The costs and benefits of early action before Kyoto compliance

Transaction costs have negative effects on emissions trading. Recent debates on the Kyoto Protocol have emphasized the potential threat of transaction costs to the implementation of emissions trading for the Protocol and consequently to the successful implementation of the Protocol. One way to suppress transaction costs is to use experience. In line with the EU Green Paper, we propose that an experimental early action before the Kyoto period could be helpful to reduce the transaction costs in emissions trading for the Kyoto compliance. However, because early action will incur additional costs, the final gain due to early action will be the cost-saving net of the costs of early action. This paper explores the relationship between the transaction costs in emissions trading and the early action effort to reduce transaction costs in the case of Kyoto Protocol. We find that in general early action can effectively offset transaction costs and thus are economically efficient. Only in the case of high transaction costs and constantly slow learning process, early action may become inefficient.