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Terminology PDF Print E-mail
The following is a high-level definition of the most common greenhouse gas cap-and-trade terms.

Allocation: process by which emissions allowances are initially distributed. For example, if the cap were set at 100 metric tons, then a total of 100 allowances would be made available to the market (allocated) in some fashion, either through free distribution or by an auction.

Allowances can be allocated for free using three methods:
  1. based on historical emission levels (grandfathering);
  2. by setting of the level of permitted emissions per unit of input or output (benchmarking), or;
  3. in the electrical sector, based on the energy consumption of the customers served (load-based).

Allowances may also be auctioned (sold to the highest bidder).

Auction:  a method for distributing emission allowances by selling them to the highest bidder.

Banking:  entities are allowed to hold more allowances than they need to cover their emissions in one compliance period and use these allowances in future compliance periods to cover emissions.

Baseline:  this value is calculated from either past or projected emissions or consumption data and is used to determine the number of allowances available as well the level of reductions achieved.

Benchmarking:  a method for distributing emission allowances by setting of the level of permitted emissions per unit of input or output

Borrowing:  entities are allowed to apply allowances from a future compliance period in the current compliance period. Borrowing may involve a penalty such as a requirement to surrender extra allowances or pay a fee.

Cap:  a limit on emissions

Carbon credits:  When reductions are made by an offset project, the sponsor of the project receives credits that can be sold and traded within a cap-and-trade program and function similar to an emissions allowance.

Compliance period:  the time frame for which entities must submit sufficient allowances equivalent to their emissions during that period. This submission is called a true-up. Reporting periods may be shorter than compliance periods. For example, the reporting period may be annual, but the compliance period may be three years.

Emission allowances:  permits that entitle the holder to emit a specified quantity of carbon dioxide equivalent (one allowance equals one ton).

Grandfathering:  a method for distributing emission allowances based on historical emission levels.

Linking or linkage:  entities covered under a cap-and-trade program are allowed to buy allowances or offsets from another jurisdiction’s cap-and-trade program. Linking is a way to expand the market and potentially lower costs.

Load-based:  a method for distributing emission allowances in the electrical sector, based on the energy consumption of the customers served.

Offsets:  alternative compliance mechanism where emission reductions are made by sources not included in the cap-and-trade program. An offset must result in an emission reduction outside of the cap. These reductions must be additional, meaning over and above those that would otherwise have occurred in the absence of the project. They must also be permanent, the definition of which is subject to the rules that govern specific categories of offset projects.

Point of regulation (also sometimes called point of compliance):  refers to which entities will be required to hold emission allowances. The point of regulation does not need to be the emitter, but could be the entities responsible for energy consumption or those that supply or distribute fossil fuel.

Price cap:  legally enforceable maximum allowance price.

Price floor:  legally enforceable minimum allowance price.

Source-based (or downstream) system:  in this system, the point of regulation is the same as the point of emission.

Trading:  after the initial distribution of allowances, entities covered by the cap-and-trade program that can make reductions may sell their excess allowances to entities that have not been able to make reductions or for whom the cost of those reductions are higher than the market price of the allowances. If allowances are scarce, the market will push the price higher. If allowances are plentiful, the market will push the price down.

True-up:  when entities submit emission allowances equivalent to their emissions during a compliance period.

Upstream system:  in this system, the point of regulation is the point where fossil fuels enter into commerce within a jurisdiction covered by the cap-and-trade program.