The Costs and Benefits of Pre-action before Kyoto Compliance

Transaction costs have negative effects on emissions trading. Recent debates on Kyoto Protocol have become aware of the potential threat of transaction costs to the implementation of emissions trading for the Protocol and consequently to the successful compliance of the Protocol. One way to suppress transaction costs is to use experience. In line with the EU Green Paper, we propose that a pre-action before the Kyoto period could be helpful to reduce the transaction costs in emissions trading for the Kyoto compliance. However, because pre-action will incur additional costs, the final gain due to pre-action will be the pre-action cost saving net of the pre-action costs. This paper explores the relationship between the transaction costs in emissions trading and the pre-action effort to reduce transaction costs in the case of Kyoto Protocol. We find that low-cost countries have greater incentive for pre-action than high-cost countries, because they are more sensitive to transaction costs. Furthermore, we conclude that small-scale pre-action would be more likely to bring benefits, therefore pre-action is necessary and a well-prepared emission trading system plays key role in ensuring the Kyoto compliance.