Pollution markets can power economic growth and improve environmental quality: Michael Greenstone

In a conversation with Aggam Walia, Michael Greenstone, the Milton Friedman Distinguished Service Professor in Economics at the University of Chicago and Director of EPIC, discussed the success of pollution markets in Gujarat, the political will needed to combat India’s air crisis, key takeaways from COP29 in Azerbaijan, and the clean-tech trade with China. Edited excerpts:

EPIC India has played a key role in designing an emissions-trading scheme in Surat and Ahmedabad, enabling industries to cut particulate emissions by 20-30 per cent without any rise in operating costs. What made this work?

In most settings, the environment and economic growth are pitted against each other. What we found in Gujarat was that you can have a very rare win-win, where you can power economic growth and improve environmental quality through nimble regulatory approaches like pollution markets. The fact that it is possible to achieve both at once was very appealing to the regulators in Gujarat. That’s why it has expanded — the state of Maharashtra has issued a notification to start a sulfur dioxide market. I do not think it’s a successful strategy to ask industry to do something in a nice tone. But I think what the government can do is devise policies that allow businesses to flourish. The kind of market-based approaches that worked in Gujarat can work throughout India.

Despite potential solutions and success stories, cities across India suffer from toxic pollution year after year. Is it because multiple stakeholders are involved and concerted action is hard to come by?

Same thing was true in the US and in China. The centre wanted to move much more quickly than the local governments did. And now, there is a different system. They were able to introduce incentives for the local political people to act, but it wasn’t easy. It came from a real commitment to this being a problem and to finding a solution. The lessons from the experiences of the US, the EU, Japan, and China are that air pollution is not a law of nature. It is an outcome of political will, which is often dependent on people demanding change. So, if it becomes a political priority, the problem can be solved.

India is developing a mandatory carbon market for energy-intensive industries by enforcing greenhouse gas (GHG)-emission-intensity targets (i.e. GHG emission per unit of output). What lessons can you share with policymakers drawing from EPIC’s experience with pollution markets in Gujarat?

I think the clear lesson is that the enemy or the problem is either particulates pollution or sulfur dioxide pollution or CO2. The enemy is not that there’s not enough of energy efficiency or not enough of renewables. The policies that work most effectively are the ones that target the problem directly. That is why a pollution market works so well. Energy efficiency might be laudable, but the challenge for people is not that they’re not being energy efficient enough. The challenge is there’s too much pollution. So my hope is that what emerges from the CO2 market would be directed exactly at CO2, not at CO2 divided by energy consumption or something like that.

Carbon pricing often risks burdening low-income households, especially in countries like India. How can policies be designed to mitigate this impact while still reducing emissions?

A challenge with pricing CO2 is that it can be harmful to the poor who have a higher share of their income that comes from energy or their spending devoted to energy. If devised correctly, CO2 markets can produce lots of revenue for the government and it could rebate a high proportion of that to the less well off. India has a very advanced e-payment system. It wouldn’t be hard to do those distributions. I think that might be a way to find a form of carbon pricing that reduces emissions but protects low-income households.

The financing deal reached at COP29 in Baku was expectedly underwhelming. What do you think can be the way forward?

Look, the negotiating process is a disaster. Trying to get 160 people with different views, which are completely legitimate viewpoints that represent their own interests, to agree is like mission impossible. I think starting a complementary process that has a much smaller number of countries focused on the big emitters offers some promise. But that’s an organisational point. The substantive point is, it’s time to get rid of the era of good feelings and turn it into a very transactional process where money is exchanged for demonstrable reductions in CO2. There is an opportunity for a deal, which can be payments to developing countries from the rich countries that are very quid pro quo and directly tied to emissions reductions. Not to vague goals about renewable installation but to CO2 reductions. The planet doesn’t care about how many gigawatts of solar are installed. The planet cares about how much CO2 is there in the atmosphere.

Countries like India and the US are trying to keep Chinese imports at bay, but at the same time cheaper imports can help drive the energy transition faster. How do you view this debate?

The world owes China a giant thank you for sending them a cheque every time they buy a solar panel. I think the climate costs of keeping inexpensive, clean Chinese tech out are very clear. The economic benefits to the country that’s keeping them out in terms of building up supply chains and jobs are much less clear. Are Americans better off for not being able to buy BYD electric cars? I would say the couple tens of thousands who work in US auto plants are definitely better off. But the many hundreds of thousands or millions of people who might buy BYD cars are probably not better off.