Mind your Ps and Qs! An Experiment on Variable Allowance Supply in the US Regional Greenhouse Gas Initiative

Using an experimental approach, we investigate the new institutional design for the US Regional Greenhouse Gas Initiative (RGGI). The proposed scheme incorporates two allowance reserves that adjust the initial supply of allowances in the event of unexpectedly high or low allowance demand. In particular, allowance supply is increased when the initial clearing price is above a pre-determined upper trigger price, and decreased when the initial clearing price is below a pre-determined lower trigger price. We provide evidence that these two trigger prices act as focal points: the distribution of clearing prices is bimodal and aligns with the trigger prices. We also show that decreasing the range between the two trigger prices increases total revenue but decreases allocative efficiency. Importantly, we find the regulation is more sensitive to changes in trigger prices than reserve quantities.