That is very interesting. Maybe they believe that the ETS won’t be fully tradable over the next four years or at least there will be some disconnect that will prevent arbitrage opportunities. It is going to be a pretty thin market after all!

I think the current assumption is that the world price is (obviously) the cap on the NZ price, but the NZ price will probably be lower. RBNZ was assuming $25 for NZ vs $40 for EU. I’m not clear myself on why the NZ price won’t converge on the world price.

I haven’t actually got past the first few pages of the MPS so I didn’t realise they talked about volatility and the ETS – I should have just linked to that instead of trying to explain it myself 😛

“I don’t know if I fully agree – to the extent that the price for carbon rises or falls with economic activity it might be an automatic stabilizer on output.”

Maybe for a large economy, but we will pretty much just face the world price for carbon won’t we? This would imply that their would be no automatic stabiliser effects – beyond any link between our business cycle and world economic growth.

“I don’t know if tax versus cap&trade makes much difference: either way the variable that matters at the end of the day is the firm’s expectations of the future price/tax. Unless you think cap&trade is a more credible commitment to a given emissions level.”

True, I think you’re right. The best argument I can put forward to the tax being less volatile is the uncertainty associated with the price of carbon in the ETS case. If prices are uncertain then the realised price is likely to be different to the expected price of carbon – implying that the ‘product price’ may in itself vary as expectations change. I guess this isn’t inflation though is it – however it is price volatility.

I don’t know if tax versus cap&trade makes much difference: either way the variable that matters at the end of the day is the firm’s expectations of the future price/tax. Unless you think cap&trade is a more credible commitment to a given emissions level.