Smog Market Set to Open in Southland

An ounce of gold fetches nearly $400, pork bellies sell for half a dollar a pound and a bushel of soybeans goes for $7 on the open market.

But how much will a company pay for the right to emit a ton of pollution into the nation’s filthiest air?

That question--the focus of worldwide curiosity among industrial leaders and pollution regulators--soon will be answered as Southern California’s smog market debuts on New Year’s Day. Nitrogen oxides and sulfur fumes--two of the worst pollutants fouling the Southland’s skies--will become marketable commodities Jan. 1, joining the likes of coffee, cattle and cotton.

The South Coast Air Quality Management District’s trailblazing Regional Clean Air Incentives Market--known as RECLAIM--is the world’s first free-enterprise program to clean up urban air pollution.

In RECLAIM, each industrial plant is allocated an annual pollution limit, and then granted the freedom to choose the cheapest way to stay within it, including trading credits among themselves. Companies that keep their emissions below their limit can sell their excess credits at whatever price they are able to negotiate, which gives them an economic incentive to fight smog.

Nearly 400 businesses in Los Angeles, Orange, San Bernardino and Riverside counties will be eyeing their competitors and working furiously with calculators and production forecasts to weigh whether it’s best to buy, sell or save their credits. A foundry in Anaheim might buy rights to pollute from an oil refinery in Wilmington; a power plant in Redondo Beach could sell them to an aerospace firm in Fullerton.

Soon, executives will be able to turn on their personal computers, dial a 900 telephone exchange and tap into an electronic bulletin board to check who’s selling and who’s buying. A new generation of smog brokers specializing in trading pounds of pollution has emerged in the region, with the first public auction scheduled for March. And even the nation’s stock exchanges are watching carefully to see if the smog market is hot enough to warrant their involvement.

At first, economists say, most Southland businesses will be wary of trading their RECLAIM credits. They’ll browse a bit, attend auctions and check out the prices. Some will probably swap a few. But little money is expected to change hands for the first year or two.

Other smoggy cities and nations are watching to see if the free-market experiment, hailed by regulators as the wave of the future in pollution control, succeeds in cleaning the air while cutting the cost to business. Some are already starting to model programs after RECLAIM.

“People are very curious about RECLAIM. There is tremendous worldwide interest,” said Dale Carlson, vice president of corporate affairs at the Pacific Stock Exchange, which helped the AQMD create the program. “The approach of using market incentives to clean up the environment is growing and it’s going to be interesting to watch that process develop and expand here in the United States and eventually in Europe and elsewhere.”

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On Jan. 1, half of 390 Southland businesses regulated under RECLAIM will be allocated credits; the others will get their allocations beginning July 1. Each company is assigned an annual emissions limit for nitrogen oxides and sulfur, which will decrease by 5% to 8% each year for the next decade. One credit equals one pound of pollution.

Most of the Los Angeles Basin’s largest industrial heavyweights are participating, including Chevron USA, Mobil Oil, Southern California Edison, Hughes Aircraft, Douglas Aircraft, California Portland Cement and Northrop.

“This is new for these folks and I suspect they will approach it with a great deal of caution,” Carlson said. “But (sales) could happen at any point. If a facility thinks that it has more credits than it needs, they may offer a few on the market. You may find folks nibbling on the market. You may find environmentalists buying up some of the credits and retiring them to clean the air faster.”

The AQMD predicts that only 8.3 tons per day of nitrogen oxides and sulfur will be traded in 1994 out of the 128 tons per day allocated to the companies. Trading is expected to start slowly because businesses will not be in desperate need of credits. The AQMD’s 1994 pollution limits are based on industrial output during the recession, and most companies can already achieve them fairly easily.

Economists say the market will probably remain flat until about 1996, when curbing pollution will become increasingly difficult and expensive and demand for the credits could surge.

Some companies may find it cheaper to buy someone else’s credits than to install costly anti-smog controls at their plants. Others may hold onto their credits or even invest in extra ones just in case they want to expand or alter their business and emit more pollutants.

“It’s hard to imagine that a facility knows its emissions down to the pound at the beginning of the year. And if a facility isn’t certain about what its production is going to be, it will be very leery of not holding extra credits,” said Anne Sholtz, one of the Caltech economics faculty members who served as consultants on RECLAIM.

“But,” Sholtz said, “I can’t say what everyone will do. There are clearly some facilities that don’t need all their credits because they make some major (smog) abatements right away.”

Andrew Hirsch, environmental regulatory coordinator at Southern California Gas Co., which has been highly critical of RECLAIM, said businesses would be “foolish” to sell their credits in the first year because it is wiser to save them. “Our expectation is you won’t see a more fluid market until three or four years into it,” he said.

The biggest mystery is the price that the pounds of pollution will draw on the open market. “Nobody has a clue,” Carlson said, because the prices will be driven by demand. The AQMD is setting no minimum prices and is taking a hands-off approach to encourage unrestrained trade.

Earlier this year, economic consultants for the AQMD estimated that in 1994 businesses would pay about $577 for each ton of nitrogen oxides or sulfur oxides, rising in 1999 to $11,261 per ton of nitrogen oxides and $6,238 per ton of sulfur oxides. The air quality agency will re-evaluate its laissez-faire policy only if the price exceeds $25,000 per ton of nitrogen oxides and $18,600 for sulfur oxides.

“We don’t know how our market is going to do over the next few years, but we do know what can kill a market--over-regulation,” said William Leyden, the AQMD’s manager of technology implementation.

An auction of RECLAIM credits planned for March 24 by Cantor Fitzgerald, a global brokerage firm based in New York, and Dames & Moore, an engineering firm, has attracted considerable attention--although at this point it is prompted largely by curiosity.

Robin Langdon, an emissions trading analyst with Dames & Moore AirTrade Services in Los Angeles, said that so far 4,000 pounds of emissions will be offered for sale at the auction--a small fraction of the 128,000 pounds that the AQMD allocates on Jan. 1. Langdon declined to identify the selling companies or estimate the asking prices.

Auctions are not the only sign that pollution control has entered the age of sophisticated market trading. The AQMD has created an electronic bulletin board to match sellers with buyers, a service that Barry Wallerstein, a deputy executive officer at AQMD, compared to the multiple listings of real estate agents.

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The AQMD created RECLAIM to help businesses fight the complexity and rising cost of its traditional smog program, which entails hundreds of individual regulations to cut fumes from each piece of polluting industrial equipment.

AQMD officials claim the new market-based approach will slash industrial sources of nitrogen oxides by 75% and sulfur oxides by 60% within 10 years, at about half the cost under the traditional rules. They estimate that the 390 businesses will save about $58 million yearly.

However, some companies, led by Southern California Gas, oppose RECLAIM, calling it a financially risky venture that will benefit the largest polluters, such as oil refineries and aerospace firms, but could be a burden to smaller ones.

While most environmental groups endorse the concept of a market approach to pollution, they believe the AQMD gave away so many concessions to industries that clean-air benefits will be minimal the first few years. In some cases businesses will be allowed to pollute more in 1994 than they did in 1993, since the starting limits will be based on recessionary levels.

A similar but limited pollution trading program already is being tried by the U.S. Environmental Protection Agency. Although a small number of power plants in the Northeast that contribute to acid rain are allowed to trade sulfur dioxide credits, federal restraints prevent it from being a free market.

Interest in RECLAIM, Sholtz said, is spreading throughout the world, since many nations are hoping to create a market for developing countries to exchange “global warming” credits with wealthier countries. The goal is to create revenue to clean up the world’s most polluted cities, particularly in Eastern Europe.

In the United States, Illinois is creating a trading program for nitrogen oxides. The Canadian city of Vancouver is considering a market strategy for clean air, and the AQMD hopes to expand the Southland’s market to encompass several thousand other companies in its four-county region.

“We’re not trying to create a market that rivals that of the commodities market in Chicago,” Carlson said. “The measure of success cannot be the number of transactions made in a quarter or a year. What you really ought to watch is are we getting our emissions reductions and is it costing less? The goal, after all, is to clean up our air.”