# Presentation: 190300

## Better Aligning the Nation’s Clean Air and Energy Goals

- Energy & Environmental Analysis, Inc.
- June 13, 2002

## Project Overview

- Develop, evaluate and refine an alternative approach to regulation of emissions from power generation.
- Identify key political and design issues.
- Develop responses and improvements.
- Assess potential program benefits.
- Document results.

## Goals of the Alternative Approach

- Provide a diverse, stable, efficient energy mix.
- Reduce emissions.
- Promote new, cleaner and more efficient generating technology.
- Minimize cost of energy and regulation.
- Simplify regulation.

## Current Regulatory Problems

- Existing command and control programs:
- Do not recognize or encourage efficiency or clean technologies.
- Reduce cost minimization performance of flexible (trading) programs.
- Provide limited environmental benefits in context of trading programs.

## Current Regulatory Problems

- Existing allowance trading programs:
- Give limited credit for efficiency and clean technologies.
- Give little credit for renewables and conservation.
- Could be more effective at promoting technology development.
- Lag environmental goals.

## Proposed Approach

- Replace inefficient command and control regulation with an appropriate cap and trade program.
- Design cap and  trade program to:
- Better encourage diverse mix of clean technologies and efficiency.
- Promote technology development.
- Ensure better environmental performance.

## Cap and Trade Programs

- Cap provides greater environmental certainty than command and control.
- Provides greater flexibility and lower compliance cost.
- With proper design, can encourage efficiency and new technology.

## Historical Problems With Caps

- Difficult to find the right cap level.
- Allocation favors historic big polluters.
- Doesn’t include/support new, efficient generators.
- Under a cap, command and control programs provide no environmental value since total emissions will remain the same.
- Command and control defeats the trading program benefit of reducing costs.

## Critical Design Elements

- Setting cap levels and timing
- Applicability
- Allocation of Allowances

## Cap and Trade Program Basics

- Set an emissions tonnage limit (cap or budget) for a class of sources in a region.
- Allocate the right to emit tons (allowances) to individual sources.
- At the end of the season, each source must have allowances equal to actual emissions.
- Sources can control, overcontrol, sell, bank, buy allowances to comply.

## Historical Approach to Caps

- Fixed levels
- Large, step reductions
- Allocation based on historic heat input
- Participation limited to fossil generators
- New and clean units treated less favorably

## Traditional Emission Cap Profile

## Summary of Proposed Approach

- Each pollutant is subject to a continuously declining pollutant cap (glideslope).
- NOx, SO2, mercury and CO2
- Include _all_ generators 10 MW or greater.
- Direct credit for end use efficiency projects.
- Replace BACT/LAER and offset requirements,  acid rain, regional NOx and haze, and mercury MACT programs for affected sources.

## Example of Declining Cap on SO2

## Approach (Cont)

- Allowance trading provides flexibility and cost reduction/equalization.
- Output-based allocation system to reward efficiency (include CHP).
- Retain NSPS and local impacts review.

## Declining Cap/Circuit breaker

- Each cap decreases by fixed percent each year.  Glide slope defined in advance.
- Decline for each pollutant stops if annual average allowance cost exceeds predetermined cost threshold ($/ton).
- Decline starts again when the annual average cost is below threshold.

## Illustration of Declining Cap

## Program Parameters

## Declining NOx Cap

## Declining Mercury Cap

## Allocation

- The most controversial issue after levels and timing.
- Critical to encouraging efficiency and clean technology.
- It *is* distributional.
- Distribution is key to influencing policy goals.

## Allocation Principles

- Avoid creating artificial winners and losers.
- Promote policy goals.
- Keep it simple.
- Be politically viable.

## Allocation Options

## Allocation Options

- Grandfathering primarily rewards old, high emitting plants.
- Auction has theoretical benefits but is politically difficult.
- Output-based, reallocating program provides maximum reward for efficiency, low emissions, new plants.

## Effects of Output-Based Allocation

- Concern expressed that output-based allocation will be too negative for coal.
- In the near-term, base load coal plants are among the most efficient in the mix.
- 24 of the top generating companies, accounting for 50 percent of affected generation do better under output than input, including coal-heavy companies.

## Allocation Effects on Companies

- *Within 1%

## Value of Allowances

- Implications of allowance allocation to clean or non-emitting sources are not simple.
- Does not directly change dispatch order.  Does increase profitability.
- Theoretically causes reduced bid/electricity price.  Actual effect likely to be lower than theoretical due to uncertainties.
- Alternatives need to be defined.

## Value of Emission Allowances

## Principles for CO2 Regulation

- Climate change is a long-term problem.  We need to look for long-term solutions.
- Short-term massive switching to gas detracts from development of longer term solutions and may not be sustainable.
- More gradual path to the longer-term solutions will be more productive.

- Renewables
- Efficiency

- Clean coal
- Sequestration

## The CO2 Approach Must:

- Limit economic risk
- Limit large structural or lifestyle changes
- Not pick winners
- Be market-based

- Show a commitment
- Be gradual
- Promote new technology
- Lead to commitments from other countries

## We Don’t Know the Final Answer

- The ultimate response to carbon mitigation will rely on technologies and approaches that we can’t clearly foresee.
- The important thing is to start on the path of developing them.
- That requires a measured approach with real economic drivers.

## The Right Structure is Critical

- We want trading, but trading is difficult without some framework.
- Entirely “voluntary” programs are difficult to quantify and show little commitment.
- Especially difficult for new, clean participants.
- We need a hybrid approach that shows a commitment and has a firm structure but retains flexibility and limits risk.

## A CO2 Alternative

- Phase I - early cap *with no reductions*.
- Creates economic value for early reductions and new technology.
- Reveals cost of reductions.
- Simpler and more effective than pure voluntary programs.
- Phase II - very gradual reductions with economic circuit-breaker.
- Limits cost, encourages new technology.

## Declining CO2 Cap

## The Declining Cap/Circuit Breaker

- Gradual
- Market-based
- Limits economic risk
- Promotes new technology
- Makes a firm commitment
- Provides better environmental results
- Could be basis for international progress

## Benefits

- Flexible system allows market to find best solutions, new approaches.
- Gradual phase-in promotes technology development.
- Inclusion of all sources promotes:
- Development of all options.
- Diverse, stable energy mix.

## More Benefits

- Environmental performance is equal to or better than current performance.
- Reduces cost of energy.
- Reduces industry and government cost of regulation.
- Expedites increased generation from new and existing sources.