Climate policies for road transport revisited (II): Closing the policy gap with cap-and-trade

Current policies in the road transport sector fail to deliver consistent and efficient incentives for greenhouse gas abatement (see companion article by Creutzig et al., 2010a). Market-based instruments such as cap-and-trade systems close this policy gap and are complementary to traditional policies which are required where specific market failures arise. Even in presence of strong existing non-market policies, cap-and-trade delivers additional abatement and efficiency by incentivizing demand side abatement options. This paper analyzes generic design options and economic impacts of including the European road transport sector to the EU ETS. The point of regulation in a road transport cap-and-trade system should be upstream in the fuel chain to ensure effectiveness (cover all life-cycle emissions and avoid double-counting), efficiency (incentivize all abatement options) and low transaction costs. Based on year 2020 marginal abatement cost curves from different models and current EU climate policy objectives we show that in contrast to conventional wisdom road transport inclusion would not change the EU ETS allowance price. This puts concerns over industrial carbon leakage as a consequence of adding road transport to the EU ETS into perspective.