This article was authored by Jason A. Schwartz, an adjunct professor at New York University School of Law, H. Russell Frisby, Jr., a partner at Stinson Leonard Street LLP, and E. Donald Elliott, senior of counsel at Covington & Burling LLP.
This article first appeared in the Regulatory Review's series on "Five Recommendations for Improving Administrative Government" that focuses on the ACUS Recommendations adopted at the December 2017 Plenary Session. Reposted with permission. The original may be found here, and the Regulatory Review's entire series may be found here.
Although cap-and-trade programs for government permits to emit carbon dioxide occasionally make headline news, the average American may not realize that billions of dollars’ worth of government permits are auctioned or traded in a wide variety of industries, from broadcasting to construction to fishing.
Those industries all rely on “marketable permits”: government licenses issued for various activities that regulated parties can purchase from the government or buy from and sell to other private parties. The intended goals of making regulatory permits marketable include harnessing the efficiency of the market to lower compliance costs, encourage innovation, and ease administrative burdens, all—in theory—without compromising the policy objectives of the regulation.
The alienability of marketable permits makes it important for regulatory agencies to clearly define the privileges and requirements of ownership. Regulatory agencies must also oversee permit markets to ensure the permitting program achieves its regulatory objectives efficiently and without market manipulation.
Last December, the Administrative Conference of the United States (ACUS) adopted recommendations to provide guidance on such issues to federal agencies, articulating the best practices to follow in designing and overseeing marketable permit programs.
Marketable permits have a long history of bipartisan support in a variety of contexts, starting with air pollution markets in the 1970s and 1980s and exemplified by the 1990 Clean Air Act’s creation of the acid rain market. Since then, marketable permits have spread to other environmental and natural resource regulations, including water quality trading, tradable fish catch shares, and offset credits that land developers can purchase from third parties to mitigate their development projects’ impacts on endangered species or wetlands.
These programs are quite popular with regulated entities. For example, there are 1,500 wetland mitigation banks, and over 50 percent of development projects purchase credits from those banks for their required wetland mitigation. Some 15,000 hectares are traded annually, with cumulative transactions worth over $3 billion.
Marketable permits are not limited to the environmental context. A presidential Executive Order instructs agencies broadly to consider the possible advantages of regulating through marketable permits across all policy contexts. There are marketable permit programs for motor vehicle efficiency standards, renewable energy credits, auctions for electromagnetic spectrum licenses, and secondary trading of airport landing slots. And that is just at the federal level; at the state and local level, marketable permit programs thrive for transferrable property development rights, liquor licenses, and taxi medallions. Possible future applications, discussed by agencies and academics, include helping to manage satellite congestion or even to curtail the over-prescription of antibiotics.
Active interest in marketable permits remains strong among federal agencies. Most recently, at the end of November 2017, the U.S. Department of Energy published a request for information on a proposed rule to consider allowing credit trading for its appliance and equipment efficiency standards. At the same time as this ongoing interest in applying marketable permits in new regulatory areas, there continue to be open questions and inconsistent practices on how best to manage existing permit markets. For example, in recent years, there have been accusations and congressional calls for investigations into possible fraud and extreme price volatility in the renewable fuels credit market.
Similarly, the Inspector General of the National Oceanic and Atmospheric Administration has found that information collected by the agency on fish catch share ownership and transaction prices was especially spotty in some regional catch share programs, preventing interested parties from making informed, efficient decisions in the market. There are even questions about the legal status of some programs. Some participants at a recent interagency workshop on water quality markets expressed concern that the lack of codified regulations establishing the water quality trading program may create uncertainty about the longevity and privileges of permits.
On such management issues, as well as in creating future marketable permit programs, the recommendations from ACUS can help guide agencies on how to use marketable permits to harness the efficient decision-making powers of the market without undermining policy goals.
ACUS recommends that agencies consider which type of permit trading system—if any—will best promote the prescribed policy objectives. Agencies are encouraged to issue clear guidelines to clarify issues like permit longevity; ideally, agencies should do so through notice-and-comment rulemaking to ensure public input and transparency. Agencies are also advised to promote market liquidity, but simultaneously are cautioned that some market design choices could increase opportunities for manipulation. ACUS calls on agencies to work together to share expertise and responsibility for preventing manipulation and enforcing compliance in permit markets.
On overseeing marketable permit programs in general, ACUS reminds agencies that compliance is key, and noncompliant parties should develop plans to come into compliance. Agencies must carefully track permit ownership, transactions, and the regulated activity levels. Offset credits must be “real,” and credit verification procedures should have standards, like preventing conflicts of interest in third-party credit verifiers. Extreme price volatility should be addressed through appropriate tools, such as price ceilings and floors. A reserve pool of credits can help facilitate new entrants into the market.
Finally, the careful management of information is key to running an efficient permit market and keeping market actors on a level playing field. Agencies should collect data to assess the market’s efficiency and its effectiveness at achieving the intended policy objectives. Mindful of confidentiality issues and other legal limitations, agencies should release data needed for the public and market participants to monitor permit transactions and prices. When it comes to the agency releasing its own information about potential policy changes or enforcement actions that could influence the market, clear communication policies, such as pre-scheduling announcements, can help minimize information asymmetries among market actors.
By following ACUS’s recommendations, agencies will be able to use the efficiency of the market to lessen compliance costs, encourage innovation, and ease administrative burdens, all without sacrificing policy objectives.