Could the rise in CO2 levels play havoc with global food supplies?

Goldman recently published a report discussing global carbon emissions (see discussion on cap & trade issues). Apparently the amount of carbon in the atmosphere now is the highest in over 400,000 years (chart below). Researchers use small air bubbles trapped in the antarctic ice sheets over time to determine historical carbon (CO2) levels.

X-axis = number of years ago (source: GS)

It is difficult to determine what impact this is having on global weather patterns, but between last July being the hottest month on record (since record-keeping started in 1895), and Hurricane Sandy veering inland due to irregular jet stream patters, people are beginning to take this more seriously.

In particular the impact on global food supply is a concern because the loss in yield during "bad" years is not recovered during periods of favorable weather (see chart below - this pattern resembles the P&L of a short options portfolio). It means that if what happened this past summer becomes a more frequent occurrence, the impact on global food supplies could be devastating.

Historical corn yields (source: GS)

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The Chicago Climate Exchange and the "cap and trade" market in the US

Here is a quick follow-up on the 2009 post called Death of market. It discussed the collapse of the voluntary carbon emissions credits market on the US based Chicago Climate Exchange (CCX), as the proposed "cap and trade" legislation got derailed.

In 2010 the UK parent of CCX called Climate Exchange Plc (CLE) was sold to ICE.

Futures Mag: Under the agreement, CLE shareholders would receive £7.5 ($11.26) for each share of CLE at the closing of the scheme (sale), valuing CLE at £395 (approximately $593 million). According to a release, the acquisition represents a premium of 56.9% from the April 29 closing price of CLE.

The deal expands the competition between ICE and CME Group, which is part of the Green Exchange joint venture. The Green Exchange trades on the CME Globex and Clearport platforms and clears through CME Group's clearinghouse.

In a statement, Climate Exchange Chairman Richard Sandor said, “We believe that a combination with ICE makes strategic sense and look forward to addressing continued opportunities together.”

Apparently these "opportunities" were quite limited. Even though carbon trading is still somewhat active in Europe, the US carbon futures exchange is shutting down. It was a great idea by Richard Sandor to create a market based solution to a global problem, but in the US it makes little sense politically. Republicans are not too keen to tax corporations in order to "address" global warming, while some Democrats and many environmentalists are not too happy with market based solutions.  Both have an incentive to kill the program.

Unfortunately the project is ending on a sour note. The futures arm of CCX had sold a number of exchange seats which are now worthless. In order to recoup some funds, the owners are suing Richard Sandor, claiming fraud. The claim states that Sandor promised to keep the number of seats fixed, and the seats were transferable and could be leased. None of those promises were kept according to the claim.

Crain's (Dec 15th): Traders at the Chicago Climate Futures Exchange, which plans to shut down early next year, are suing founder Richard Sandor and other exchange officials, alleging a fraud that impaired the value of their trading privileges. ...

The suit, filed in Cook County Circuit Court on Wednesday by two dozen individuals and trading firms, claims that they were told that only 250 trading privileges would be sold at the short-lived exchange and that their seats could be resold or leased when 250 were purchased. Mr. Sandor and other defendants made false representations, it alleges, because the exchange never intended to limit sales to only 250 seats or to allow them to be transferred or leased.

There is some good news on the carbon trading front in the US however. Seems California is getting into the game of carbon trading.

Businessweek: California air regulators approved the final design for what will become the country’s first economy-wide program to regulate greenhouse gas emissions.

The Air Resources Board approved 252 pages of rules governing how the state will cut carbon emissions from power generators, oil refineries and industrial plants roughly 15 percent by 2020. The plan will now be reviewed by the state Office of Administrative Law.

It's hard to see how California could make much of an impact on global carbon emissions with China and India pumping enormous amounts of CO2 into the atmosphere to support their growth, but one's got to respect them for trying.

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Death of a market

A few months ago in a post called The collapse of the CCX carbon emissions contract we discussed the hurdles faced by the carbon permits market, traded on the voluntary exchange named the Chicago Climate Exchange (CCX). Given that "cap & trade" process requires someone to pay money in order to emit what they need to emit, the only way such a process can work is with regulation that enforces caps on emissions. The "voluntary" thing was simply a preparation for the legislation, which ultimately never came and looks fairly dead right now.

Here is the latest on the CCX saga. The parent of CCX, the Climate Exchange PLC (traded in the UK) continues on, surviving on the European cap & trade legislation.

Price of Climate Exchange PLC shares

In the US however, the carbon contract has flatlined at 10 cents per ton (from over $7 at its peak).

And the volume has collapsed as well. The volume spike last year was a time when commodity prices and hopes for cap & trade were flying high. With democrats favored to take the White House, some form of carbon legislation was sure to come. But the world had changed quickly in the Fall of 08 and any thought of imposing new significant costs on US corporations fell out of favor.



Markets like this can't develop on their own. Nobody wants to pay for something they don't need unless they are forced to do so. And speculators/investors (which every market needs in order to function properly) won't participate in a market that has no natural buyers. This looks like the end of the CCX contract market - for now.

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The collapse of the CCX carbon emissions contract

This may be a surprise for some, but "cap and trade" has been in place in the US for years. The trading is done via a firm called the Chicago Climate Exchange (CCX), a creation of Richard Sandor (the inventor of the CBOT bond futures). The contracts traded represent 100 metric tons of carbon emissions each (see contract specs) There is one catch with this cap & trade program though: the member firms' participation is voluntary. From CCX:

CCX emitting Members make a voluntary but legally binding commitment to meet annual GHG emission reduction targets. Those who reduce below the targets have surplus allowances to sell or bank; those who emit above the targets comply by purchasing CCX Carbon Financial Instrument® (CFI®) contracts.

So why would firms participate on a voluntary basis? A couple of reasons. One is they would like to be perceived as good citizens, the other is they wanted to get ready for the real cap & trade. With full expectations that Democrats in the office would implement this type of program, many firms joined voluntarily to get ahead of their competitors and learn the process.

But when the long awaited legislation finally showed up, it wasn't exactly what everyone expected. Under the so called Waxman-Markey American Clean Energy and Security Act of 2009, companies would be required to have “allowances” for all the greenhouse gases (carbon) they emit. Between 2012 and 2026 about 90 percent of the allowances would be given away for free. The chart below from the Heritage Foundation (which by the way really wants this bill to go away) shows what percentage of the emission allowances would be free.



So here is the question. Why would you pay for a carbon credit (an allowance) if the government will give it to you for free, even if Waxman-Markey passes? If it doesn't pass, there is no cap on emissions at all and a carbon credit becomes worthless. Either way in the immediate future there is little value in the CCX allowance contract:



The allowance contract used to trade like a commodity, somewhat linked to US natural gas (natural gas is seen as a cleaner burning fuel). It spiked in 08 when energy and other commodities hit records. People felt that if Obama was going to win, cap & trade was just around the corner. But the recession hit hard and Congress was loathe to inflict addition pain on the hard hit US industry by imposing a costly program - the timing was very wrong. So they watered down the bill, in effect killing the CCX contract. This program will come back some time in the future - it has to eventually, given the impact of emissions on global climate. But for now CCX will struggle to stay profitable, trading a nearly worthless emissions allowance (it's hard to generate volume when there is little speculator interest).