State regulators are celebrating California's first-ever auction of greenhouse gas emissions allowances held Nov. 14. So what exactly happened? Why does it matter? And what happens next? We've gotten many questions about the cap-and-trade program from our readers at the San Jose Mercury News; here's answers to several of them.

Q: What is AB 32 and what is CARB?

A: AB 32, also known as the Global Warming Solutions Act, is the Assembly Bill number for a landmark piece of legislation signed by former Gov. Arnold Schwarzenegger in 2006. AB 32 commits California to reduce its greenhouse gas emissions to 1990 levels by 2020, or roughly 17 percent from where we would be if we took no action and continued on our current course. AB 32 did not prescribe specific strategies on how to reduce greenhouse gas emissions; it designated the California Air Resources Board, or CARB, as the lead regulatory agency responsible for designing a comprehensive plan for the state to comply with AB 32. California's cap-and-trade program is the cornerstone of the larger plan (known as the "Scoping Plan"), which includes a suite of policies designed to reduce greenhouse gas emissions and transition California to a cleaner economy. These include performance standards for cleaner cars, fuels, energy efficiency and renewable energy requirements such as solar and wind. The chairman of CARB, Mary Nichols, widely recognized as one of the most influential climate and clean air policy leaders in the United States.

Q: Where do California's carbon emissions come from?

A: California emits 447 million metric tons of carbon dioxide a year, according to CARB, which has been collecting and monitoring emissions data since 2008. The biggest chunk, 38 percent, comes from the transportation sector, largely from cars and trucks. 21 percent comes from electric power plants. 19 percent comes from industrial factories. 10 percent comes from commercial and residential buildings; the rest comes from agriculture and natural events like wildfires. A graph presenting these figures can be seen at http://www.arb.ca.gov/cc/inventory/data/graph/graph.htm

Q: What is the "cap" and who is regulated?

A. The cap is the mandatory, statewide limit on greenhouse gas emissions set by CARB and based on verified emissions data. That limit declines 2-3% year, ensuring the overall level of emissions statewide is steadily reduced. Large businesses that emit more than 25,000 metric tons of carbon dioxide are covered under the program. That includes 360 businesses representing 600 facilities across the state. In the first phase of the program (2013-2014), the cap covers electricity suppliers and large industrial sources like refineries and cement companies. Chevron's Richmond refinery is the largest emitter of greenhouse gases in California, emitting 4.5 million tons of carbon dioxide each year. After the first phase, the program will expand to include gasoline, diesel, and natural gas providers. Those regulated are the fuel providers that distribute fuel, not local gas stations.

Q: What is an allowance?

A: An allowance (sometimes called a permit) is like a permit to pollute. It authorizes the holder to emit one ton of carbon. Under the rules of the cap-and-trade program, every regulated facility must turn in allowances equal to their emissions at periodic check-ins. So Chevron's Richmond refinery will need to turn in 4.5 million allowances to cover their annual greenhouse gas emissions. The total number of allowances available in the program in any year is exactly equal to the cap for that year. As the cap declines, so too does the number of allowances. As allowances become scarcer, their value will tend to increase--creating an incentive in the market to find ways to reduce emissions in the most cost-effective manner.

Q: Why is CARB selling allowances in an auction?

A: At the start of the program, CARB will distribute most of the allowances for free to give companies time to transition, adjust to carbon pricing and implement cost-effective strategies to reduce their emissions. Building off lessons learned from other cap-and-trade programs, such as the world's largest in the European Union, CARB is also auctioning a portion of the allowances. For instance, in the auction that took place on November 14, CARB auctioned off 10 percent of all allowances. Auctions ensure everyone has equal access to allowances and establish a clear price in the market. Auctions are also transparent, which helps expose potential market manipulation.

Q: What exactly happened during California's first cap-and-trade auction, held Nov. 14?

A: The bidding and buying of pollution allowances occurred online during a three hour window. There was no jam-packed auction house or frenetic trading floor: bids were placed quietly and electronically, from computers around the country. Those that participated submitted bids to purchase three times the available supply of allowances. All of the 23.1 million allowances offered at the auction to cover 2013 emissions were purchased, calming fears that the market would be under-subscribed. A 2013 allowance sold for $10.09, slightly above the $10 floor price. The state also auctioned 39.5 million allowances that cover 2015 emissions; of those 5.6 million allowances were sold, at $10. All told, the auction raised $289 million.

Q: Where does the auction money go?

A: The money goes into two buckets. Publicly-owned utilities like PG&E and Southern California Edison auctioned their allowances under one program, and proceeds from theses ales must be used for the exclusive benefit of those utilities' ratepayers. The California Public Utilities Commission has proposed giving residential ratepayers a twice-a-year "climate dividend" worth about $30 and credits to small businesses; that proposal is expected to be voted on Dec. 20 at the CPUC. The second bucket includes proceeds from the industrial and transportation sectors. These will be deposited in a new special fund in the state treasury that will be used to further the state's clean energy goals. Legislation signed last September will require at least 25 percent of the proceeds benefit the state's most disadvantaged communities.

Q: Isn't $10.09 for a ton of carbon a low price? Does a low price mean the program is not working?

A: Some analysts had expected a higher price, of between $11 and $12 a ton, and were disappointed that the settlement price was not higher. Others say that merely having a price on carbon, for the first time, is a huge milestone. And a low price on carbon is not necessarily a bad thing: its a sign that the market doesn't think it will be hugely expensive to reduce emissions (since the price of an allowance represents the market value of the cost of reducing one ton of carbon). Many speculate that allowance prices will go up in future auctions as the market begins to take shape. CARB put in a floor price of $10 to prevent prices from falling too low. The floor price simply sets a minimum that ensures that companies will incorporate that price into their business planning, as they do all costs associated with running their business. This will help drive their decisions about investing in new and more efficient technologies, processes and infrastructure. It also provides certainty to investors and entrepreneurs looking to pencil out projects to help businesses reduce their carbon footprint.

Q: When is the next auction? How many allowances will be available then?

A: There are four auctions a year, held in February, May, August and November. The next auction will be February 19, 2013. ARB estimates the minimum number of 2013 allowances available in February will be 13.6 million. It is expected there will be 9.6 million 2016 allowances available.

Q: Are companies required to participate in the auction? Who participated?

A: Participation in an auction is entirely a matter of choice. Companies who emit large amounts of carbon can either purchase allowances in the market (either in the auction from each other or in the secondary market) or try to reduce their carbon emissions on their own. Those that reduce emissions below their cap, or that are already emitting less carbon than allowed under the cap, can sell or trade their unused allowances to companies that exceed their limits. If the system works as designed, the most efficient companies will be rewarded, polluters will pay and statewide greenhouse gases will be significantly reduced. CARB did not disclose which companies participated in the auction, as that could reveal sensitive information about a company's emissions profile and reduction opportunities. But several of the state's largest entities, including Chevron, ConAgra, the Regents of the University of California and Valero were among the list of 73 "qualified bidders," which meant they registered for the auction and were approved to participate. The bids themselves are sealed and will not be made public, because each company is making critical strategic decisions about bidding strategy. (Full results of the November auction can be found at: http://www.arb.ca.gov/cc/capandtrade/auction/november_2012/auction1_results_2012q4nov.pdf)

Q: I'm worried that this whole thing is a scam — how can we be sure this won't turn into another Enron boondoggle?

A: CARB has put a number of safeguards in place to deter and detect any attempts to manipulate the market. Every market participant must register with CARB and submit to California's jurisdiction. CARB will track every transaction in the market in a central database (each allowance contains a unique serial number). Hoarding rules and purchase limits prevent any one actor from cornering the market. CARB also uses an independent market monitor, Market Analytics. They have extensive experience monitoring energy markets which are similar to carbon markets, especially in terms of analyzing the bids and activities of participants. Market Analytics won the contract through the standard, public contracting procedures used by the State of California.

Q: I keep hearing about a possible carbon tax at the national level. What's the difference between a carbon tax and a cap-and-trade program?

A: Both are designed to put a price on carbon and reduce the amount of greenhouse gases pumped into the atmosphere. Fossil fuels like coal, oil and natural gas each emit carbon dioxide when they are burned, and the overwhelming majority of the world's scientists agree that carbon dioxide emissions are warming the earth and disrupting global weather patterns.

A carbon tax is a straight tax on fossil fuels, with the idea that polluters will have to internalize the actual costs of pollution if this tax is added to their operating costs; in theory, they will then have an incentive to reduce emissions. But a carbon tax does not actually guarantee greenhouse gas reductions; the tax could be passed onto consumers, and the incentive hinges on the level of the tax. There's been some talk in Washington about using a carbon tax to raise revenue and lower the national debt, but that seems unlikely, especially since some conservative members of Congress have said they will only support a carbon tax if it is "revenue-neutral." President Obama shot down the idea of a carbon tax at his first news conference after being re-elected.

A cap-and-trade program, in contrast, specifically requires carbon emissions to go down over time, because there is an actual declining cap set on those emissions. This type of program does not set a price on carbon, but allows the market to determine the price through the trading system. California's program sets a limit on the amount of carbon dioxide affected entities are allowed to emit. Companies that reduce emissions can sell or trade unused allowances to companies that exceed theirs. Over time the total cap decreases, making allowances scarcer and providing an incentive to find cost-effective ways to cut emissions.

Q: Isn't the California Chamber of Commerce opposed to the cap-and-trade program?

A: The CalChamber filed a lawsuit in Sacramento Superior Court Nov. 13 challenging CARB's authority under AB 32 to withhold emission allocations for the purpose of generating revenue for the state. The CalChamber argues that the auction will raise energy costs in the state, harm the economy and impact California's competitiveness.

Contact Dana Hull at 408-920-2706. Follow her at Twitter.com/danahull.