colby.edu/personal/t/thtieten/tradable_permits_other.htm (Prof. Ti etenberg’s personal catalog of other

a pplications of marketable permits).
89 Breger, Stewart, Elliott, & Ha wkins, Providing Economic Incentive in Environmental Regulation, supra note 13 (Stewart’s
proposal, noting that the idea would first require better techniques for measuring the risk).
90 Xochi tl Torres Small, Water Use and Recycling in Hydraulic Fracturing, 55 Na t. Res. J. 2 (2015).
91 Da ve Owen & Col in Apse, Trading Dams, 48 U.C. Da vi s L. Rev. 1043 (2015).
92 See Eri c Bi ber, Exploring Regulatoyr Options for Controlling the Introduction of Non-Indigenous Species to the United States,
18 Va . Envtl . L. J. 375 (1999) (but Bi ber also details the potential problems with s uch a scheme).
93 See Ti etenberg’s personal ca talog, supra note 88.
94 Mi cha el Abramowicz, The Law-and-Markets Movement, 49 Am. Uni v. L. Rev. 327 (1999).

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1.

Is Explicit Statutory Authorization Required for Markets or Auctions?
a)
Marketable Permit Programs Exist Under Both Explicit and Implicit
Authorities

Many, but certainly not all, existing marketable permit programs have explicit statutory authority: the
acid rain program;95 various state and federal implementation plans under the Clean Air Act, including
the Cross-State Air Pollution Rule 96 and the Clean Power Plan; 97 electromagnetic spectrum auctions;98
renewable fuel standard credits; 99 and the Department of Transportation’s tradable fuel efficiency
requirements for vehicles 100 (though not EPA’s related greenhouse gas and emissions standards for
vehicles).
Several programs currently have explicit statutory authority but once existed without it:






In 1988, two years before the Clean Air Act Amendments of 1990 added explicit authorization
for trading allowances for ozone-depleting substances,101 EPA interpreted a broad statutory
mandate to “control” such emissions as authorizing a tradable allowance system.102 That same
year, the Department of Justice concluded that EPA not only had the authority to use
marketable permits, but that the agency could auction off the initial allocation as well. 103 EPA
ultimately did not pursue the auction option.
Amendments to the Magnuson-Stevens Fishery Conservation and Management Act added the
term “individual fishing quota” for the first time in 1996, six years after the first system of
tradable catch shares was created for surfclams and quahogs. 104 Those amendments also
imposed a temporary congressional moratorium on new catch share programs, which was not
lifted until 2002.105
Nothing in Section 404 of the Clean Water Act explicitly gives the Army Corps of Engineers the
authority to allow wetland mitigation banking and in-lieu fees; indeed, only the interplay
between Sections 403 and 404 even gives the Corps the general authority to require minimizing
impacts to wetlands. 106 Neither does anything in the Rivers and Harbors Act of 1899 give the
Corps explicit authority to allow mitigation banking for impacts to streams and other aquatic
resources. Yet since the 1990s, the Corps has allowed mitigation banking, and beginning in 2008,
the Corps has expressed a strong preference for banking over other approaches to mitigation for

95 Cl ea n Air Act Ti tle IV.
96 Cl ea n Air Act § 110; Pol i cy Integrity Ami cus Brief i n CSAPR Ca se 14 (2013) (“Congress Explicitly Authorized EPA a nd the State s

to Us e Ma rket Mechanisms to Address Interstate Air Pollution in Order to Achieve Environmental Goals Cost-Effectively”).
97 The a uthority i s more indirect, through Clean Ai r Act § 111’s reference to § 110. See also the non-attainment new s ource
revi ew program, 42 U.S.C. § 7502, a nd the federal ozone s tandards, 42 U.S.C. § 7511b.
98 47 U.S.C. § 309(j); FCC, About Aucti ons, supra note 67 (competitive bidding first allowed by Congress in 1993; a uction
a uthority expanded in 1997).
99 Energy Pol icy Act of 2005 § 1501.
100 See Energy Pol icy a nd Conservation Act, a s a mended by Energy Independence a nd Security Act.
101 Cl ea n Air Act ti tl e VI, § 607, a s added by Pub. L. 101–549, ti tl e VI, § 602(a), Nov. 15, 1990, 104 Sta t. 2660.
102 Protecti on of Stratospheric Ozone, 53 Fed. Reg. 30566 (Aug. 12, 1988) (codi fied a t 40 C.F.R. pt. 82).
103 FTC, Comments of the Staff of the Bureau of Economics on Protection of Stratospheric Ozone (1988) (citing DOJ Comments
on Proposed Rule on Protection of Stratospheric Ozone, A-87-20, Feb. 8, 1988).
104 Na t’l Res. Council, Sharing the Fish: Toward a National Policy on Individual Fishing Quotas (1999). The Ma gnuson-Stevens Act
a l so authorized auctions or other collection of roya lties, on top of cost recovery. 16 U.S.C. § 1853a (d)-(e).
105 Ma rk Fi na, Evolution of Catch Share Management, 36 Fi s heries 164 (2011).
106 Na t’l Res. Council, Compensating for Wetland Losses under the Clean Water Act 64 (2001) (s upplemented by § 307 of the
Wa ter Resources Development Act, which i nstructs the Corps to pursue “no overall net loss”).

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wetlands, streams, and aquatic resources.107 In the National Defense Authorization Act of 2004,
Congress implicitly acknowledged the Corps’ authority for wetland mitigation banks by requiring
the Corps to issue regulations “establishing performance standards and criteria for the use,
consistent with section 404 of the [Clean Water Act], of on-site, off-site, and in-lieu fee
mitigation and mitigation banking as compensation for lost wetlands functions in permits.”108
Notably, that 2004 legislation did not mention streams or other aquatic resources, even though
the Corps continues to allow mitigation banks for such impacts as well .
Finally, a number of marketable permit programs have never had explicit statutory authority:









EPA’s inter-refinery trading system to help phase out lead from gasoline never had explicit
statutory authority.109 Section 211 of the Clean Air Act broadly authorizes EPA to “control or
prohibit” the manufacture of fuels and fuel additives.110
EPA’s various “averaging, banking, and trading” programs for vehicle emissions, including for
mobile source greenhouse gas emissions, has no explicit authorization in statute.111 Section 202
of the Clean Air Act broadly authorizes EPA to develop “standards” for motor vehicle
emissions.112 (Note that the Department of Transportation’s related credit trading program for
fuel efficiency is specifically authorized by two energy policy statutes. 113)
Section 169A of the Clean Air Act requires individual “sources” to install the “best available
retrofit technology” to control regional haze. EPA’s regulations allowed states to use marketable
permits to comply with these standards if the program would achieve “greater reasonable
progress” toward reducing regional haze than a prescriptive, source -specific standard would. 114
The U.S. Court of Appeals for the Tenth Circuit upheld the trading program in 2012.115
Water quality trading under the Clean Water Act is not explicitly authorized, though EPA
believes that the statute nonetheless provides “clear legal authority” to trade. 116 The U.S. Court
of Appeals for the Ninth Circuit once strongly implied, in dicta, that the lack of either statutory
or regulatory authority for water quality trading meant it was not permitted.117 Nevertheless,
water quality trading has continued. Some scholars suggest that, for cooperative federalism
structures like the Clean Air Act and the Clean Water Act, explicit statutory authority is not
required because states retain their plenary powers to implement the federal standards
however they see fit. 118
There is no explicit authorization in the Endangered Species Act to allow conservation banking
to achieve mitigation. Indeed, the Fish and Wildlife Service even admits that its authority to

107 Corps -EPA Final Rule, Compensatory Mi tigation for Losses of Aquatic Resources, 73 Fed. Reg. 19,593 (2008).
108 Na ti onal Defense Authorization Act of 2004 § 314; Pub. L. 108–136, di v. A, ti tl e III, §314(b), Nov. 24, 2003, 117 Sta t. 1431.

(a nd those regulations should “maximize available credits and opportunities for mi tigation.”)
109 47 Fed. Reg. 49,322.
110 42 U.S.C. § 7545(c).
111 See 75 Fed. Reg. 25,412 (s aying, without mentioning any statutory a uthority, that Averaging, Banking, and Tra ding (ABT) of
emi ssions credits has been a n i mportant part of many mobile source programs under CAA Ti tl e II, both for fuels programs a s
wel l as for engine and vehicle programs).
112 42 U.S.C. § 7521.
113 EISA a nd EPCA, supra.
114 40 C.F.R. § 51.309(d)(4)(i); WildEarth Guardians v. EPA, 770 F.3d 919, 925 (10th Ci r. 2014).
115 Wi l dEarth Guardians v. EPA, 770 F. 3d 919 (10th Ci r. 2014).
116 EPA, Wa ter Qua lity Tra ding Policy, 68 Fed. Reg. 1609 (Ja n. 13, 2003) (s ta tute and regulations together provide “clear l egal
a uthority”).
117 Fri ends of Pi nto Creek v. EPA, 504 F.3d 1007, 1012 (9 th Ci r. 2007).
118 Wi l liam Buzbee, Federalism-Facilitated Regulatory Innovation and Regression, 28 Georgetown Envtl. L. Rev. (2016).

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require permits achieve no net loss of critical habitat is “limited.”119 Nevertheless, conservation
banking continues to flourish.
No federal permit auction has gone into effect without explicit authority, and some scholars have
questioned whether auctioning is legal without specific statutory language.120 However, in 1988 the
Department of Justice concluded that EPA could auction off permits for ozone -depleting substances,
despite the lack of specific statutory language. 121 In 2008, the Federal Aviation Administration
interpreted its broad statutory powers to manage property as authorizing an auction of airport landing
slots. The Obama administration rescinded the rule before the auction could go into effect (it had been
stayed by the D.C. Circuit pending full judicial review), but there are some legitimate questions about
relying on property management powers to authorize a marketable permit program.
b)

Powers to Manage Property and Charge User Fees May Be Insufficient

While the Federal Aviation Administration’s landing slot auction rule was under judicial review, and
before the rule was rescinded in 2009, Congress asked the Government Accountability Office (GAO) to
investigate the legal basis for the auction. In 2008, GAO concluded that FAA lacked legal authority. 122
FAA had based its auction principally on the argument that a landing slot is “property” that the agency
“constructs” and may “lease” for “adequate compensation.”123 Other agencies may have similar
authorities to manage property in their organic statutes. 124 GAO determined, based on statutory
context, that Congress had only intended to give FAA authority to manage “traditional property,” such
as real property. According to GAO, FAA’s argument had proven too much, as it would mean the agency
had been giving away millions of dollars in federal property for free for decades.125 Moreover, because
Congress gave FAA specific regulatory authority to control airspace and landings under a particular
provision, GAO determined the agency could not reach into a completely unrelated provision to claim
the same regulatory authority.126
GAO also considered whether the auction could be approved as a user fee under the Independent
Offices Appropriation Act. That statutory provision declares “It is the sense of Congress that each service
or thing of value provided by an agency . . . is to be self-sustaining to the extent possible,” and to that
end, “each agency” may “charge” a “fair” amount “based on—the costs to the government, the value of
the service or thing to the recipient, public policy or interest served, and other relevant facts.” 127 A
previous version of the statute had clarified that “thing of value” included “any . . . privilege, authority,
use, franchise, license, permit, certificate, registration or similar thing of value or utility performed,
furnished, provided, granted, prepared, or issued.” 128 Based on the plain language, a permit auction

119 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016).
120 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory

Alternative 25 (1981)
121 FTC, Comments of the Staff of the Bureau of Economics on Protection of Stratospheric Ozone (1988) (citing DOJ Comments
on Proposed Rule on Protection of Stratospheric Ozone, A-87-20, Feb. 8, 1988).
122 GAO, B-316796, Federal Aviation Administration—Authority to Auction Airport Arrival and Departure Slots and to Retain and
Use Auction Proceeds (2008).
123 73 Fed. Reg. 60,543.
124 E.g., 20 U.S.C. § 3477 (Dept. of Education); 49 U.S.C. § 114 (TSA).
125 See also Cl eveland v. U.S., 531 U.S. 12 (2000). Accordi ng to that case, pre-issuance, licenses have no va lue to the s tate;
l i censes a re “purely regulatory,” even i f they a cquire some aspects of property once owned, the s tate’s i nterest “surely
i mplicate the government’s role as s overeign, not as property holder.” Id. a t 23-24.
126 GAO, supra note 122.
127 31 U.S.C. § 9701.
128 31 U.S.C. § 483a . The change was to “eliminate unnecessary words,” not to change the meaning.

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would seem to fit within the authority to charge a “fair” amount based on “public policy” for any permit,
license, or privilege.
First and foremost, GAO noted this possible statutory authority was closed to FA A because Congress
annually passed appropriations riders blocking any new aviation user fees. 129 However, GAO further
argued that even absent the riders, the Independent Offices Appropriation Act only authorized specific
kinds of user fees: when an agency provides a service in a non-governmental capacity, it may charge
market price; but when an agency acts in a regulatory capacity, the user fee can only charge government
costs.130 This interpretation of the statute is based on a pair of Supreme Court cases and their progeny.
In National Cable Association of Broadcasters v. FCC 131 and in FPC v. New England Power,132 the Supreme
Court struck down agencies’ use of the Independent Offices Appropriation Act to collect “fees” from
regulated parties that recovered “costs for benefits inuring to the public.” The Court said that reading
the Act’s reference to “public policy” literally would put the agency “in search of revenue,” and that
charging a fee to discourage activity is “in the nature of ‘taxes’” that only Congress can levy.133
Ultimately, the Court declined to rule on the “ultimate reach” of the “public policy” criterion, concluding
that the only relevant factor in these cases was whether the amount charged by the agencies was
consistent with the “value to the recipient” of the benefit provided. 134 The upshot of these cases,
according to GAO, is that courts are “not sympathetic” to fees based on the “public policy” criterion, and
a “number of lower courts,” including the U.S. Court of Appeals for the D.C. Circuit, have found that the
Act allows agencies to charge user fees only to recover government costs. 135 Because any revenueraising auction would almost certainty charge more than just the administrative costs of running the
auction, this interpretation of the Independent Offices Appropriation Act would not support creation of
a revenue-raising auction.
However, a regulatory permit auction could be distinguished from the facts of the two Supreme Court
cases. In FPC v. New England Power, the court found that the Independent Offices Appropriation Act
could not be applied to “whole industries” including companies that had “no proceedings before the
Commission during the year in question.”136 In other words, the agency was still charging every
regulated entity an annual fee even though many did not receive any permits or licenses in most years.
An auction of marketable permits would be distinguishable because each auction participant would
receive permits for that specific year, and only be charged accordingly. In National Cable, the Court also
distinguished an authorized fee for a permit from an impermissible tax: “A fee, however, is incident to a
voluntary act, e.g., a request that a public agency permit an applicant to practice law or medicine or
construct a house or run a broadcast station. The public agency performing those services normally may
exact a fee for a grant which, presumably, bestows a benefit on the applicant, not shared by other
members of society.”137 Charging an auction price for marketable permits seems analogous to this
permissible scenario presented by the Court. A dissent by Justice Marshall in these cases also criticized

129 GAO, supra note 122.
130 DOJ a greed that i f a n a uction charges market price, a nd not government costs, it ca nnot be “user fee” under IOAA, though

DOJ di d not ultimately i ssue an opinion on whether FAA’s auction was legally a uthorized or not.
131 415 U.S. 336 (1974).
132 415 U.S. 345 (1974).
133 National Cable, supra note 131.
134 Id.
135 Sta tement of Richard Hembra, GAO, before Subcomm. Hearing on EPA Ozone, 1989 (s ee babel/hathitrust).
136 415 U.S. 345.
137 Id. a t 340-341.

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the Court for giving “undue emphasis” to the “cost to the government” factor alone without allowing
the agency to weigh the other factors, such as “public policy.”138
It is possible that, presented with an auction for regulatory permits, a future court could uphold
authority under the Independent Offices Appropriations Act. However, agencies will likely have more
success just relying on any broad grants of regulatory authority.
c)

Authority Can Be Implicit in Broad Statutory Language

The most relevant case on finding implicit authority for market-based regulatory tools in broad statutory
language is FEA v. Algonquin SNG.139 The Trade Expansion Act allowed the President to “take such action
. . . as he deems necessary to adjust the imports . . . [to protect] national security.” In 1975, finding that
a system of quotas no longer adequately controlled petroleum imports, President Ford switched to a
system of license fees. A legal challenge alleged that the President only had statutory authority to adjust
imports through quantitative tools like quotas, not monetary tools like fees. The Supreme Court
concluded there was no reason to read the word “adjust” as limited to quotas and excluding fees. 140 The
Court relied on the broad statutory language and evidence in legislative history that Congress did not
intend to tie the President’s hands. 141 The Court concluded with a note of warning, that its ruling would
not allow the President to take any action no matter how remote the impact on imports. 142 A few years
later, the U.S. District Court for the District of Columbia acted on this warning and ruled that a fee was
not authorized when its purpose was not directly to control imports, but rather to raise oil prices and
reduce consumption generally, with only an indirect effect on imports. 143 Together, these cases stand
for the proposition that when statutory language and legislative history support a broad reading of
regulatory authority, a variety of quantitative and market-based tools are implicitly authorized, so long
as the tool directly targets a legitimate regulatory purpose.144
As one example, in 1989 Congress held hearings on whether EPA had authority to auction off emissions
allowances for ozone-depleting substances under Section 157(b) of the Clean Air Act, which authorized
the “control” of emissions.145 When that section was added in 1977, Congress clearly expressed that it
“does not wish to tie the Administrator’s hands or confer an authority which is cumbersome or unduly
difficult to use, administer, or enforce.”146 Congress further explained that “control” included any “other
measures as may be necessary to assure protection for health and environment.”147 EPA interpreted
“control” in 1988 to allow tradable permits for ozone-depleting substances,148 and the agency began
exploring whether an auction would also be permitted.149 A memorandum submitted by the
Department of Justice for the 1989 congressional hearing found that the scope of authority under the
section was “sweeping” and further argued that Congress knew about economic incentives and

138 Nat’l Cable Television Ass’n, Inc. v. United States, 415 U.S. 352, 359–60, (1974).
139 426 U.S. 548 (1976).
140 Id. a t 561.
141 Sta tement of Richard Hembra, GAO, before Subcomm. Hearing on EPA Ozone, 1989 (s ee babel/hathitrust).
142 Nat’l Cable a t 571.
143 492 F. Supp. 614 (D.D.C. 1980).
144 Sta tement of Richard Hembra, GAO, before Subcomm. Hearing on EPA Ozone, 1989 (s ee babel/hathitrust) (“Regulatory

fees” may be upheld by courts either i f “expressly provided” in s tatute or i f “deemed necessary to a ccomplish a legitimate
regul atory purpose under a broad gra nt of statutory a uthority.”).
145 Secti on 157(b) was later replaced by Section 615.
146 H.R. Rep. No. 101‐294 (1977).
147 Id.
148 Protecti on of Stratospheric Ozone, 53 Fed. Reg. 30,566 (Aug. 12, 1988) (codi fied a t 40 C.F.R. pt. 82).
149 Adva nce Notice of Proposed Rulemaking, 53 Fed. Reg. 30,604 (Aug. 12, 1988).

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specifically did not prohibit them. 150 At the hearing, Senator Lieberman opined that the conclusions of
that memorandum seemed sound but that Congress should make sure EPA’s authority was even clearer
in future legislation.151
Finally, states may also have implicit, relevant powers. Some statutes, notably the Clean Air Act and the
Clean Water Act, rely on a structure of cooperative federalism, in which states are tasked with
implementing federal standards. Because these statutes include provisions on the retention of state
authority,152 arguably states retain their plenary police powers in the absence of specific preemption.
Therefore state may be able to implement their obligations under federal programs however they see fit
consistent with the statute and, unless specifically prohibited, implicitly may use marketable permits. 153
It so happens that the Clean Air Act explicitly gives states authority to use marketable permits to
implement many obligations;154 the Clean Water Act does not.
One concern is that, because Congress has explicitly authorized marketable permits in one provision or
one statute, by negative inference marketable permits may not be allowed when Congress has not
specifically authorized them. Based on case law and the legislative histories of relevant statutes, this
concern should be limited.
Generally, a court will not apply the canon of negative inference unless it is “confident” that Congress
likely considered and intended to preclude the unmentioned options in that specific context. 155 In 1989,
the Department of Justice argued that, since marketable permits had become such an obvious
regulatory strategy for the Clean Air Act, if Congress “did not prohibit them” and “instead used general
language permitting a wide scope of regulatory measures,” no negative inference against market-based
regulations should apply. 156 Several legal experts have similarly concluded that lack of a prohibition on
marketable permits is usually sufficient to authorize marketable permits. 157
At the same time, Congress was definitely aware that referencing certain market-based regulatory tools
in one provision could accidently imply a limitation of such tools in another provision, and at least once

150 Memora ndum from Douglas Kmi ec, Asst. Attorney General, Office of Legal Counsel, to Alan Raul, General Counsel, White

Hous e Office of Ma nagement and Budget (Ma y 15, 1989) (“It i s thus cl ear that Congress was cognizant of economic forms of
regul ation, did not prohibit them, but i nstead used general language permitting a wide scope of regulatory measures for the
control of CFCs.”).
151 Proposals to Control the Manufacture, Use, and Disposals of Ozone-Depleting Substances: Hearing Before the Subcomm. On
Envtl. Pollution of the S. Comm. On Env’t and Pub. Works, 101s t Cong. (Ma y 19, 1989).
152 42 U.S.C. § 7416; 33 U.S.C. § 1370.
153 Wi l liam Buzbee, Federalism-Facilitated Regulatory Innovation and Regression, 28 Georgetown Envtl. L. Rev. (2016).
154 42 U.S.C. § 7410.
155 For exa mple, in Shook v. District of Columbia Fin. Responsibility and Management Assistance Auth., 132 F.3d 775, 782 (D.C.
Ci r. 1998), the D.C. Ci rcui t stated: “We have recognized, however, that [] ma xim [of expressio unius est exclusio alterius (the
menti on of one thing i mplies the exclusion of a nother)] i s often misused. Sometimes Congress drafts s tatutory provisions that
a ppear preclusive of other unmentioned possibilities—just as i t sometimes drafts provisions that appear duplicative of others—
s i mply, i n Ma cbeth's words, ‘to make a ssurance double sure.’ That is, Congress means to cl arify what might be doubtful—that
the mentioned item is covered—without meaning to exclude the unmentioned ones. The maxim's force i n particular situations
depends entirely on context, whether or not the draftsmen's mention of one thing, like a grant of a uthority, does really
necessarily, or a t l east reasonably, i mply the preclusion of alternatives. That will turn on whether, l ooking at the s tructure of
the s tatute and perhaps i ts l egislative history, one ca n be confident that a normal draftsman when he expressed “the one
thi ng” would have likely considered the alternatives that are a rguably precluded. For th at reason, we think the maxim s hould
be us ed as a starting point i n s tatutory construction—not a s a cl ose-out bid.”
156 Memora ndum from Douglas Kmi ec, supra note 150.
157 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 24 (1981); Da ve Owen & Col in Apse, Trading Dams, supra note 91.

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Congress modified a proposed amendments to the Clean Air Act to avoid that result. 158 Despite such
over-abundance of caution occasionally exhibited by Congress, courts are unlikely to bar a marketable
permit program on the grounds of a negative inference.
The Government Accountability Office (GAO) has warned that a court may be tempted to find that an
auction exceeds explicit statutory authority in order to avoid thorny constitutional questions about
whether auctions are taxes.159 However, so long as auctions are directly targeted to advance legitimate
regulatory purposes, they should avoid being labelled as unconstitutional taxes.
d)

Auctions Are Not Unconstitutional Taxes

Courts have sometimes struggled to differentiate illegal regulatory taxes from permissible regulatory
fees.160 Under the U.S. Constitution, only Congress has the power to levy taxes, 161 which are generally
defined to include payments imposed on many citizens to raise money for a public purpose. The
Supreme Court cautioned in National Cable against so-called “fees” that are not voluntary, that are
designed to discourage activity, or that put agencies “in search of revenue,” for such traits are “in the
nature of ‘taxes’” that only Congress can levy. 162 It could be argue that auctions for marketable permits
are taxes because they are mandatory, not voluntary; they discourage activity; and they raise revenue.
However, properly framed, auctions for marketable permits are distinguishable on all these grounds.
First, they are not “involuntarily” assessed on a “whole” industry in the way the Court was concerned
about. The Court in National Cable and its sister case FEA v. Algonquin was most troubled by an annual,
universal fee charged to each regulated entity regardless of whether it had applied for a permit or
license in that particular year. 163 With an auction, only regulated entities seeking permits need to
participate in the auction; those that mitigate their own emissions or purchase offsetting credits from
third parties need not participate. Also, the language in National Cable was dicta, and other courts have
come to different conclusions, arguing instead that “regulatory fees” may be “imposed by an agency
upon those subject to its regulation.”164
Second, it is the cap, not the method of permit allocation, that discourages activity. The choice between
an auction or a free allocation of marketable permits itself should have little or no effect on levels of

158 See 136 Cong. Rec. H12845 (da ily ed. Oct. 26, 1990) (s ta tement of Rep. Anderson, chair of the H. Comm. On Transportation

a nd Infrastructure, regarding the Conference Report) (“The conferees a lso adopted the Senate version of Section 108(f), with
s ome modifications. Among the modifications, the reference to road charges, tolls, parking s urcharges, and other pricing
mecha nisms was deleted from (1)(A)(vii). These economic strategies were deleted from this clause of Section 108(f) in order to
avoid the implication that such strategies were available only i n downtown areas, or other areas of emission concentration, or
duri ng periods of peak use. Section 172 (c) of the bill establishes the general requirements for implementation plans i n nona tta inment a reas. The general plan provisions include the use of economic incentives, such as fees, marketable permits, and
a ucti ons of emission rights . . . . The l imited context for the use of such strategies s uggested by Section 108(f)(1)(A)(vii) was
potentially i nconsistent with the general provision of the bill and was therefore removed.”) (emphasis added).
159 Sta tement of Richard Hembra, GAO, before Subcomm. Hearing on EPA Ozone, 1989 (s ee babel/hathitrust).
160 See, e.g., Nat’l Cable Television Ass’n v. United States, 415 U.S. 336, 340 (1974). The Supreme Court’s recent ruling that the
Afforda ble Ca re Act’s penalty for not purchasing insurance fell under Congress’s ta xation power does not offer definitions
rel evant to the i ssue of marketable permits. Instead, the Court distinguished between a “tax” a nd a “penalty”: a penalty may
exa ct a heavy burden regardless of how small the infraction, while it ma y be reasonable to pay a s mall tax ra ther than purchase
i ns urance; a penalty typi cally requires s cienter, while a tax does not; a ta x is collected by the IRS, while a penalty may be
exa cted by a regulatory a gency. Nat’l Fed. Of Indep. Businesses v. Sebelius, 132 S.Ct. 2566, 2596 (2012).
161 U.S. CONST. a rt. I, § 8.
162 Nat’l Cable Television Ass’n v. United States, 415 U.S. 336 (1974).
163 FEA v. Al gonquin, 426 U.S. 548 (1976).
164 San Juan Cellular Telephone Co. v. Public Serv. Comm’n of Puerto Rico, 967 F.2d 683 (1st Ci r. 1992).

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activity.165 Economic theory predicts that, whether auctioned or freely allocated, marketable permits
will affect regulated entities’ decisions the same way. Specifically, regulated entities will account for the
opportunity cost of the marketable permit whether they paid for it or received it for free. The following
analogy paints a clear picture: “A ticket scalper is going to charge the same amount—the going blackmarket price—whether he’s selling a ticket that he found on the ground or a ticket that he bought. He’s
just going to turn more of a profit if he found it on the ground.” 166 The reasons for choosing an auction
over a free allocation relate to distributional concerns and market management, not a desire to modify
behavior. Compared to free allocations, auctions lower barriers to new entry, avoid the risk of market
power and strategic behavior, 167 facilitate price discovery, and prevent unjust windfalls that may create
perverse incentives. All these features of auctions are discussed below. Finally, while an auction may
raise revenue, that is not its primary intent. Rather, its primary intent is to achieve a regulatory goal
most efficiently. Thus, whether explicitly or implicitly authorized by Congress, a permit auction poses no
constitutional problems. 168
Notably, Congress has distinguished between permit auctions and emissions fees. In the 1990 Clean Air
Act Amendments, Congress made clear that state implementation plans could use “economic incentives
such as fees, marketable permits, and auctions of emission rights.” 169 However, for federal
implementation plans, Congress deliberately left out “fees,” authorizing only “economic incentives such
as marketable permits or auctions of emissions allowances.” 170 While Congress expressed concern about
empowering EPA to charge “fees” that were actually undesirable and involuntary “taxes,” 171 it left EPA
the power to auction allowances, suggesting any concerns about taxation do not apply to permit
auctions.172
Ultimately, as GAO has advised, the fundamental question for whether an auction or regulatory fee is
considered a “tax” is whether the primary purpose is to bring about legitimate regulatory objectives or
to raise revenue. 173
Recommendation: Agencies choosing permit auctions should emphasize any grounds not related to
revenue, such as market performance, efficiency, and distributional considerations, in order to avoid
potential categorization of the permit auction as an impermissible tax.
165 Note tha t some courts have contrasted fees with ta xes saying a fee “serve[s] regulatory purposes directly by . . . del iberate ly

di s couraging particular conduct by making i t more expensive.” See San Juan Cellular Telephone Co. v. Public Serv. Comm’n of
Puerto Rico, 967 F.2d 683, 685 (1s t Ci r. 1992) (ci ti ng South Carolina ex rel. Tindal v. Block, 717 F.2d 874, 887 (4th Ci r. 1983), cert.
denied, 465 U.S. 1080, (1984)).
166 Rob Inglis, The Power Industry’s Prisoner’s Dilemma, The New Republic: The Vi ne, Ma r. 23, 2009, a va ilable
a t http://blogs.tnr.com/tnr/blogs/envi ronmentandenergy/archive/2009/03/23/the‐power‐industry‐ prisoner‐s‐dilemma.aspx.
167 Such a s i nflating your baseline before the allocation to receive a greater share.
168 See Memora ndum from Douglas Kmiec, Asst. Attorney General, Office of Legal Counsel, to Alan Raul, General Counsel,
Whi te House Office of Management a nd Budget (May 15, 1989) (di scussing constitutionality of implicit a uthority for a n auction,
i ncl uding the non-delegation doctrine).
169 42 U.S.C. § 7410.
170 42 U.S.C. § 7602(y).
171 See H.R. Rep. No. 101-490, pt. 2 (H. Comm. on Wa ys and Means) (1990) (objecting to the i nclusion of emissions fees i n FIPs
a nd va rious other provisions, because: “The [emissions] fees described are i n the nature of ta xes because they a re not designed
s ol ely to compensate the Federal Government . . . a nd the fees are designed to modify the behavior. . . . In a ddition, these fees
a re i n the nature of taxes because the fees are a ssessed with respect to behavi or that is not vol untary i n nature. Businesses
wi s hing to continue to operate must pay these fees.”). Note, however, that the specific a ttempt i n the House of
Representatives to strip the word “fee” failed by a vote of 170-253. 136 Cong. Rec. H2511 (daily ed. Ma y 21, 1990) (Rol l Call No.
131). The l a nguage was removed subsequently by the Senate, a t the behest of the White House.
172 Pos sibly Congress only i ntended a zero-revenue a uction; but the broad language “such as” seems to provide flexibility.
173 Sta tement of Richard Hembra, GAO, before Subcomm. Hearing on EPA Ozone, 1989 (s ee babel/hathitrust).

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e)

Benefits of Explicit Authorization

Even though both marketable permits generally and auctions specifically can be based on implicit
statutory authorizations, explicit authorization may be preferred. As Senator Lieberman warned,
without explicit statutory language, marketable permit programs and especially auctions may be subject
to legal battles.174 In such challenges, to avoid possible constitutional issues over taxation powers, courts
may be tempted to read implicit statutory authority narrowly and strike down auctions on statutory
grounds.175 Any lingering legal uncertainty could cause reluctance among agencies to implement
marketable permit programs and among regulated entities to participate in them. 176 In fact, the slow
development of water quality trading has been blamed partly on lack of legal certainty and clarity.177
Without statutory language on trading in the Clean Water Act, states and regulated entities have
expressed confusion about how a trading program would interact with other statutory requirements,
like anti-backsliding policies. 178 The U.S. Court of Appeals for the Ninth Circuit once opined in dicta that
the Clean Water Act did not allow water quality trading, because there was no mention of trading in
statute or regulations. 179
Recommendation: If active marketable permit programs exist without explicit congressional
authority, Congress should consider endorsing those programs. Agencies should communicate to
Congress any legal barriers to marketable permits, including the need for explicit statutory
authorization.180 The Office of Management and Budget’s annual report to Congress on the costs and
benefits of regulation, and the “recommendations for reform” section of those reports, may provide an
appropriate vehicle for such communications.

2.

Are Marketable Permits Property Rights?

Many economists argue that marketable permits should be treated as secure property rights, to raise
the return on investment and incentivize long-term investment strategies.181 For instance, unlike in the
United States, New Zealand grants its fish catch share on a permanent basis,182 and as a result of the
clearer property rights, New Zealand’s share prices are higher than U.S. share prices. 183 Similarly, credit
buyers need some level of guarantee that the credits they purchase will remain valid for the life of the
contract despite any regulatory changes. 184

174 Proposals to Control the Manufacture, Use, and Disposals of Ozone-Depleting Substances: Hearing Before the Subcomm. On

Envtl. Pollution of the S. Comm. On Env’t and Pub. Works, 101s t Cong. (Ma y 19, 1989).
175 Sta tement of Richard Hembra, GAO, before Subcomm. Hearing on EPA Ozone, 1989 (s ee babel/hathitrust).
176 Ja mes Tripp & Daniel Dudek, Institutional Guidelines for Designing Successful Transferable Rights Programs, 6 Ya l e J. Reg.
369 (1989). EPA’s § 157b rul e opted not to go with a uction because of legal concerns, 53 Fed. Reg. 30,579 (Aug. 12, 1988), but
EPA a l so simultaneously i ssued a n advance notice of proposed rulemaking to explore a uction, 53 Fed. Reg. 30,604.
177 EPA & USDA, Report on 2015 National Workshop on Water Quality Markets (2016); see also Wi l lamette Pa rtnership, In It
Together: A How-To Reference (2012).
178 EPA, Wa ter Qua lity Tra ding Policy, 68 Fed. Reg. 1609 (Ja n. 13, 2003).
179 Fri ends of Pi nto Creek v. EPA, 504 F.3d 1007, 1012 (9th Ci r. 2007).
180 EPA ha s also s uggested, i n comments on the draft version of this report, that agencies encourages states to a dopt any laws
or regul ations necessary to crea te state-level l egal certainty a bout the marketable permit program, as Vi rginia has done to
promote water quality tra ding.
181 Tom Ti etenberg, Tra dable Pe rmits in Pri nciple and Pra ctice, 14 Penn St. Envtl. L. Rev. 251 (2006).
182 Id.
183 See Ri cha rd Newell et a l., Asset Pricing in Created Markets for Fishing Quotas (Res ources for the Future Discussion Pa per 0546, 2005).
184 Worl d Resources Inst., Addressing Risk and Uncertainty in Water Quality Markets (2014).

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On the other hand, many legal experts and advocates express ideological and practical concerns with
treating marketable permits as property. Ideological concerns are raised about privatizing what were
previously public resources.185 The language of “property” and “rights” may introduce a mentality of
entitlement that can exacerbate some perverse incentives, such as fishers disposing of all but the largest
specimens of target fish to make the most of their quota. 186 Practically, regulators may need to ratchet
down a cap over time and will face intense political opposition and potentially legal challenges from
existing permit holders who feel their “rights” are being taken without compensation. Government may
occasionally need to “confiscate” permits either to increase regulatory stringency or to invalidate
fraudulent credits, even if those invalid credits were bought in good faith. 187
Ultimately, “property” is not a monolithic concept. Rather, individual privileges—the abilities to use
something or exclude others, the abilities to divide or transfer, and the duration and legal recognition of
those abilities—can be mixed and matched into various property bundles. In fact, most regulatory tools
(short of complete bans) give rise to some kinds of property rights: for example, if a factory has a permit
for compliance with prescriptive regulation, when factory gets sold, the permit is transferred too.188 So
long as owners of marketable permits have some of the key incidents of property, like the abilities to
use, exclude, sell, dispose, and pledge to creditors, 189 some measure of security in interest can be given
short of “property.”190 Permits are best seen as temporary licenses to carry out a particular activity, with
a conditional promise from the government that the permit will continue to have value for purposes of
compliance, unless the government exercises its right to reclaim the permit.191 Putting a price on a
temporary grant of permission by itself does not convert a permit into a “right” or “property.”192
Most scholars think it unlikely that a court would find a Fifth Amendment constitutional claim for
compensation for taking permits.193 For example, in Members of the Peanut Quota Holders Ass’n v. U.S.,
the U.S. Court of Appeals for the Federal Circuit found that while farmers had some property interest in
their peanut production quotas, there would be no compensation for takings because agricultural
quotas are wholly government creations, and as such the government retains the right to withdraw
them unless the statute specifies that the interest was irrevocable.194

185 Da n Cole, Pollution & Property: Comparing Ownership Institutions for Environmental Protection (2002).
186 Ca rol Rose, The Several Futures of Property, 83 Mi nn. L. Rev. 129 (1998).
187 Da vi d Driesen, What’s Property Got to Do with It?—Review of Dan Cole’s Pollution and Property, 30 Eco. L. Q. 1003 (2003).
188 Jona than Nash, supra note 4 (a rguing that even information disclosure rules and ta x-based regulation give rise to certain

ki nds of property ri ghts).
189 Id.
190 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181.
191 Da vi d Driesen, What’s Property Got to Do with It?, supra note 187. Lee Ann Fennell has observed that permits are essentially
hel d s ubject to a n i mplicit government ca ll option, but with an exercise price of zero and unclear terms. She recommends
ma ki ng the call option explicit. That way, government does not need to try to a nticipate every problem, like hot spots, in ways
tha t wi ll inevi tably erode the benefits of tra ding, but instead ca n selectively exercise call options to deal with problems i f they
a ri se. Lee Ann Fennell, Revealing Options, 118 Ha rva rd L. Rev. 1399 (2005) (recommending a mechanism: permit holder states
how much the permit is worth to them, pays tax based on that a mount, government can recall at that va luation).
192 Breger, Stewart, Elliott, & Ha wkins, Providing Economic Incentive in Environmental Regulation, supra note 13; see also GAO,
supra note 122 (a rguing that the fa ct that a license has value does not make i t “property”).
193 Ma rk Fi na & Tys on Kade, Legal and Policy Implications of the Perception of Property Rights in Catch Shares, 2 Wa s h. J. Envtl .
L. & Pol ’y 283 (2012). But s uch ta kings claims a re perhaps not i mpossible: they a re most unlikely for a regulatory modification
to the permit to address environmental harms, but perhaps more possible i f the regulatory modification seeks, for example, to
redi stribute quota among different classes of fishers.
194 Id. The l egal a nalysis could be different i f the government cancels a permit before the purchaser was able to ta ke a ny
a dva ntage of the permit a t all.

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Some laws specifically disclaim any property status for marketable permits, in part to preempt any
attempts to claim compensation for a takings.195 For example, Congress explicitly stated that acid rain
credits did “not constitute a property right.” 196 At the same time, however, Congress also characterized
acid rain credits as “quasi-property”197 and durable, subject only to limitations or revocations by new
legislation passed by Congress and signed by the President.198 The Magnuson-Stevens Act also declares
that fish catch shares are “not a right or title or interest” and may be revoked or modified at any time
without compensation. 199 In fact, fish catch shares are usually defined as a percentage share of a total
allowable catch, so the agency can simply change the total cap and individual permits automatically
adjust without need for further legal action. 200 The FCC’s statutory authority for spectrum auctions
clarifies that spectrum licenses are not “ownership,” and are technically only “temporary” with no
presumption of renewal.201 EPA’s manual for criteria pollutant offset banks warns that if a region’s
environmental quality is not improving quickly enough, EPA reserves the right to place a moratorium on
trades, raise the required trading ratio, or even require forfeit of all traded permits. 202
Other laws are less precise or less consistent in characterizing the property status of marketable
permits. For example, at various points the Clean Air Act refers to the auctioning of “emissions rights.” 203
Courts have recognized some property-like status for landing slots in bankruptcy proceedings204 and for
fish catch shares in divorce settlements and other civil actions.205 At the state level, this is even more
common. Taxi medallions are considered personal property of the owner and, for example, are treated
as part of the estate upon death. 206 Three states—Pennsylvania, Vermont, and Puerto Rico—explicitly
recognize renewable energy credits as “property” in statutes or regulations, and courts in New Jersey
and Connecticut have done the same. 207 Some federal courts and agencies have followed suit, with the
U.S. Court of Appeals for the Second Circuit writing that “RECs are inventions of state property laws,”
and with EPA, the Department of Energy, and the Armed Services Board of Contract Appeals recognizing
RECs as “property rights.”208
Even if none of those legislative, judicial, or administrative bodies intended to use the word “property”
in a way that would create a takings claim for compensation, terminology creates perceptions, and
perceptions are important. For example, despite the specific disclaimer in the Magnuson-Stevens Act,
the widespread perception among many fishers is that catch shares are their property, because shares
are exclusive and transferable and because they are effectively permanent: they are renewed until
195 Interview with Don Elliott (Acid rain l anguage designed largely to prevent ta kings claims).
196 42 U.S.C. § 7651b(f).
197 H.R. Rep. No. 101-490 pt. 1, a t 366 (1990) (a l lowances a re “quasi-property” a nd can be reported as “utility a ssets”).
198 Jona than Nash, supra note 4 (per Rep. Mi ke Oxl ey, 136 Cong. Rec. E360, E3672 (da ily ed. Nov. 2, 1990)).
199 16 U.S.C. § 1853a (b)
200 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181.
201 47 U.S.C. §§ 301, 304. But a rguably that l eaves open a nything s hort of fee simple. Howard Shelanski & Peter Huber,

Administrative Creation of Property Rights to Radio Spectrum, 41 J. L. & Econ. 581 (1998).
202 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 19 (1981)
203 42 U.S.C. §§ 7410, 7502 (nonattainmnet), 7511b (federal ozone).
204 GAO, supra note 122.
205 Ma rk Fi na & Tys on Kade, Legal and Policy Implications of the Perception of Property Rights in Catch Shares, supra note 193
(ci ti ng 161 F.3d 584 (9th Ci r. 1998)).
206 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 50 (1981)
207 Center for Resource Solutions, Legal Basis for RECs (2015).
208 Id. The U.S. Armed Services Board of Contract Appeals has said that RECs a re “personal property, gi ven their exclusive nature
a nd tra nsferability.”

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revoked, in a system known as “rolling conditional permanence.”209 Auctions could strengthen the
perception—and maybe even the legal claim—of property rights in marketable permits.210
Recommendation: Congress and agencies should avoid creating misperceptions by calling marketable
permits “rights,” and should instead use the language of marketable licenses or permits.

3.

Do Marketable Permits Commodify Resources?

Even if marketable permits are not considered to be full “property,” some critics worry that marketable
permits commodify the environment, human health, and other resources in undesirable or even
unethical ways. Marketable permits have even been compared to sale s of indulgences in the Middle
Ages.211 Beyond vague notions of ethics, one concrete concern is that marketable permits in, for
example, pollution allowances, will have negative effects on anti-pollution norms. An analogy is made to
handicapped parking spaces, highlighting the difference between imposing a $100 fine for parking in a
disabled space versus creating $100 permits for premium parking spaces but the physically challenged
get free access. The latter, it is argued, tacitly endorses parking in handicapped spaces if you are willing
to pay for it. Similarly, if marketable permits spread the conception that pollution is not “bad” but
something to be bought, consequences could include reduction in anti-pollution whistle-blowing, less
self-restraint, and lower compliance rates.212
Proponents of marketable permits argue this commodification critique overlooks that any permit with a
degree of scarcity has value, whether it is marketable or not: marketability does not create value, but
only makes it visible.213 Before the introduction of markets, fishers already have the “right” to exploit by
virtue of their fishing license; polluters have the “right” to pollute under some regulatory permit. 214 At
least permit auctions and taxes charge something for the privilege; prescriptive regulations and
allocated permits just give it away for free. 215 Perhaps regrettably, because market-based regulations is
often framed by proponents as deemphasizing the role of government, and because permits are often
called “allowances” rather than “restrictions,” the frame plays into this commodification critique. In
reality, marketable permit programs should require a substantial, active government role. 216

4.

Are the Terms Defined by Regulation, Guidance, or Case-by-Case?

A final consideration in the legal status of marketable permits is how the terms of the permits and
transactions are defined: by codified legislative regulation, by interpretive rule or agency guidance, or on
an ad hoc basis. Without any formality, neither regulators, regulated entities, nor the public has
regulatory certainty and predictability. For permitting programs implemented by regional offices or the
209 Ma rk Fi na & Tys on Kade, Legal and Policy Implications of the Perception of Property Rights in Catch Shares, supra note 193.

Pl us , the federal government finances loans for s mall fishers with terms l asting twenty years or more, further creating
perception of long-term property i nterests.
210 Id.
211 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181, n.3 (ci ting Goodin 1994).
212 Li or Ja cob Strahilevitz, How Changes in Property Regimes Influence Social Norms: Commodifying California’s Carpool Lanes ,
75 Indiana L. J. 1231 (2000).
213 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 21, 24 (1981). Though a ll envi ronmental regulation (short of a ban) could be susceptible to a “ri ght to pollute”
cri ti que, a s they all sanction some a mount of pollution, the frame a round market-based programs exacerbates the critiques and
pa rtl y explains why some continue to prefer prescriptive regulation. Jonathan Nash, Framing Effects and Regulatory Choice,
supra note 4.
214 Ka tri na Wyman, Why Regulators Turn to Tradable Permits: A Canadian Case Study, 52 U. Toronto L.J. 419 (2002).
215 Jona than Nash, Framing Effects and Regulatory Choice, supra note 4.
216 Id.

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states, lack of formal guidance from the federal agency can lead to inconsistencies in implementation. 217
In fact, Congress instructed the Army Corps of Engineers to issue regulations on its w etlands mitigation
bank program specifically to address concerns about consistency and predictability under the loose
guidance documents that the Corps had issued at various points in time.218 On the other hand, too much
formality could limit a program’s flexibility to adapt.
The Administrative Conference of the United States has weighed in on the formality of policy statements
before. In a 1976 recommendation, the Conference advised that agencies submit even non-binding
policy statements and guidance documents to public notice and comment. 219 In the preamble to a 1992
recommendation, the Conference wrote it was “concerned” about agencies issuing policy statements in
lieu of regulations, as such statements may still be treated by agency staff as binding or may be
“reasonably regarded by the public as binding and dispositive of the issues they address.”220 The
consultant report supporting that recommendation noted that if non-legislative regulations and policy
documents on standards for “approving or granting applications . . . are intended to be routinely
applied, or if they are regularly applied, they of course have a practical binding effect, even though they
are not legally binding.”221 Similarly, if agency interpretations and guidance are binding on the states
implementing federal standards, they are in effect “binding upon private parties who must gain the
states’ approval of their permit applications.”222
Ultimately, agencies adopting marketable permit programs should do so with at least a degree of
formality, subject to some flexibility to facilitate adjusting the program especially in its early years.223
Codified, legislative regulations adopted through notice-and-comment rulemaking may be most
important for marketable permit programs that operate without explicit statutory language, though
notably the existing programs with explicit statutory language typically also have codified regulations.224
Currently there is a range of formality with which agencies set up the rules for their marketable permit
programs. Many of the air pollution programs were created through codified legislative regulations.225
Fish catch share programs are designed by regional councils and codified in the Code of Federal
Regulations.226 For the wetlands mitigation bank program, the Corps and EPA originally issued joint
guidance in 1995 and then, following congressional instructions, issued joint regulations in 2008,
codified in the Code of Federal Regulations. 227 Numerous Corps districts developed their own regional
guidance to implement the rule. 228
On the other end of the spectrum, for years water quality trading programs operated without the
certainty of any official guidance from EPA, which may partly be responsible for the slow growth of
water quality trading. 229 EPA issued a water quality trading policy in 2003 and submitted the document
217 WRI, Addressing Risk and Uncertainty in Water Quality Markets (2014).
218 Corps -EPA Final Rule, Compensatory Mi tigation for Losses of Aquatic Resources, 73 Fed. Reg. 19,593 (2008).
219 ACUS Recommendation 76-5.
220 ACUS Recommendation 92-2.
221 ACUS Cons ultant Report on Recommendation 92-2, available at

http://s cholarship.law.duke.edu/cgi/viewcontent.cgi?article=3188&context=dlj
222 Id.
223 Wi l lamette Pa rtnership, In It Together: A How-To Reference (2012).
224 E.g., a ci d ra in, fish quotas, FCC a uctions, CAFE. Al l programs under the Cl ean Ai r Act, whether explicitly a uthorized or not,
ha ve regulations.
225 E.g., a ci d ra in, l ead.
226 E.g., 50 C.F.R. § 648.74 (s urf clam and quahog ITQ).
227 73 Fed. Reg. 19,593 (2008) (codi fied a t 33 C.F.R. 332).
228 Corps , Institute for Wa ter Resources, The Mi tigation Rule Retrospective (2015).
229 Andrew Wolman, Effluent Trading in the United States and Australia, 8 Grea t Pl ains Nat. Res. J. 1 (2003).

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for public comment,230 but ultimately it remains an un-codified policy statement. In 2007, EPA followed
up with a Water Quality Trading Toolkit, offering guidance to state permit writers on developing trading
programs. Still, at a 2015 joint EPA-USDA workshop on water quality markets, participants expressed a
desire for more explicit authority than EPA’s 2003 policy statement, to increase market confidence and
participation.231 While some states have adopted statutes or formal guidance on water quality trading,
EPA has explained that states do not necessarily have to develop their own trading rules. 232 For example,
North Carolina has no official policy besides a willingness to work to develop a trading program for any
interested watershed group. 233 The U.S. Court of Appeals for the Ninth Circuit expressed doubt over the
validity of water quality trades given that “nothing in the Clean Water Act or the regulation” provides for
trading.234 Apparently, EPA’s 2003 policy statement on water quality trading was not enough for the
Ninth Circuit.235 The overall lack of formality produces a lingering uncertainty for buyers about whether
trades will satisfy their legal obligations,236 as well as confusion among regulators about how formal
requirements for antibacksliding and antidegradation should apply to water quality trading programs.237
Conservation banks predated any national guidance from the Fish and Wildlife Service (FWS) by at least
eight years.238 Guidance was first published as notice in Federal Register in 2003, seemingly without a
comment period. In 2016, FWS adopted a more formal policy statement following a public comment
period, but the agency still has no codified legislative regulations on conservation banking. In 2013, the
Department of the Interior’s Office of Policy Analysis had recommended that FWS consider adopting
codified regulations.239 A 2016 survey of conservation bank sponsors supported (by 61%) more formal
regulations, to help make bank creation easier and reduce uncertainty.240 In this survey, conducted just
before FWS’s new guidance was issued, 11% of bank managers reported not being familiar with the old
2003 guidance.241 Even more shockingly, in 2013, only 68% of surveyed FWS staff were familiar with the
agency’s own 2003 guidance (only 30% were “very familiar,” with another 38% saying “somewhat
familiar”).242
The National Marine Fisheries Service (NMFS) also approves conservation banks for mitigation, and
some NMFS regions have developed guidance on banking.243 However, there is no national guidance
from NMFS, and according to one regional office, “Presently, NMFS has no standardized way of engaging
new bank proposals.”244

230 68 Fed. Reg. 1609 (Ja n. 13, 2003).
231 EPA & USDA, Report on 2015 Na tional Workshop on Water Quality Ma rkets (2016).
232 EPA, Wa ter Qua lity Tra ding Toolkit (2009).
233 Id.
234 Fri ends of Pi nto Creek v. EPA, 504 F.3d 1007, 1012 (9 th Ci r. 2007) (di cta).
235 EPA ha d a potential fix to this issue on its regulatory a genda for years, see Letter from Inst. for Policy Integrity, to EPA, Oct. 1,

2012, http://policyi ntegrity.org/documents/Policy_Integrity_Final_Water_Quality_Trading_Letter.pdf , but 40 C.F.R. § 122.4(i )
wa s never a mended. Pinto Creek therefore leaves lingering uncertainty a bout legality of water quality tra ding.
236 Wi l lamette Pa rtnership, In It Together: A How-To Reference (2012).
237 IEc, Wa ter Quality Tra ding Eva luation, supra note 50.
238 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003).
239 DOI Offi ce of Policy Analysis, Conserva tion Banking Overview (2013).
240 DOI, Offi ce of Policy Analysis, Results from a Survey of Conserva tion Bank Sponsors (2016).
241 Id. (explaining managers are l ess likely than sponsors to deal with regulatory i ssues).
242 DOI, Offi ce of Policy Analysis, Preliminary Analysis of the Conservation Banking Program and Results from a Survey of USFWS
Sta ff (2013).
243 E.g. NMFS-Northwest Region, Guidance, Jan. 31, 2013. The West Coast Region emphasizes that i t is just guidance, not a rule.
NMFS Wes t Coast Region, Conservation Banking Guidance (2015).
244 NMFS Wes t Coast Region, Conserva tion Banking Guidance (2015).

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Recommendation: Guidance on marketable permit programs should minimally go through public
notice and comment, and agencies should consider codifying regulations to resolve lingering legal
uncertainty or inconsistent applications.

II.

Efficiency and Distributional Consequences

Marketable permits are designed to achieve policy goals more efficiently. Before turning to whether
marketable permit programs are able to achieve their policy goals (section III) and how to manage the
markets (section IV), this section will first examine whether marketable permits can deliver on their
promise of greater efficiency. This section examines both theoretical literature and empirical studies on
the efficiency of marketable permit programs. However, it is important to bear in mind that any
empirical evidence of a marketable permit program’s efficiency depends on defining a counterfactual
benchmark of what would have happened otherwise. Defining such benchmarks by reverse engineering
the effects of a hypothetical prescriptive regulatory approach can be exceedingly difficult. Moreover, it
is possible that other regulatory approaches besides markets may not have passed political muster.245
Finally, a program’s success or failure should never be judged too early, as the efficiencies of marketable
permit programs can take time to develop or can disappear over time. 246
This section also addresses potential effects of markets on small entities, new entrants, and consumers.

A.

Do Marketable Permits Efficiently Lower Compliance Costs and Prioritize
the Highest Value Uses of Resources?
1.

Theory

A major theoretical advantage of marketable permits over traditional regulation is that market-based
tools efficiently allocate privileges and obligations, lowering costs and raising value. Specifically,
marketable permits programs equalize marginal compliance costs across regulated sources, by allowing
the market to identify and prioritize the lowest-cost abatement opportunities. Similarly, instead of
forcing regulators to divine how to allocate regulatory privileges to the highest value use of scarce
resources, the market identifies the most valuable use of the permits.247
For example, when compliance costs vary greatly across regulated sources, uniformly prescriptive
environmental standards can be counterproductively expensive. 248 If one source can reduce its
greenhouse emissions at $1 per ton while another faces $1000 per ton abatement costs, requiring the
same performance from both is inefficient: the same environmental gains could be achieved at lower
overall cost (i.e., $2 instead of $1001 for the first two tons) by allowing the second source to pay the
first to make extra reductions cheaply, at least until reaching a point when abating one more ton would
cost each source the same. The flexibility of markets either lowers the total cost of achieving any given
regulatory target or else, for any given total cost, achieves a more ambitious regulatory target.249 One
economic study estimated that, to achieve a 5% reduction in overall U.S. greenhouse emissions, the
245 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181
246 Id.
247 See Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory

Alternative 3 (1981) (explaining market-based regulation helps ensure that firms with highest-value use of the resource will
obta in the permit).
248 Robert Stavins, Market-Based Environmental Policies 2 (RFF Disc. 98-26, 1998, republished in Paul Portney & Robert Stavi ns
eds ., Public Policies for Environmental Protection (2000)).
249 See U.S. Offi ce of Mgmt. & Budget, Regulatory Impact Analysis: A Primer 6 (2011).

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marginal welfare costs of a prescriptive regulatory scheme would be 1159% higher than the marginal
welfare costs of a market-based regulatory scheme designed to achieve the same overall emissions
reductions.250
The variation of abatement opportunities drives the market’s efficiency.251 Therefore, a regulatory
market’s size can enhance its efficiencies, as bigger markets maximize the number of opportunities for
low-cost abatement. For example, even if a particular industry emits a relatively small volume of
greenhouse gases, if it offers very low-cost abatement opportunities, it could be efficient to include that
industry in a broader cap-and-trade program for greenhouse gases.252 Trades in international allowances
and offsets may provide especially low-cost abatement opportunities. In modeling the possibility of
economy-wide cap-and-trade legislation in 2009, EPA found that offsets would have “a strong impact on
cost-containment,” and that without international offsets, allowance prices would have increased
89%.253 The ozone-depleting substance market allows international transfers with EPA approval, and
California’s greenhouse gas cap-and-trade program allows links with Canada. 254
The theory behind a marketable permit program’s superior efficiency begins to break down if the
standard is set so stringently as to require every source to control as much as possible. At that point,
there will be few if any additional trades to make, and any efficiency advantage between marketable
permits and prescriptive regulations will be small.255
David Driesen, a prominent skeptic of marketable permits, admits that overly uniform prescriptive
standards may use private sector resources inefficiently, but he argues that prescriptive standards are
more efficient for administrative resources and may also have equitable advantages. 256 Smaller firms, for
example, may face monitoring and transaction costs under marketable permit programs that exceeds
any cost savings they might experience, and so may prefer prescriptive regulations. 257 However,
considering the following empirical evidence on efficiency and the subsequent sections of this report on
administrative costs and distributional effects, Driesen’s critique is overgeneralized. Marketable permit
programs often have significant efficiency advantages, may have administrative advantages, and do not
inherently have negative distributional consequences.

2.

Evidence

Evidence from economic models and empirical data suggests marketable permit programs have
efficiency advantages. Reviewing the literature, economist and expert on marketable permits Tom
Tietenberg concludes that, assuming adequate enforcement, trading either lowers compliance cost of

250 Pi zer, Burtraw et al., supra note 11, a t tbl.3 ($277/ton versus $22/ton). The a dditional marginal welfare costs of performance

s ta ndards over ma rket-based regulation rise as the reduction ta rget increases in stringency. See id. fi g. 1.
251 Na thaniel O. Keohane, Cap and Trade, Rehabilitated: Using Tradable Permits to Control U.S. Greenhouse Gases, 8 Rev. Envtl .
& Econ. Pol ’y 42, 49 (2009).
252 Metca l f & Weisback, supra note 11, a t 8.
253 EPA, Ana l ysis of H.R. 2454, a t 3 (June 2009).
254 Ca l ifornia has linked with Quebec’s emissions tra ding system. 17 Ca l. Code Regs. § 95943 (“Li nked External GHG ETS.
Covered or opt-in entities may use compliance instruments issued by the following programs to meet their compliance
obl igation under this a rticle: (a ) Government of Quebec.”). California has not yet extended its offset protocols to credit
i nternational projects, but its cap-and-trade laws contemplate the potential for offsets from a t least Canada and Mexico. 17 Cal.
Code Regs. §§ 95854, 95972(c).
255 Bruce Ackerman & Ri chard Stewart, Reforming Environmental Law: The Democratic Case for Market Incentives, 13 Col um. J.
Envtl . L. 171 (1987).
256 Da vi d Driesen, Is Emission Trading an Economic Incentive Program?, supra note 18.
257 Breger, Stewart, Elliott, & Ha wkins, Providing Economic Incentive in Environmental Regulation, supra note 13.

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emissions reductions or increases the value of the resource. 258 For example, a study by Winston
Harrington and Richard Morgenstern identified six case studies where the United States and European
Union countries picked different regulatory approaches, to compare prescriptive regulation against
economic incentive systems (both cap-and-trade programs and taxes). Examining the case studies on
sulfur dioxide, nitrogen oxides, water point sources, leaded gas, ozone-depleting substances, and
chlorinated solvents, Harrington and Morgenstern found overall evidence that economic incentives
were more efficient. 259
The following specific evidence exists for U.S. marketable permit programs:









The Clean Air Act’s program to allow new sources to trade offsetting credits of “criteria” 260
pollutant reductions, by one estimate, resulted in $5-$12 billion in compliance cost savings.261
Compared to the counterfactual costs of regulating lead without trading, EPA’s inter-refinery
trading system for phasing out lead from gasoline saved approximately $250 million per year, or
20% of total costs.262
The acid rain market achieved cost savings (versus non-trading alternatives) estimated in the
range of 15-90%, or $250 million to over $1 billion annually.263
For fisheries, there is evidence that transferable catch shares help create more efficiently sized
fleets that extract the resource at lower cost and with greater profitability.264 In Alaska’s halibut
and sablefish fisheries, for example, tradable catch shares decreased operating costs and
resulted in higher prices for caught fish at the docks.265 (However, the halibut and sablefish
tradable catch share program also showed signs of increased administrative costs and negative
distributional effects like layoffs and barriers to entry.)
Evidence of efficiency in water quality trading is harder to come by. According to EPA, Virginia’s
nutrient trading program for stormwater phosphorous saved over $1 million. 266 Some models
have predicted that traditional water quality regulation is between 12% and 200% more
expensive than marketable permits.267
There is anecdotal evidence that conservation banks save project applicants time and money,
simplify compliance, and improve regulatory predictability.268

258 Tom Ti etenberg, Tradable Permits in Principle and Practice, supra note 181.
259 Wi nston Harrington & Richard Morgenstern, International Experience with Competing Approaches to Environmental Policy:

Results from Six Paired Cases 116, in Movi ng to Ma rkets, supra note 2.
260 Cri teri a pollutants are the s ix widely emitted pollutants for which EPA s ets ambient a ir quality s tandards: particulate ma tte r,
s ul fur dioxide, nitrogen dioxide, ground-level ozone, carbon monoxide, and lead.
261 Sta vi ns, Market-Based Enviro. Policies, supra note 248, a t 7.
262 Id. a t 9; Robert Stavi ns, U.S. Cap-and-Trade System to Address Global Climate Change 9 (Ha rva rd Kennedy School Reg. Pol’y
Prog. Pa per 2007-04).
263 Id. a t 7, 15; Sta vi ns, Market-Based Enviro. Policies, supra note 248, a t 7; H. Ron Cha n et al., The Net Benefits of the Acid Rain
Program 1 (RFF 15-25, 2015). As much a s 5% of these savings ($1.3 billion of $20 billion in cumulative cost savings) ma y be
a s cribed specifically to the banking provisions. T.H. Tietenberg, Emissions Trading: Pri nciples a nd Pra ctice 114 (2006, 2d ed).
264 NOAA Ca tch Sha re Policy (2010); see also Ka tri na Wyman, The Recovery in U.S. Fisheries, J. La nd Use (forthcoming).
265 Pew Envtl . Group, Design Matters: Making Catch Shares Work (2009).
266 Ann Mi l ls & El len Gilinsky, EPA and USDA Pledge Actions to Support America’s Growing Water Quality Trading Markets , EPA
Bl og, Aug. 1, 2016.
267 Bruce Ackerman & Ri chard Stewart, Reforming Environmental Law: The Democratic Case, supra note 255, n.11.
268 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003); Notice of Final Compensatory
Mi ti gation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016). Al s o tellingly, i n a Statement of Policy a nd presumably based on at l east
a necdotal i f not empirical evi dence, President Obama a ffirmed that conservation banks reduce ti melines for developers.
Pres i dential Memorandum, Mi tigating Impacts on Natural Resources from Development, Nov. 3, 2015.

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Critics of marketable permit programs dispute some of these findings. For example, Driesen argues that
the millions of dollars allegedly saved by the acid rain market came not from the efficiencies of trading
(which was very rare in the early years anyway, accounting for less than 4% of allowances), but rather
simply because the ex ante cost estimates had been overinflated.269 Reviews of water quality trading
note that, of the 37 pilot projects and programs that have existed, 26 have not yet seen actual trades,
others have very few trades, and overall there is little empirical evidence of cost savings. For example,
Wisconsin’s Fox River program only had 1 trade before going defunct. 270 Similar skepticism has been
expressed over whether wetlands mitigation banks have really lowered the costs of mitigation .271
Overall, however, the weight of the evidence does suggest marketable permit programs can improve
efficiency in at least certain regulatory applications.

B.

Do Marketable Permits Better Incentivize Innovation?
1.

Theory

After efficiency, the second key theoretical advantage of marketable permits over traditional regulation
is that market-based tools creates a price signal that dynamically incentivizes innovation and the
diffusion of knowledge. 272 For example, because an air pollution cap-and-trade market puts a price on
emissions but does not otherwise constrain compliance strategies, sources are free to experiment
continually and develop new, unanticipated methods of low-cost abatement. And because unused
permits can be sold for profit, sources can benefit the more reductions they make. By contrast,
prescriptive environmental regulations give sources little incentive to innovatively reduce emissions so
much as a single ton below their required limit. Similarly, prescriptive standards frequently—yet
inefficiently—pick “winners” from among existing technologies: for example, regulating vehicle
emissions by mandating use of certain biofuel technologies reduces the incentive to explore other,
potentially better reduction opportunities, like new mass transit options. 273 A special additional
advantage of credit programs is the potential stimulation of activity and innovation in otherwise
unregulated sectors.
David Driesen has thoroughly attacked this theory of innovation incentives. Driesen argues that
innovation is encouraged more by a regulation’s stringency and enforcement than by its form.
Performance standards with predictable increases in stringency over time would, according to Driesen,
produce the same drive for continuous innovation. 274 In contrast, if marketable permit programs are
weaker on enforcement than traditional regulation (because it is harder to continuously monitor
emissions and permit transactions than to simply check whether a source installed an approved
technology), marketable permits could produce less innovation than traditional regulation. 275 However,
Driesen’s argument depends on the willingness of regulators either to repeatedly issue new rules to
increase stringency or else to initially make predictions far into the future about what levels of
269 Da vi d Driesen, Is Emission Trading an Economic Incentive Program?, supra note 18.
270 Ja mes Boyd, New Face of the Clean Water Act: A Critical Review of the EPA’s New TMDL Rules , 11 Duke Envtl . L. & Pol ’y

Forum 39 (2000).
271 Tom Ti etenberg, Tradable Permits in Principle and Practice, supra note 181.
272 Marketable Rights, supra note 1, a t 2-3; Ga briel Chan, Robert Stavins, et al., The SO2 Allowance Trading System & the Clean
Air Act Amendments of 1990: Reflections on Twenty Years of Policy Innovation 23 (2012.
273 Ja ck Li enke & Ja son Schwartz, Shifting Gears: A New Approach to Reducing Greenhouse Gas Emissions from the
Transportation Section 5 (Pol i cy Integrity Bri ef, 2014).
274 Da vi d Driesen, Is Emission Trading an Economic Incentive Program?, supra note 18.
275 Id.

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stringency will someday be appropriate. Marketable permit programs, on the other hand, incentivize
innovation simply by tapping into the firms’ profit motives, without needing to repeatedly increase the
stringency of the cap.
Driesen also challenges the assumption that marketable permits uniquely encourage sources to go
beyond their minimum compliance obligations: most polluters go at least slightly below their
performance standards to guarantee consistent compliance (though admittedly, once regulated sources
achieve an adequate compliance cushion, they have little incentive for additional reductions under
traditional regulatory approaches).276 Driesen also reminds that while any incentive to continually
innovate and reduce emissions under a cap-and-trade program could reduce overall compliance costs, it
will not actually decrease total emissions, since any reduction by one innovative source will allow
another source to increase its emissions, back up to the level of the cap.277
Finally, Driesen worries that marketable permits programs will actually chill innovation. Trading
incentivizes reductions first at sources with the cheapest abatement opportunities, but this low-hanging
fruit may not require much technological innovation. Rather, according to Driesen, it is the reductions at
the higher-cost sources that require true innovation.278 However, as other scholars have pointed out, an
exclusive focus on the very lowest hanging fruit requiring no innovation is only likely if the cap is too
lenient.279 An appropriately calibrated cap will encourage firms to look for any innovative opportunity to
reduce costs.
That said, even proponents of the theory of marketable permits’ innovation incentives recognize some
limitations. For example, the dynamics of competition in regulated sources’ underlying product markets
can interfere with the incentive to innovate. Imagine several rival refineries all under the same cap -andtrade program. Innovation decreases marginal compliance costs, which decreases permit prices, which
helps permit buyers but not permit sellers. 280 Because lowering permit prices will benefit any rivals who
are permit buyers by lowering their production costs, some firms may strategically choose not to
innovate. In such cases, traditional regulation may provide better innovation incentives: innovation
under traditional regulation only lowers your own compliance costs, while innovation in a market may
decrease costs for your rivals. 281 Strategic behavior can also negatively affect innovation under
marketable permit programs in other ways: for example, firms may innovate out of a desire to reduce
their need for permits in order to hoard permits and exercise market power. 282

2.

Evidence

Several scholars have commented on how few empirical studies have analyzed innovation under
marketable permit programs.283 The limited evidence provides somewhat weak support for the theory
that marketable permit programs incentivize innovation better.284

276 Id.
277 Id.
278 Id.
279 Jennifer Yelin-Kefer, Warming Up to an International Greenhouse Gas Market: Lessons from the U.S. Acid Rain Experience, 20

Sta nford Envtl. L. J. 221 (2001).
280 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 43 (2006, 2d ed).
281 Id. a t 151.
282 Id.
283 Da vi d Driesen, Is Emission Trading an Economic Incentive Program?, supra note 18.
284 Ha rri ngton et a l. (2004) find general, but not universal, support that market-based provide greater i ncentives to i nnovate
tha n tra ditional regulation; Tietenburg reports “s ome support” for i nnovation, though not a “ri nging endorsement.” Tom

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The clearest evidence comes from the lead phase-out and acid rain markets.285 The lead phase-out
program resulted in “measurable incentives” for diffusion of cost-saving technologies. 286 The acid rain
market at least likely contributed to the operational innovation of identifying fuel switching as a cheap
compliance option, 287 and some studies have found the acid rain permit market helped diffuse critical
technological advances.288
Other examples of innovations in production include:




By allowing trading and leasing of electromagnetic spectrum, spectrum users may arrange to
share channels and voluntarily accept more interference than FCC typically allows in its direct
licensing.289
Under a tradable catch share program, fishers no longer have to race to catch Alaskan halibut
and sablefish, leading to longer seasons and increased profitability.290
The Fish and Wildlife Service asserts, though without citing empirical evidence, that
conservation banking consolidates scientific expertise and financial resources into larger
projects compared to small-scale mitigation by individual permittees, and economies of scale
lead to the creation of even more ecosystem services and credits.291

C.

Do Marketable Permits Save Administrative Resources?
1.

Theory

Crucial administrative tasks for either marketable permits or prescriptive regulation include designing
the rules, responding to new information and changing circumstances, resolving disputes with regulated
entities and stakeholders, and monitoring and enforcing the standards. Marketable permits have some
theoretical advantages over prescriptive regulation for these tasks and will require a very different
allocation of administrative resources.
First, once the cap or baseline has been set and the rules for allocation and trading have been finalized,
in theory the market in a cap-and-trade or credit program then relieves the regulators of some decisionmaking responsibilities. Rather than forcing regulatory agencies to decide which industries, regions, or
sources will bear the abatement costs or have access to valuable public resources, the market decides
for itself. While marketable permits impose some new regulatory tasks on regulators, like running
auctions and registries, arguably they eliminate one of “the greatest roadblock[s] to administrative
efficiency, namely that technical and economic decisions will now be made by plants” instead of by
bureaucrats who inevitably have less information on the costs and benefits facing individual regulated

Ti etenberg, Tradable Permits in Principle and Practice, supra note 181; Ha rrington & Morgenstern, supra note 259, fi nd s ome
s upport, but mi xed.
285 Wi nston Harrington & Richard Morgenstern, International Experience with Competing Approaches to Environmental Policy:
Res ults from Six Pa ired Cases 119, supra note 259.
286 Id. a t 9; Sta vi ns, U.S. Cap-and-Trade System, supra note 262, a t 9; Kerr a nd Newell (2003) find greater technological a doption
beca use of trading i n l ead phase-out.
287 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 68 (2006, 2d ed) (citing Taylor et a l (2005)).
288 Cha n, Stavi ns et a l., supra note 272, a t 25 (crediting the market with the wave of scrubber installments as well as the
di ffusion of l ow-sulfur coal mining a nd blending techniques).
289 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 4 (1981).
290 Pew Envtl . Group, Design Matters: Making Catch Shares Work (2009).
291 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003).

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entities.292 Historically, many federal and state agencies have been overwhelmed by the heavy
information burdens of determining the best technologies for each individual industry and writing
individual prescriptive permits. 293 In other words, marketable permit programs may create some new
upfront administrative tasks, but may lower administrative costs over time. Besides saving
administrative costs, market-based approaches may also advance rational decision-making, since the
market efficiently assimilates existing information and bypasses the potential for agency bureaucrats
injecting bias into permitting decisions.294
Critics like David Driesen challenge whether it is really more efficient to set a cap, design an allocation
scheme, and create rules for trading than to simply set a uniform prescriptive standard.295 Other
scholars argue that effectively running a complex market-based scheme with few administrative
resources is a myth. Markets will not function properly with only a passive regulator keeping a tally of
permits. Rather, active regulators are needed to analyze and disseminate market information, and in
some cases to create the platforms for trading; to coordinate with firms as a technical consultant and
assist small entities and other sources in designing compliance plans; and to formulate a contingency
plan in case the market fails to achieve the regulatory objective.296 Ultimately, running a marketable
permit program may be just as or more demanding for agencies than traditional regulation. 297
Second, market systems may respond better to changing economic circumstance, like new technologies
or new substitute goods, without necessarily prompting new regulatory proceedings. For example,
prescriptive emissions regulation specific to each use of ozone-depleting substances would have to be
repeatedly updated each time a new use for chlorofluorocarbons was discovered; a market just lets new
users buy in to the existing cap. In particular, markets can automatically adjust to accommodate
economic growth and the new levels of regulated activities that accompany growth; prescriptive
regulation requires constant new efforts to accommodate growth without pollution increases.298 Even
Driesen admits that mass-based caps (though not rate-based marketable permits) can automatically
accommodate economic growth, as the cap will incentivize additional reductions to offset any new
demand for permits.299 Additionally, by setting a clear price on the regulated activity, markets give
agencies ready and accurate information on regulatory costs—information that agencies can
incorporate to improve future regulatory decisions.300
Third, markets could ease disputes with regulated entities. Because trading lowers compliance costs, it
lowers the incentive for firms to lobby or litigate for delay or to entertain noncompliance strategies : it
simply may be cheaper to comply than to dispute.301 Disappointed permit seekers may argue the cap
was too stringent, but they cannot accuse the agency of individual bias or litigate each individual
permitting decision as they can with prescriptive regulation.302 Overall, market-based regulatory tools
are thought to remove some of the friction between regulators and the regulated.303 For a contrary
292 Bruce Ackerman & Ri chard Stewart, Reforming Environmental Law: The Democratic Case, supra note 255.
293 Id.
294 Mi cha el Abramowicz, The Law-and-Markets Movement, supra note 94.
295 Da vi d Driesen, Is Emission Trading an Economic Incentive Program?, supra note 18.
296 Les ley McAl lister, Beyond Playing “Banker”, 59 Admi n. L. Rev. 269 (2007).
297 Id.
298 Bruce Ackerman & Ri chard Stewart, Reforming Environmental Law: The Democratic Case, supra note 255.
299 Da vi d Driesen, Is Emission Trading an Economic Incentive Program?, supra note 18.
300 Marketable Rights, supra note 1, a t 5-7.
301 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 176 (2006, 2d ed).
302 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory

Alternative 5-6 (1981)
303 Les ley McAl lister, Beyond Playing “Banker”, 59 Admi n. L. Rev. 269 (2007).

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perspective, Driesen argues that complexity, uncertainty, and delay are just as likely to plague
marketable permits programs, which will inevitably face disputes about baseline, creditable reductions,
and market restrictions. 304
Fourth, markets could incentivize more accurate and cheaper monitoring and could be easier to enforce.
Historically, agencies spent relatively little on monitoring compliance with prescriptive environmental
regulations, relied heavily on industry-reported data, and enforcement was often weak. 305 By contrast,
the market can give both agencies and regulated entities an incentive to support thorough
monitoring.306 Agencies could be especially motivated in an repeated auction system, because better
compliance results in higher permit demand, higher permit prices, and greater revenue for the
government.307 Regulated entities will support monitoring and enforcement because noncompliance by
other parties lowers the value of the permits they hold. The cost savings afforded by a market-based
system may make it easier for agencies to transfer the responsibility and expense of monitoring to
regulated entities. Additional advantages may arise in particular contexts: for example, because
conservation banks consolidate mitigation efforts, it is easier for agencies to monitor a small number of
large sites than a large number of small, disperse sites.308 Driesen disagrees once again with this theory
of administrative resource savings, arguing that marketable permit programs in fact double the cost and
challenge of monitoring, because the regulator needs to monitor both buyers and sellers of allowances
and credits, instead of just the regulated source itself. 309
On enforcement, historically prescriptive environmental permits often featured vague standards and
resulted in ineffective enforcement, and penalties for violation of prescriptive regulation were similarly
inconsistent and weak. 310 Enforcement by agencies and courts may be easier under market-based
systems in part because of the compliance cost savings: agencies and courts are less reluctant to simply
require the purchase of additional credits as a penalty, as opposed to installing expensive retrofits.
Regardless of aggregate administrative costs, marketable permits will require a different allocation of
agency resources. Agencies will have to retrain staff in the theory and operation of markets. 311 Agencies
may also need to hire different staff: instead of engineers who identify control strategies and negotiate
permit terms, under a marketable permit program agencies might need more people who can monitor
and enforce.312 However, setting the cap or baseline and verifying that credits are additional may
require much of the same expertise and administrative work as under prescriptive regulations.313

2.

Evidence

Literature reviews find some evidence that trading eventually lowers administrative costs, but also that
trading changes bureaucratic functions as monitors replace engineers and could result in some short304 Da vi d Driesen, Is Emission Trading an Economic Incentive Program?, supra note 18.
305 Bruce Ackerman & Ri chard Stewart, Reforming Environmental Law: The Democratic Case, supra note 255 (a gencies s pend on

a i r monitoring 0.02% of the total estimated cost of air pollution controls)
306 Id.
307 Note tha t, unless given specific authority to keep revenue, i ndividual federal agencies would have to deposit any revenue
beyond covering their own expenses into the general U.S. treasury. Sta te laws may a llow i ndividual state agencies to retain
revenue.
308 NMFS Wes t Coast Region, Conserva tion Banking Guidance (2015).
309 Da vi d Driesen, Is Emission Trading an Economic Incentive Program?, supra note 18.
310 Bruce Ackerman & Ri chard Stewart, Reforming Environmental Law: The Democratic Case, supra note 255.
311 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 41 (2006, 2d ed).
312 Tom Ti etenberg, Tradable Permits in Principle and Practice, supra note 181.
313 Id.

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term cost increases.314 Harrington and Morgenstern, for example, find reasonable evidence that
economic incentives have a lower information burden than traditional regulation, but they find only
mixed evidence that economic incentives have lowered administrative costs. 315 For example, EPA’s lead
trading program was so complex that unintentional violations in early years increased monitoring
costs.316 Meanwhile, though the U.S. acid rain market did have impressively low administrative costs,
achieving nearly 100% compliance rates with only about 100 EPA staff,317 administrative costs were also
quite low for Germany’s prescriptive regulations for sulfur dioxide from power plants. 318 Harrington and
Morgenstern also point out that marketable permit programs explicitly authorized by statute, like the
acid rain program, may have no advantage over prescriptive regulation for adapting to new information,
because it would take an act of Congress to change the sulfur dioxide cap.319
Water quality trading programs reportedly can be costly to build from scratch, and unfortunately many
state water quality programs are in fact built from scratch, despite the availability of models for best
practices and the potential to share resources. 320
There is some evidence that in fish catch share programs, the market can automatically adjust to socioeconomic changes to the relative demand between commercial and recreational fishers.321 Canada
notably has long relied on fish catch share programs as a cost-effective way to manage a large number
of fishers and fisheries in the face of inadequate technological solutions to prevent overfishing .322
However, Alaska’s halibut and sablefish tradable quota program has seen increased administrative
costs.323
For conservation banking, it is perhaps notable that after two decades of activity, in Fish and Wildlife
Service reaffirmed in 2016 its belief that conservation banking reduces the workload for its staff.324 On
the other hand, conservation bank sponsors complain about the lack of defined timeline for review,
insufficient agency staff, and long review times: it reportedly takes about about 2.5 years to plan and get
approval on a conservation bank, and about 40% of the time is spent waiting for FWS input. 325 Wetland
mitigation banks may fare no better. While the Army Corps of Engineers contends that applicants who
use a wetlands bank receive their permits about 50-120 days faster than applicants who undertake their
own mitigation, 326 those figures do not account for the time spent approving the bank or in-lieu
instrument in the first place. Despite codified timelines for review, approval, and oversight of wetland
314 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 71 (2006, 2d ed).
315 Wi nston Harrington & Richard Morgenstern, International Experience with Competing Approaches to Environmental Policy:

Results from Six Paired Cases, supra note 259, a t 117.
316 Id. a t 126.
317 Les ley McAl lister, Beyond Playing “Banker”, 59 Admi n. L. Rev. 269 (2007).
318 Wi nston Harrington & Richard Morgenstern, International Experience with Competing Approaches to Environmental Policy:
Results from Six Paired Cases, supra note 259, a t 126.
319 Though, i f Congress built i n safety va lves to relax or i ncrease the cap s tringency based on price, a marketable permit
progra m established by s tatute could still a utomatically respond to new information. Winston Harri ngton & Ri chard
Morgenstern, International Experience with Competing Approaches to Environmental Policy: Results from Six Paired Cases,
supra note 259, a t 134.
320 Wi l lamette Pa rtnership, In It Together: A How-To Reference (2012); EPA & USDA, Report on 2015 Na tional Workshop on
Wa ter Quality Ma rkets (2016).
321 NOAA, Ca tch Sha re Policy (2010).
322 Ka tri na Wyman, Why Regulators Turn to Tradable Permits: A Canadian Case Study, 52 U. Toronto L.J. 419 (2002).
323 Pew Envtl . Group, Design Matters: Making Catch Shares Work (2009).
324 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016).
325 DOI, Offi ce of Policy Analysis, Results from a Survey of Conserva tion Bank Sponsors (2016).
326 U.S. Army Corps , Institute for Water Resources, The Mi tigation Rule Retrospective (2015) ( a n a verage of 120 da ys versus
177-243 da ys , a nd ri sing).

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banks, the Corps has no quantitative data to track compliance with those deadlines,327 and bank
sponsors report that timelines are not being met. 328 The National Mitigation Banking Association says
that it would prefer to sometimes get a “no” early than to have every review drag on indefinitely.329

D.

Distributional Consequences
1.

Grandfathering, Windfalls, and Barriers to Entry

In cap-and-trade programs, regulators have several options for the initial allocation of privileges or
obligations: by open auction; by lottery, either for free or with a fixed price per allocation awarded; or
by criteria-based rules, such as historical use of the resource, again ei ther free or with a fixed charge.330
The two dominant choices 331 for existing and proposed cap-and-trade programs are auctions and free
allocations based at least partly on historical use of the resource. The free allocation approach is a form
of “grandfathering,” which, broadly defined, means giving special regulatory treatment to existing actors
compared to new actors.
In theory the method for initial allocation should not affect the ultimate efficiency of the market, so long
as the allocation does not create a monopoly.332 For example, consider a greenhouse gas cap-and-trade
market. As I have written previously elsewhere:
As soon as an emissions cap is put in place, the cost of electricity and energy-intensive goods will
rise, creating a price signal across the economy to save energy and move to cleaner technologies
like wind and solar. This effect will take place regardless of how permits are distributed, because
utility companies will account for the market value of the permits, not the purchase price. The
following analogy paints a clear picture: “A ticket scalper is going to charge the same amount—
the going black-market price—whether he’s selling a ticket that he found on the ground or a
ticket that he bought. He's just going to turn more of a profit if he f ound it on the ground.”333
However, that theory may be overstated. In reality, freely allocating valuable permits to existing actors
based on their historical use of the resource increases the risk of monopoly power in the permit market
and incentivizes perverse strategic behavior, like a firm artificially inflating its use of the resource in the
baseline year to increase its allocation share.334 The Federal Trade Commission has also found that,
compared to auctions, grandfathering may reduce the incentive to innovate.335 These efficiency
concerns are discussed in sections below. This section focuses on a different distinction between

327 Id.
328 Id.
329 Id.
330 But s etting the right fee is very difficult, it is better to a uction. FTC, Comments of the Staff of the Bureau of Economics o n

Protecti on of Stratospheric Ozone (1988).
331 Other s tructures a re possible. For example, the acid ra in market allocated almost all allowances freely, but also required
s ources to a uction a small percentage of their allowances at a zero -revenue a uction, for purposes of price discovery a nd to
a l low a vehicle for new entrants i nto the market.
332 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 12 (1981)
333 Ini mai Chettiar & Ja son Schwartz, The Road Ahead: EPA’s Obligations and Options for Regulating Greenhouse Gases (2009)
(ci ti ng Rob Inglis, The Power Industry's Prisoner's Dilemma, THE NEW R EPUBLIC: THE VINE, Ma r. 23, 2009, available at
http://blogs.tnr.com/tnr/blogs/environmentandenergy/archive/2009/03/23/the-power-industry-prisoner-s-dilemma.aspx).
334 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 138-139 (2006, 2d ed).
335 FTC, Comments of the Staff of the Bureau of Economics on Protection of Stratospheric Ozone (1988).

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grandfathering and auctions: distributional consequences, such as windfall profits and barriers to new
entry.
Regulators often choose grandfathering to avoid disruptions to the status quo, to protect returns on
past investments, and to ease tensions with the regulated industry. 336 In fish catch share programs, for
example, grandfathering based on fishers’ catch history has been preferred in order to protect
traditional fishing communities, increase fishers’ returns on investment, and provide incentives for
existing communities to act collectively to enhance the long-term value of the fish stock.337 Despite
specific statutory authority to auction,338 no U.S. fish catch share program has used auctions. The fishing
industry has a loud voice on regional fishery councils, and therefore such councils are unlikely to vote for
an auction. The National Marine Fisheries Service directly controls the catch share program for highly
migratory Bluefin tuna, but the agency specifically declined to auction quotas in order to protect past
investments and minimize uncertainty that an auction would create. 339
However, grandfathering can be inequitable, as it awards the regulated industry a windfall enrichment
and creates barriers to new entry. Returning to the ticket scalper analogy, whether the ticket was
initially purchased or found for free on the ground does not change the opportunity cost or the black
market price; it only affects the scalper’s profits. Likewise, freely allocating or auctioning greenhouse gas
permits will not affect the choices firms make about their individual levels of pollution or the costs
passed on to customers; it only affects the firms’ profits. By contrast, with a revenue-raising auction run
by the government, only the taxpayer gets a windfall enrichment.340
Auctions also reduce barriers to entry compared to grandfather.341 Grandfathering is a common feature
of prescriptive regulation, and new entrants face disproportionately stringent standards while existing
entities are protected out of political concerns. 342 Cap-and-trade auctions and credit programs may
create fewer anticompetitive barriers to new entrants to industry than prescriptive regulation.343 For
example, the cost, delay, uncertainty, and contentiousness of FCC licensing proceedings discouraged
new competitors from seeking access to electromagnetic spectrum; with license auctions, they can just
buy in.344 Similarly, in credit markets, new entrants can just buy in.
By contrast, when allowances are freely allocated, new entrants must rely on the secondary market for
the necessary permits to operate. Existing entities that hold the permits have an incentive not to
facilitate purchases from potential new competitors. For example, there have been accusations of

336 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory

Alternative 13 (1981)
337 Terry Anderson et al., Efficiency Advantage of Grandfathering, NBER No. w161519 (2010).
338 16 U.S.C. § 1853a (d)-(e).
339 79 Fed. Reg. 71,509 (2014).
340 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 12 (1981).
341 Breger, Stewart, Elliott, & Ha wkins, Providing Economic Incentive in Environmental Regulation, supra note 13.
342 See Jona than Nash & Ri chard Revesz, Grandfathering and Environmental Regulation: the Law and Economics of New Source
Review, 101 Northwestern U. L. Rev. 1677 (2007). Al s o, prescriptive regulations like BAT place disproportionate burdens on
new i ndustries (i.e., more stringent because no fear of s hutdown) and on more productive i ndustries (i.e., more stringent
beca use they ca n a fford it); tra ding eliminates those disproportionate burdens. Bruce Ackerman & Ri chard Stewart, Reforming
Environmental Law: The Democratic Case, supra note 255.
343 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative a t 4.
344 Id. a t 5.

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collusion against new entrants in the airport landing slot market.345 Airlines in possession of valuable
landing slots, which they got for free, have an incentive to retain the slots for possible future ridership
expansion, even if it means flying empty in the meantime.346 Some regulators try to address such new
entry barriers by creating a reserve pool or set-aside of allowances for new entrants. To that end, in
2011, FAA approved a trade of airport landing slots between Delta and U.S. Airways, but the agency
conditioned its approval on a portion of the paired slots being auctioned to carriers who had less than
5% of the existing slots at those airports. 347 The European Union’s Emissions Trading System has a setaside pool for new entrants, as does the acid rain market, though these set-asides have never been
accessed.348 Overall, set-aside pools for new entrants remain rare in marketable permit programs.349
Auctions are typically considered to be politically more difficult to implement, because the benefits of
auctioning are diffusely spread across all taxpayers, while the interests in favor of grandfathering are
highly concentrated and often politically connected.350 However, free initial allocations may create a
constituency of concentrated interests that will politically oppose any future changes to the programs’
stringency or allocations. In the long-run, auctions may make programmatic adjustments politically
easier.
An alternative option to freely allocating allowances to regulated entities based on historic use is to
allocate to other parties based on different criteria. For example, New Zealand gives 40% of its tradable
fish catch shares to the Maori, so that the community can protect its own interests. Similarly, the Bering
Sea Community Development Quota Program gave 7.5% of walleye Pollock quota to native
communities.351 In air pollution markets, some experts advocate for output-based allocations rather
than historic emissions-based allocations, to reward renewable and nuclear electricity generators with
allowances and to facilitate entry into the market.
Recommendation: Agencies should opt for auctions over grandfathering to prevent windfalls and
barriers to entry. If auctions are not feasible, agencies should consider alternate allocation
techniques, like set-asides for new entrants, output-based allocations, and community-based
allocations.

2.

Small Entities and Communities

In general, smaller entities may face special challenges in a marketable permit program. They may lack
the resources for the kind of long-term planning necessary to manage risk in the market. 352 Because of
economies of scale, they may have a harder time than larger sources offsetting the new monitoring
costs of trading programs with the cost savings of trading. 353 They may face higher transaction costs on
secondary markets and may not have the relationships with larger entities necessary to find buyers and
sellers if permits are not traded on established, standardized markets. For example, even though EPA
345 The a ccusations l ed FAA to propose reforms i n 2015 to i ncrease transparency a nd public participation, 80 Fed. Reg. 1273;

however, the proposed rule was withdrawn i n 2016.
346 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 42 (1981).
347 FAA Bri efing, Auction Opens for Slots at New York and Washington Airports, Nov. 14, 2011,
https ://www.transportation.gov/briefing-room/auction-opens-slots-new-york-and-washington-airports.
348 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 158 (2006, 2d ed).
349 Tom Ti etenberg, Tra dable Pe rmits in Pri nciple and Pra ctice, supra note 181.
350 Interview with Don Elliott.
351 Tom Ti etenberg, Tra dable Pe rmits in Pri nciple and Pra ctice, supra note 181.
352 Les ley McAl lister, Beyond Playing “Banker”, 59 Admi n. L. Rev. 269 (2007).
353 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 182 (2006, 2d ed).

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designed its inter-refinery trading system for lead in gasoline in part to help small refiners manage their
costs,354 in reality both small and new refineries faced higher transaction costs. 355 As another example,
small providers in rural areas have had trouble accessing spectrum on the secondary market,356 and the
FCC reserves some spectrum for public uses, out of concern that they cannot compete in auctions.
The distributional consequences of marketable permit programs to small entities and communities have
attracted the most attention in fish catch share programs. The temporary moratorium on fish catch
share programs imposed by Congress was motivated largely by concerns about equity, small
communities, and a potential influx of outside investors. 357 Fishers have often insisted upon various
trade restrictions—sometimes over the objections of regulators—in order to protect fishing
communities from outside corporate interests. 358 For example, the Alaskan halibut tradable catch share
program prohibits transfers across vessel class size and requires owners to be on board for catch ,359 and
many fish catch share programs have position limits designed to minimize consolidation of permits. 360 In
fact, share caps and other limits to prevent inequitable concentrations are required by statute,361 and
the regional fishery councils must consider employment and the cultural framework of the fishery in
their initial allocations, to protect participation of small owners. The Magnuson-Stevens Act also allows
the federal government to help finance the purchase of shares by small or new fishers. 362
Nevertheless, several fisheries have experienced distributional consequences. Alaska’s halibut and
sablefish fisheries endured layoffs, with small fishers and small communities hit the hardest. 363 In a
survey of red snapper shareholders, though large shareholders reported being “very satisfied” with the
program, small shareholders were quite unsatisfied, and the overall rating of the program’s success was
“tepid.”364 Small shareholders felt the program had serious inequalities and resented the creation of a
“new class of ‘sea lords’” who own shares but lease them out rather than fish themselves.365 In 1990,
when the first U.S. tradable catch share program began, there were 117 unique holders of Mid Atlantic
quahog allocations; since then, there has been a steady decline, and as of 2013 there were only 40
unique share holders.366 Notably, the quahog program did not historically have accumulation limits,
relying instead on standard antitrust laws to protect against excessive concentration. But while existing
antitrust laws may prevent monopolies, they are insufficient to prevent permit consolidation .367
None of this suggests that distributional consequences are necessarily worse under marketable permit
programs than traditional regulations. As noted above, marketable permits allocated by auction (or by
credit system) can help put all firms—existing or new, large or small—on relatively equal footing, and
354 Sta vi ns, What Ca n We Learn from U.S. Experience?, supra note 13, a t 22.
355 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 69 (2006, 2d ed).
356 FCC, The National Broadband Plan 83 (2010).
357 Ma rk Fi na, Evolution of Catch Share Management, 36 Fi s heries 164 (2011); cf. NRC, Sharing the Fish: Toward a National

Policy on IFQs (1999) (mora torium was because of congressional concerns a bout social, economic, a nd biological effects).
358 Ka tri na Wyman, Why Regulators Turn to Tradable Permits: A Canadian Case Study, 52 U. Toronto L.J. 419 (2002).
359 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181. Al so, the Pa cific Coast Sablefish program
prohi bits transfers to partnerships or corporations.
360 For exa mple, the Sea Scallop IFQ ownership cap is 2.5% per vessel, 5% per entity. NOAA, Economic Performance of U.S.
Ca tch Sha re Programs, NMFS-F/SPO-133 (2013). The Golden Tilfeish IFQ ca p is 49%. Id.
361 16 U.S.C. § 1853a (c)(5).
362 16 U.S.C. § 1853a (g). Such loans do exist, with terms of twe nty years or more. Ma rk Fina & Tys on Kade, Legal and Policy
Implications of the Perception of Property Rights in Catch Shares, supra note 193.
363 Pew Envtl . Group, Design Matters: Making Catch Shares Work (2009).
364 Na t’l Ma rine Fisheries Serv., Red Snapper IFQ Five -Year Review (2013) (survey conducted by Louisiana State University).
365 Id.
366 NOAA, Economic Performance of U.S. Ca tch Share Programs, NMFS -F/SPO-133 (2013).
367 NRC, Sharing the Fish: Toward a National Policy on IFQs (1999).

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other allocation methods can specifically address distributional concerns, such as giving catch share
directly to native communities. Regulators should generally be aware of the potential for distributional
effects on small entities and communities, though there is likely no one-size-fits-all solution.

3.

Consumer Effects and Auction Revenue

One concern raised about marketable permits is that by charging regulated entities for permits they
once received for free, those costs will be passed on to consumers. However, economic theory suggests
that the marketability or auctioning of permits should have no effect on consumers compared to other
kinds of similarly stringent regulation or other methods of allocation. Under a greenhouse gas cap-andtrade program, it is the cap, not the trading or auctioning, that raises the cost of electricity and energy intensive goods, and similarly stringent prescriptive regulations would have similar results. According to
economic theory, consumer prices should not depend on the sunk cost of winning a bid at auction, but
rather on the permit’s opportunity cost, which is independent of allocation method.
Empirical evidence confirms this theory. For example, data on the cellular telephone market from 19851998 showed that FCC’s spectrum auctions did not raise consumer prices.368 Similarly, despite huge
volatility in the price of renewable fuel credits in 2013, consumers did not experience any corresponding
increases in overall retail price of transportation fuels.369 More generally, economists have found that
choosing free allocation instead of auctioning only results in transferring wealth to corporate
shareholders, with little if any benefit to consumers.370
Even though an auction, free allocation, or prescriptive regulation might all have similar effects on
consumer prices, an auction at least generates revenue that can potentially be returned to consumers
by a per capita dividend. For example, any cap on greenhouse gas emissions will increase energy prices.
Because lower- and middle-income households spend a larger percentage of their income on energy
than higher-income households, increases in energy prices potentially have a regressive effect. By
auctioning and distributing revenue back on a per capita basis, studies show that most consumers would
actually come out ahead under this kind of cap-auction-dividend system.371
Direct dividend mechanisms typically will not be available to federal agencies implementing auctions.
Unless specifically authorized otherwise by statute, the law requires all proceeds collected by federal

368 Eva n Kwerel, Spectrum Auctions Do Not Raise the Price of Wireless Services: Theory and Evidence ( FCC Pa per, 2000).
369 Da llas Burkholder, OTAQ, Preliminary Analysis of RIN Market Dynamics, RIN Prices, and Their Effects (2015). Though retail

pri ces of fuels with a low percentage or no renewable content may i ncrease with high RIN prices, while the retail price of fuels
wi th a high percentage of renewables may decrease.
370 Policy Options to Prevent Climate Change: Hearing Before H. Comm. on Ways and Means, 100th Cong., 8 (2008) (tes timony
of Da llas Burtraw, Senior Fellow, Resources for the Future). Economic experts a nd President Obama called for a 100% a uction
of a l l greenhouse gas allowances under a l egislative ca p-and-trade program, decrying a ny free allocation of permits as an
i ndustry gi veaway. See Robin Bravender, Economists Assail Industry’s Push for Free Allowances, E&E D AILY NEWS, Apr. 9, 2009.
But see Ben Geman & Mi ke Burnham, Obama Admin. Courting Moderate Senate Democrats, E&E D AILY NEWS, Apr. 8, 2009
(noti ng Obama may be flexible on his ca ll for a 100% a uction).
371 See Da l las Burtraw et a l., The Incidence of U.S. Climate Policy: Where You Stand Depends on Where You Sit 36 (Res . for the
Future Discussion Pa per No. 08-28, 2008), available at http://www.rff.org/RFF/Documents/RFF-DP-08-28.pdf. This i s true even
before they cha nge their behavior to s ave energy, which for lower-income Americans might not be financially feasible ri ght
a wa y. The regional disparities from a ca p with revenue distribution are also not large. Id. Recognizing the fairness of
di s tributing a uction revenue to the public, President Obama has voiced this policy preference. OMB, A NEW ERA OF R ESPONSIBILITY,
supra note 23, a t 21. The President’s budget proposed that, of the a uction proceeds from a ca p-and-trade system for
greenhouse gases, $150 bi llion would be used to fund cl ean energy technologies, and the balance would be “returned to the
people, especially vul nerable families, communities, a nd businesses to help the tra nsition to a clean energy economy.” Id.

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agencies to be deposited into the general treasury of the United States,372 except perhaps enough to
cover administrative expenses.373 Agencies most likely could not avoid this result by designating some
non-profit third party to run the auction and distribute revenue. 374 Still, general treasury deposits could
ultimately lighten the overall tax burden, and this result remains preferable to a free windfall for
regulated entities. Notably, states are not under such constraints, including states implementing federal
standards under a cooperative federalism statute like the Clean Air Act, and so states could dividend
auction revenue back to consumers. And as seen with some fish catch share programs, it may be
possible to allocate allowances to affected communities and let them put the allowances up for auction.
Recommendation: Federal agencies should opt for auctions and should encourage states to use an
auction-and-dividend approach.

III.

Policy Effectiveness

Do marketable permits maintain or exceed the required regulatory protections, or do they fall short and
generate negative externalities?

A.

Currency and Exchange Restrictions: Fungibility, Externalities, Uncertainty

In general, marketable permits work best when regulators care more about the total amount of activity
than about who is undertaking the activity.375 Global pollutants like greenhouse gases present the
paradigmatic case for marketable permits because they are particularly flexible on the questions of
“who, what, where, and when.”376 Greenhouse gases mix freely in the global atmosphere, have long
lifespans, and affect global climate through their accumulated stock concentrations rather than through
emissions flows. Because greenhouse gases have no localized effects, it does not matter which
industries, sources, or regions reduce their emissions. 377 After adjusting for relative potencies, to some
extent it also does not matter much which greenhouse gas variety is mitigated: carbon dioxide,
methane, nitrous oxide, or highly-potent fluorinated gases. Similarly, at least within periods of a few
years, to some extent it does not matter much when greenhouse emissions are abated, lending the
market a degree of temporal flexibility that allows it to adjust to fluctuating compliance costs over time
without sacrificing environmental benefits. 378 With greenhouse gases, essentially all that matters is
identifying the optimal overall emissions cap for each period of years; the market then sorts out for
itself who can achieve which emissions reductions at the lowest compliance cost. In short, a cap-andtrade market can exchange tons of carbon dioxide-equivalent emissions as a highly fungible kind of
currency.

372 See Mi s cellaneous Receipts Act, 31 U.S.C. § 3302 (2008).
373 See IOAA, 31 U.S.C. § 9701(a ) (“It i s the sense of Congress that each service or thing of va lue provided by a n agency (except a

mi xed-ownership Government corporation) to a person (except a person on official business of the United States Government)
i s to be self-sustaining to the extent possible.”). It is l ess cl ear whether EPA could keep enough to cover all its expenses relating
to cl i mate change regulation.
374 “Government a gencies ca nnot escape responsibility for failing to perform their s tatutory duties by hiring private parties to
perform those duties.” Thomas v. Network Solutions, 176 F.3d 500, 510 (D.C. Ci r. 1999).
375 Marketable Rights, supra note 1, a t 9.
376 Sta vi ns, U.S. Cap-and-Trade System, supra note 262, a t 31.
377 In other words, a llowing sources to tra de greenhouse gas permits a cross sectors and regions does not crea te “hot spots” of
l oca lized pollution. Allowing greenhouse gas markets could change the distribution of co -benefits from the reduction of copol lutants.
378 Sta vi ns, U.S. Cap-and-Trade System, supra note 262, a t 31.

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Complete fungibility rarely exists for other kinds of currencies in common marketable permits
programs.379 As Salzman and Ruhl have detailed, currencies that inadequately control for non-fungibility
across space, type, or time may allow externalities to bleed out of the market. 380 For example, in
RECLAIM’s car scraping program, the fact that refinery emissions are concentrated, more carcinogenic,
and spike at irregular times, while vehicle emissions are geographically diffuse, less carcinogenic, and
fluctuate over regular 24-hour periods, meant that reductions in vehicle emissions were imperfectly
fungible spatially, temporally, and by type with increased refinery emissions.381 Without any additional
regulatory controls, allowing trading between vehicle and refinery emissions to proceed on the false
assumption that they are interchangeable ton for ton would generate unintended, negative
externalities: instead of a diffuse population being exposed to somewhat dangerous pollution from cars,
a concentrated population might be exposed to more highly dangerous pollution from refineries.
Eliminating all non-fungibilities may be practically impossible. As Salzman and Ruhl remark, nobody will
trade identical blue marbles, and the whole point of a market is to take advantage of heterogeneity. 382
More complex currencies, like trading in units of cancer risk in the above RECLAIM example, could
resolve some externalities, but at a heavy informational burden on agencies and attendant increased
transaction costs, making the market less efficient.383 Some critics of marketable permit programs note
that designing sufficiently comprehensive currencies may be impossible: arguably, no expert could
authoritatively answer whether one acre of wetland provided the same ecosystem services as
another,384 and regulators are unlikely to have the financial resources or technical expertise to judge the
relative values of highly heterogeneous environmental assets like habitat and water quality. 385 To these
critics, non-fungibility suggest marketable permits may not be appropriate in such contexts.
In reality, most marketable permit programs have accepted the fungibility problems of simple currencies
like tons of pollution and acres of wetland, and address the resulting externalities by adopting
restrictions on who can trade, where and when they can trade, and at what exchange rate they can
trade.386 Unfortunately, too many exchange restrictions will create risks of market imperfections, like
thin, inactive markets, which undermine the efficiency of the program.387
Trading ratios can address known differences in impacts across space, time, or type. 388 However,
uncertainty about fungibility and externalities creates its own challenges for a marketable permit
program. Some imperfect fungibilities as to “who” can be dealt with through restrictions on market
participation, such as restricting foreign ownership.389 Other issues, like national security concerns over
ownership of electromagnetic spectrum, can likely only be addressed through institutional reviews.
Options for such exchange restrictions and institutional reviews are discussed in the following sections.

379 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181 (Permit fungibility i s frequently a “myth”.)
380 Ja mes Salzman & J.B. Ruhl, Currencies and the Commodification of Environmental Law, supra note 6.
381 Id.
382 Id.
383 Id.
384 Da vi d Driesen, Trading and Its Limits, 14 Penn. St. Envtl . L. Rev. 169 (2005).
385 Ja mes Boyd, Dennis Ki ng & Li sa Wainger, Compensation for Lost Ecosystem Services: The Need for Benefit-Based Transfer

Ratios, 20 Sta nford Envtl. L. J. 393 (2001).
386 Ja mes Salzman & J.B. Ruhl, Currencies and the Commodification of Environmental Law, supra note 6.
387 Id.
388 Wi l lamette Pa rtnership, In It Together: A How-To Reference Part 2 (2012).
389 The Ma gnunson-Stevens Act ,16 U.S.C. § 1853a (c), prohibits foreign ownership. CFC tra ding rule allows i nternational
tra ns fers wi th EPA a pproval.

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1.

Spatial Issues and Hot Spots

One of the most common critiques of environmental marketable permit programs relates to spatial
fungibility: namely, hot spots. 390 The concern is that by allowing certain sources to purchase credits and
emit more than they would otherwise under a prescriptive standard, localized increases in emissions of
either the target pollutant or co-pollutants could disproportionately affect certain populations.
Depending on wind patterns and other factors, localized hot spots could occur even if the sources
buying credits are not themselves geographically concentrated.391 As Richard Revesz and Jonathan Nash
point out, having disproportionate concentrations of pollution in some regions may be welfare
maximizing or not, depending on the shape of the pollutant’s damage function; but from a distributional
perspective, concentrations are usually undesirable.392 In short, it seems unfair to make residents of one
region trade their environmental and health benefits against another population’s.393
Economic theory puts forward one reason to expect hot spots absent any exchange restrictions.
Correlation between higher abatement costs and higher damages—which would lead to hot spots as the
highly damaging sources choose to buy allowances rather than abate given their high compliance
costs—may be more likely than having high emissions where the costs can be easily absorbed.394 There
has been some sporadic evidence of marketable permits resulting in hot spots, as with RECLAIM’s credit
program that allowed trading diffuse mobile source pollution for concentrated stationary pollution. 395
However, in general, there is not much evidence that hot spots have materialized in marketable permit
programs.396 For example, some worried the acid rain program would cause hot spots, as especially dirty
power plants in the Midwest would choose to buy allowances rather than reduce th eir emissions. In
fact, the acid rain program’s much feared hot spots did not develop, nor did hot spot arise in NOx
trading.397 The acid rain market may have even benefited the most vulnerable regions.398 More than just
good luck, it makes some intuitive sense that the cheapest abatement opportunities (i.e., the abatement
opportunities that markets will prioritize) might be found among the largest sources, which tend to be
the sources located were the biggest environmental problems are. 399
Nevertheless, concerns about hot spots have given rise to many proposed restrictions on trades. The
acid rain market restricted trades that would result in violations of national ambient air quality
standards,400 though the program did not specify a mechanism for achieving this goal.401 For air pollution
markets, the three common exchange restrictions motivated by hot spots are: preventing inter-zonal
390 Da n Farber, Pollution Markets and Social Equity, 39 Ecol . L. Q. (2012).
391 Jona than Nash & Richard Revesz, Markets and Geography: Designing Marketable Permit Schemes to Control Local and

Regional Pollutants, 28 Ecol . L. Q. 569 (2002).
392 Id.
393 Breger, Stewart, Elliott, & Ha wkins, Providing Economic Incentive in Environmental Regulation, supra note 13.
394 Byron Swi ft, U.S. Emissions Trading: Myths, Realities and Opportunities, 20 Na t. Res . & Envt. 3 (2005) (ci ti ng Stavins,
Correlated Uncertainty & Policy Instrument Choice, 30 J. Envtl . Econ. & Mgmt. 218, 229-30 (1996).
395 Ri chard Drury et a l., Pollution Trading and Environmental Injustice, 9 Duke Envtl . L. & Pol ’y Forum 231 (1999).
396 Byron Swi ft, supra note 394.
397 A. Denny El lerman, Are Cap and Trade Programs More Environmentally-Effective Than Conventional Regulation? 55, in
Movi ng to Ma rkets, supra note 2.
398 Wi nston Harrington & Richard Morgenstern, International Experience with Competing Approaches to Environmental Policy:
Results from Six Paired Cases, supra note 259, a t 128.
399 El l erman, Are Cap and Trade Programs More Environmentally-Effective Than Conventional Regulation?, supra note 397, a t
53.
400 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181.
401 Some s tates developed specific tools: for example, New York restricts upwind a cid rain trades. Ja mes Salzman & J.B. Ruhl,
Currencies and the Commodification of Environmental Law, supra note 6.

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trades; changing the currency to units of environmental degradation instead of tons; and imposing
offset ratios. Revesz and Nash explain why none of these solutions is optimal. Partitioning the market
into several geographic zones will not solve all spatially differentiated impacts, and reducing the size of
the markets increases the risk of market power and blocks some otherwise efficient trades from taking
place. Moreover, allocating the “correct” number of permits to each zone could be administratively
challenging. Trading in environmental degradation units essentially creates separate markets at each
individual air quality monitoring station. In addition to the resulting market thinness—exacerbated by
the fact that each source would have to simultaneously obtain all needed permits at every receptor
point, since not having one permit would block the emission and render all purchased permits
worthless—multiple markets entail substantial supervision costs for the agency and transaction costs for
industry. Finally, offset ratios add complexity for both regulators and participants, because a permit
would convey different rights to different holders at different times, depending on the ratio dictated by
environmental quality factors unique to each source’s location.402 Revesz and Nash develop a fourth
option as their preferred solution: emissions trades would be conducted online subject to a
computerized model of local air quality effects, and trades would be constrained only if the model
predicted the exchange would cause local air quality to exceed standards.403 Ultimately, Congress seems
to have responded to hot spot concerns with the acid rain program by just increasing the stringency of
the standard: “it was understood [by Congress] that the greater the overall size of the reduction, the
more indifferent society could be to the spatial impacts of trades.”404
With the exception of global pollutants like ozone-depleting substances, 405 many existing marketable
permit programs have adopted various restrictions to prevent externalities relating to spatial fungibility.
RECLAIM limited trading to within designated zones, and other programs restrict trading across
airsheds.406 Water quality trading is limited to within watersheds, regulators can annul trades that lead
to destructive localized pollution,407 and ratios may be applied to adjust for how different locations of
discharge can have different effects on water quality. Many state-based renewable electricity standards
restrict eligible credits to within neighboring states. 408 For conservation banking, mitigation must be in
locations identified in landscape-scale conservation plans,409 though some spatial flexibility is allowed if
the overall benefit to the species warrants it. 410 According to the Army Corps of Engineers, trades
between urban and rural wetlands are not favored, but are sometimes unavoidable.411

402 Jona than Nash & Richard Revesz, Markets and Geography: Designing Marketable Permit Schemes to Control Local and

Regional Pollutants, 28 Ecol . L. Q. 569 (2002).
403 Id.
404 Id.
405 There is unrestricted trading a cross airsheds for CFCs , see 42 U.S.C. § 7671f(a ).
406 Ja mes Salzman & J.B. Ruhl, Currencies and the Commodification of Environmental Law, supra note 6 (for exa mple, tra ding
progra ms for NOx or VOCs ); see 42 U.S.C. § 7503(c)).
407 Andrew Wolman, Effluent Trading in the United States and Australia, supra note 229; see also EPA, Wa ter Qua lity Tra ding
Pol i cy, 68 Fed. Reg. 1609 (Ja n. 13, 2003). EPA s upports tra ding for total phosphorus and total nitrogen and sediment l oad, but
other pollutants would be subject to higher level of case-by-case scrutiny, i mplicit concern is hot spots; i n particular, EPA does
not currently s upport tra ding i n bioaccumulative toxics, but is open to a pilot project. Id.; EPA, Wa ter Quality Tra ding Toolkit
(2009).
408 NREL, Quantifying the Level of Cross-State Renewable Energy Transactions (2015) (or wi thi n ISO). California limits percent of
out-of-state credits allowed (in 2012, a ctual tra des were a t 28% out-of-state). Id.
409 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016).
410 See NMFS Wes t Coast Region, Conservation Banking Guidance (2015).
411 Corps -EPA Final Rule, Compensatory Mi tigation for Losses of Aquatic Resources, 73 Fed. Reg. 19,593 (2008).

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2.

Temporal Issues and Banking/Borrowing

Temporal issues that must be resolved in designing marketable permit programs include whether
permits are perpetual or have fixed lives, and whether allowances and credits can be banked for use in
future years or borrowed from future years to satisfy compliance today. More permanency encourages
long-term investment decisions, while fixed lives make it easier for agencies to adjust supply and for
participants to rethink their market strategies.412 Shorter permit lifespans also means less is at stake
with any individual transfer, which may reduce the need for rigorous agency scrutiny of each transfer. 413
Banking can be crucial to letting regulated sources hedge against permit price volatility and unexpected
economic changes. On the other hand, current regulated activities may not be perfectly fungible with
regulated activities far in the future, as with the emission of bioaccumulative toxins. Banking can also
increase the incentive for noncompliance, because any permi ts not cashed in at end of the year for
compliance still have value in future years.414 There was some evidence from the lead phase-down
program that banking led to noncompliance in early years, but at the same time, the evidence further
suggests that banking was crucial to the program’s efficiency and therefore environmental success.415
Agencies employ a range of practices to manage temporal flexibilities. For EPA’s regulation of vehicle
emissions, each vintage-year credit can be held for a fixed duration of about 10 years,416 while for EPA’s
renewable fuel standard, RINs can only be banked for one compliance year. 417 NOx trading programs
have limited too much banking of allowances in any one period.418
For wetland and conservation banking, a major distinction between banks and in-lieu fee instruments is
the timing of mitigation. With banks, mitigation is verified before credits are sold to allow a project to
proceed with harm to the habitat; with in-lieu fees, mitigation is not necessarily achieved in advance,
and credits purchased may represent more of a promise for future mitigation.419 The Fish and Wildlife
Service has stated a preference for advance mitigation, and when that is not possible the agency
recommends increasing the trading ratio to reflect any temporal species losses.420 The Army Corps of
Engineers has addressed similar concerns about in-lieu fees and the timing of mitigation by limiting the
number of advance credits that can be sold and requiring in-lieu instruments to be operated by local
governments or nonprofit groups, not by for-profit businesses.421

3.

Type and Value Issues

Does a ton of pollution mitigated present the same carcinogenic risks as the additional ton of pollution it
offset? Can one pollutant be traded for another? 422 Does an acre of wetlands newly created provide the
412 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory

Alternative 10-11 (1981)
413 Id. a t 11.
414 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 179 (2006, 2d ed).
415 Id.
416 EPA, Ma nufacturer Performance Report for 2015 MY (2015).
417 EPA, RINs under the Renewable Fuel Standard Program, https://www.epa.gov/renewable-fuel-standardprogra m/renewable-identification-numbers-rins-under-renewable-fuel-standard.
418 Jona than Nash & Richard Revesz, Markets and Geography: Designing Marketable Permit Schemes to Control Local and
Regional Pollutants, 28 Ecol . L. Q. 569 (2002).
419 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016).
420 Id.
421 Corps -EPA Final Rule, Compensatory Mi tigation for Losses of Aquatic Resources, 73 Fed. Reg. 19,593 (2008).
422 Don El liott and Gail Charnley have called for trading among different pollutants where benefits of reduced risk are clear
(ci ted in Salzman and Ruhl, supra note 6). Cross-pollutant tra ding works for greenhouse gases and CFCs . Some restrictions on

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same ecosystem services as the acre of wetlands destroyed in its place? Do fish catch share programs
increase the bycatch and discarding of non-target species,423 or do conservation banks inadvertently
degrade non-target species?424 Different type- and value-fungibility issues crop up in each marketable
permit application, and responses vary widely as well.
EPA has long had a generic policy for air pollution trading that trades must be environmentally
equivalent,425 though the agency does not clearly specify how that is to be achieved in every case. By
contrast, the rules for wetland mitigation banks do not explicitly require replacement of lost social
value.426 In general wetland banking tries to replace the exact function of the wetland, while
conservation banking tries to offset the impact to the endangered species. 427 The Army Corps has a
preference for in-kind mitigation, especially for hard to replace wetlands like bogs, fens, and vernal
pools, but does allow out-of-kind mitigation between different kinds of wetlands.428 Conservation
banking must be in-kind for the species, but it could involve trading different habitat types if the species
outcome is the same. 429
Fish and Wildlife Service policy states that habitat credits should be measured in the same terms as the
impacts: acre for acre, family group for family group.430 The Corps’ 2008 regulation tried to move
wetland mitigation banks away from proxies like acres and toward functional assessments to quantify
credits and debits. 431 However, most habitat and wetland mitigation banks continue to rely on simply
currencies, like acres (sometimes with trading ratios), rather than complex currencies like functional
value or species family groups.432 Acreage-based trades may be weighted for quality and value, and
ratios can either increase or decrease the number of acres to be mitigated: for example, a loss of two
acres of low-quality habitat may only need 1 high-quality credit.433 Unfortunately, there are no simple,
off-the-shelf valuation tools for measuring biophysical or functional site characteristics of wetlands or
habitat, let alone for comparing the relative economic values of the habitat being traded. 434

cros s -pollutant tra ding appear in EPA’s 1996 dra ft framework on watershed-based trading (1996), but more recently EPA
s upports cross-pollutant trading for oxygen-related pollutants if adequate information is available on impacts. EPA, Wa ter
Qua l ity Tra ding Policy, 68 Fed. Reg. 1609 (Ja n. 13, 2003).
423 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181.
424 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003).
425 Ja mes Salzman & J.B. Ruhl, Currencies and the Commodification of Environmental Law, supra note 6 (ci ting 51 Fed. Reg.
43,814 (Dec. 4, 1986)).
426 Ja mes Boyd, Dennis Ki ng & Li sa Wainger, Compensation for Lost Ecosystem Services, supra note 385.
427 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003).
428 Corps -EPA Final Rule, Compensatory Mi tigation for Losses of Aquatic Resources, 73 Fed. Reg. 19,593 (2008).
429 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016). Ni nth Circuit caselaw prevents using
non-cri tical habitat credits to offset effects to cri tical habitat. See NMFS West Coast Region, Conservation Banking Guidance
(2015).
430 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003).
431 Corps -EPA Final Rule, Compensatory Mi tigation for Losses of Aquatic Resources, 73 Fed. Reg. 19,593 (2008).
432 Ja mes Boyd, Dennis Ki ng & Li sa Wainger, Compensation for Lost Ecosystem Services, supra note 385 (In 1992, of 46 wetl ands
ba nks, 20 used functional a ssessments, 26 us ed rough acreage-based tra ding ra tios); see also Ja mes Salzman & J.B. Ruhl,
Currencies and the Commodification of Environmental Law, supra note 6 (of 36 ba nks established a fter 1994, s i mply currencies,
l i ke acres, continue to dominate). As of 2003, the most common metric for conserva tion banking was a creage; s ome banks used
a crea ge plus multipliers; number of s pecies i s the least common metric. Stratus Consulting for Northwest Fisheries Science
Center, NOAA, A Na ti onwide Survey of Conservation Banks (2003).
433 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003).
434 Ja mes Boyd, Dennis Ki ng & Li sa Wainger, Compensation for Lost Ecosystem Services, supra note 385.

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4.

Institutional Review Mechanisms

The preceding three sections discussed various non-fungibilities and the exchange restrictions some
agencies apply to all trades to compensate for resulting externalities. Another option is, instead of
universal restrictions, case-by-case reviews. Not only could case-by-case reviews address externalities,
but they can also prevent unfit parties from acquiring permits.435 However, a “gatekeeper”436 with
power to reject trades case-by-case increases transaction costs, and presents problems of false
positives, overcorrection, and invalidation of good trades. 437 For example, when EPA originally insisted
on ex post review of trades for criteria pollutants offsets, fewer than half the trades took place
compared to states with no ex post review. 438 Some agencies continue to exercise a gatekeeper role.
The Fish and Wildlife Service must approve all credit transactions for use in any Endangered Species Act
permit, and the Service also approves all conservation bank operations.439
There are several other models of institutional review. The government could act as a market
middleman and take charge of all buying in selling: for example, Puerto Rico’s Planning Board acts as
buyer and seller in all exchanges of transferable development rights.440 Trading programs could provide
for public comment and review on all individual trades, but the transaction costs would likely undermine
an efficient market. 441 A more targeted approach could allow citizens to flag certain trades for review by
an independent panel of scientific experts and public interest group, though transaction costs could still
be prohibitive. 442 Finally, there could be greater judicial accountability for permit transactions. Judicial
review of permits are usually quite deferential, but an agency could shift burdens of proof onto the
applicant, or Congress could grant liberal citizen suit rights; 443 once again, transaction costs and
uncertainty would be high.444

B.

Setting a Cap and Adaptive Management

A prerequisite for a marketable permit program is sufficient information for regulators to set a cap or
baseline.445 The slow development of watershed-specific pollution loading limits (TMDLs), for example,
is a major reason for the slow development of water quality trading.446 The cap must be sufficiently
stringent both to achieve the policy objective and to facilitate an active market; if the cap is too weak,
there will not be enough demand for allowances to support a market.447 For example, the Regional

435 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory

Alternative 17-18 (1981) (a lso preventing undue market concentration, though position limits ca n also do that).
436 Id. a t 16.
437 Sa l zman & Ruhl, supra note 6.
438 Id.
439 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016).
440 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 38 (1981).
441 Sa l zman & Ruhl, supra note 6.
442 Id.
443 Robert Glicksman, Regulatory Safeguards for Accountable Ecosystem Service Markets in Wetlands Development, 62 Ka ns as L.
Rev. 943 (2014).
444 Sa l zman & Ruhl, supra note 6.
445 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181.
446 EPA & USDA, Report on 2015 Na tional Workshop on Water Quality Ma rkets (2016).
447 Wi l lamette Pa rtnership, In It Together: A How-To Reference (2012).

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Greenhouse Gas Initiative’s cap proved to be too weak in the face of changing economic conditions, and
for most of the program’s existence the cap has not been a binding constraint on emissions. 448

1.

Capping Total Activity Levels Is Often More Efficient Than Capping Rates

The choice of capping either total activity or the rate of activity arises most often in the context of air
and water pollution markets, though the question does occur in other policy contexts. For example, in a
proposed market to control the issuance of antibiotic prescriptions, it is the difference between capping
total prescriptions or just capping the number of prescriptions a doctor can write per patient. 449 For
simplicity, since the choice does occur most often in the pollution context, this section will assess m assbased caps (hard limits on total emissions) versus rate-based systems (limits instead on emission per
unit of activity). The economics literature shows that mass-based cap-and-trade systems offer more
efficient and predictable reductions than rate-based trading schemes. 450 By placing a hard cap on total
emissions, a mass-based trading program puts a price on every ton emitted. A rate-based trading
program, by contrast, raises the cost of only some emissions—namely, those in excess of the relevant
performance standard. Emissions below the performance standard remain implicitly subsidized under a
rate-based approach. Because sources do not have to internalize the externalities of their pollution
emitted below the rate, total emissions will end up inefficiently high. As demand for the regulated
activity increases, under a rate-based systems sources can continue to meet their required limit per unit
of activity while increasing their overall activity, resulting in more emissions. For example, with
population and economic growth, drivers will travel more miles in their motor vehicles and burn more
gasoline, and transportation emissions will rise even with a rate-based standard in place. 451
A similar problem results from the “rebound effect.” 452 For example, regulating vehicles’ emissions
through a rate-based standard prompts manufacturers to build cars that consume less gasoline per mile.
Consumers therefore need less gasoline to drive a mile. As the cost of driving each mile falls, consumers
begin driving more miles, and overall emissions slightly rebound. 453 Rebound can occur in any sector
where regulation prompts sources to improve the efficiency of their activities, including in the electricity
sector.454 Mass-based caps avoid the rebound effect.
A mass-based cap-and-trade program is also easier to administer, particularly with respect to allowing
credits into the market, such as from energy efficiency projects, renewable energy, or early action

448 Interagency Working Group on Ca rbon Ma rket Oversight, Report on the Oversight of Existing and Prospective Carbon

Markets n.11 (2011).
449 See Ri cha rd D. Smith & Joa nna Coast, Controlling Antimicrobial Resistance: A Proposed Transferable Permit Market, 43
Hea lth Policy 219 (1998)).
450 See Ja n-Tjeerd Boom & Bouwe R. Dijkstra, Permit Trading and Credit Trading: A Comparison of Cap-Based and Rate-Based
Emissions Trading Under Perfect and Imperfect Competition, 44 Envtl . Res. Econ. 107, 131 (2009) (“[U]nder perfect competition,
[ra te-based] credit tra ding always l eads to higher a batement costs than [mass-based] permit trading.”); Ca rolyn Fischer,
Combining Rate-Based and Cap and Trade Emissions Policies 8 (Resources for the Future, Discussion Pa per 03–32, 2003) (“Gi ven
a n equivalent emissions ra te (or permit price), total emissions will be higher [in a ra te-based tra ding s ystem] than with [massba s ed tra ding].”). See also Pol icy Integrity Comments on Federal Plan a nd Model Rules,
http://policyi ntegrity.org/documents/PolicyIntegrity_CommentsonFederalPlanandModelRules.pdf.
451 See U.S. Energy Info. Admin., Ann. Energy Outl ook 2013 tbl .18, available at http://www.eia.gov/ forecasts/
a eo/data.cfm#co2emsec (showing 2025 tra nsportation emissions under “High Economic Growth” s cenario).
452 77 Fed. Reg. a t 62,716.
453 Some s tudies suggest that a 10% i ncrease i n fuel efficiency for au tomobiles would likely result in a 1-2% i ncrease in vehicle
mi l es traveled. See Nat’l Res. Council, Effectiveness and Impact of Corporate Average Fuel Economy (CAFE) Standards 19 (2002).
454 See 80 Fed. Reg. at 64,745 (noting the possibility of rebound for p ower plants but expressing confidence that other
provi sions in the Clean Power Pl an will prevent it).

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credits.455 Take the example of a carbon permit market for power plant emissions. Successful energy
efficiency projects decrease electricity demand and reduce aggregate emissions, but they have no effect
on the rate at which generators emit carbon. Renewable energy production reduces the demand for
fossil fuels, but likewise has no effect on the emissions rate of fossil fuel-fired sources. Integrating
efficiency efforts or renewable energy credits into a rate-based program therefore requires EPA and
states to make complex predictions about the degree to which a particular renewable or efficiency
investment will reduce fossil fuel demand below the business-as-usual baseline. A mass-based program
simply caps emissions, requires sources to hold a permit for every ton of greenhouse emissions, and lets
the market decide whether power plants will reduce emissions by improving the efficiency of their coalfired units or by investing in energy efficiency programs or renewable generation to offset their own
demand.
Note that, depending on the nature of the problem to be address, a rate -based system could be more
effective. For example, in the context of a market for antibiotic prescriptions, if the problem is that the
aggregate number of prescriptions is too high, then a total cap is most effective appropriate; but if the
problem is that a few prescribers or patients abuse the system and get too many prescriptions, then a
rate-based limit may be more appropriate.
Recommendation: Agencies should strongly consider capping the total activity level, rather than just
capping the rate of activity.

2.

Features of a Market-Based System Can Increase Stringency

The cost savings offered by marketable permit programs may enable regulators to set a more stringent
cap than they could under prescriptive regulation, or may even break a political logjam blocking any
regulation at all. Though it may not always happen, the cost savings of trading can be channeled back
into more stringency:456 for any given total compliance cost that is politically acceptable, marketable
permits can achieve greater stringency than traditional regulation. A set cap may also achieve targets
with greater certainty and transparency versus technological design standards, which are prone to both
under- and over-compliance.457
Some evidence bears out these theories. Economists have specifically credited the acid rain market’s
cost savings as making dramatic cuts to sulfur dioxide pollution both possible and politically feasible.458
The lower costs predicted from trading were also instrumental in negotiating more stringent limits for
ozone-depleting substances and California’s RECLAIM program, as well as a faster phase -out timeline for
lead in gasoline.459 EPA claims that trading similarly helped it increase stringency earlier for vehicle
emissions standards.460 The institution of tradable catch shares has sometimes, though not always,
resulted in lower total allowable catches. 461

455 Ra te-based also makes i t harder to process early a ction credits, because early a ction is not a permanent ra te change. T.H.

Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 17 (2006, 2d ed).
456 Da vi d Driesen, Is Emission Trading an Economic Incentive Program?, supra note 18.
457 Robert Stavins, U.S. Cap-and-Trade System to Address Global Climate Change 10 (Ha rva rd Kennedy School Reg. Pol’y Prog.
Pa per 2007-04).
458 Da llas Burtra w & Eri n Ma nsur, The Effects of Trading and Banking in the SO 2 Allowance Market 20 (Res . for the Future, Disc.
Pa per 99-25, 1999), http://www.rff.org/documents/RFF-DP-99-25.pdf.
459 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice supra note 181.
460 EPA, Ma nufacturer Performance Report for 2015 MY (2015).
461 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice supra note 181.

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Marketable permit programs can also easily be designed to advance policy goals by requiring trading
ratios greater than 1:1. For example, Maryland’s water quality trading program has adopted a
retirement ratio of 1.1:1, meaning that for every 10 pounds of pollution emit, 11 offset credits must be
purchased, with 10% of all credits bought automatically retired. 462 Similarly, EPA conditioned its
approval of a regional cap-and-trade for haze in southwestern states on achieving “greater reasonable
progress” in reducing regional haze compared to a non-market approach.463 Though such retirement
ratios can advance policy goals, they undermine efficiency by blocking otherwise efficient trades. Unlike
trading ratios used to manage externalities or uncertainties, a retirement ratio imposes an artificial
premium on the cost of off‐site reductions compared to on‐site reductions. When the off-site reductions
are cheaper than on-site reductions, but not by more than the artificial premium imposed by the
retirement ratio, an otherwise efficient trade will be blocked, resulting in continued reliance on the
most costly on-site abatement.464 If it is important for the marketable permit program to affirmatively
advance policy goals beyond even the outcomes prescriptive regulations would achieve, increasing the
overall stringency of the cap may be preferable to selectively distort the market through retirement
ratios. Note, however, that if a regulator is unable to tighten the cap directly (as, for example, with some
state-run water quality trading programs subject to caps set at the federal level by EPA), the regulator
may consider whether the tradeoff between efficiency and policy goals justifies a retirement ratio.
Another market feature that can affirmatively further the program’s policy goals is open participation
rules. By allowing anyone to participate in the market, public-minded groups or citizens can purchase
and retire emission allowances, as they often do in the acid rain market.465 Other programs have
declined to allow such public participation. The National Oceanic and Atmospheric Administration
believes, based on the legislative history of Magnuson-Stevens Act, that Congress did not intend for
tradable fish share to become a mechanism to reduce the harvest by letting non-fishers buy and retire
quota.466
Recommendation: To use the advantages of the market structure to enhance policy effectiveness,
agencies should focus on fine-tuning the cap’s stringency in light of cost savings and should allow
open access to the market so citizens can retire credits. Retirement ratios undermine a program’s
efficiency and should be avoided unless the regulator cannot tighten the cap directly.

462 WRI, Addressing Risk and Uncertainty in Water Quality Markets (2014). EPA bri efly considered requiring a 1.5:1 ra tio for

purposes of affirmatively improving water quality, Revisions to the Na tional Pollutant Discharge Elimination Sys tem Program
a nd Federal Antidegradation Policy i n Support of Revisions to the Water Quality Pl anning a nd Ma nagement Regulation, 64 Fed.
Reg. 46,058, 46,063 (Aug. 23, 1999), but ul timately a bandoned the proposal, Revisions to the Wa ter Quality Pl anning a nd
Ma na gement Regulation and Revisions to the National Pollutant Discharge Elimination System Program i n Support of Revisions
to the Wa ter Quality Pl anning a nd Ma nagement Regulation, 65 Fed. Reg. 43,586, 43,640 (Jul y 13, 2000) (“the offset
requi rement, as proposed, is not the best mechanism to achieve progress in i mpaired waters in the absence of a TMDL”).
463 Fi nal Rule, Approval and Promulgation of State Implementation Plans; Wyoming, 77 Fed. Reg. 73,926, 73,927 (Dec. 12,
2012); Fi nal Rule, Approval, Disapproval a nd Promulgation of State Implementation Pl ans; Utah, 77 Fed. Reg. 74,355, 74,357
(Dec. 14, 2012); Fi nal Rule, Approval and Promulgation of State Implementation Plans; New Mexico, 77 Fed. Reg. 70,693,
70,695 (Nov. 27, 2012); Fi nal Rule, Approval and Promulgation of S tate Implementation Plans; Ci ty of Al buquerque-Bernalillo
County, 77 Fed. Reg. 71,119, 71,121 (Nov. 29, 2012).; s ee a lso 40 C.F.R. § 51.309(d)(4)(i); upheld by WildEarth Guardians v. EPA,
770 F.3d 919, 925 (10th Ci r. 2014). NAAQS offs ets also require affirmative progress on air quality through a greater than 1:1
offs et ra tio.
464 Pol i cy Integrity Letter on Water Quality Tra ding, supra note 235.
465 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice supra note 181.
466 NOAA, Ca tch Sha re Policy (2010).

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3.

Adjusting the Cap

Caps can be designed in advance with a predetermined increase in stringency over time, as with the lead
phase-out market. If new and unexpected information about costs, benefits, changing economic
conditions, or technological innovation indicates that the stringency of the cap needs to be adjusted,
regulators have several options. To make the cap more stringent, a straightforward but expensive option
would be for the regulator to purchase and retire allowances off the market.467 Lowering the cap directly
will remain a politically challenging option, though perhaps no more so than increasing the stringency of
prescriptive regulations.468 One way to short-circuit some of the political opposition to lowering a cap is
by allocating relative allowances instead of absolute allowances. For example, fish permits typically
define a percentage share of total allowable catch, so the agency can change cap without triggering legal
recourse by permit holders. 469 Changing the cap under a marketable permit program may also be easier
than under prescriptive regulation because marketable permits typically have shorter lifespans than
traditional permits: 470 a firm that has to buy permits at auction every year will have fewer reliance
expectations about a total cap.
If a cap turns out to be overly stringent and needs to be relaxed, regulators can create more rights and
trust the market to allocate them efficiently. 471 Such an action may seem politically costless, but in fact
owners of existing permits could complain that the agency is diluting the value of their permits. 472 Such
complaints from existing permit owners will likely be no louder than the complaints of firms that already
complied with prescriptive regulation and so oppose any relaxation to the standard that might make it
cheaper for new competitors to enter the market.
Recommendation: To facilitate adjusting the cap over time, agencies should consider allocating
percentages of a cap, rather than allocating absolute subunits of a cap.

4.

Exemptions

Prescriptive regulations are often riddled with exemptions to address distributional effects on small
businesses or other specific regions or sources, and exemptions weaken the overall effectiveness of
regulation.473 By contrast, few if any exemptions are sought under marketable permit programs,
because it is often cheaper to just comply with the marketable permit program than to spend money
seeking an exemption with no guarantee of securing it.474 In fact, regulators are unlikely to grant
exemptions under a marketable permit program because, unlike with prescriptive regulation, there are
no cases special compliance hardships, as every regulated entity faces same permit price. 475

467 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory

Alternative 6 (1981).
468 Id. a t 6-7 (under prescriptive regulation, very difficult a nalytically a nd politically to decide which firms should lose their
l i censes).
469 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181. Relative shares have a lso been proposed,
though not i mplemented, for a ir markets. Id.
470 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 22 (1981).
471 Id. a t 7.
472 Id. a t 22.
473 Id. a t 11.
474 El l erman, Are Cap and Trade Programs More Environmentally-Effective Than Conventional Regulation?, supra note 397, a t
53.
475 Id.

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5.

Uncovered Sources

Besides the stringency of a cap, another key issue for whether a cap will achieve its policy outcome is
coverage and leakage. Coverage and leakage concerns arise most often in the context of air and water
pollution, though they may also occur in other policy contexts. Take, for example, the hypothetical
market for antibiotic prescriptions: if human prescriptions are regulated but veterinary or agricultural
uses of antibiotics are not, those unregulated sectors could create challenges. However, given that these
problems are most prominent in the environmental context, this section will discuss pollution markets.
First, an unexpected, exogenous increase in demand at an unregulated sector could und ermine all other
emissions reductions. 476 Second, emissions can “leak” from regulated to unregulated sectors. 477 For
example, if a greenhouse gas cap-and-trade covers only large power plants but not other fossil fuel
combustion, unregulated sources may begin to generate their own electricity on-site, or residential and
commercial heating may switch from electricity to heating oil. 478 Similarly, water quality trading
effectively puts the cleanup costs of nonpoint sources on point sources, wh ich may respond by
preemptively trying to be categorized as nonpoint themselves, making pollution harder to control. 479
To some extent, any regulatory design needs to consider coverage and leakage. Critics of marketable
permit programs like David Driesen, however, worry that marketable permit programs will increase
resistance to future regulation of uncovered sources, since the market gives uncovered sources a profit
motive to protect their future potential to generate credits by avoiding new legal obligations. 480 On the
other hand, from a practical perspective, technological, administrative, and political limitations would
prevent many categories of uncovered sources from being regulated by prescriptive standards. If they
are not generating credits under a marketable permit program, they very well may not be making any
affirmative progress. Under a credit program, uncovered sources are making reductions and innovating
the new technologies that may make future regulation possible. Moreover, the cost savings of
generating credits from cheap abatement opportunities at uncovered sources can be channeled back
into making the cap more stringent.

6.

Effect of Allocation Options on Policy Outcomes

Marketable permits have value, and that value sometimes can be recaptured and directed back toward
the policy objectives. For example, revenue from a greenhouse gas auction could be invested back in
clean energy and energy efficiency projects. Unfortunately, without specific statutory authorization to
retain proceeds, federal agencies will usually be required to deposit auction revenue into general
treasury. States, on the other hand, can and do direct auction revenue toward policy outcomes. States
in the Regional Greenhouse Gas Initiative, for example, funnel some auction revenue to low -energy

476 Sta vi ns, U.S. Cap-and-Trade System, supra note 262, a t 18
477 Jos eph Al dy & Wi lliam Pi zer, Issues in Designing U.S. Climate Change Policy, 30 Energy J. 179, 187 (2009); Sta vi ns, U.S. Cap-

and-Trade System, supra note 262, a t 18.
478 Si milarly, pairing a market with mass-based ca ps for existing power plants under the Cl ean Power Pl an with ra te-based
comma nd-and-control regulation for new power plants created the risk of l eakage ca used by generation s hifting from existing
to new s ources. EPA a ddressed this l eakage risk by requiring states to develop plans to prevent such leakage, 80 Fed. Reg. a t
64,823, crea ti ng administrative burdens and market complications that could be a voided under a unified Section 115 a pproach.
479 Ca rol Rose, The Several Futures of Property, supra note 186.
480 Da vi d Driesen, Is Emission Trading an Economic Incentive Program?, supra note 18.

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investments. Another option would be allocating some permits on an output-basis to renewable
electricity generators, thereby providing additional financial support for the policy objective.481

C.

Setting Baselines and Verifying Credits

Credit programs need to ensure that credits are, for lack of a better word, real. 482 Obviously, credits
should not be fraudulent, but “real” signifies a higher bar,483 as explored below.

1.

Additionality and Gaming the Baseline

Credits must be measured against a realistic baseline and must be “additional.” The baseline scenario
predicts what the credit generator would have done but-for the opportunity to generate credits. An
“additional” credit reflects actions that would not have occurred without the financial incentive
provided by the regulatory market. If an aircraft operator had always planned to switch to quieter
aircraft even without a rule, allowing that operator to earn noise reduction credits for switches that
would have happened away will undermine the program’s overall effectiveness.
Questions of additionality and realistic baselines have been raised in a number of programs. In air
pollution markets, overinflated baselines are said to produce “hot air.” For example, in RECLAIM’s carscraping credit program, not only were many of the dirty cars destroyed for credits already at the end of
their useful lives,484 but inaccuracies in the baseline models may have inflated the allocation of
allowances and credits.485 Similarly, with vehicle efficiency credit programs, some credits are currently
being awarded to firms that have historically and voluntarily over-complied with their regulatory
standards anyway.486 The United Nation’s Clean Development Mechanism for greenhouse gas
reductions is infamous for outright fraud over matters of additionality, with some firms purposefully
manufacturing highly potent greenhouse gases just to earn credits by destroying them. 487 For
conservation banks, the main additionality question is whether the habitat being preserved to earn
credits was really under any immediate danger of development.488 Courts will likely give agencies
discretion in defining the baseline year and making determinations about additionality.489
A related risk, which may occur either in credit programs or cap-and-trade programs, is parties trying to
“game” the baseline. For example, it can take years of public debate to develop a fish catch share
program. Because fish shares are typically awarded based on historical catch, there is a risk of
incentivizing new entrants into the fishery or an increased harvest by fishers in advance the program’s
establishment, in order to win a larger share of the valuable allocation.490 This scenario highlights the
importance of setting a firm baseline and picking the right baseline year. If the baseline year is after
481 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory

Alternative 14 (1981).
482 See, e.g., Offs et Quality Initiative, Ensuring Offset Quality (2008).
483 See id.; Cong. Budget Office, The Use of Offsets (2009).
484 Robert Glicksman, Regulatory Safeguards for Accountable Ecosystem Service Ma rkets i n Wetlands Development, supra note
443; Ri cha rd Drury et al., Pollution Trading and Environmental Injustice, supra note 395.
485 Ri chard Drury et a l., Pollution Tra ding and Environmental Injustice, supra note 395.
486 Lea rd & McConnell, supra note 32. The authors a rgue that because early banked credits will expire a nd stringency will
i ncrease, over-crediting will not be a l ong-term problem.
487 Robert Glicksman, Regulatory Safeguards for Accountable Ecosystem Service Ma rkets i n Wetlands Development, supra note
443.
488 Stra tus Consulting for Northwest Fisheries Science Center, NOAA, A Na tionwide Survey of Conserva tion Banks (2003).
489 See Ci ti zens Against the Refinery’s Emissions v. EPA, 643 F.2d 183, 186-87 (1981) (rul ing that EPA ha d discretion to a pprove
of 1977, a yea r of high demand, as the baseline for a criteria offset under a s tate implementation plan).
490 NRC, Sharing the Fish: Toward a National Policy on IFQs (1999).

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announcement of the marketable permit program, strategic actors may try to game the baseline. On the
other hand, if a baseline is set too early, it may not reflect recent voluntary actions like voluntary
emission reductions, and so may result in hot air. Another way to prevent additionality problems is to
clearly set minimum baseline requirements: for example, for water quality trading, non-point sources
usually need to follow state-set best management practices as a baseline requirement before they can
begin to generate additional credits.491

2.

Quantification and Certainty

Credits must be quantifiable and certain. Measuring credits can often be a challenge, as the variety of
credit-generating projects makes it difficult to apply standardized tools.492 Yet credit generators will
need clear standards and established tools so they can calculate their ability to produce credits. 493 Often
the necessary off-the-shelf tools do not exist, though some agencies are working toward them. In 2016,
EPA and USDA agreed to develop a list of pre-approved tools for calculating water quality credits.494
Direct monitoring of activity to measure credits will frequently be infeasible. For example, it is very
difficult to measure reduced pollution flows and water quality improvements from non -point sources of
water pollution: after all, a major reason they are considered “non-point” and are largely unregulated is
because of the difficulty measuring their discharge. 495 Instead, regulators may calculate credits by
developing site-specific models or applying pre-determined rates based on best professional judgment,
such as assuming so many pounds of water quality credits per acre of cover crops planted on a nonpoint farm. However, there is a tradeoff between the simplicity, predictability, and accuracy of such
methods.496
The science of water quality and ecosystem services is so complex that inevitably there will be some
degree of uncertainty about credits. Will a newly created, still immature wetland site really provide
comparable flood protection as the mature wetland being destroyed? Trading ratios can be applied to
adjust for such uncertainty, requiring more credits than even the best available quantification tools
would predict are needed to offset the licensed action. For example, a common uncertainty ratio for
water quality trading is 2:1, requiring at least two credits to offset a single ton of emissions; some water
quality programs have uncertainty ratios as high as 3:1.497 Applying conservative assumptions to credit
calculations may also be appropriate. 498

3.

Leakage and Permanence

Credits must represent some degree of permanence and guaranteed execution. If a reforestation
project earns carbon credits based on the assumption that the trees planted will sequester carbon for
decades or centuries, but several years into operations a fire decimates the reforested area, the credits
sold years ago suddenly do not reflect real reductions. A related question, discussed briefly above with
the issue of temporal fungibility, is whether credits can be sold before their mitigation project has been
implemented and the reductions have been certified. 499 Wetland banks, for example, must fully

491 Wi l lamette Pa rtnership, In It Together: A How-To Reference (2012).
492 Byron Swi ft, U.S. Emissions Trading: Myths, Realities, and Opportunities, 20 Na t. Res . & Envt. 3 (2005).
493 EPA & USDA, Report on 2015 Na tional Workshop on Water Quality Ma rkets (2016).
494 Id.
495 Wi l lamette Pa rtnership, In It Together: A How-To Reference Part 2 (2012).
496 Id.
497 WRI, Addressing Risk and Uncertainty in Water Quality Markets (2014).
498 EPA, Wa ter Qua lity Tra ding Policy, 68 Fed. Reg. 1609 (Ja n. 13, 2003).
499 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 13.

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implement their mitigation before selling credits, while in-lieu fee instruments can sell some number of
credits in advance of implementation.
Credits also must not cause “leakage.” Leakage occurs, for example, if a project earns carbon credits by
preventing deforestation in one region, yet ultimately the same level of logging or deforestation simply
shifts to another region. Monitoring for leakage can be a challenge, as it potentially involves tracking
global activities in the relevant industries.

4.

Double Counting: Stacked and Voluntary Credits

Credits must not be double counted. Largely this can be addressed through careful accounting practices,
thoroughly tracking credit transactions and ensuring unambiguous ownership of credits.
The concept of credit stacking also raises some risks of double counting. Credit stacking occurs when a
single project can produce credits for multiple markets: for instance, if a wetlands mitigation bank also
provides endangered species habitat and sequesters carbon dioxide.500 Credit stacking potentially can
help reluctant credit sellers enter the market with more confidence, since they can hedge against the
risk of not enough demand in a single marketable permit program, thus making nascent markets more
economically viable. 501 Another argument in favor of credit stacking is the potential that providing value
in multiple resources will make a credit project more sustainable over time. 502 The ability to engage in
multi-pollutant stacking is strongly desired by water quality traders. 503
The double-counting concern with credit stacking is essentially one of additionality: would the wetland
credit project not have generated those additional carbon credits but-for the opportunity to stack
credits, or is the market inefficiently rewarding behavior that would have happened anyway?504 The Fish
and Wildlife Service has addressed this issue by allowing stacked credits to be used only to compensate
for the effects of a single development project; the credits cannot be unbundled to compensate multiple
projects. For example, if endangered frog habitat credits and wetland credits are bundled, the stacked
credits can offset a single project that also has impacts on both endangered frogs and wetlands, or they
can offset either individual impact from a single project, but they cannot offset endangered frog and
wetland impacts separately at two different projects. 505 On the other hand, the National Marine
Fisheries Service does not have a clear policy on stacking. Its West Coast region supports multi-resource
banking, but says it is the responsibility of the banker to ensure that credits are not double counted. 506
Voluntary credit markets also create the potential for double counting.507 For both greenhouse gases
and renewable energy,508 unregulated entities may seek voluntary credits: airplane passengers
purchasing carbon offsets to address their personal contributions to climate change, or businesses
buying renewable energy credits for P.R. value. Regulators of mandatory marketable permit programs
need to monitor voluntary markets to prevent the same credit from being sold in both markets.
Regulators may also need to make adjustments to their marketable permit program based on
500 Roya l Gardner & Jessica Fox, Legal Status of Environmental Credit Stacking, 40 Ecol . L. Q. (2013).
501 NMFS Wes t Coast Region, Conserva tion Banking Guidance (2015).
502 Id.
503 EPA & USDA, Report on 2015 Na tional Workshop on Water Quality Ma rkets (2016).
504 See J.B. Ruhl et al. Stacking Ecosystem Servi ces, 12 Frontiers of Eco. & Env’t 186 (2014).
505 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016).
506 NMFS Wes t Coast Region, Conserva tion Banking Guidance (2015).
507 NREL, REC Tra cki ng Systems: Costs and Verification Issues (2013).
508 For exa mple, the Chicago Cl imate Exchange operated a voluntary ca rbon offset program. Interagency Working Group on

Ca rbon Ma rket Oversight, Report, supra note 448, a t 10 (CCX opera ted from 2003 to 2010).

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interactions with voluntary markets. For example, both the Regional Greenhouse Gas Initiative and
California’s cap-and-trade program for greenhouse gases have provisions to adjust their emissions caps
downward to account for voluntary purchases of renewable energy credits.509 A buyer of a renewable
energy credit expects the purchase to fund the reduction of carbon emissions from the electricity sector,
but unless the cap is adjusted, the electricity sector will continue to emit up to the level of the cap no
matter how many renewable credits are purchased voluntarily. (The Federal Trade Commissions has
established policies to ensure that voluntary environmental credits are real.)

5.

Other Risks

An additional requirement for credits is sometimes sought by advocates: credits should not inflict
ancillary harms.510 For example, some the methane released from coal mines can be captured and used
to generate greenhouse gas credits, but some mine methane capture techniques can risk explosions,
putting miners in danger. 511 However, relying on credit verification programs to address all ancillary
harms could inefficiently block some credit opportunities. When other regulators have the authority to
address these potential ancillary harms directly (as the Mine Safety and Health Administration does in
the previous example), it may be preferable to rely on those regulatory authorities rather than distort
the credit market. On the other hand, when no such authority exists—as with the risk of conservation
banking inadvertently degrading non-target, non-endangered, and unprotected species512—some
verification that the credit does not produce significant, foreseeable ancillary harms may be
appropriate.
Some marketable permit programs allow credits to be generated in foreign countries. For example,
California’s cap-and-trade program for greenhouse gases allows certain carbon offsets from Canada and
Mexico. International credits could represent especially low-cost opportunities, 513 but ensuring ongoing
quality could be more difficult. 514
There is a risk that, in a marketable permit program, buyers and sellers could collude to work against
regulators and lower credit quality requirements. Unlike conventional markets, in permit markets
buyers and sellers are not so much competing against each other as they are competing against the
regulator, who is trying to protect public interest. For example, in wetlands trading, both buyer and
seller could earn more profit if the regulator lets them trade commercial development on high -quality
mangroves in exchange for protecting a “two-snake mud puddle.”515 Buyers and sellers can work
together to exploit uncertainty and lobby for lower quality standards, and asymmetric information
between buyers and sellers on one hand and regulators on other could allow cheap, low-quality credits
to undercut high-quality, more expensive credits and force them out of the market. 516 This scenario
heightens the need for clear, strong quality assurance checks. Credits should have to meet clearly
defined criteria and should not be approved on an ad hoc basis. 517 For example, the fact that the
509 NREL, REC Tra cki ng Systems: Costs and Verification Issues (2013).
510 See, e.g., Offs et Quality Initiative, Ensuring Offset Quality (2008).
511 See Ha rworth Power Ltd., CMM Fl a ring (2007),

http://www.epa.gov/cmop/docs/cmm_conference_sep07/uk_coal_flaring.pdf.
512 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003).
513 EPA, Ana l ysis of H.R. 2454, a t 3 (June 2009).
514 See, e.g., Mi cha el W. Wara & Da vid G. Victor, Working Paper: A Realistic Policy on International Carbon Offsets (April 2008),
http://pesd.fsi.stanford.edu/sites/default/files/WP74_final_final.pdf (discussing the potential of “laundered” i nternational
offs ets).
515 Dennis Ki ng, Managing Environmental Trades: Lessons from Hollywood, 32 ELR 11317 (2002).
516 Id.
517 Id.

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National Marine Fisheries Service has no standardized protocol for approving conservation banks could
become problematic.
A related risk is that buyers and sellers will agree to low-quality standards to govern any unofficial,
voluntary, or early trading program.518 These early, low-quality standards may then anchor the
discussion about trading rules for the marketable permit program, leading to the ultimate adoption of
weak standards for verifying the quality of regulatory credits.
Recommendation: Agencies should have clearly defined criteria for credit approval, to ensure credits
are “real.” Credit approval systems should not reward behavior that would have happened anyway
(“additionality”), should not incentivize strategic gaming of the system, should allow for predictable
and repeatable calculations, should address uncertainty, and should avoid double-counting. Credit
approval programs should include procedures for selecting clear baselines, developing predictable and
pre-approved calculation tools, applying consistent standards for uncertainty ratios, and establishing
policies on credit stacking.

6.

Quality Assurance Tools

Primary quality assurance tools include third-party verifications, regular audits to ensure permanence,
and trading ratios to address uncertainty. Credit generation may also be restricted to certain categories:
for example, most state water quality trading only allows non-point farms, and not other non-point
landowners, to generate credits,519 and California’s cap-and-trade has designated approved offset
categories (reforestation, livestock, mine methane).520
Initial approval of credit generators can be time-consuming for agencies. Unlike the Army Corps of
Engineers, the Fish and Wildlife Service (FWS) does not have timelines for approving conservation bank
plans. Despite the agency’s policy to make bank reviews a priority, 521 bank sponsors complain of
delays.522 FWS has promised that any bank agreeing to more conservative trading ratios and promising
to achieve a net gain for the endangered species (rather than just no net loss) will receive an expedited
review.523 Meanwhile, even with timelines for review at the Corps, bank sponsors indicate timelines are
not being met.524 The National Mitigation Banking Association says that it would prefer to sometimes
get a “no” early than to have every review drag on. 525
Deciding who conducts credit verification requires balancing several factors. Some property owners, like
farmers, may be reluctant to allow government officials onto their property to conduct verification
inspections.526 Agencies resources and expertise are also relevant considerations. Self-verification could
be an appropriate alternative in certain circumstances,527 such as when verification procedures can be
518 Id.
519 Wi l lamette Pa rtnership, In It Together: A How-To Reference (2012).
520 Ca l ifornia Ai r Resources Board, Compliance Offset Program, https://www.arb.ca.gov/cc/capandtrade/offsets/offsets.htm.
521 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016).
522 DOI, Offi ce of Policy Analysis, Results from a Survey of Conserva tion Bank Sponsors (2016).
523 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016).
524 U.S. Army Corps , Institute for Water Resources, The Mi tigation Rule Retrospective (2015).
525 Id.
526 Wi l lamette Pa rtnership, In It Together: A How-To Reference Part 2 (2012).
527 One exa mple of total self-verification is the s mall a lternative fuel vehicles program. The Department of Energy’s website

i ns tructs regulated parties to, “a fter l ocating a buyer or s eller, pri nt and complete the Proof of Credit Tra nsfer form,” which
s i mply a sks for number of credits exchanged and notes that parties a re responsible for truthfulness and subject to prosecution
for vi ol ations. Dept. of Energy-EERE, Standard Compliance: Guidelines to Help State and Alternative Fuel Provider Fleets Meet
Thei r Energy Policy Act Requirements (2014).

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standardized, agencies can impose strong penalties for false reporting, and citizen suits are available to
help agencies police noncompliance. 528 If neither direct agency oversight nor self-verification are
appropriate, agencies will need to rely on third parties for verification. For example, EPA uses third party
engineering reports to verify production of renewable fuel credits.529 (One third-party verifier has
creatively proposed a fourth option: crowd-sourced verification for certain contexts, like monitoring
urban stormwater by smartphone photographs.) 530
Relying on third parties for credit verification has some advantages: third parties may have more
individualized knowledge of the practices being implemented, may have an easier time charging fees for
inspections, and can staff up or down more flexibly than an agency in response to changing transaction
volumes. At the same time, the agency risks that the third party will not accomplish the agency’s
mission. Third parties need minimum education and experience requirements, and may also need
specialized training and accreditation.531 Third parties also needs liability insurance, dispute resolution
system, and system for protecting confidential information. 532 Agencies will need rules to ensure third
parties do not develop conflicts of interest.533 Third party verifiers have a financial incentive to brand
themselves as “market advocates” and encourage sub-par trades.534 Conflict of interest rules need to go
beyond preventing direct financial stakes in water quality trading.535 Conflicts can develop over time, for
example if the same reviewer depends on the same projects year after year for revenue. Agencies could
require that verifiers rotate every few years or could randomly assign reviewers to projects. 536
Ultimately, when relying on third parties, agencies will need to retain some oversight and final
decisionmaking authority and the ability to resolve disputes.537
The timing of verification is another key decision. Some credits require ongoing reviews of quality and
performance. Ongoing reviews could be applied annually with the same rigor as the initial approval, or
the frequency and rigor could be reduced, with a focus on specific quality criteria or spot checks of
projects selected randomly or based on risk. 538 Remote inspections, as through aerial images or other
technology, may be useful in some contexts and may reduce the costs of ongoing verification
procedures.539
Some programs do not have mandatory pre-approvals of credits, but instead only check credits’ validity
when they are cashed in for compliance obligations, which creates some risk for buyers of having invalid
credits.540 For example, EPA’s policy on renewable fuel credits is generally “buyer beware”: the industry
is responsible for its own quality control and integrity, and any buyer of fraudulent credits will be on the
hook to replace them. EPA has developed a voluntary Quality Assurance Program, through which EPAapproved third parties provide quality checks.541 The voluntarily program provides buyers with some
528 Wi l lamette Pa rtnership, Verification in Markets for Water Quality and Habitat (2014).
529 RIN Al liance, Making the RIN Program Work (2011).
530 Wi l lamette Pa rtnership, Verification in Markets for Water Quality and Habitat (2014).
531 Id.
532 Id.
533 Wi l lamette Pa rtnership, In It Together: A How-To Reference Part 2 (2012).
534 Dennis Ki ng, Managing Environmental Trades: Lessons from Hollywood, supra note 515.
535 Na t’l Network on Wa ter Quality Tra ding, Building a Water Quality Trading Program (2015).
536 Wi l lamette Pa rtnership, Verification in Markets for Water Quality and Habitat (2014).
537 Na t’l Network on Wa ter Quality Tra ding, Building a Water Quality Trading Program (2015).
538 Wi l lamette Pa rtnership, Verification in Markets for Water Quality and Habitat (2014).
539 Id.
540 Breger, Stewart, Elliott, & Ha wkins, Providing Economic Incentive in Environmental Regulation, supra note 13.
541 EPA, Approved Quality Assurance Plans a nd Q-RIN Pa thways, https://www.epa.gov/fuels-registration-reporting-and-

compl iance-help/approved-quality-assurance-plans-and-q-rin-pathways .

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affirmative defense in case of invalid credits, and instead the third party verifier carries the liability for
invalid credits. 542 For example, in January 2017, EPA filed a notice of intent to revoke Genscape as a
quality assurance provider, alleging that Genscape had verifying millions of fraudulent renewable fuel
credits.543 Nevertheless, most renewable fuel credits (as of 2015, 88%) do not go through this voluntary
quality assurance program.544
Sufficiently stringent verification checks will limit the number of credits entering the market. For
example, the California Air Resources Board could have authorized about 62.5 million offset credits from
2013 through February 2016 for its greenhouse gas cap-and-trade program.545 The Board, however,
approved only about 38.5 million credits through mid-March 2016 as meeting the state’s standards,546
likely indicating a natural limit on the number of high-quality, low-cost offset opportunities. Indeed,
California has taken offset quality quite seriously, having recently concluded an investigation into 4.3
million offsets for quality violations and invalidated 89,000 credits as faulty or fraudulent. 547
Recommendation: If direct agency oversight of credits is not efficient and if self-verification is not
effective, use of third-party verifiers may be appropriate. Such third-party verifiers should be
qualified, insured, and free of conflicts.

D.

Responsibility and Compliance

How effective a marketable permit program will be at achieving its policy goal may depend on what
happens in the event of a failure.548 Key questions include: does the credit buyer or seller have the
liability, what contingency plan is in place for unexpected events, what upfront financial guarantees of
performance are required, what compliance monitoring or audits are required, and how will violations
be enforced?

1.

Liability, Performance Guarantees, and Contingencies

Some marketable credit programs have a “buyer beware” policy: if a credit generator does not
perform—either intentionally, such as fraud, or unintentionally, such as unexpected acts of nature or
miscalculation—the buyer retains responsibility for compliance. For example, under EPA’s water quality
trading policy, if a credit seller does not deliver the expected pollution offsets, the buyer becomes
responsible for complying with any default, on-site emissions limits established in the permit.549
542 Byron Bunker, Compliance Division Director, OTAQ, RIN Fraud and Compliance (2015).
543 EPA, Ci vi l Enforcement of RFS Program, https://www.epa.gov/enforcement/civil-enforcement-renewable-fuel-standard-

progra m. Genscape must retire valid RINs to replace fraudulent ones they veri fied (i.e., Genscape has to replace, not buyers)
544 Byron Bunker, Compliance Division Director, OTAQ, RIN Fraud and Compliance (2015).
545 By s ta te law, covered sources may count offsets toward compliance for eight percent of annual allowance budgets. See BGC
ENVTL. BROKERAGE SERVS., CALIFORNIA CARBON CAP AND TRADE OFFSETS OVERVIEW: REGULATIONS AND TRADING 12
(2011), http://www.climateactionreserve.org/wp-contenduploads/2009/05/BGCCarbon-Offsets-Market-Overview.pdf. The
potential offset budget for years 2013 a nd 2014 col lectively was 26.8 mi llion credits. Id. The potential offset budget for ye ars
2015-2017 i s 91.8 mi llion credits total, which, on average, is a bout 2.55 mi llion credits per month. Id. From the start of 2013
through the end of February 2016, therefore, the potential offset budget was 26.8 mi llion [years 2013 a nd 2014] + 30.6 mi llio n
[yea r 2015] + 5.1 mi l lion [January a nd February 2016] = 62.5 mi l lion. See id.
546 CAL. AIR RES. BD., ARB OFFSET CREDITS ISSUED 1 (updated Ma rch 9, 2016),
https ://web.archive.org/web/20160317072216/http://www.arb.ca.gov/cc/capandtrade/offsets/issuance/arb_offset_credit_iss
ua nce_table.pdf
547 Gl oria Gonzalez, Despite Market Outcry, California Voids Some Carbon Offsets, Ecos ystem Marketplace, Nov. 14, 2014.
548 Les ley McAl lister, Beyond Playing “Banker”, 59 Admi n. L. Rev. 269 (2007) (Tra ding requires ri gid compliance policy wi th
a dequate s anctions.).
549 EPA, Wa ter Qua lity Tra ding Policy, 68 Fed. Reg. 1609 (Ja n. 13, 2003).

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Similarly, industry is responsible for quality control and integrity of renewable fuel credits, 550 and
fraudulent renewable fuel credits must be replaced by the buyers, often at great cost. 551 EPA runs a
voluntary quality assurance program for renewable fuel credits, which gives buyers some affirmative
defense against civil liability. 552 On the other end of the spectrum, under the Army Corps’ wetland
mitigation banking and the Fish and Wildlife Service’s conservation banking, liability for noncompliance
transfers from the buyer to the bank sponsor upon purchase of a credit.553 However, this policy is not
applied consistently among the agencies responsible for various conservation bank programs: the West
Coast Region of the National Marine Fisheries Service reports that, for users of its conservation banks,
responsibility for adequate mitigation stays with permit applicant.554
Credit programs do not always clearly assign liability in the event of acts of nature. 555 According to a
2003 survey of conservation banks, many bank agreements did not specify what happens in event of
natural catastrophe, no bank agreements included insurance policies for natural catastrophes, and
management endowment funds typically do not include contingency funds for acts of nature. 556
Unassigned risks fall by default on the public. 557
When buyers retain liability, they have several options for managing that risk. They could seek
insurance, either from third parties or through an agreement to share liability among an association of
buyers.558 Consistent with any regulatory limits, buyers can negotiate with credit sellers to allocate
responsibilities and provide remedies through a contract.559 Finally, some credit aggregators assume
some of the risk of project failure, and they may manage that risk by diversifying their credit projects
and possibly self-insuring by holding some percentage of credits in reserve.560
Financial guarantees can provide some certainty over performance. The Fish and Wildlife Service
encourages conservation banks to set aside a bond, endowment, or surety to cover future management
costs sufficient to guarantee future performance.561 Similarly, the Federal Communication Commission
requires a refundable deposit to bid in an auction, 562 to prevent winning bids from entities that may
actually lack the financing to purchase the spectrum.563
Imposing monetary fines after the fact for violations or even penalizing noncompliance by increasing the
stringency of obligations in future years may not truly compensate for any environmental or other policy
losses suffered in the meantime. Marketable permit programs have several options for advance
planning to handle contingencies. EPA’s water quality trading policy recommends that states consider
establishing centralized reserve credit pools from which buyers can purchase additional credits during
550 RIN Al liance, Ma king the RIN Program Work (2011).
551 Energy & Envi ronmental La w Adviser, CFTC and EPA Sign MOU on Renewable Fuel Markets, Ma r. 23, 2016.
552 EPA fi na lized this rule in July 2014.
553 Wi l lamette Pa rtnership, In It Together: A How-To Reference Part 2 (2012).
554 NMFS Wes t Coast Region, Conserva tion Banking Guidance (2015).
555 FWS 2003 gui dance unclear on acts of nature; 2016 gui dance.
556 Stra tus Consulting for Northwest Fisheries Science Center, NOAA, A Na tionwide Survey of Conserva tion Banks (2003).
557 Dennis Ki ng, Managing Environmental Trades: Lessons from Hollywood, supra note 515.
558 Wi l lamette Pa rtnership, In It Together: A How-To Reference (2012) & Part 2; Noti ce of Final Compensatory Mi ti gation Policy,

81 Fed. Reg. 95,316 (Dec. 27, 2016).
559 Wi l lamette Pa rtnership, In It Together: A How-To Reference Pa rt 2 (2012); WRI, Addressing Risk a nd Uncertainty i n Wa ter
Qua l ity Ma rkets (2014).
560 WRI, Addressing Risk and Uncertainty i n Water Quality Ma rkets (2014).
561 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003).
562 FCC, About Auctions, supra note 67.
563 Mi cha el Abramowicz, The Law-and-Markets Movement, supra note 94 (s ome high bidders lacked financing, hoped to attract
i t by wi nning).

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an end-of-year compliance deadline to make up for unanticipated shortfalls. 564 Many water quality
trading programs do apply uncertainty ratios or reserve credits in anticipation of potential calculation
errors, project failures, or unanticipated events like floods. 565 For example, the Ohio River trading
program requires all projects to hold 10% of credits in reserve. 566 Some fish catch share programs allow
short-notice online transfers for fishers coming in to dock with larger than expected catch, so they have
an alternative to illegal dumping.567
Recommendation: Agencies should establish clear rules for liability and responsibility for acts of
nature. Performance bonds are one useful tool.

2.

Compliance Monitoring

Scholars and advocates agree that marketable permit programs require sophisticated compliance
monitoring to succeed, though many of the monitoring requirements are similar to needs of traditional
regulatory tools as well. 568 Notable skeptic of marketable permit programs David Driesen has suggested
that the market structure can exacerbate the difficulties of monitoring. According to Driesen, monitoring
compliance with prescriptive environmental regulations is often a relatively simple matter, such as
checking that a firm installed an approved technological solution. This may be an overgeneralization, as
Driesen readily acknowledges that most environmental standards are not technological design
standards but rather performance standards, and even equipment standards still require monitoring to
ensure proper operation. Nevertheless, according to Driesen, a marketable permit program requires
regulators to monitor double the number of sites (both buyer and seller), and to monitor even more
broadly to ensure credits are additional, are not double counted, and do not leak. 569 A failure of
monitoring may be doubly detrimental in an environmental market as compared to prescriptive
regulation, as a cheating source both emits more and gets away with selling credits that allow pollution
increases elsewhere. 570
There are some theoretical reasons to believe that monitoring will be easier to implement successfully
under a marketable permit program. 571 Auction revenue creates a special incentive for agencies to
invest in monitoring and enforcement, to ensure that noncompliance rates do not drive down permit
prices and reduce total revenue.572 Similarly, permit holders themselves may support monitoring to
prevent cheating by others that would depreciate their investment: better monitoring increases the
costs of noncompliance, which increases demand for permits, which increases the value of excess
permits held by compliant firms.573 Moreover, because marketable permit programs can lower overall
compliance costs, agencies may be less reluctant to impose costly monitoring requirements on
regulated entities. The anticipated lower costs of the acid rain market may have helped justify the

564 EPA, Wa ter Qua lity Tra ding Policy, 68 Fed. Reg. 1609 (Ja n. 13, 2003); see also WRI, Addressing Risk and Uncertainty in Water

Quality Markets (2014).
565 Wi l lamette Pa rtnership, In It Together: A How-To Reference (2012) & Pa rt 2.
566 Wi l lamette Pa rtnership, In It Together: A How-To Reference Pa rt 2 (2012).
567 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice supra note 181.
568 Les ley McAl lister, Beyond Playing “Banker”, 59 Admi n. L. Rev. 269 (2007).
569 Da vi d Driesen, Is Emission Trading an Economic Incentive Program?, supra note 18.
570 Id.
571 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181 (concerning better monitoring s purred by
tra di ng: a “number of errors i n pre-existing emission registries [were] brought to light by the need to create accurate registries
for [tra da ble permit] schemes.”)
572 Bruce Ackerman & Ri chard Stewart, Reforming Environmental Law, supra note 255.
573 Id.; Jennifer Yelin-Kefer, supra note 279.

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requirement for power plants to fund continuous emissions monitoring. 574 The Magnuson-Stevens act
also requires some fisher-funded monitoring activities in conjunction with catch share programs.
The practical challenges of monitoring vary from context to context. Non-point sources generating water
quality credits by definition have no fixed point (like a pipe) at which to monitor discharges, and
determining watershed loadings is highly complex. 575 Programs with heterogeneous and small sources,
like RECLAIM, complicate creating uniform data reporting and auditing, since the data required for
verification may vary from source to source.576 The Department of the Interior’s Office of Policy Analysis
raised questions about the adequacy and funding of monitoring and enforcement for conservation
banks.577
On the other hand, arguably it has been easier for agencies to monitor a fewer number of large
conservation bank sites rather than numerous smaller permittee-implemented mitigation projects.
Additionally, in the past some permittee-responsible mitigation projects have been “greenwashed,”
since it is cheaper for a project developer to hire a landscaper to make a site appear like it has preserved
habitat rather than invest in the scientific experts needed for meaningful restoration. 578 Large
conservation banks allow efficient consolidation of scientific expertise, and would be significantly harder
to “greenwash.” In one survey, a plurality of Fish and Wildlife Service staff felt monitoring at
conservation banks was adequate and better than monitoring at permittee-responsible mitigation.579
After the initial approval of credits, ongoing performance must also be monitored. Some water quality
programs only spot check a small percentage of projects, while other require third-party audits on all
credits annually or every few years.580

3.

Enforcing Compliance

Economic theory predicts that regulated entities will not comply when the value of noncompliance
outweighs the penalty for noncompliance multiplied by the chance of detection and enforcement. By
reducing compliance costs, marketable permit programs could lower the incentive for firms to entertain
noncompliance strategies. Compliant sources may support strict enforcement, because noncompliance
by other actors lowers the value of their allowances. In the wreckfish fishery and other catch share
programs, fishers more readily cooperate with enforcement officials, recognizing that illegal fishing
reduces the value of their quota. 581 In fact, the National Research Council has recommended that fish
catch quotas include the right to civil action against other fishers whose noncompliance or other
unlawful actions adversely affect the marine resource and reduce the value of the quotas. 582
Furthermore, agencies and courts may be less reluctant to enforce a marketable permit program than a
prescriptive regulation with higher compliance costs: it is much easier for an agency or court to direct a
noncompliant source simply to buy additional permits, compared to forcing a source to install expensive
retrofit technologies to comply with prescriptive regulation.583 On the other hand, because markets
574 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181, a t n.13.
575 Ja mes Boyd, New Face of the Clean Water Act, supra note 270.
576 Les ley McAl lister, Beyond Pl aying “Banker”, 59 Admin. L. Rev. 269 (2007).
577 DOI Offi ce of Policy Analysis, Conserva tion Banking Overview (2013).
578 Ja mes Salzman & J.B. Ruhl, Currencies and the Commodification of Environmental Law, supra note 6.
579 DOI, Offi ce of Policy Analysis, Preliminary Analysis of the Co nservation Banking Program and Results from a Survey of USFWS

Sta ff (2013) (but most did not know).
580 WRI, Addressing Risk and Uncertainty i n Water Quality Ma rkets (2014).
581 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181 (ci ting OECD 1997).
582 NRC, Sha ri ng the Fish: Toward a National Policy on IFQs (1999).
583 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 176-177 (2006, 2d ed).

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create a profit incentives, a marketable permit program could increase the incentives for
noncompliance, since any allowances that a firm does not need to cash in for compliance can be resold
for a profit.584 Marketable permit programs may also exacerbate the negative outcomes of
noncompliance. Noncompliance lowers demand for allowances or credits and so reduces permit prices,
and with lower prices other firms will choose to increase their activity and buy permits rather than
mitigate.585 Though the cap in a cap-and-trade system would still limit the overall level of activity, lower
permit prices due to noncompliance could undercut the incentive to innovate.
For proper compliance incentives, both the expected cost of underreporting (probability of detection
multiplied by the fine for lying) and the fine for the violation must be greater than the permit price. 586
However, “penalties that are unrealistically high may be counterproductive if authorities are reluctant to
impose them.”587 Penalties can be a fixed amount or related to the allowance price, such as a
requirement not only to pay a penalty for noncompliance but to compensate for missing allowances by
buying new allowances at market price.
The acid rain market is famous for its near 100% compliance rates. 588 The program features a stiff and
certain penalty of $2000 per excess ton (in 1990 dollars; the penalty is fixed to inflation), plus a
requirement to submit a plan for how those excess emissions will be offset in future years, and EPA
deducts allowances equal to the excess tonnage from the firm’s free allocation for the following year.589
(Others suggest that the 100% compliance figure really refers to the lack of exemptions granted under
the program.590 ) The acid rain market has high levels of detection and almost self-executing
enforcement by virtue of two linked tracking systems: allowance holdings are tracked by EPA’s
Allowance Management System and are compared at the end of the compliance period to the total
emissions registered by the Continuous Emissions Monitoring Systems (CEMS). 591 The NOx trading
programs have also seen relatively high rates of compliance.592
Other markets have more mixed compliance and enforcement records. Several fish catch share
programs have seen enforcement costs rise. 593 Some markets lack the clarity of the acid rain program’s
noncompliance penalties: for example, noncompliance with EPA’s vehicle emission programs could
result in penalties as high as $37,500 per car, though much uncertainty remains.594 In the lead phasedown program, the strong incentive to bank allowances in the early years may have contributed to
initial noncompliance. Increased audits and stiffer penalties in subsequent year—as well as publicizing
those enforcements—helped deter additional violations and brought the program into compliance. 595
With the RECLAIM program, calculation errors, missing data, and uncertainty about consequences due
to case-by-case sanction determinations contributed to initial noncompliance rates of 4-15%.596
RECLAIM also significantly exceeded the nitrogen oxide cap during California’s energy crisis as demand
584 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181.
585 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 171 (2006, 2d ed).
586 Id. a t 175.
587 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181.
588 Les ley McAl lister, Beyond Pl aying “Banker”, 59 Admin. L. Rev. 269 (2007).
589 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket 9.
590 El l erman, Are Ca p and Trade Programs More Envi ronmentally-Effective Than Conventional Regulation?, supra note 397, a t

51.
591 Jennifer Yelin-Kefer, supra note 279.
592 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 182 (2006, 2d ed).
593 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181 (ci ting OECD 1997).
594 Lea rd & McConnell, supra note 32.
595 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 179, 181 (2006, 2d ed).
596 Les ley McAl lister, Beyond Pl aying “Banker”, 59 Admin. L. Rev. 269 (2007).

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for electricity spiked. However, some evidence suggests that noncompliance rates during such periods
of extreme demand might have been even worse under a prescriptive approach that lacked RECLAIM’s
market flexibilities.597
Recommendation: Marketable permit programs need clear, adequate sanctions, ideally including both
penalties and plans for coming into compliance.

E.

Ancillary Benefits

Beyond achieving primary policy objectives, some special features of marketable permits may also
generate additional benefits.
For example, without conservation banking, developers and permittees seeking to destroy wetlands or
endangered species habitats would have to undertake mitigation themselves, often attempting to
replace lost habitat with small-scale efforts on their individual sites. This piecemeal approach can result
in small, unconnected habitats, which may technically replace the lost acreage or ecosystem services.
However, conservation banking can consolidate mitigation efforts into establishing larger, connected
habitat reserves. 598 Biological economies of scale mean that these larger habitats deliver more
environmental benefits than the sum of their parts, and the consolidated scientific expertise brought to
bear at these unified mitigation sites may lead to better management.599
Tradable fish quota programs have the potential to reduce the incidental killing of non -target species.
For instance, fishers with licenses for other species may incidentally catch red snapper; historically, such
bycatch has often been discarded, unceremoniously dumped back into the ocean with little chance of
survival. But when fishers have the ability to go online quickly and buy catch share for red snapper to
cover their bycatch, such discards decrease. 600 More generally, without catch share programs, fishers
only see value in caught fish; with catch share programs, fishers have an interest in fish still in the water.
Consequently, tradable fish quota programs may make fishers better stewards of the resource, though it
is unclear whether leaseholders of catch shares will have the same incentive as share owners to
preserve the long-term health of the fishery. Some fisheries also report improved safety conditions as
tradable catch shares replace the chaotic race-to-fish derby conditions, as well as longer fishing seasons
as fishers no longer race to catch as quickly as possible. 601
Marketable permits programs can even be designed to incentivize co-benefits. For example, trading
ratios for conservation banking or water quality trading could be tweaked to reward projects that
deliver co-benefits, such as non-point water quality projects that also benefit endangered species.602
Similarly, a percentage of allowances could be set aside for allocation to fishers with the lowest
bycatch.603
Finally, the revenue generated by marketable permit programs can provide ancillary benefits. For
example, to the extent society desires to support farming communities, conservative banks and water
quality trading programs can provide an attractive income stream for farmers and other landowners,

597 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 182 (2006, 2d ed).
598 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016); see also Ja mes Salzman & J.B. Ruhl,

Currenci es and the Commodification of Environmental Law, supra note 6.
599 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003).
600 Na t’l Ma rine Fisheries Service, 2014 Gul f of Mexico Red Snapper IFQ Annual Report (2015).
601 Pew Envtl . Group, Design Ma tters: Ma king Ca tch Shares Work (2009) (Alaska halibut and sablefish).
602 Wi l lamette Pa rtnership, In It Together: A How-To Reference Pa rt 2 (2012).
603 NRC, Sha ri ng the Fish: Toward a National Policy on IFQs (1999).

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and some claim that such arrangements even improve relationships between rural and urban
communities.604 When the government auctions off permits, the revenue can be redirected either to
mitigate distributional issues or to further promote the policy objectives. For example, auction revenue
from carbon cap-and-trade programs has been used to invest further in the low-carbon energy economy
and to support low-income communities.605 However, only state governments and federal agencies
specifically authorized to deposit fees into special accounts could directly control auction revenue;
without specific authorization, federal agencies would need to deposit auction revenue into the general
treasury.606

F.

Policy Performances

Many marketable permit programs have achieved their policy goals as well or better than prescriptive
regulation likely could have. As discussed above when reviewing the empirical evidence of the market’s
efficiency advantages, care must be exercised in drawing conclusions from studies comparing the
effectiveness of a market to a hypothetical counterfactual regulatory system, as well as judging a
program’s success or failure too early. 607 Furthermore, the causes of effectiveness or ineffectiveness
should not be conflated: the environmental effectiveness of the Renewable Fuel Standards has been
widely questioned, but due to the lifecycle emissions of ethanol 608 and rate-based nature of the cap, 609
not because of the program’s trading elements. Additionally, in some contexts prescriptive regulations
might not have been politically feasible, and so absent a market solution no policy goals would have
been advanced. 610
As summarized previously, there is some evidence that use market tools increased the stringency of
regulatory programs. Economists have specifically credited the acid rain market’s cost savings with
making dramatic cuts to sulfur dioxide pollution both possible and politically feasible. 611 The acid rain
market also achieved its emissions targets ahead of schedule. 612 The lower costs predicted from trading
were also instrumental in negotiating a more stringent limits for ozone-depleting substances and
California’s RECLAIM program, as well as a faster phase-out timeline (by perhaps as much as six years 613)
for lead in gasoline.614 EPA claims that trading similarly helped it increase stringency earlier for vehicle
emissions standards. 615 The institution of tradable catch shares has sometimes, though not always,
resulted in lower total allowable catches. 616

604 Wi l lamette Pa rtnership, In It Together: A How-To Reference (2012); FWS, Guidance for the Establishment, Use, and

Opera tion of Conservation Banks (2003).
605 Evi dence from RGGI.
606 See supra.
607 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181.
608 Ignacy Sa chs, U.N. Conf. on Tra de & Dev., The Biofuels Controversy (2007).
609 If the total demand for fuel i ncreased—as s ome projections predict—total emissions will continue to ri se. See Li enke &
Schwa rtz, supra note 273.
610 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181.
611 Da llas Burtra w & Eri n Ma nsur, The Effects of Trading and Banking in the SO 2 Allowance Market 20 (Res . for the Future, Disc.
Pa per 99-25, 1999), http://www.rff.org/documents/RFF-DP-99-25.pdf.
612 Id. a t 7, 15; Sta vi ns, Market-Based Enviro. Policies, supra note 248, a t 7; H. Ron Cha n et al., The Net Benefits of the Acid Rain
Program 1 (RFF 15-25, 2015).
613 Wi nston Harrington & Richard Morgenstern, International Experience with Competing Approaches to Environmental Policy:
Res ults from Six Pa ired Cases, supra note 259, a t 122-123.
614 Tom Ti etenberg, Tra dable Pe rmits in Pri nciple and Pra ctice, supra note 181.
615 EPA, Ma nufacturer Performance Report for 2015 MY (2015).
616 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181.

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Some general studies of environmental markets have found no environmental degradation resulting
from major trading programs.617 Harrington and Morgenstern’s comparative study finds “mixed”
evidence of policy effectiveness, though it notes that the acid rain market’s strong compliance record
suggests the program has been highly effective.618 Ellerman concludes that the acid rain market, the
NOx trading programs, and even the much maligned RECLAIM program performed better on
environmental outcomes than prescriptive regulation would have.619 Ellerman identifies several features
of the markets that contributed to policy effectiveness. First, the markets achieved strong reductions in
the early years, accelerated by voluntary banking; prescriptive regulations would not have seen any
voluntary early compliance actions. Second, there were no widespread exemptions or waivers or cap
relaxations under the market programs; prescriptive regulations are often riddled with exemptions.
Third, Ellerman alleges that implementation of prescriptive regulations would have been delayed by
litigation, though it is possible the acid rain market only avoided major litigation because key decisions
had been made in statute by Congress, not by agencies. 620 Nitrogen oxide emissions under RECLAIM did
exceed the cap in one year during an energy crisis, but Ellerman argues prescriptive regulation would
have fared no better.621
Allowing the public to participate in markets by purchasing and requiring credits, as with the acid rain
market, directly advances the policy objectives. Retirement ratios, frequently seen with water quality
trading,622 can do the same, though at the expense of the program’s efficiency, as discussed above.
Other evidence of the effectiveness of marketable permit programs includes:




In 2015, several water quality trading programs were phased out as cleanup goals were met. 623
Other still active programs have had notable successes. EPA has recorded the following
successes in water quality trading: in Long Island Sound, nitrogen removal was achieved ahead
of the TMDL target; in the Lower San Joaquine River, selenium loading decreased in six of seven
years; in the Southern Minnesota Beet Sugar Cooperative, trading resulted in more than double
the required phosphorus reductions; in North Carolina’s Neuse River Basin, the total nitrogen
combined estuary loading was 50% of the allocation; and in Oregon’s Clean Water Services
program, trading significantly increased the pace and quantity of riparian restoration. 624
NOAA claims that annual harvest limits in fish catch share programs are rarely exceed, because
catch shares programs generally include increase monitoring. 625 For the Gulf of Mexico red
snapper fishery in particular, before establishing tradable catch shares, the fishery saw quota

617 El l erman, Are Ca p and Trade Programs More Envi ronmentally-Effective Than Conventional Regulation?, supra note 397

(ci ti ng Burtraw & Ma nsur 1999 a nd Swift 2000).
618 Wi nston Harrington & Richard Morgenstern, International Exp erience with Competing Approaches to Environmental Policy:
Res ults from Six Pa ired Cases, supra note 259, a t 122-123.
619 El l erman, Are Ca p and Trade Programs More Envi ronmentally-Effective Than Conventional Regulation?, supra note 397, a t
48.
620 Id. a t 50, 52.
621 Pres cri ptive ra te-based regulations might not have even registered a n i ncrease in total emissions if rate was never exceeded
a nd s ources just upped their output, and the retrofits that would have been necessary to have prevented the exceedance
woul d have been very costly. Id. a t 57.
622 Ma ryl a nd’s water quality tra ding retirement ratio is 1.1:1, i .e. 10% of a ll credits bought are automatically retired. WRI,
Addressing Risk and Uncertainty i n Water Quality Ma rkets (2014). Al so, Offset ratios ca n be designed to explicitly to promote
pol icy goals, as with NAAQS offsets, more than 1:1. Tom Ti etenberg, Tra dable Pe rmits in Principle and Pra ctice, supra note 181.
623 Ecos ys tem Ma rketplace, State of Watershed Investment (2016).
624 EPA, Wa ter Qua lity Tra ding Toolkit, Appendix A (2009) (but a lso noting that in Wisconsin Red Cedar, wa ter quality
i mprovement, i f any, wa s unknown).
625 NOAA, Economic Performance of U.S. Ca tch Share Programs, NMFS -F/SPO-133 (2013).

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



overruns in 11 of 17 years (from 1990-2006); since establishing the program, no quota overruns
have occurred, 626 and the ratio of landed fish to discarded fish improved by three to four
times.627 Katrina Wyman concludes that, while there is no empirical evidence of direct
causation, “the health of U.S. fish stocks has significantly improved in roughly the past decade,”
and catch share programs may be partly responsible.628 There is some empirical evidence that
catch shares promote better stewardship of the resource among fishers, and that fisheries with
tradable catch shares are less likely to collapse.629 The cost savings and increased profitability
generated by the market system may also help fishers more readily accept the harvest limits
necessary for rebuilding stock.630
The Fish and Wildlife Service (FWS) reports that conservation banking is “generally perceived as
successful” and often achieves net benefits to endangered species habitat.631 Similarly,
President Obama conclusively stated that mitigation banks lower long-term risk to the
environment.632 In a 2013 survey, 62% of FWS staff felt banks were generally effective at aiding
species recovery, and another 18% felt banks did about as we ll as other mitigation options; only
8% felt banks were generally ineffective. 633 57% of FWS staff felt additional species or habitats
could benefit from banks.634 Because conservation banks require mitigation to be completed
before selling credits, banking may provide more certain environmental benefits than
permittee-responsible, on-site mitigation, which does not necessarily have to be completed in
advance of the habitat impacts.635
The record for permittee-responsible wetland mitigation in the 1980s was abysmal: one study
found that 34% of the proposed mitigation [by acreage] had not been constructed, and that 93%
of applicants were not in compliance.636 In 2001, the National Research Council concluded that
the goal of no net wetlands loss was not being achieved under permittee-responsible mitigation,
and that mitigation banks could offer advantages.637

Not everyone agrees with this rosy depiction of marketable permit programs’ policy effectiveness. Most
prominently, Driesen argues there is little empirical evidence that trading has produced environmental
results superior to traditional regulation. 638 In particular, Driesen asserts that a prescriptive approach to
the lead phase-down would have produced the same result more quickly than trading.639 The
effectiveness of wetland banking and water quality trading have also faced blistering critiques. In 2008,
a consultant hired by EPA reported that of over twenty-five water quality trading pilots and programs,
626 Na t’l Ma rine Fisheries Serv., Red Snapper IFQ Five -Year Review (2013).
627 Pew Envtl . Group, Design Ma tters: Ma king Ca tch Shares Work (2009).
628 Ka tri na Wyman, The Recovery i n U.S. Fisheries, J. La nd Use (forthcoming). Worldwide: Analysis of 20 IFQs in s everal

countri es found that 12 populations improved, while 8 continued to decline, though unclear whether improvement or declines
coul d be traced to IFQ or just to development of strict ca tch share limits and other l arger ma nagement plans. Pew Envtl. Group,
Des ign Matters: Ma king Catch Shares Work (2009).
629 Ka tri na Wyman, The Recovery i n U.S. Fisheries, J. La nd Use (forthcoming).
630 Id.
631 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016).
632 Pres i dential Memorandum, Mitigating Impacts on Natural Resources from Development, Nov. 3, 2015.
633 DOI, Offi ce of Policy Analysis, Preliminary Analysis of the Conservation Banking Program and Results from a Survey of USFWS
Sta ff (2013).
634 Id.
635 DOI, Offi ce of Policy Analysis, Preliminary Analysis of the Conservation Banking Program and Results from a Survey of USFWS
Sta ff (2013).
636 1991 FDER Study, ci ted by Corps-Jacksonville.
637 NRC, Executi ve Summary (2001).
638 Da vi d Driesen, Is Emission Tra ding an Economic Incentive Program?, supra note 18.
639 Id.

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“very few” could claim any significant impact on water quality.640 Several environmental law experts
question whether wetland banking has improved the environment at all .641 As of 2003, the literature
suggested that the wetlands program had failed to achieve its goal of “no net loss.”642 Limited agency
resource for enforcement may be partly to blame.643 On the other hand, the Army Corps argues that any
effectiveness problems at wetlands banks would be the same or worse at permittee-responsible
mitigation, because of greater uncertainty; at least banks achieve some compensation before the
destruction.644
To some extent, the public and researchers do not have access to the ecological data necessary to
analyze the success of conservation banking 645 and other environmental markets. For example, under
various habitat mitigation programs, some ecological performance data is collected by agencies, but it is
not comprehensively or easily accessible on the credit tracking website used by the Army Corps, the Fish
and Wildlife Service, and the National Marine Fisheries Service.646 EPA has called for periodic
assessments of environmental and economic effectiveness of water quality trading,647 though it is not
clear this has taken place. The Magnunson-Stevens Act requires programmatic reviews of fish catch
shares every five to seven years,648 and fisheries are conducting such reviews. In 2015, the Army Corps
did a retrospective review of the administration of its wetland banking rule, but not of ecological
outcomes.649 Also in 2015, the Corps began efforts to make mitigation plans and ecological monitoring
reports more publicly available on the website (RIBITS.usace.army.mil) that it, the Fish and Wildlife
Service, and the National Oceanic and Atmospheric Administration all use to track habitat credits. 650
Recommendation: Agencies should release any non-confidential data that would help the public
gauge a market’s policy effectiveness, and should periodically assess both the policy and economic
effectiveness of a program.

IV.

Market Integrity and Oversight
A.

Creating a Market
1.

Auctions

The distributional and policy consequences of various methods for initially allocating allowances and
credits are discussed above. In particular, procedures for approving credits for primary sale are
discussed in Section III.C, and the distributional consequences of freely allocating, or grandfathering,
permits according to historic use of the resource are discussed in Section II.D. Some additional
640 IEc, Wa ter Quality Tra ding Eva luation, supra note 50. Note that the data is ten years old and predates EPA’s water quality

tra di ng toolkit, which gave state regulators concrete guidance. EPA a lso commented, on the draft version of this report, that
s ome water quality tra ding programs are designed s pecifically to i nclude only a limited number of s ources, a nd s o a
“s i gnificant” effect on overall water quality i s not necessarily s urprising; additionally, EPA commented that the difficulty wi th
veri fyi ng credits is a relevant factor i n this 2008 s tudy’s claims.
641 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181.
642 Id.
643 Id.
644 Corps -EPA Final Rule, Compensatory Mi tigation for Losses of Aquatic Resources, 73 Fed. Reg. 19,593 (2008).
645 DOI, Offi ce of Policy Analysis, Results from a Survey of Conserva tion Bank Sponsors (2016).
646 Id.
647 EPA, Wa ter Qua lity Tra ding Policy, 68 Fed. Reg. 1609 (Ja n. 13, 2003).
648 16 U.S.C. § 1853a (c)
649 Corps , Institute for Wa ter Resources, The Mi tigation Rule Retrospective (2015).
650 Id.

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advantages and disadvantages of auctions versus grandfathering, in terms of market power, price
discovery, and other oversight issues, are discussed below.
Some auction design issues, like the best bidding structure to prevent market manipulation, 651 are too
complex to cover in this report, and likely there are no one -size-fits-all solutions to those issues. As the
Federal Trade Commission has recommended, auctions, whether for airport landing slots or
electromagnetic spectrum, need to be tailored to the unique context.652 However, a few additional
points about creating and running auctions bear mentioning here.
First, an auction can be revenue generating for the government or not. Revenue management is
discussed above, in Section II.D.3. A zero-revenue auction combines some traditional features of an
auction with some of the objectives of grandfathering. The acid rain program features a zero -revenue
auction. Acid rain allowances are allocated freely, but each source is required to put 2.8% of their
allowances up for auction. Revenue generated from the auction is distributed back to those sources, not
to the government. Because there is an auction, price discovery is facilitated and new entrants have a
clear path to enter the market; but because it is zero-revenue, existing regulated entities’ past
investments are not threatened and political opposition is less than with a revenue -generating
auction.653 The acid rain’s auction has historically been relatively efficient and successful. 654
Second, regulators must determine the frequency of auction. If there is sufficient volume to ensure a
robust market, more frequent auctions could give participants greater flexibility to adjust their buying
and selling strategies from sale to sale, and may disrupt coordinated attempts to corner the market. 655
However, if the frequency of auctions reduces the number of allowances sold per auction, the smaller
market size could increase the risk of manipulation. 656 Other auction design features, such as bidding
structure, could affect the risk of market power. 657
Finally, regulators can operate and supervise auctions themselves or enlist third parties. For thirteen
years, the Chicago Board of Trade conducted the acid rain program’s zero-revenue auctions. It did so
without compensation and was not allowed to charge a fee. In 2006, the Board decided to stop running
the auction, and EPA now conducts auctions directly. 658 Both the Regional Greenhouse Gas Initiative and
California’s cap-and-trade program use an outside company to evaluate auction data to ensure there is
no manipulation. 659

651 Peter Cra mton & Jesse Schwartz, Collusive Bidding: Lessons from the FCC Spectrum Auctions, 17 J. Reg. Econ. 229 (2000).
652 FTC Comments to FAA, Notice 08-04 (2008).
653 Zero revenue auction grandfathers the va lue of permits but lets the market freely a llocate the uses of permits. Project on

Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory Alternative 13-14
(1981). NRC recommended one for fish quotas, as way to ensure price discovery a nd let new entrants in to an otherwise
gra ndfathered s ystem. NRC, Sharing the Fish: Toward a National Policy on IFQs (1999).
654 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 11 (2006, 2d ed).
655 Wes tern Climate Initiative, Auction Design White Pa per (2010) (more a uctions also improves liquidity a nd may make it easier
for s ma ll fi rms to participate).
656 EDF Comments to CFTC (2010).
657 Certa i n a uction designs ma y decrease risk of market power, like instead of paying a single market-clearing price, you pay the
hi ghest unsuccessful bid, then no source could unilateraly a ffect prices by a rtificially raising/lowering demand, though could still
wi th collusion with other s ources. T.H. Tietenberg, Emissions Trading: Pri nciples a nd Pra ctice 157 (2006, 2d ed). FCC a uction
s tructure lead to s ome inefficient allocations, see Posner & Wi lde.
658 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket 11.
659 Center for Cl imate a nd Energy Solutions (C2ES), Ma rket Oversight under the Cl ean Power Plan (2016).

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2.

Secondary Markets

Secondary markets refer to transactions after the initial allocation. The two main categories of
transactions on secondary markets are spot sales, which are sales for immediate delivery of the
allowance or credit, and forwards, which set a fixed price for future delivery of the allowance or
credit.660 Secondary transfers may be permanent sales or lease arrangements.661
Not every marketable permit system provides for secondary transfers. Notably, neither conservation or
wetland credits can be resold or traded after the initial purchase from the credit bank. 662 But the initial
sale of such habitat credits strongly resembles secondary market transactions, with buyers and sellers
searching for trading partners. For example, exchanges and clearinghouses are starting to be used for
conservation banking.663
Secondary transactions can be accomplished through a variety of channels. Bilateral trading allows
direct negotiation between buyer and seller, possibly mediated by a broker. Aggregators and
clearinghouses convert credits with variable prices and quality into a more uniform currency. For
example, an aggregator may pay farmers to install best management practices to generate water quality
credits, which the aggregator then sells at a fixed price. 664 Clearinghouses act as an intermediary
between buyers and sellers and guarantee performance in the event of default. Exchanges automatically
match buyers and sellers in standardized transactions. Transactions not conducted on exchanges are
called “over-the-counter.”665
Sales directly negotiated bilaterally entail numerous transaction costs for buyers and sellers: researching
the market and determining the going price, finding a trading partner, negotiating terms, handling
paperwork and payments, and enforcing the contract. 666 For smaller and less sophisticated entities
without preexisting connections with potential trading partners, search costs can be si gnificant in a
purely bilateral market. 667 Similarly, smaller credit sellers that generate credits more infrequently may
have difficulty gaining credibility about the validity of their credits. 668 Brokers, aggregators, and
clearinghouses help minimize some of those transaction costs. Exchanges have the lowest transaction
costs:669 contract terms are standardized, prices are transparent, buyers and sellers are matched
automatically. Exchanges are also highly transparent and so facilitate monitoring of the market by
regulators, other market actors, and the public. 670 However, those advantages come at the cost of the
customization of terms available in over-the-counter transactions.
Regulators must determine how involved to become in facilitating the creation and operation of
secondary markets. For large programs with sufficient value to attract intermediaries and market
makers, secondary markets may “emerge quickly . . . with no need for government assistance.” 671 For
660 Al s o repurchase agreements and short sales. Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note

448, a t 14.
661 NOAA, Economic Performance of U.S. Ca tch Share Programs, NMFS -F/SPO-133 (2013).
662 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016).
663 Id.
664 Wi l lamette Pa rtnership, In It Together: A How-To Reference (2012).
665 Interagency Working Group on Ca rbon Ma rket Oversight, supra note 448, a t 14.
666 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 40 (2006, 2d ed). Also cost of optimizing decision between
a ba tement and buying permits.
667 Breger, Stewart, Elliott, & Ha wkins, Providing Economic Incentive i n Environmental Regulation, supra note 13.
668 Id.
669 Andrew Wolman, Effluent Tra ding in the United States a nd Australia, supra note 229.
670 Les ley McAl lister, Beyond Pl aying “Banker”, 59 Admin. L. Rev. 269 (2007).
671 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket 28.

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example, the European Union’s Emissions Trading System did not explicitly provide for the creation of
secondary markets, yet such markets materialized and flourished. Similarly, while the acid rain program
allowed permit holders to use the structure of the zero-revenue auction to sell additional allowances
beyond the required minimum 2.8%, 672 the bilateral, over-the-counter market remained “vastly more
important.”673 Brokers facilitated acid rain transactions by maintaining price information and matching
buyers and sellers.674
However, in other programs, robust secondary markets have been slow to develop without active
involvement of regulators. For example, EPA and the Department of Transportation’s trading programs
for vehicle emissions and efficiency provide no centralized se tting for trading to take place, which has
made price discovery difficult and possibly limited the number of transactions that occur.675 With
electromagnetic spectrum licenses, because of interference issues caused by neighboring channels,
transferring spectrum from one use (such as television broadcast) to another (like wireless carriers) can
be difficult without coordination. The Federal Communications Commission is currently running a two step “incentive auction” wherein the Commission acts as intermediary between broadcasters with
underutilized spectrum and wireless providers seeking additional spectrum, which enables the
Commission to “repack” channels to minimize such interference.
Regulators can facilitate secondary transactions in a variety of ways. Some agencies provide only
minimal support in finding a trading partner. For example, the National Marine Fisheries Service advises
interested buyers and sellers of Bluefin tuna shares either to e -mail the agency’s customer service
department to be added to a list of interested buyers and sellers, or else to download a list of initial
quota allocations (though the list does not reveal the amount of share held or whether the holder has
an interest in selling).676 The PJM Interconnection—a regional transmission organization that
coordinates wholesale electricity through thirteen states—has a website entitled “How Do I Sell RECs?,”
which recommends advertising renewable electricity credits for sale on their bulletin board .677 In
addition to privately-run exchanges, exchanges can also be operated directly by regulators.678
One difficulty for water quality trading is point sources that are potential credit buyers and sources that
are potential sellers do not necessarily receive their permits simultaneously, and so they enter the
market at different times. The lack of synchronicity makes it harder for buyers and sellers to find each
other. A recent EPA-USDA workshop on water quality trading raised the idea that states could use
“general permits” to establish pollution caps for groups of similar sources watershed-wide, and allow
such sources to trade among themselves to achieve net pollution reductions.679 As ACUS has previously
defined, “In general permitting, an agency issues a permit that defines and approves a category of
activity on its own initiative, and allows entities engaging in that activity to readily take advantage of the

672 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 11 (2006, 2d ed).
673 Sta vi ns, What Ca n We Learn from U.S. Experience?, supra note 13, a t 23.; see also Ma rk Ji ckling & La rry Pa rker, Cong. Res.

Serv., Regulating a Carbon Market: Issues raised by the European Carbon and U.S. Sulfur Dioxide Allowance Markets 17 (2008).
674 Jona than Nash & Richard Revesz, Ma rkets a nd Geography: Designing Ma rketable Permit Schemes to Control Local a nd
Regi onal Pollutants, 28 Ecol . L. Q. 569 (2002).
675 Lea rd & McConnell, supra note 32.
676 NMFS, IBQ Progra m and Electronic Monitoring Reminders, Oct. 15, 2015.
677 Or worki ng with a n aggregator or broker, or using an exchange platform. PJM, How Do I Sell RECs?
678 EPA, Wa ter Qua lity Tra ding Toolkit (2009) (EPA says a water quality tra ding exchange would “likely” ha ve to be either
opera ted or overseen by a state agency).
679 EPA & USDA, Report on 2015 Na tional Workshop on Water Quality Ma rkets (2016). EPA ha s long s upported use of
wa tershed general permits to fa cilitate trading. EPA, Wa ter Quality Tra ding Policy, 68 Fed. Reg. 1609 (Ja n. 13, 2003).

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permit.”680 General permitting tends to be appropriate when “[t]he agency does not need to tailor
permits to context-specific instances of the activity,”681 which would also be true for such a water quality
market: what matters is the total discharges into the watershed by a category of point sources, and not
the individual activity level of any one actor.
Finally, regulators must decide whether to require pre-approval of transfers. As discussed above in
Section III.A., exchange restrictions can be implemented automatically through computer modeling or
through case-by-case reviews.
Recommendation: Regulators should consider whether they can address barriers to efficient
secondary transactions, for example by facilitating price discovery. EPA should encourage states to
consider using general permits to facilitate water quality trading.

3.

Derivatives

“A derivative contract is a financial instrument whose value is based on, or derived from, the value of an
underlying asset, commodity, or measurable event.” 682 Species of derivative contracts include futures,
options, and swaps. Such contracts do not necessarily involve the actual transfer of allowances.
However, future contracts can provide for near-term delivery of allowances and, because marketable
allowances and credits are more uniform and easily transferable than many other commodities, future
contracts can serve as “very close economic substitutes” to secondary market transactions. 683 On the
European Union’s Emissions Trading System, for example, “futures are not only used for hedging
strategies, but as a [direct] means of buying or selling allowances.”684
Derivatives are used for hedging and speculation. Hedging allows the transfer of market risks to parties
more capable of assuming it. For example, regulated entities anticipating a future need for permits and
worried about price volatility may want to hedge against potential price spikes; entities with banked
allowances may want to hedge against falling prices, to protect the value of their permits. Nonregulated entities may also need to hedge their risks. For example, under a greenhouse gas cap-andtrade system, firms that produce abatement technologies may face financial exposure from carbon price
changes,685 and clean energy providers may wish to hedge against falling prices to ensure wholesale
electricity prices do not dip and hurt their profits.686 Distinct from hedging, speculation involves
attempting to earn profit by anticipating price movements or taking advantage of a perceived
mispricing.687
Some advocates worry that excessive speculation in derivative markets creates unnecessary risks of
market manipulation and will undermine the effectiveness and efficiency of the marketable permit
program.688 Some have pushed for bans on derivatives of marketable permits, arguing that predictable
increases in stringency and provisions for contingencies will ensure a clear price path and so minimize

680 https ://www.acus.gov/sites/default/files/documents/recommendation -2015-4-designing-federal-permitting-

progra ms_3.pdf a t 2.
681 Id. a t 6. Note tha t not all the factors weighing i n favor of general permits a lign with the features of marketable permits.
682 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 15.
683 Id. a t 33-34.
684 Id. a t n.27.
685 Id. a t 15.
686 Id. a t 38.
687 Id. a t 16-17.
688 Mi chelle Chan, Friends of the Ea rth, Smaller, Simpler, and More Stable: Designing Carbon Markets for Environmental and
Financial Integrity (2009).

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the kinds of price risks that derivatives are designed to hedge against.689 Others point out that a ban on
U.S. derivatives based on marketable permits could simply prompt covered entities to hedge their risks
in less transparent markets. For example, to hedge risks in carbon markets, covered sources may simply
enter derivative markets in energy commodities or derivative markets based outside the United
States.690 Excessive speculation may be better addressed by requiring derivatives to be traded on
exchanges, with position limits.
Derivatives can be traded on exchanges or bilaterally over-the-counter. Exchanges offer a centralized
marketplace for buyers and sellers to meet and enter into highly standardized contracts. Exchanges
manage the risk of default by requiring the deposit of some collateral to participate (also known as
“margin requirements”), and typically provide for centralized clearing through a clearinghouse, which
acts as an intermediary to guarantee performance.691 Exchanges also often have position limits, to
prevent excessive speculation. Standardizing contract terms can help reduce transaction costs and
promote market liquidity, and help exchanges maintain high levels of transparency, which both
facilitates price discovery by market actors as well as oversight by regulators and the public. 692
On the other hand, over-the-counter transactions allow parties more customization and innovation in
contract terms. For example, in the European Union’s Emissions Trading System, exchange-traded
futures contracts were limited to three-to-five year durations; if a utility wants to lock in allowance
prices for a decade or more, it needs over-the-counter derivatives. 693 Some regulated entities may also
feel they can negotiate better prices over-the-counter than what is set on exchanges; to the extent that
is true, over-the-counter may lower overall compliance costs. 694 Historically over-the-counter trades
have also avoided the capital costs of margin requirements.695 Margin requirements can tie up cash,
complicating participation for smaller firms and for entities like utilities that need to invest heavily in
capital improvements. 696 However, the Dodd-Frank Wall Street Reform and Consumer Protection Act
requires margins and clearing even for some kinds of over-the-counter derivatives,697 as well as
reporting certain details on over-the-counter swaps. 698
Environmental Defense Fund has argued that all allowances and derivatives in carbon markets should be
traded on registered exchanges to facilitate effective market oversight.699 “Our extensive consultation
with a range of experts…leads us to conclude that the benefits of allowing over-the-counter trades (even
if cleared) would be very small related to the costs in terms of lost transparency.” 700 However,
Environmental Defense Fund admits that contracts for the development of offsetting credits may be too
hard to standardize to put exclusively on exchanges, given the wide variety of credit-generating projects

689 Id.
690 CBO, Eva l uating Limits (2010).
691 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 19.
692 Id. a t 18-19.
693 Pew Ctr. on Gl obal Cl imate Cha nge, Ca rbon Ma rket Design a nd Oversight (2010).
694 Id.
695 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 18-19.
696 Pew Ctr. on Gl obal Cl imate Cha nge, Ca rbon Ma rket Design a nd Oversight (2010).
697 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 19.
698 Id. a t 21.
699 EDF, Comments to CFTC (2010).
700 Id.

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and uncertainty about project approval and performance.701 Credit markets, therefore, may need some
level of over-the-counter trading.702
Derivatives have been used most actively in air pollution and renewable energy markets. As of 2010,
exchange-traded derivatives for the Regional Greenhouse Gas Initiative were valued at $2 billion; for the
acid rain market, $0.7 billion; and for the European Union’s Emissions Trading System, $71 billion (not
counting the significant number of over-the-counter derivatives). 703 There has also been strong interest
in derivatives to hedge against the tremendous price volatility experienced in the renewable fuel
standard market.704

B.

Oversight of Primary, Secondary, and Derivative Markets

The Dodd-Frank Wall Street Reform and Consumer Protection Act established an interagency working
group to investigate the oversight of carbon markets. The working group was chaired by the Commodity
Futures Trading Commission (CFTC), and further composed of officials from EPA, the Department of
Agriculture, the Department of the Treasury, the Securities and Exchange Commission, the Federal
Energy Regulatory Commission, the Federal Trade Commission, and the Energy Information
Administration.705 In 2010, this group issued its report and concluded that while CFTC should have the
authority for “comprehensive oversight” of derivative markets relating to carbon allowances, primary
and secondary markets “will not be subject to the same comprehensive oversight,” 706 since “[n]o set of
laws currently exists that apply a comprehensive regulatory regime” specifically to primary and
secondary permit markets. 707
CFTC likely does have sufficient authority to monitor derivative markets effectively, whether trades are
conducted over-the-counter or on exchanges;708 whether it exercises that authority for marketable
permit programs remains an open question. For derivatives traded on exchanges, CFTC has thorough
oversight, and exchanges must publish certain trading information, giving CFTC the data it needs to
detect fraud or manipulation.709 The Dodd-Frank Act strengthened CFTC’s oversight of over-the-counter
transactions as well. For example, CFTC can require swaps to be cleared and reported. 710 CFTC also has
authority to impose position limits on both exchange-traded and over-the-counter derivatives to
prevent excessive speculation. 711 However, CFTC has not established position limits for carbon market
derivatives or other environmental commodity derivatives. At least some allowance transactions and
most offset credits will qualify for CFTC’s so-called “forward exclusion” from the definition of “swap.”712
In fact, the strong similarities between regulated futures contracts and unregulated forwards could
make it easy for some transactions to evade oversight. 713 Certain activities by “commercial hedgers”—
701 Id.; see also Pew Ctr. on Gl obal Climate Change, Ca rbon Ma rket Design and Oversight (2010).
702 Ins tead of banning over-the-counter, could require registry a nd tracking and raise transaction fees on tra des that do not

cl ea r. CBO, Eva luating Limits (2010).
703 Id.
704 CME Group, Announces New Futures Contracts for RINs, Apr. 25, 2013.
705 § 750.
706 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 51.
707 Id. a t 42.
708 Id. a t 51.
709 Id. a t 44.
710 Id. a t 47.
711 Id. a t 45.
712 Jos hua Schneck & Jonas Monast, Financial Market Reform and the Implications for Ca rbon Tra ding (2011).
713 Leo Mensah, Mi ssed Opportunity: Excl uding Ca rbon Emissions Markets from Comprehensive Oversight, 38 Wm. & Ma ry
Envtl . L. & Pol ’y Rev. 795 (2014).

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that is, non-financial entities using swaps to hedge against commercial risk, which would likely include
any regulated entity using derivatives under a permit market to manage their exposure to price
volatility—are exempt from CFTC’s broadest authorities. 714 Nevertheless, CFTC has the statutory
authority to eliminate many of these exemptions and to provide comprehensive oversight of derivatives
in permit markets.
Oversight of primary and secondary markets will largely depend on the statutory authority of the
individual agencies implementing marketable permit schemes. Arguably, the spirit of the Dodd-Frank
Act was to ensure no market falls wholly outside regulatory authority. Some experts encourage agencies
to aggressively read their statutes to find authority over any un-regulated secondary markets. However,
these experts also caution that acquiring expertise in market oversight takes time and resources.715
The Federal Trade Commission (FTC) and the Department of Justice have some general authorities
relevant to oversight of primary and secondary markets. FTC has general authority to act against unfair,
anticompetitive, and deceptive practice affecting commerce. 716 However, despite their antitrust
responsibilities, the FTC and Justice Department have had limited involvement with marketable permit
programs. FTC issued guidance to combat deceptive practices only in the voluntary carbon offset and
renewable energy certificate markets. 717
CFTC has broad enforcement authority to pursue manipulation of a commodity’s price in interstate
commerce, and some authority to obtain information on holdings and secondary transactions of trade rs
who also participate in regulated futures markets. 718 But “absent specific action by Congress, neither
CFTC nor any other federal agency may have any authority to routinely monitor trading in the secondary
markets.”719 CFTC only rarely brings enforcement actions for fraud in spot markets, as legislative history
does not suggest Congress intended CFTC to have a huge role in secondary markets. 720
CFTC also has authority to surveil any spot trading voluntarily conducted on registered exchanges. 721 For
example, CFTC oversees trading of allowances for the Regional Greenhouse Gas Initiative and the acid
rain market on exchanges like the Chicago Climate Futures Exchange. 722 Regulated exchanges also partly
police themselves, with rules on position limits and to ensure fair trading. 723 Banning over-the-counter
secondary transactions and requiring all trades to be on exchange might, therefore, strengthen federal
oversight of marketable permit programs (as well as improve transparency and price discovery).
However, such a ban would erase the flexibility and potential cost savings of over-the-counter trading,
and contracts for variable credits and offsets may be difficult to standardize sufficiently to place on
regulated exchanges. One compromise could be allowing over-the-counter transactions only for types of
contracts not likely to be traded on exchanges. 724

714 In 2012, CFTC voted to exempt non-financial commodities, i ncluding environmental commodities from “s wap,” i ncluding

ca rbon forwards. McGuireWoods, Legal Al ert, July 11, 2012.
715 Interview by Author.
716 Interestingly, the Deep Seabed Hard Mi nerals Act i s one of the few (or only) s tatutes to specifically provide DOJ/FTC the
opportunity to review the antitrust implications of permit tra nsfers.
717 OECD, Emi s sion Permits a nd Competition (2010).
718 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 43.
719 Id. a t 43.
720 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket n.20.
721 See CFTC, Ma rket Surveillance Program,
http://www.cftc.gov/IndustryOversight/MarketSurveillance/CFTCMarketSurveillanceProgram/index.htm.
722 Id.; Jona s Monast, Climate Change & Fi nancial Markets: Regulating the Tra de Side of Ca p a nd Tra de, 40 ELR 10051 (2010).
723 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket 30.
724 Jona s Monast, Climate Change & Fi nancial Ma rkets, supra note 722.

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Testifying at a 2009 congressional hearing, witnesses from the Nicholas Institute for Environmental
Policy Solutions at Duke University, the Chicago Mercantile Exchange, Exelon, and Iowa Farm Bureau all
agreed that CFTC may be best positioned to try to comprehensively oversee permit markets.725
However, there is similar consensus that CFTC would need additional authority to provide effective
oversight. It is notable that all the legislative proposals in 2009-2010 for a national greenhouse gas capand-trade program would have granted CFTC or other agencies additional oversight authorities; existing
authorities are likely insufficient.
Recommendation: CFTC should monitor any active derivative markets relating to regulatory permits
and exercise its statutory authority when necessary to prevent fraud and manipulation. CFTC should
consult with other agencies on the oversight of secondary permit markets, and should identify to
Congress any need for additional statutory authorities to regulate permit markets. Agencies should
presumptively limit secondary trading of allowances and credits to exchanges, as appropriate and
consistent with their legal authority. An exception could be made for over-the-counter contracts that
cannot be standardized, like forward contracts for the delivery of offset credits.

C.

Fraud and Manipulation

Fraud and price manipulation not only undermine economic efficiency, but also erode confidence in the
market.726 Some marketable permit programs, like the acid rain market, have seen very little fraud or
manipulation.727 The acid rain market’s lack of manipulation can be explained because there are
relatively few regulated entities and they are largely major utilities, all of which have the same
information on energy prices and weather forecasts. Under such conditions, it is difficult for one party to
develop an information advantage and defraud another party.728 Similarly, no manipulation to date has
been detected in the Regional Greenhouse Gas Initiative.729
However, different markets with heterogeneous entities and asymmetrical information could face
greater risks of fraud and manipulation.730 In 2001, California’s air pollution market suffered through a
Ponzi scheme.731 In the mid-1990s, before the Federal Communications Commission tweaked its auction
design, there were allegations of firms colluding through bid signals to manipulate the price. 732
The renewable fuel standard market has been especially plagued by both real and perceived fraud. As of
2014, at least 140 million invalid or imaginary renewable fuel credits have been generated. 733 Several
credit producers have been charged with wire fraud, money laundering, and violations of the Clean Air
Act.734 In March 2016, the owner of a biodiesel company received ten years in prison and a $138 million
725 Id.
726 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 24.
727 80 Fed. Reg. a t 64,977 (“The EPA ha s over 20 yea rs of experience i mplementing emissions tra ding programs for the power

s ector a nd based on that experience, believes the potential or l ikelihood of market manipulation is fairly l ow.”)
728 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket 30-31.
729 C2ES, supra note 659.
730 “A s ys tem with numerous interrelated markets” versus a s ingle market “may have some markets i n which only one or a few
pol luters participate, leading to i nefficiencies resulting from market concentration.” Nash & Revesz, supra note 5 (quoting Hahn
& Nol l a t 120).
731 CBO, Eva l uating Limits (2010); see also Ri chard Drury et al., Pollution Trading a nd Environmental Injustice, supra note 395
(outri ght fra ud i n RECLAIM).
732 Peter Cra mton & Jesse Schwartz, Collusive Bidding: Lessons from the FCC Spectrum Auctions, 17 J. Reg. Econ. 229 (2000).
733 Sus an La fferty & Da vi d McCullough, Sutherland LLP, EPA’s Renewable Fuel Standard: What to Expect i n 2014 (2014).
734 Robert Glicksman, Regulatory Safeguards for Accountable Ecosystem Service Ma rkets i n Wetlands Development, supra note
443; s ee also Energy & Envi ronmental La w Adviser, CFTC a nd EPA Si gn MOU on Renewable Fuel Ma rkets, Ma r. 23, 2016 (owner
of Cl ea n Green Fuel found guilty of wire fraud, money l aundering, a nd Cl ean Ai r Act vi olatio ns).

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restitution penalty for selling sixty million bogus renewable fuel credits. 735 Between 2013 and 2016, EPA
has taken eleven civil enforcement actions. 736 In January 2017, EPA placed a quality assurance provider
on notice for allegedly verifying verifying millions of fraudulent renewable fuel credits. 737
In addition to such fraud, there have been allegations of price manipulation in the renewable fuel credit
market. In 2013, Senator Grassley identified market manipulation as the cause of a dramatic spike in
prices for renewable fuel credits, and the New York Times investigated Wall Street speculators’
exploitation of the market.738 In 2016, the Renewable Fuels Association asked for EPA and the
Commodity Futures Trading Commission to investigate the market for price manipulations by those
seeking to erode confidence in the program, who hope to lobby for reforms or a complete repeal of the
renewable fuel standard.739 Also in 2016, investor Carl Icahn (who owns 82% of an independent refinery)
called for EPA and the Federal Trade Commission to investigate the “rigged” renewable fuel market for
“secret deals” wherein blenders sell credits preferentially to speculators instead of refineries, allowing
speculators to hoard credits until the price increases. Icahn likened the market to a cocaine cartel,
quoting the CEO of a refinery as saying, “if Pablo Escobar were alive, he wouldn’t be doing coke, he’d be
trading RINs [renewable fuel credits].”740 Other industry experts question whether there is any evidence
for Icahn’s allegations.741
Tools to manage fraud and abuse include position limits, accountability provisions, reporting
requirements, and effective surveillance. 742 Transparent price information can prevent large,
sophisticated players from exploiting information asymmetries with smaller firms.743

D.

Volatility

Price volatility can occur in marketable permit programs even without fraud or manipulation, due to
unexpected increases in demand or reductions in supply. For example, in 2000, California’s energy crisis
caused demand to spike, and RECLAIM allowance prices rose twenty-five times; consequently, regulated
sources exceeded the overall nitrogen oxide cap by 19%.744 Cheap credits in RECLAIM’s early years may
have habituated firms to low prices, causing them to fail to plan for future contingencies.745
Conservation bank prices range $1836 to $400,000 per credit due to scarcity of certain kinds of credits in
certain areas.746 Most notoriously, in 2013, some renewable fuel categories saw credit prices increase
2500% over a six month period.747
Volatility creates financial risks in both regulated markets and related markets, increases the risk of
noncompliance, and decreases confidence in the market system. Too much volatility can even lead to

735 Energy & Envi ronmental La w Adviser, CFTC a nd EPA Si gn MOU on Renewable Fuel Ma rkets, Ma r. 23, 2016.
736 EPA, Ci vi l Enforcement of RFS Program.
737 Id. Genscape must retire va lid RINs to replace fraudulent ones they verified (i.e., Genscape has to replace, not buyers)
738 Sutherland, supra note 733 (2014).
739 Letter from Renewable Fuels Assoc., to EPA a nd CFTC, Aug. 1, 2016.
740 La ura Blewitt & Za chary Mi der, Icahn Ca lls on EPA to Fix “Mother of All Short Squeezes,” Bloomberg, Aug. 15, 2016.
741 Da llas Burkholder, OTAQ, Preliminary Analysis of RIN Ma rket Dynamics, RIN Pri ces, a nd Their Effects (2015).
742 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 20.
743 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket 31.
744 Les ley McAl lister, Beyond Pl aying “Banker”, 59 Admin. L. Rev. 269 (2007).
745 Id.
746 DOI Offi ce of Policy Analysis, Conserva tion Banking Overview (2013). For just vernal pools in Ca lifornia, range is $50,000 to

$325,000
747 Progres sive Fuels Ltd., RIN Pri cing and Opportunities, Aug. 26, 2013. One type i ncrease from just a few cents to over a dolla r
per credit. Dallas Burkholder, OTAQ, Prel iminary Analysis of RIN Ma rket Dynamics, RIN Pri ces, and Their Effects (2015).

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“demoralization,” as businesses stop trying to predict future prices, which undermines the incentives for
innovation and planning created by long-term price signals. 748
Regulators can manage price volatility with several tools. “Circuit breakers” limit how much prices can
rise or fall in given period. 749 Safety valves can set maximum prices or release reserve credits into the
market in case of emergencies or demand spikes. 750 For example, the Department of Transportation sets
a fine for exceeding fuel efficiency standards, which acts as a price cap in the efficiency credit market.751
Authorizing the banking and borrowing of allowances also helps mitigate against price volatility:752
borrowing credits from future years can dampen price spikes,753 and banking for future compliance
obligations can help maintain market activity during periods of low prices, such as in years when caps do
not prove to be binding on emissions.754 Finally, by defining a broader program that covers more
regulated entities under a single market, regulators diversify the portfolio of permit seekers, reducing
the risk of unexpectedly high costs in an isolated sector.755 Any individual regulated sector can
experience unexpected compliance costs as economic conditions change; a broader market offers more
flexibility, better absorbs price volatility, and so increases certainty for regulated parties and investors.

E.

Thinness, Hoarding, and Monopolies

Thin markets occur when transaction costs are so high or covered entities are defined so narrowly that
not enough potential buyers and seller participate to support a robust market.756 For example, too many
exchange restrictions will thin the market.757 Every marketable permit program must balance the
complexity of currency design, the number of exchange restrictions to mitigate remaining externalities,
and market thickness. 758 Thin markets increase the risk of market power like monopolies and
monopsonies and, by limiting the number of trading opportunities, restrict the market’s overall
efficiency. Without enough actors to provide competitive prices, trading will not generally deliver on its
promise of cost-effective solutions. 759 Economists, like Tom Tietenberg, usually argue to err on the side
of thicker markets and deal with any remaining externalities on an ad hoc basis.760
Firms with market power can unduly influence the market’s efficiency to their advantage, moving the
price and quantity of permits traded away from the optimal equilibrium that balances true supply and
demand. Firms may hoard allowances to inflate the price. To corner a market, a firm can amass a large
inventory of allowances and simultaneously take future or forward positions that will require other

748 Interview with Don Elliott.
749 CBO, Eva l uating Limits (2010).
750 Sa fety va lve as a pre-defined penalty that ca n be paid on emissions over the ca p in event of emergency, di fferent than

noncompliance penalty. Tom Tietenberg, Tra dable Permits i n Pri nciple and Pra ctice, supra note 181.
751 Lea rd & McConnell, supra note 32.
752 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 35.
753 Id. a t 36.
754 Id. a t n.11.
755 Sta vi ns, U.S. Cap-and-Trade System, supra note 262, a t 19; Na s h & Revesz, supra note 5, a t 616, 630.
756 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 9 (1981)
757 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 160 (2006, 2d ed).
758 Ja mes Salzman & J.B. Ruhl, Currencies and the Commodification of Environmental Law, supra note 6.
759 Na s h & Revesz, supra note 5 (ci ting T.H. Ti etenberg 61-62 (1965)); see also Congressional Research Service, Regulating a
Ca rbon Ma rket: Issues Raised by the European Ca rbon and U.S. Sulfur Dioxide Allowance Ma rkets (2008) (warning of market
power i n illiquid markets).
760 Ja mes Salzman & J.B. Ruhl, Currencies and the Commodification of Environmental Law, supra note 6.

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market participants to make future deliveries of allowances back to the firm; the firm with market
power can then dictate the price for satisfying those forward positions.761
Besides trying to extract monopoly rent from the permit market, firms may also try to manipulate the
permit market as a way to punish rivals in a product market. By driving up permit prices, firms can
increase their rivals’ production costs and reduce their share of the product market.762 For example,
firms could hoard spectrum licenses with the intent not of driving up permit prices but rather of
preventing competition in broadcast markets. 763 However, many permit markets will not contain a large
number of direct competitors in the output market. For example, it is unlikely for multiple businesses
competing in the same product market to be located in a given airshed or watershed. The permit market
is, therefore, likely a poor vehicle to try to wield anti-competitive power in the product market.764
Moreover, standard antitrust laws may be sufficient to handle these risks. 765
Market power can be difficult to detect. It remains unclear whether the hoarding of renewable fuel
credits by certain banks helped cause the 2013 price spike. 766 Similarly, the market for trading emissions
credits among passenger vehicle manufacturers is relatively thin, with only about twenty car
manufacturers actually subject to the regulation. In this constrained market, market thinness and the
lack of transparency about buyers’ offer prices and sellers’ asking prices likely were responsible, among
other factors, for the dearth of trades between companies in early years.767 Additionally, since only six
car manufacturers hold nine of every ten permits, the lack of trades may be due to a monopoly -like
attempt to restrict permit supply in the market’s initial years to drive up permit prices in later periods. 768
However, as stringency has increased over time, the vehicle emissions market has become thicker:
through the year 2013, only 2.6 million credits total had been traded cumulatively, but in 2014, another
7.2 million were traded, and in 2015, 10.2 million were traded.769 The number of buyers and sellers has
likewise increased.770
One market with a real risk for monopoly power was the ozone -depleting substance market. The Federal
Trade Commission calculated the market’s Herfindahl-Hirschmann Index: a metric of market
competition with a scale of 0 to 10,000, with any score over 1500 signifying a risk of market power. The
ozone-depleting substance market scored 2958. The Federal Trade Commission recommended that EPA
retain the right to take back any credits being hoarded. 771 In the conservation banking context, some
banks have a de facto monopoly on certain types of credits in certain areas (though of course permittees
could always implement their own mitigation).772
In general, though, market power has not been a significant issue in most permit markets. In some
marketable permit programs, the accumulation of allowances is unlikely to generate monopoly-type
761 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket 33.
762 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 150 (2006, 2d e d).
763 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory

Alternative 20 (1981)
764 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 157 (2006, 2d ed).
765 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 20 (1981)
766 Robert Glicksman, Regulatory Safeguards for Accountable Ecosystem Service Ma rkets i n Wetlands Development, supra note
443.
767 Lea rd & McConnell, supra note 32, a t 2, 7, 15, 26.
768 Id. a t 28.
769 EPA, Ma nufacturer Performance Report for 2015 MY (2015); compare EPA, Ma nufacturer Performance Report for 2014 MY.
770 In 2015, there were 5 s ellers a nd 7 buyers, up from 3 a nd 3 i n 2013. EPA, Ma nufacturer Performance Report for 2015 MY.
771 FTC, Comments of the Staff of the Bureau of Economics on Protection of Stratospheric Ozone (1988).
772 Stra tus Consulting for Northwest Fisheries Science Center, NOAA, A Na tionwide Survey of Conserva tion Banks (2003).

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powers, either because of the high number of market participants (as with air markets) or because the
underlying good is a globally competitive market (as with fish).773 Regulators have also often preempted
the risk of hoarding and market power by imposing position limits, either on the purchasing or the
holding of allowances, including the total banking of allowances. 774 For example, the Federal
Communications Commission limits stockpiling and speculative trafficking, 775 and California’s cap-andtrade program for greenhouse gases has both purchase and holding limits.776 Exchanges also typically set
their own purchase limits.
Position limits to protect against market power can be derived from formulas based on elasticities and
other factors. However, regulators may want to go beyond the minimum limit necessary to prevent
market power, in order to prevent inequitable concentrations short of monopolies, or to further other
management goals.777 For example, most fisheries score low on the Herfindahl-Hirschmann Index for
market concentration: the red snapper fishery’s scores were all below 190 (recall that anything under
1500 suggests no market power).778 Yet most fish catch share programs have position limits. These limits
are designed more to protect traditional fishers and communities than to prevent true monopolies.
Several other regulatory tools besides position limits can minimize the risk of market power and ensure
sufficiently thick markets. Monopoly risk is less common in auctions. 779 Regulators can reserve a supply
of allowances to be sold at set price in case of hoarding. Position accountability triggers would simply
require a permit holder wishing to exceed a certain threshold of allowances to submit to additional
reporting and oversight.780 Regulators can help minimize transaction costs and ensure adequate
participation by supporting or operating brokerages or exchanges.781 Finally, credit generators will be
reluctant to spend money generating credits if they are not confident that sufficient market demand will
exist to sell their credits at a profit. To counteract uncertainty for would-be market participants about
whether supply or demand will exist, regulators can support the use of clearinghouses, which guarantee
performance and so lower risk for buyers and sellers.782
Recommendation: Regulators should adopt position limits on purchasing and holding marketable
permits, or employ other tools to adequately prevent monopolies, hoarding, and other manipulations.

F.

Speculators and Other Participants

Regulators must decide whether to restrict market participation to regulated entities or to allow in third
parties and the general public. Brokers and market makers enter a market seeking profit, but they also
provide much-needed liquidity and lower transaction costs. Hedgers may be looking either to profit on
speculation or to offset financial exposure. For example, the firms that produce abatement technologies
and clean energy companies do not have a compliance obligation under a greenhouse gas cap -and773 Tom Ti etenberg, Tra dable Permits in Pri nciple and Pra ctice, supra note 181.
774 EDF Comments to CFTC (2010).
775 Pa bl o Spiller & Ca rl o Ca rdilli, Toward a Property Ri ghts Approach to Co mmunications Spectrum, supra note 70.
776 C2ES, supra note 659
777 Lee Anderson & Ma rk Holliday, Nat’l Ma rine Fisheries Serv., The Design and Use of Limited Access Privilege Programs (2007).
778 Na t’l Ma rine Fisheries Serv., Red Snapper IFQ Five -Year Review (2013).
779 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory

Alternative 20 (1981); s ee also Hahn (1983), ci ted in Ti etenberg 2006 a t 155.
780 CBO, Eva l uating Limits (2010).
781 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory
Alternative 21 (1981)
782 Al s o government guarantee to purchase any unsold credits i n early yea rs. WRI, Addressing Risk a nd Uncertainty i n Wa ter
Qua l ity Ma rkets (2014).

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trade, but face financial exposure to changes in carbon allowance prices.783 Advocacy groups and the
general public may even want to enter a market to purchase and retire credits to promote
environmental objectives. Broader markets with more participants facilitate price discovery, help with
liquidity, and decrease the risk of price manipulation.784 The Federal Trade Commission generally advises
making market open to all participants, since involving third parties lets markets transfer risk to those
best able to absorb it. 785
On the other hand, excessive speculation can result in bubbles and price decoupling, as price no longer
tracks mitigation costs and becomes inflated, distorted, or manipulated.786 Some environmental
advocates argue that too much liquidity undermines the goals of an emissions market: as the cap
tightens, it is supposed to be harder to find a seller, to provide incentive to make extra reductions. 787
However, participation restrictions that shut out speculators will raise transaction costs and may be hard
to enforce. For example, several large investment banks already own power plants and transmission
facilities, and even if shut out of an air pollution market as speculators they could enter it as regulated
entities.788 In fact, participation restrictions may ultimately not address the risk of excessive speculation.
If speculators are shut out, some covered entities will try to fill that role to provide liquidity and enable
hedging. These entities will likely not be as experienced or as effective as speculators are at absorbing
risk, and as a result, market stability will decline.789 For example, while EPA expects that the only parties
without renewable fuel volume obligations who will hold renewable fuel credits are the middlemen in
fuel transactions like blenders,790 there have been accusations that some of these actors behave as
speculators. Instead of participation restrictions, position limits and price circuit breakers may be better
tools to address the risk of excessive speculation.
Marketable permit programs vary widely on participation restrictions. Anyone can participate in the acid
rain market,791 and the public has used this openness to occasionally purchase and retire credits. By
contrast, in EPA’s vehicle greenhouse gas program, third parties may facilitate trades but only
manufacturers can hold credits and transact. 792 The ocean quahog catch share program allows the
transfer of permits to anyone eligible to own a Coast Guard-approved vessel regardless of actual vessel
ownership—essentially, any U.S. citizen or corporation may participate.793 In the Gulf of Mexico Red
Snapper catch share program, 32% of all accounts, holding 28% of shares, were “public participants”
without a commercial fishing permit. 794 Other fish catch share programs restrict transfers to maintain
character of the fishery,795 such as blocking purchases by partnerships or requiring quota holders to be
on board the vessel using the quota. Conservation mitigation markets typically allow a range of actors to

783 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 15.
784 C2ES, supra note 659.
785 FTC, Comments of the Staff of the Bureau of Economics on Protection of Stratospheric Ozone (1988).
786 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 20, 23.
787 Mi chelle Chan, supra note 688.
788 CBO, Eva l uating Limits (2010).
789 Id.
790 EPA, Annua l RIN Sales/Holdings Summary (listing categories as: i mporters, exporters, refiners, and parties without a

renewable volume obligation (for example, renewable producers, fuel marketers, and fuel blenders)).
791 Jona than Nash & Richard Revesz, Ma rkets a nd Geography: Designing Ma rketable Permit Schemes to Control Local a nd
Regi onal Pollutants, 28 Ecol . L. Q. 569 (2002).
792 EPA, Ma nufacturer Performance Report for 2015 MY (2015).
793 NOAA, Economic Performance of U.S. Ca tch Share Programs, NMFS-F/SPO-133 (2013).
794 Na t’l Ma rine Fisheries Serv., 2014 Gul f of Mexico Red Snapper IFQ Annual Report (2015).
795 NMFS, Ca tch Share Spotlight: Alaska Halibut/Sablefish IFQ.

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qualify as credit bank sponsors:796 as of 2013, 73% of banks were private commercial, 5% were
government sponsored, and only 2% were operated by non-profit organizations.797

G.

Information and Communication

Regulators, market actors, and the public all have different needs for information on transactions in
permit markets.798 Categories of information include prices and quantities of bids and actual
transactions; total number of allowances and credits in circulation; demand for allowances; and
aggregate trading activity and the distribution of allowances across classes of participants.799

1.

Information for the Regulators: Tracking Transaction

Regulators need to track transactions and permit holdings to detect fraud, manipulation, market power,
and abuse, and to enforce compliance. This section surveys some of the tracking tools used by
regulators in sample contexts, and identifies some programs where important information may not be
available.
EPA uses the Allowance Management System (formerly called the Automated Tracking Service) to track
trades in air pollution markets. The System numbers and serializes each individual allowance. It is not a
trading platform itself, and so market participants manually record transfers either as they occur or
retroactively upon submitting the allowance in question for compliance. 800 Total allowance holdings in
accounts on the Allowance Management System are checked against the Emissions Tracking System
(ETS).801 The System does not record the prices of allowance bought or sold, or derivative transactions
like options.802 Similarly, EPA and the Department of Transportation seemingly do not require reporting
of prices for their vehicle emissions and efficiency markets, and manufacturers do not report
transactions as they occur, but only at the end of the compliance period. 803
For the renewable fuel market, EPA originally tracked credits “on excel spreadsheets” checked once at
the end of the year; the “practicalities of tracking a national credit scheme” in this manner was “fraught
with errors.”804 The agency’s solution was the EPA Moderated Transaction System. The System requires
online submission of transaction records by each trading partner and of fers immediate validation of
status of the credits, for a more a real-time accounting. 805
For state-based renewable electricity credits, ten separate tracking systems more or less follow the
boundaries of regional transmission organizations or independent system operators. 806 A unique
identification number is given to each megawatt-hour generated. 807 The Department of Energy’s

796 FWS, Gui dance for the Establishment, Use, and Operation of Conserva tion Banks (2003) (Conservation banks ca n be publicly

s ponsored, privately s ponsored, or run by entrepreneurial third parties).
797 DOI Offi ce of Policy Analysis, Conserva tion Banking Overview (2013).
798 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 15.
799 Id. a t 15.
800 Aci d ra in, reporting is not required until compliance deadline, but in fact many report i n real time, and information (without
pri ce) is posted online. Jonas Monast, Cl imate Change & Fi nancial Ma rkets, supra note 722.
801 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket 10.
802 Id.
803 EPA, Ma nufacturer Performance Report for 2015 MY (2015).
804 RIN Al liance, Ma king the RIN Program Work (2011).
805 Id.; EPA, RINs under the Renewable Fuel Standard Program.
806 NREL, Qua ntifyi ng the Level of Cross-State Renewable Energy Tra nsactions (2015).
807 EPA, How i s Renewable Energy Tracked?

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National Renewable Energy Laboratory reportedly does not have data from all tracking systems on the
number of banked credits in each state,808 suggesting some gaps in the data exist.
The Regional Greenhouse Gas Initiative tasks an independent third party with monitoring the
performance of auctions and the secondary market. 809
At least some fish catch share programs require reporting of transaction information, including prices.
However, in the grouper-tilefish program in 2014, 33% of share transaction records had no price
information or reported unreasonably low prices, like $0.01 per pound (the number was 52% for
allowance transactions). Another 31% of share transactions had mismatched information reported by
the buyers and sellers. 810 Unreasonably low prices could be because of reporting errors, reluctance to
enter price information, gifts, transfers to related accounts, package deal s containing other terms, or
unrecorded bartering. 811 The regional council for that fishery added a “reason for transaction” reporting
requirement, but in 2014, 17% of share transactions and 46% of allowance transaction declined to state
the nature of the transaction.812 Some unusually high prices were also reported, but the National Marine
Fisheries Service does not fully disclose them in its annual reports.813 Industry feedback suggests that
privacy concerns may lead some fishers to deliberately misreport prices. 814
The grouper-tilefish program also has difficulty tracking total holdings by owner, since “currently it is not
possible to link ownership of a shareholder account to ownership of a dealer account, as accounts may
be held under different names….Individual units of allocation cannot be tracked in the system (e.g., the
same pounds may be transferred multiple times).” 815 This problem, largely still unresolved, was first
flagged by the Government Accountability Office (GAO) in 2002. GAO expressed concern that the
National Oceanic and Atmospheric Administration was underestimating the consolidation of permits in
the fishing industry, because the agency could not identify links between different holders who were
actually part of a single corporation or family business. 816 In 2014, the National Oceanic Atmospheric
Administration’s inspector general found that the Pacific sablefish catch share program did not track
individual permits and was using paper-based records subject to error. 817
The Army Corps of Engineers developed the Regulatory In-Lieu Fee and Bank Information Tracking
System (RIBITS) to monitor wetland mitigation credits and debits.818 The Fish and Wildlife Service and
the National Oceanic and Atmospheric Administration also use RIBITs to track conservation banking. 819
In 2013, the Department of the Interior’s Office of Policy Analysis raised questions about whether RIBITS
collected and published enough data.820 As of 2015, the Corps has been working to make data entry
more timely and to integrate mitigation plans and monitoring reports.821

808 NREL, Qua ntifyi ng the Level of Cross-State Renewable Energy Tra nsactions (2015).
809 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 9.
810 Na t’l Ma rine Fisheries Serv., 2014 Grouper-Tilefish IFQ Annual Report (2015).
811 Id.
812 Id.; see also Na t’l Ma rine Fisheries Serv., 2014 & 2015 Gul f of Mexico Red Snapper IFQ Annual Reports.
813 Na t’l Ma rine Fisheries Serv., 2014 Grouper-Tilefish IFQ Annual Report (2015).
814 Na t’l Ma rine Fisheries Serv., Red Snapper IFQ Five -Year Review (2013).
815 Na t’l Ma rine Fisheries Serv., 2014 Grouper-Tilefish IFQ Annual Report (2015).
816 GAO, Better Information Could Improve Project Ma nagement, GAO-03-159 (2002).
817 Dept. of Commerce Office of Inspector General, Review of NOAA Ca tch Share Program (2014).
818 https ://ribits.usace.army.mil/ribits_apex/f?p=107:2
819 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed . Reg. 95,316 (Dec. 27, 2016).
820 DOI Offi ce of Policy Analysis, Conserva tion Banking Overview (2013).
821 Corps , Institute for Wa ter Resources, The Mi tigation Rule Retrospective (2015).

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The Corps has also suggested that states could use RIBITS to track state-based water quality trading
programs.822 Historically, EPA has had two water quality permit data tracking systems (PCS 823 and ICIS),
but neither is structured to actually track trades: instead, manual adjustments are required to reflect
any transactions. For example, a credit seller would report the sum of its actual discharge plus any
credits sold as its reported discharge, and the tracking system would have to confirm that sum is greater
than or equal to that firm’s individual pollution limit.824 Some states assign water quality credits a unique
serial number and vintage year, like the Ohio River trading program;825 other programs, like Florida’s
Lower St. Johns trading program, only track credits linked to projects as a group, not individually, which
makes it more difficult to split use of credits and to prevent double counting. 826
Finally, though some information on marketable permit holdings and transactions may be included in
public financial statements, inconsistent accounting practices make it hard to compare such statements.
Are allowances zero basis, fair value, or revenue? Are they intangible assets, inventory, current assets,
or deferred expenses? According to the International Carbon Action Partnership, such inconsistent
accounting practices increase the risk of risk of laundering and fraud.827
Recommendation: Marketable permit programs should assign unique serial numbers to allowances
and credits. Registries should track the status of each allowance and credit 828 in as close to real time
as practical, as well as transaction prices and each account’s total holdings. That does not necessarily
mean such information should be publicly disclosed in real time.

2.

Information for Market Actors: Price Discovery

Market participants need accurate information on prices and allowance availability to make appropriate
decisions about whether to purchase allowances. 829 “Transparent and timely information about current
and future market clearing prices” is “a condition for achieving low costs.” 830 Besides market
participants, other actors—like developers of abatement technologies—need market data, for example
to determine a strategy for developing and deploying new abatement technologies. 831
However, too much transparency has a cost, as even reporting transactions and prices could reveal
confidential business information about a firm’s technology and costs to trading partners, competitors,
and the public. 832 Speculators can take advantage of rich market data to anticipate and attempt to
manipulate future prices.
Ideally there should be a single authoritative source of price information that brings together data from
both secondary and derivative markets and puts all players on equal informational footing. Many
commodity spot markets look to futures exchanges for current price information. 833 Exchanges might
822 Id.
823 PCS ha s been fully discontinued.
824 EPA, Wa ter Qua lity Tra ding Toolkit (2009).
825 Na t’l Network on Wa ter Quality Tra ding, Building a Water Quality Tra ding Program (2015).
826 Id.
827 International Ca rbon Acti on Pa rtnership (2013).
828 Na t’l Network on Wa ter Quality Tra ding, Building a Water Quality Tra ding Program (2015) (status of each credit: pre-

i mplementation, i mplemented, verified, a ctive, retired, s uspended). Registries need to track whether quotas a re encumbered
wi th a lien, otherwise ri sk of transferring to purchaser wi thout knowledge. NRC (1999).
829 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 22.
830 Id. a t 7.
831 Id. a t 28.
832 Id. a t 23.; Breger, Stewart, El liott, & Ha wkins, Provi ding Economic Incentive in Environmental Regulation, supra note 13.
833 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket 29.

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charge fees for access to real-time, proprietary price data, and both the Securities and Exchange
Commission and the Commodity Futures Trading Commission have grappled with balancing public
access to information against the exchanges’ interest in not giving away proprietary information for
free.834 Without reliable information on prices, buyers and sellers will have difficulty coming to terms,
reducing the number of trades and limiting the market’s efficiency. There may be a role for regulators to
play as “information brokers.”835
In several air pollution markets, poor price discovery has hindered trading, and EPA often makes no
effort to facilitate price discovery. EPA’s Allowance Management System, for example, does not include
price information, which contributes to uncertainty. 836 In the lead phase-out trading program, a much
greater proportion of large refiners traded than small refiners, perhaps because of informational and
other transaction costs: prices were treated as highly confidential by most market participants and were
not reported, leading to increased search costs to discover the price. 837 Inadequate information about
the market probably also contributed to RECLAIM’s price spike in 2000, as the relatively smaller sources
that populated the RECLAIM program probably needed more help navigating the market than larger
sources would have, such as the power plants operating in the acid rain market.838 Similarly, because
EPA does not disclose the how many renewable fuel credits are traded by whom, it is difficult to discern
whether the price spike of 2013 was due to banks hoarding credits. 839 By contrast, EPA has called for the
source, quantity, and price of water quality trades to be publicly posted online ,840 though states largely
have not followed through on that.
Neither EPA nor the Department of Transportation reports prices for trades in vehicle emissions and
efficiency markets, and the Department of Transportation does not report any information on trading
activity.841 Researchers have been able to pull indirect evidence of prices by comparing non-compliance
settlement agreements with SEC filing statements on sources of revenue,842 but that hardly works for
real-time price discovery.
Transaction data for fish catch shares is equally spotty. For grouper, tilefish, and snapper, the National
Marine Fisheries Service’s South-East Regional Office posts an “unofficial compilation” of shareholder
information with contact and number of shares, but warns it may contain errors. 843 Alaska’s sablefish
and halibut program posts current information on the amounts of quota held by individual permittees 844
and summarizes a “description of transfers” but does not list prices.845 Various annual reports on catch
share programs contain similar summary statistics on transfers, but no details of actual trades. 846 In the
National Oceanic and Atmospheric Administration’s 2010 catch share policy, the agency promised to
834 Id. a t 29.
835 Project on Al ternative Regulation, Marketable Rights: A Practical Guide to the Use of Marketable Rights as a Regulatory

Alternative 15 (1981).
836 Jennifer Yelin-Kefer, supra note 279.
837 Breger, Stewart, Elliott, & Ha wkins, Providing Economic Incentive i n Environmental Regulation, supra note 13.
838 Les ley McAl lister, Beyond Pl aying “Banker”, 59 Admin. L. Rev. 269 (2007).
839 Robert Glicksman, Regulatory Safeguards for Accountable Ecosystem Service Ma rkets i n Wetlands Development, supra note
443.
840 EPA, Wa ter Qua lity Tra ding Policy, 68 Fed. Reg. 1609 (Ja n. 13, 2003).
841 Lea rd & McConnell, supra note 32. NHTSA reports that since 2011, s ix ma nufacturers have tra ded 151 mi llion CAFÉ credits,
but does not disclose s pecifics a nd nothing in real time. EPA & NHTSA, Dra ft Technical Assessment Report: Mi dterm Eva luation,
420-D-16-900.
842 Lea rd & McConnell, supra note 32.
843 Na t’l Ma rine Fisheries Serv., FOIA IFQ Shareholders.
844 IFQ Ha libut a nd Sablefish Permits a nd Li censes, a laskafisheries.noaa.gov.
845 Al a ska Sablefish and Halibut, Number a nd Description of QS/IFQ Tra nsfers for Year 2016.
846 Na t’l Ma rine Fisheries Serv., 2014 Grouper-Tilefish IFQ Annual Report (2015).

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help prevent uninformed transactions by establishing a source of authoritative market information and
an exclusive central registry for permits. 847 In fact, the Magnuson-Stevens Act required such a central
registry by 1997.848 Yet at least as of 2013, “there is no Central Registry System in place.” 849
EPA has received “positive feedback from the regulated industry that the publication of Renewable Fuel
Standard data helps inform compliance planning.” 850 Nevertheless, price information for renewable fuel
credits are only available through third parties for a fee, 851 and EPA’s data on sales and holdings, meant
to be updated annually, does not seem to have been updated since early 2015. 852 In state-based
renewable electricity markets, credit prices “can be difficult to determine without the assistance of a
broker, and even then, available information only indicates the transactions made by one broker. ”853
Only a few jurisdictions (Maryland, Pennsylvania, and DC) require disclosure of renewable electricity
credit prices.854
The Federal Communications Commission’s spectrum auctions are conducted online and results are
publicly available in near real-time.855 However, similar information is not always available to facilitate
secondary transactions. Historically, neither industry nor FCC had sufficient information on who had
spectrum and what they were doing with it; poor record-keeping and disclosure was blocking secondary
trading.856 FCC’s License Search now lets buyers look for leasing opportunities,857 but the Spectrum
Dashboard, a way for buyers and citizens to search who owns spectrum and how it is being used, never
advanced beyond its beta release and has not been updated since 2014. 858
Recommendation: Without revealing proprietary information or too much confidential business
information, regulators should act as information brokers, collecting information on trade prices and
volumes across secondary and derivative markets, to facilitate price discovery.

3.

Information for the Public: Transparency and Participation

The public needs some ability to assess and comment on both the rules establishing a trading program
and the implementation of that program. To some critics, marketable permit programs are more
opaque than traditional regulation, obscuring how much firms are allowed to pollute and how much
they are actually polluting. 859 To proponents Bruce Ackerman and Richard Stewart, marketable permits
programs advance democratic goals better than traditional regulation, since a market-based
environmental regulatory approach will focus political debate on the level of desired environmental
quality rather than on arcane technical questions.860

847 NOAA Ca tch Sha re Policy (2010).
848 Ma gnuson-Stevens Act § 305.
849 NMFS, El ectronic Monitoring White Pa pers, Feb. 15, 2013.
850 EPA, Annua l RIN Sales/Holdings Summary (last updated Apr. 1, 2015).
851 Argus , RIN Prices, http://www.argusmedia.com/methodology-and-reference/key-prices/argus-rin-prices/.
852 EPA, Annua l RIN Sales/Holdings Summary (last updated Apr. 1, 2015).
853 Dept. of Energy-EERE, REC Pri ces.
854 Id.
855 FCC, About Auctions, supra note 67.
856 Mi chele Farquhar & Ari Fitzgerald, Legal and Regulatory Issues Regarding Spectrum Rights Trading, 27 Telecomm. Pol’y 527

(2003).
857 FCC, Secondary Ma rkets Initiative.
858 Reboot.FCC.gov.
859 Andrew Wolman, Effluent Tra ding in the United States a nd Australia, supra note 229.
860 Bruce Ackerman & Ri chard Stewart, Reforming Environmental La w: The Democratic Ca se, supra note 255.

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In the past, some agency guidance on marketable permit programs has not been submitted for public
comment (see Section I.D.4). Even when rules for marketable permit programs have been submitted for
public comment, they are sometimes short on details, as the Federal Trade Commission pointed out in
critiquing the Federal Aviation Administration’s 2008 effort to create an auction for airport landing
slots.861 Other programs require rigorous public input for their creation. A new fish catch share program
in New England or the Gulf or Mexico, for examples, requires a two-thirds vote approval on referendum
to current permit holders, following public hearings and public comments.862
In terms of monitoring transaction information, too much public transparency risks revealing
confidential business information. 863 However, if all information on trading is considered confidential, as
with the ozone-depleting substance market, it is difficult for the public to gauge the program’s
effectiveness. 864 Every marketable permit program must confront this balancing act. For example, if
water quality trading programs reveal the location of credit-generating projects, it could raise privacy
concerns for farmers and other landowners; but without location information, the public may not feel
confident that the credits reflect real reductions. Different programs have resolved this matter
differently: the Ohio River Basin trading program withholds project location, while Florida’s water
quality trading programs disclose the identity of both buyer and seller. 865
Ultimately, the public likely does not need real-time data or highly specific information on individual
participants to evaluate the overall market’s efficiency and effectiveness. While regulators need full,
real-time access to a range of transaction data to uncover manipulations, 866 and market actors may need
regular information to facilitate price discovery, the public’s needs are not as great. Weekly disclosure of
aggregate holdings and transaction data without information on individual actors or trades is likely
sufficient, supplemented perhaps by more detailed and individualized disclosures of holdings on a onequarter delay (in line with the SEC’s quarterly disclosures of material information). 867 For example, the
Commodity Futures Trading Commission publishes weekly reports on derivative transactions, enough
information to let the public gauge the overall level of trading. 868 More transparency could raise the risk
of excessive speculation and collusion,869 and could reveal confidential business information.
Because detailed, real-time public disclosures on individual trades may not be beneficial, public
comments on individual trades may also not be appropriate, let alone practical. Most marketable permit
programs do not provide for public comments on individual transactions. For example, while public
notice and comment must be provided on Clean Water Act discharge permits, if the general conditions
for trades are detailed in the permit, EPA does not require additional notice and comment on
subsequent specific trades. 870 Most state-run water quality trading programs provide for comments only
on trading plans, not individual trades. 871 Similarly, the Fish and Wildlife Service’s 2016 policy on

861 FTC Comments to FAA, Notice 08-04 (2008).
862 50 C.F.R. § 600.1310.
863 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 23.
864 T.H. Ti etenberg, Emissions Tra ding: Pri nciples and Pra ctice 9 (2006, 2d ed).
865 Na t’l Network on Wa ter Quality Tra ding, Building a Water Quality Tra ding Program (2015).
866 Accus a tions of collusion a gainst new entrants and uncertainty a bout va lue in the airport landing slot market led FAA to

propose reforms i n 2015 to i ncrease transparency a nd public participation, 80 Fed. Reg. 1273; rul e withdrawn in 2016.
867 Jona s Monast, Climate Change & Fi nancial Ma rkets, supra note 722.
868 Interagency Working Group on Ca rbon Ma rket Oversight, Report, supra note 448, a t 27.
869 EDF Comments to CFTC (2010).
870 EPA, Wa ter Qua lity Tra ding Policy, 68 Fed. Reg. 1609 (Ja n. 13, 2003).
871 Wi s consin water quality tra ding s ends tra ding plans for comment; Pennsylvania provides notice a nd comment after
compl ete proposal i s submitted; Mi nnesota only provides comment on trades occurring outside of an approved plan, regular

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conservation banking provided for stakeholder participation in landscape -scape planning but not
necessarily for individual permits and transactions. 872 When endangered species act permits do go
through public notice and comment, details may be limited: for example, a recent request for comments
on an application for an Endangered Species Act Section 10 permit mentions that credits would be
bought from an approved bank but does not specify which bank, how many credits, or what trading
ratios may apply.873
Many of the data gaps facing market actors discussed above are the same for the general public: data on
prices, for example, often is unavailable. In some cases, market actors may have access to additional
data for a fee. For example, while RIBITS does not disclose price and other market data about
conservation and wetland banking, some third parties have started collecting proprietary information
which they sell to interested parties.874 Meanwhile, “very little ecological and economic data on
conservation banks is freely available to the public.” 875 Even the data available on RIBITS is not easily
accessible in a user-friendly manner for average citizens: it has restricted access and is partly
encrypted,876 though the Army Corps has been working to improve accessibility in recent years.877
Recommendation: Agencies should consider implementing a system of weekly or quarterly public
disclosures, which generally should be adequate to provide the general public with sufficient
information to assess the marketable permit program’s efficiency and effectiveness.

4.

Information on Related Markets

Regulators need to monitor international markets and related private markets as well.
Some state-based marketable permit programs have international links. Even if allowance trading is not
linked internationally, there is a risk that derivative markets tied to U.S. allowances could be hosted by
foreign jurisdictions, possibly including countries with lax oversight.878 Regulators also need to ensure
that firms do not attempt to escape position limits by holding some assets abroad, in a scheme known
as the “London loophole.” The Commodity Futures Trading Commission has an information-sharing
agreement with the United Kingdom, 879 though it does not specifically address permit markets and
derivatives, and it does not cover other countries. Regulators need to coordinate with other countries to
effectively monitor large, valuable permit markets, like greenhouse gas markets.
Regulators also need to monitor related private markets. Regulatory markets and private markets
interact. For example, the European Union’s Emission Trading System proved that greenhouse gas
allowance prices will be linked to the price of other energy commodities, and traders will pursue
arbitrage strategies involving simultaneous transactions on both markets. 880 Excessive speculation in
private markets—as is widely suspected in the energy markets—could lead to distortions that will spill
permi ts do not go through comments. Nat’l Network on Wa ter Quality Tra ding, Building a Water Quality Tra ding Program
(2015).
872 Noti ce of Final Compensatory Mi tigation Policy, 81 Fed. Reg. 95,316 (Dec. 27, 2016).
873 81 Fed. Reg. 62,758 (Oct. 12, 2016),
874 l i ke EcoBlue Analyst DOI, Office of Policy Analysis, Results from a Survey of Conservation Bank Sponsors (2016). EcoBlue
cha rges $199 for report
875 DOI, Offi ce of Policy Analysis, Results from a Survey of Conserva tion Bank Sponsors (2016).
876 Robert Glicksman, Regulatory Safeguards for Accountable Ecosystem Service Ma rkets i n Wetlands Development, supra note
443.
877 Ecos ys tem Ma rketplace, State of Biodiversity Ma rkets (2011).
878 EDF Comments to CFTC (2010).
879 CBO, Eva l uating Limits (2010); Jonas Monast, Climate Change & Fi nancial Ma rkets, supra note 722.
880 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket 2 (2008).

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over to the permit market. 881 Interactions between conservation permit markets and real estate markets
could also give rise to undesirable arbitrage opportunities. As Salzman and Ruhl show, if the real estate
underlying some credit-generating acres is priced more cheaply than others, the resulting arbitrage
could irreversibly damage certain kinds of habitat located on cheaper real estate .882

5.

Intra-agency Communication and Resource Sharing

Ideally, a federal agency will set the tone for its staff, regional offices, or state implementers to execute
a trading program. In practice, support for trading programs varies across different levels of government
and different staff positions. The National Marine Fisheries Service has no official guidance on
conservation banking, leaving regional offices like the West Coast to develop their own approaches. 883
Conservation banks reported general lack of support and varying levels of support across local Fis h and
Wildlife Service officials;884 likely ecological conditions are not the only reason why California—where
conservation bank first began—is home to 76% of all conservation banks. 885 Shockingly, in 2013, only
68% of surveyed Fish and Wildlife staff were familiar with the Service’s own 2003 guidance: only 30%
“very familiar,” with another 38% claiming to be “somewhat familiar.” 886 Many Fish and Wildlife field
officers personally viewed conservation banks positively, but were unsure whether the regional and
national offices really supported banking. 887 Stakeholders report that support for water quality trading
varies by EPA regional office and by state, and—at least as of 2008—was particularly spotty among legal
counsel and permit writers. 888 Miscommunications between regional EPA offices and state agencies
regarding the scope of trading programs has led to confusion. 889 Similarly, while the Army Corps has an
established preference for mitigation banks over fees or permittee-responsible,890 many wetland bank
sponsors indicate that district officials will only approve banked credits for small wetlands offsets and
are reluctant to approve banked credits for large mitigation projects. 891 Bank sponsors feel that many
districts hold banks to higher standards and advise permit applicants that on-site, permittee-responsible
mitigation is the cheaper and preferred options. 892
The Fish and Wildlife Service’s approvals of conservation banks are frequently delayed by poor
coordination between federal, regional, and local officials, as wel l as insufficient staffing, inadequate
training, and lack of management support. 893 61% of Fish and Wildlife staff responsible for supervising
conservation banks reportedly have no formal training on conservation banks. 894

881 Id. 2; see also Interagency Working Group on Ca rbon Market Oversight, Report, supra note 448, a t 31 (“s ignificant

i nteractions between ca rbon markets a nd markets for fossil fuels”).
882 Sa l zman & Ruhl, supra note 6.
883 NMFS Wes t Coast Region, Conserva tion Banking Guidance (2015).
884 Stra tus Consulting for Northwest Fisheries Science Center, NOAA, A Na tionwide Survey of Conserva tion Banks (2003).
885 DOI Offi ce of Policy Analysis, Conserva tion Banking Overview (2013).
886 DOI, Offi ce of Policy Analysis, Preliminary Analysis of the Conservation Banking Program and Results from a Survey of USFWS
Sta ff (2013).
887 Id.
888 IEC, Wa ter Quality Tra ding Evaluation, supra note 50.
889 Id.
890 Corps -EPA Final Rule, Compensatory Mi tigation for Losses of Aquatic Resources, 73 Fed. Reg. 19,593 (2008).
891 Corps , Institute for Wa ter Resources, The Mi tigation Rule Retrospective (2015).
892 Id. Corps disagrees a nd s ays that in s ome regions, bank credits are simply not available always. Corps, Institute for Water
Res ources, The Mitigation Rule Retrospective (2015).
893 DOI, Offi ce of Policy Analysis, Results from a Survey of Conserva tion Bank Sponsors (2016). See a lso 2013 s urvey. DOI, Office
of Pol i cy Analysis, Preliminary Analysis of the Conservation Banking Program and Results from a Survey of USFWS Staff (2013) .
894 Id.

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Lack of sharing of information and resources between field offices and states is a missed opportunity for
efficiency. Poor information sharing between Fish and Wildlife field offices has been reported, 895 and
states have asked for more training and support from EPA on water quality trading. 896 EPA has
encouraged states to share resources to support water quality trading, like a single credit registry
serving multiple markets, 897 but such sharing has not yet materialized. Trading programs can be costly to
build from scratch, yet many states continue to reinvent the wheel. A 2015 workshop on water quality
trading recommended reducing start-up costs for states on water quality by standardizing design and
sharing resources, and EPA and USDA agreed in 2016 to pursue a national registry platform for
credits.898 EPA’s EnviroAtlas now includes locations of water quality trading programs, and more
pointedly EPA supported Maryland’s development of a credit registry platform designed to work
throughout the Chesapeake Bay watershed, with other states in that watershed having been consulted
and showing interest in joining. 899
Some federal agencies do provide training to regional and local officials. From 2008-2009, the Army
Corps and EPA held six workshops to train federal and state officials about wetland mitigation b anking,
and many districts developed their own workshops for staff and the public. 900 The National Oceanic and
Atmospheric Administration has pledged sharing technical expertise, administrative support, and
assistance with outreach about catch share programs to the regional fishery councils. 901 The Federal
Communications Commission hosted numerous trainings on its novel broadcast incentive auction.
Recommendation: When possible, regulators should pursue economies of scale in management, for
example by spreading the costs of credit registries over multiple species or multiple fisheries. 902
Federal agencies should provide clear guidance on trading policy to regional and state officials,
including through trainings. Public trainings are also useful. 903

6.

Inter-Agency Communication

Regulators need to share information and resources to streamline credit approvals, to ensure consistent
monitoring of markets for manipulation, and to avoid reinventing the wheel.
Credit approvals may implicate the jurisdictions of multiple agencies. For example, wetland credits must
not violate endangered species act standards. Fish and Wildlife Service staff report that poor
coordination with other federal agencies contributes to delayed reviews of conservation banks. 904
Similarly, wetland mitigation bank sponsors report that interagency reviews are repetitive and accuse
the Army Corps of failing to exercise its authority as chair of the interagency review process to make
decisions.905 The Corps has begun working to improve review times by clarifying responsibilities on
interagency teams and by standardizing tools and practices. 906 Interagency coordination will become
895 Id.
896 EPA & USDA, Report on 2015 Na tional Workshop on Water Quality Ma rkets (2016).
897 Id.
898 Id.
899 Thes e details come from EPA’s comments on the draft version of this report.
900 Corps , Institute for Wa ter Resources, The Mi tigation Rule Retrospective (2015).
901 NOAA Ca tch Sha re Policy (2010).
902 Id.
903 FCC ha s trainings, EPA holds regular training course on water quality tra ding. IEC, Water Quality Tra ding Evaluation , supra

note 50.
904 DOI, Offi ce of Policy Analysis, Preliminary Analysis of the Conservation Banking Program and Results from a Survey of USFWS
Sta ff (2013).
905 Corps , Institute for Wa ter Resources, The Mi tigation Rule Retrospective (2015).
906 Id.

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even more important if credit stacking increases, as agencies will need to work together to detect
double counting.907
Some agencies have been working to share resources. EPA and the Department of Agriculture have
partnered on water quality trading, given the prominent role of farmers as non-point source credit
generators. The two agencies coordinate on outreach, share information on rule developments that
might affect water quality trading, and collaborate on developing tools and informational resources.908
The Army Corps is working to integrate RIBITS data with Fish and Wildlife Service and EPA databases. 909
Finally, agencies need to share information to ensure consistent protection against manipulation across
interconnected markets. Regulators with oversight authority over primary and secondary permit
markets need to coordinate with the Commodity Futures Trading Commission (CFTC) on derivati ve
markets, with regulators that may oversee related commodity markets, like the Federal Energy
Regulatory Commission, and with the Federal Trade Commission and the Department of Justice on
antitrust matters.910
On March 15, 2016, EPA and CFTC signed a memorandum of understanding on sharing information on
renewable fuel credit trading. The agreement tasks CFTC with advising EPA and reviewing market data
for fraud, abuse, and violations.911 The memorandum provides structure to the relationship, to help
avoid duplicative information requests, coordinate investigative and enforcement activities, prevent
further sharing of data beyond CFTC, allow direct access to databases, protect proprietary information,
and assign responsibility for handling congressional or court subpoenas and Freedom of Information Act
requests.912 CFTC also has an information-sharing agreement with the Federal Energy Regulatory
Commission.913 However, CFTC does not have memoranda of understanding with EPA on other markets
besides renewable fuel credits, or with other agencies responsible for marketable permit programs.914
CFTC has a history of turf wars and infighting with both the Securities and Exchange Commission and the
Federal Energy Regulatory Commission.915 As the financial crisis triggered by manipulation of credit
default swaps made painfully clear, a system of multiple regulators, none with complete authority, can
hamper efforts to monitor and manage systemic risk. 916 Too many regulators could lead to inconsistent
standards, and sophisticated market actors will take advantage of inconsistencies through a kind of
“regulatory arbitrage.”917
The Dodd-Frank Act contained some provisions on inter-agency communications. The statute
established an Office of Financial Research to end the stove-piping of information between different
regulators, but reportedly the Office has yet to live up to its mission. The Act also created an Interagency
Working Group on Carbon Oversight, chaired by CFTC: the working group satisfied its charge to issue a
report on the oversight of carbon markets, and subsequently disbanded. Finally, the Act created an
Energy and Environmental Markets Advisory Committee within CFTC, but the Committee has only met
907 Roya l Gardner a nd Jessica Fox, Legal Status of Envi ronmental Credit Stacking, 40 Ecol . L. Q. (2013).
908 USDA Pres s Release, #0226.13, 12/3/13 (s ummarizing 11/18/13 pa rtnership a greement).
909 Corps , Institute for Wa ter Resources, The Mi tigation Rule Retrospective (2015).
910 For exa mple, NOAA is a uthorized to consult with other federal a gencies on information collection to determine a ny a nti -

competitive, price collusion or price fixing. 16 U.S.C. § 1853a (c).
911 EPA-CFTC, Memora ndum of Understanding on RFS Data, Ma r. 15, 2016.
912 Id.
913 Pres s Release, Jan. 2, 2014.
914 GAO, Ca rbon Tra ding: Current Situation a nd Oversight Consideration for Policymakers (2010).
915 EDF Comments to CFTC (2010).
916 GAO, Ca rbon Tra ding, supra note 914.
917 EDF Comments to CFTC (2010).

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three times since its creation and no panel has been on an obviously environmental market-specific
topic.918 The Congressional Research Service has recommended an “umbrella group . . . to prevent
regulatory gaps or conflicts” in environmental permit markets, modeled on President Reagan’s Working
Group on Financial Markets.919
Recommendation: Regulators should explore additional memoranda of understanding with agencies
responsible for markets related to permit markets. In particular, the regulators of permit markets
should develop relationships with CFTC to coordinate investigative and enforcement activities.

7.

Market-Moving Communications

Statements and actions from regulators can move permit markets. For example, in the early years of the
European Union’s Emissions Trading System, leaks regarding the stringency of the cap and
measurements of firms’ existing emissions may have allowed some traders to profit off nonpublic
information.920 Similarly, a study of the acid rain market suggests that price volatility correlates with
both EPA and Congressional announcements on potential permanent changes to the regulatory scheme
as well as with day-to-day announcements, such as notices of enforcement. 921
The federal agencies responsible for generating the kind of statistics, forecasts, and policies that move
financial markets, like the Federal Reserve and the Bureau of Labor Statistics, have developed
procedures to prevent pre-publication leaks and information asymmetries.922 For example, requiring
market participants to check agency website continually or rely on press coverage for new information
creates opportunities for some participants to learn and trade on information before others. 923 Financial
regulators typically release pre-announcements or announce new policies at pre-scheduled times. The
European Union’s Emissions Trading System has copied such approaches, and now releases preannouncement and has new procedures to control leaks. 924 Clear communication strategy is essential
for market regulators, just as it is for central banks,925 since “noise” can create inefficient price
volatility.926
Recommendation: Marketable permit regulators should develop communication policies to prevent
pre-publication leaks and information asymmetries.

918 Advi s ory Committee website.
919 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket 37-38.
920 Id. a t 7.
921 Cl a udia Hitaj & Andrew Stocking, Ma rket Efficiency a nd the U.S. Ma rket for SO2 Al lowances (CBO Working Paper, 2014).
922 Ma rk Ji ckling & La rry Pa rker, CRS, Regulating a Ca rbon Ma rket 35.
923 Cl a udia Hitaj & Andrew Stocking, supra note 921.
924 Id.
925 Id.
926 Id.

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