EDITOR'S NOTE: Climate change reform should not negatively impact the global trade, writes Michael A. Levi, a senior fellow for energy and environment issues and director of the Program on Energy Security and Climate Change at the Council on Foreign Relations. For Levi's full article, please visit the council's Web site. A few excerpts:

The American Clean Energy and Security Act would be an important step forward in confronting climate change. But as it works its way through Congress there is still much that can be improved. The bill's approach to helping vulnerable U.S. industries through the transition to a low-carbon economy is particularly problematic: In pursuit of a sensible goal, Congress is taking steps other nations could see as protectionist. The flaws aren't reason to reject the legislation. But Congress should be careful, in addressing climate change, to avoid undermining the global trade regime.

The flaws arise in the way the bill calculates rebates. Regulators are required to determine the average greenhouse-gas emissions associated with a unit of output (such as a ton of steel or cement) in each vulnerable sector. That figure is then multiplied by the average price of an emissions permit in the cap-and-trade system to estimate the per-unit compliance cost the typical producer incurs. The amount calculated is rebated to each producer in proportion to its own output.

The fix is simple but politically challenging: Give companies rebates based on only a fraction of their output. Imagine, for example, that rebates were provided on only 75 percent of output. In that scenario, neither firm would get a net subsidy, but both would still largely be cushioned from the impact of a cap-and-trade system. Even with that adjustment, though, there's a second problem: The Waxman-Markey bill uses historical rather than current output to calculate rebates. Imagine that Firm A produces 1 ton of steel in 2013 and another ton in 2014. In 2015, though, it decides that its costs are too high and cuts production to half a ton. The bill as currently written still gives Firm A its full $20 rebate, even though its carbon costs have dropped from $22 to $11. This is a massive relative subsidy and a waste of taxpayer money to boot. It could also encourage some marginally profitable firms to cut production in order to reap carbon credit windfalls, killing the very jobs that the rebates were originally designed to protect. The bill should be fixed so that any excessive rebates (which are paid up front) are ultimately clawed back.

In the long term, though, the United States can't cut through this thicket by itself. Over time, the problem for heavy industry-and the associated trade issues-could become worse as the United States tightens its own rules and regulated companies face steadily higher costs. But if major U.S. trade competitors all impose new and similar climate costs on their energy-intensive industries, no one country's industries will be unfairly disadvantaged. As a result, most of the rationale for the U.S. rebates will vanish. Ultimately, then, the only solution to the competitiveness problem is global climate action. Since the United States has few sticks to bring to the climate negotiating table, progress on the international front will depend mainly on cooperative action. Congress should make sure that in crafting U.S. climate legislation, its trade measures don't unnecessarily aggravate the external relationships that will be needed to get that done.

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