Chemistry, meet economics: Can markets help reduce greenhouse gas emissions?

Fighting climate change with market mechanisms

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Tokyo smog. Photo: Romain Guy.

By Janelle Knox-Hayes, Associate Professor of Urban Studies and Planning at MIT’s School of Architecture and Planning

The idea of climate change is simple enough. Greenhouse gases (primarily carbon dioxide (CO2), but also others such as methane and hydrofluorocarbons) are emitted by industrial activity, mainly through the burning of fossil fuels such as coal, gas, and oil. These fuels are the remnants of old forests and are comprised of hydrocarbons. The burning of the fuels releases carbon dioxide into the atmosphere. The atmosphere thermoregulates the planet — trapping some heat while allowing the rest to radiate back to space. Central to this function are the greenhouse gases, molecules that absorb and re-radiate infrared (thermal) radiation rather than allow it to escape into space.[1] As the concentration of greenhouse gases increases the amount of trapped heat grows, over time leading to a net increase in temperature at the earth’s surface.[2] The core components of the problem then are industrial and economic processes that emit greenhouse gases, shifting atmospheric chemistry as greenhouse gas concentrations increase, and rising global temperatures. As the average global temperature increases, a host of climatic changes occur: glaciers melt, sea levels rise, and weather patterns change.

The solution is also seemingly simple; prevent greenhouse gases from being emitted into the atmosphere to avoid altering atmospheric chemistry and the ensuing climactic effects. However, as the repeated failure of global climate negotiations suggests, the apparently simple solution presents substantial complexity. First scientists must calculate historic and present greenhouse gas concentrations, forecast future greenhouse gas emissions levels and accurately model the effects of these concentrations to create estimations of how much carbon dioxide in the atmosphere is tolerable. Second, carbon dioxide is a negative externality — a public detriment that is not accounted in the economic transactions that produce it. Thus, CO2 emissions are unrestrained because emitters do not have to pay the cost for releasing it into the atmosphere.[3] Understood in this way, the key to managing carbon emissions is to internalize them in economic transactions [watch video]. Internalizing the cost of carbon emissions requires both a political solution, the creation of regulation to mandate the reduction CO2 emissions, and an economic solution, the construction of a priced carbon externality and an economic infrastructure that can exchange and transmit the value of the priced carbon externality. The challenge is that nearly the entire energy infrastructure underpinning the modern political economy emits carbon dioxide.

Given the economic origins of the problem, it was perhaps inevitable that the solution to climate change would be to create a market mechanism to govern greenhouse gas emissions. The apparent simplicity of both the problem and solution is belied by the obvious difficulties states and societies have had addressing climate change. For one thing, climate change is a spatial and temporal macro problem, operating at a global scale and over a long-term horizon. Because climate is structural and systemic, people do not experience the climate so much as they experience weather, which is local and changes hourly or daily and thus apparently belies claims of general trends. The mismatch in temporal and spatial scale creates a problem of felt impact. Over decades and at a global scale temperature will rise and climate patterns will shift, but the weather at a local level is variable and relatively unpredictable. The apparent disconnect between abstract claims about the climate and the concrete experience of weather can help drive skepticism as to whether or not climate change exists and is anthropogenic.

Furthermore, there is a dislocation of scale between intervention and impact. Carbon is one of the most abundant elements on earth, and the building block for all organic material. It is released by virtually every sector of every economy on the globe. Combatting climate change therefore requires changing the daily activities, particularly energy use, of literally billions of people. Yet, the benefits of these changes will only be experienced over the course of decades or perhaps centuries. Individuals discount the future, and can be particularly averse to making short-term private sacrifices for long-term collective benefits.[4] Combatting climate change thus requires a system of governance that permeates individual action and yet operates on a global scale, with net benefits that cannot easily be perceived by individuals.

The complexity of the problem of climate change therefore requires that governance be translated across time and across global and local scale. Climate change is a scientific, political and economic phenomenon. Reponses to it are also very much a normative issue, woven from individual to collective goals and values. Even if we assume that the solution is straightforward — create the absence of CO2 as a commodity and build a market mechanism to price and reduce greenhouse gases — the reality of such a challenge is complex. To be effective carbon governance must operate at a global scale, and yet the sovereignty to create markets to reduce greenhouse gases rests with each country (or even subunits within a country) and they must establish their own systems for distributing costs and mechanisms for enforcing compliance. Within the construction of market mechanisms there are complex decisions that have to be made to structure the value of the commodity, distribute ownership and establish a system of exchange. Each country confronts the challenge of achieving sufficient political buy in, with critical questions of who has the authority to make governance decisions, and who will ultimately bear the cost of reducing emissions. The greatest challenge to date has been getting consensus and concerted action from some of the largest emitters, including the United States, China and India.


  1. The planet Venus provides an extreme example of the effect of high greenhouse gas concentrations: more than 96% of the Venusian atmosphere is composed of CO2 and as a consequence the average surface temperature is over 860 degrees Fahrenheit or more than 460 degrees Celsius, making Venus the hottest planet in the solar system (more so than Mercury despite the latter’s near proximity to the Sun).
  2. Malte Meinshausen et al., “Greenhouse-Gas Emission Targets for Limiting Global Warming to 2 Degrees C,” Nature, 458(7242), 2009, 1158–62).
  3. N. Stern et al., Stern Review: The Economics of Climate Change (London: HM Treasury, 2006), the most comprehensive study of the economic costs of climate change to date, estimates that effects of climate change (weather driven economic disruptions, migration, wildfires, shifting crop cultivation, water availability and so on) will cost the globe at least five percent of annual global GDP, which grows to 20 percent if a wider range of risks and impacts are included. To put these numbers in context, according to the World Bank (World Bank, 2014), 2014 global GDP was roughly 77.8 trillion dollars (at 2014 U.S. dollar values). Thus, in 2014 according to the Stern estimate, carbon polluters of all kinds enjoyed private economic benefits worth at least $3.89 trillion, or roughly the size of Germany’s 2014 GDP, fourth largest in the world.
  4. John Quiggin, “Stern and His Critics on Discounting and Climate Change: An Editorial Essay,” Climate Change 89(3–4), 2008, 195–205.

This text is an extract from Janelle Knox-Hayes, The Cultures of Markets: The Political Economy of Climate Governance (New York: Oxford University Press, 2016).

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The MIT School of Architecture + Planning: Design is the space between people and their environment. This is our territory.

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