If California chooses to create an emissions trading market for carbon dioxide and other greenhouse gases under the state greenhouse gas reduction law AB 32 it must make a fundamental decision about how to allocate emissions rights. The prospect of creating such a market was discussed this week in the Legislature and a key report on how to create a so-called emissions cap-and-trade system is due June 1 from the state\u2019s Market Advisory Committee, established by gubernatorial directive (Circuit, May 18, 2007). Under a cap-and-trade system, regulators would set a limit on emissions from companies that participate in the trading market. That cap would decline each year. Regulators then must allocate emissions credits that companies can trade in the market. This allocation has been done in two basic ways--through one-time grandfathering or through an auction. The latter could be conducted annually or at some other interval. In the European carbon market, which began in 2005, regulators grandfathered emissions rights for companies and issued tradable credits representing those rights free of charge. Under European grandfathering, credits initially were over-allocated, leading to a dramatic drop in prices after trading started. The South Coast Air Quality Management District also used grandfathering in setting up its Regional Clean Air Incentives Market smog trading program in 1993. Over-allocation of the credits in the greater Los Angeles area resulted in inaction by companies to reduce emissions until the cap came down substantially. It just so happened that emissions bumped up against the declining cap for the first time in the midst of the 2000-01 energy crisis. This caused emissions credit prices to soar as power generators were willing to pay any price to buy emissions credits, crowding other industries out of the market. The air district had to change the rules of the program to restore order to the market gone haywire. On the other hand, the federal 1990 Clean Air Act acid rain control program used the auction method to allot emissions credits to power plant operators. Under that program, the U.S. Environmental Protection Agency auctions emissions credits on an annual basis. Proceeds from the sale flow to the U.S. Treasury. After the credits are auctioned, companies are free to trade them. The program has been widely heralded as successful. It has cost $1-$2 billion a year--just one quarter of the initial estimated cost. Meanwhile, emissions of the acid rain forming pollutants sulfur dioxide and nitrogen dioxide from companies under the market system have fallen by 41 and 33 percent respectively. This has brought $70 billion a year in public health benefits, according to U.S. EPA. Continuous monitors measure pollutants on the smokestacks of the companies subject to the federal acid rain program. Based on the measurements, the companies must file quarterly emissions reports with EPA, where they are audited. The California Air Resources Board has until January 1, 2009, to decide whether to create a carbon trading market in California and until the beginning of 2011 to devise the details of any market.