Cap & Trade Classroom Simulation

Post date: Oct 31, 2014 10:26:32 PM

A week and a half ago I ran a Cap & Trade simulation with my third year environmental economics class. I reviewed a few possible simulations/games that are out there, but the one I chose was probably the least complicated; which in my opinion is a huge advantage when you are time constrained and running a game for the first time. The one I chose was created by Amy Ando (University of illonois at Urbana-Champaign) and Donna Ramirez (University of Vermont; formerly at Guelph!) that was published in the Journal of Economic Education.

Step 1: The simulation starts out by assigning students into six firms. I had 2-3 students per firm. Each firm receives a worksheet that includes their firm's Marginal Abatement Cost function and a MAC graph. Each of the firms has a different MAC curve. Here is the worksheet for Firm 1. The firms are asked to calculate their unregulated emissions level and report back to me (the regulator). I also let the firms name themselves; only three out of the six named themselves, but those three firms seemed to have the most fun!

Step 2: The regulator (me) implements a uniform emissions standard (i.e., each firm must reduce emissions to 1480 tonnes). The Firms then calculate their emissions reductions and their Total Abatement Costs (given their MAC curve). Each firm reports back to me and I filled in their values into an Excel spreadsheet on the overhead. I then calculated the class-wide totals.

Step 3: The regulator now allows permit trading to occur. The beauty of this simulation is that it saves time by having the regulator facilitate the trading. I announced a permit price ($4,000), and each firm calculated how many permits they wanted to buy or sell at this price. I recorded this in the spreadsheet and on a graph on the whiteboard. At $4,000, the supply of permits exceeded demand; therefore, I announced a new price ($1,000). The firms did their calculations and reported back; this time, demand exceeded supply. I continued calling new prices until we got to $3,200 where demand equalled supply.

Step 4: Each firm then calculates their final emission level, their revenue/cost from buying/selling permits, and their Total Abatement Cost. They then report these back to me, and I tally up the class-wide totals in Excel.

Final Thoughts:

• The simulation results allowed me to highlight how the Total Costs of the emissions reductions were lower under permit trading ($14,592,000) than under the uniform emissions standard ($18,950,800).

• I was also able to demonstrate that from society's perspective, the revenue/cost of selling/buying permits is just a transfer. It washes out to zero class-wide.

• I also highlighted that all 6 firms are individually better off with trading than with the uniform standard. Firm 1 was the happiest about this as they ended up making money. I used this to lead into the next couple lectures where the importance of how the initial permits were allocated was discussed.

• The students seemed to really like the simulation and were extremely enthusiastic. I definitely recommend trying this simulation in your class if you teach environmental economics.

• One highlight for me was observing one of the firms doing their calculations. Two of the group members were explaining to the third group member how to properly calculate Total Abatement Cost. This type of peer learning/tutoring is very important.