# Final Transport Rule

Assurance Provisions

EPA May 24, 2011

# Outline • Variability limits • Assurance penalty assessment • Outlook for assurance provisions • Alternative penalty structure

– Intrastate market power

– Impacts on regulated sources 

# • Finalizing assurance provisions
05/24/201 1 2 Deliberative – Do Not Cite or Quote

# Variability Limits
• Transport Rule budgets reflect EGU operations in an “average year”

– Interconnected nature of power sector creates inherent year-to-year variability in state-level EGU operations 

## • EPA analyzed historic state- level heat input variability from 2002-2008 (as a EPA analyzed historic state heat input variability from 2002 proxy for emissions variability assuming constant emission rates)

– Most states’ historic variability levels were within 10%; a few approached 15% and three approached 20%

– Final rule establishes annual variability limits on each state budget at whichever level (10%, 15%, 20%) minimizes variability while covering historical level in that state 

## • State’s emission budgets plus variability limits equal state’s “assurance levels” • Assurance provisions go into effect in 2012 Deliberative - Do Not Cite or Quote 3 05/24/201 1

# Assurance Penalty Assessment

• If a state exceeds any of its “assurance levels” in a given year, an assurance penalty is assessed on the excess tons

– Final rule imposes a 2:1 assurance penalty; for each excess ton, owners and operators must hold 1 allowance for normal compliance plus 2 allowances for the penalty 

### • Excess tons at the state level must be apportioned to the source level to assess penalties

tons at the state level must be apportioned to the source to assess penalties

– Proposed rule apportioned by ownership; final rule apportions to groups of sources with a common designated representative

– Each group’s share of a state’s excess tons is based on emissions exceeding allocations plus the variability percentage. • Under a 10% variability limit, if the state exceeds, emissions beyond 110% of allocations are deemed excess tons 

### • EPA analysis shows that state exceedances of assurance levels would be uneconomic (and thus exceedingly unlikely to occur) • Penalty is designed to deter state- level emissions from exceeding assurance levels; there is no limit to the degree of interstate trading of allowances Deliberative - Do Not Cite or Quote 4 05/24/201 1

# Assurance Provision Penalty Examples Number of Allowances Allocated Allocation plus share

of variability limit (“Penalty Position”) Total

Emitted Number of Allowances

above Penalty Position Share of Exceedance (%) Penalty

(Allowances) DR1 60 66 75 9 35% 17 DR2 20 22 35 13 50% 25

Deliberative - Do Not Cite or Quote 5 05/24/201 1 • DR1, DR2, DR3, and DR4 are all in the same state. • State budget plus 10% variability limit is 110 tons (100 + 10 = 110). • State exceeded its assurance level by 25 tons (135 - 110 = 25). • Penalty is 50 allowances (2 x 25 = 50). • Some numbers may not add up due to rounding • If state had not exceeded its assurance level (i.e., if DR1 had emitted 50 tons rather than 75 tons), no penalties would have been incurred by any source. DR3 10 11 15 4 15% 8 DR4 10 11 10 - - 0 TOTAL 100 110 135 25 100% 50

# Outlook for Assurance Provisions (I)
• Most comments focused on specific variables (e.g., magnitude of variability limits) but did not suggest alternative structural approaches for assurance provisions

– Several commenters expressed support for their design as a tool to adapt market- based regulations following the CAIR remand • Broad array of support expressed, including from CEG, NextEra, PSEG Services Company, NRG Energy, Broad array of support expressed, including from CEG, NextEra, PSEG Services Company, NRG Energy, Institute of Clean Air Companies (ICAC), KY Division of Air Quality, Metropolitan Washington Air Quality Committee, MS Department of Environmental Quality • “The assurance provisions are likely to be controversial, since EPA will require source owners to surrender allowances in the absence of a [Clean Air Act] violation. However, EPA has to use some mechanism to comply with the Court decision, and we don’t have any better suggestions.” Tennessee Division of Air Pollution Control 

### • EPA solicited comment explicitly on whether to “de- link” allocation from assurance provisions

– Almost all commenters supported retaining this linkage; a few commenters offered qualified support based on the allocation pattern selected Deliberative - Do Not Cite or Quote 6 05/24/201 1

# Outlook for Assurance Provisions (II) • Each unit owner knows its precise “penalty position” at the outset of the program but may also act to change it

– Unit owners may choose to mitigate penalty risk by pooling allowances across multiple units at the designated representative (DR) level, where any penalty would be assessed • Reasonable number of DRs already exist in each state to offer this flexibility • Fleets will take “portfolio approach” to manage assurance penalty exposure



## – Real -time quarterly emissions reporting will provide important signal of state’s progress toward meeting its assurance level

– All relatively higher emitting sources have the same incentive to lower emissions to mitigate penalty risk Deliberative - Do Not Cite or Quote 7 05/24/201 1

# Alternative Penalty Structure
• Of the more than 500 substantive comments on the proposal, four commenters gave an alternative basis for an assurance penalty structure

– Alternative basis is premised on limiting state- by-state pollution with state-specific allowances

– Under the most substantial approach, emitters would have to hold one state-specific allowance and one interstate allowance for each ton emitted

– Necessitates additional intrastate trading program for each state on each covered pollutant in that state (e.g., Texas SO 2, Wisconsin annual NOX, Virginia ozone-season NOX, etc.)

– These 72 additional trading programs (23 for SO 2, 23 for annual NOX, and 26 for ozone-season NOX) would operate in parallel with the four interstate trading programs • Each of these additional programs would require its own state new unit set-aside as well as its own Indian country new unit set-aside • All 76 programs would require unique allowance tracking, technical assistance, and “true up” procedures to demonstrate compliance every period
Deliberative - Do Not Cite or Quote 8 05/24/201 1

# Intrastate Market Power
• EPA analyzed the degree of power sector market concentration in each state

– The Herfindahl - Hirschman index indicates that only 6 Transport Rule states have power markets sufficiently diffuse to assure fair access to intrastate allowances • Remaining states have highly concentrated power markets where individual allowance holders could impair liquidity and increase allowance prices



## – EPA believes intrastate trading would require the Agency to conduct at least 58 separate auctions annually for at least 22 states, with statespecific screening of auction participants to ensure fair access to intrastate allowances Deliberative - Do Not Cite or Quote 9 05/24/201 1

# Potential Impacts on Regulated Sources • EPA has not proposed a parallel inter- and intrastate trading system requiring two different kinds of allowances to be held per ton emitted

– Complexity of operating simultaneous inter- and intrastate systems would create steep “learning curve” for regulated participants and require substantial additional administrative resources

– Could be construed as “double charging” a regulated source for the same permission to emit

– Not clear whether this system would have led to SISNOSE Deliberative - Do Not Cite or Quote 10 05/24/201 1

# Finalizing Assurance Provisions

• EPA believes that the assurance provision structure as proposed “weathered” public comment and remains the strongest approach for preserving interstate market flexibility while adhering to the Court’s opinion in North Carolina to achieve necessary reductions in each state

– As seen in prior market- based programs, sources will use all available information and innovate compliance solutions with reasonable risk management • EPA believes that the alternatives considered would fracture the interstate marketplace (creating dozens of separate markets)

– Would impose significant additional program architecture, potentially inhibiting the market in unforeseen ways

– EPA would have to operate 72 additional trading programs, severely straining Agency resources • Such a structural change would require a major overhaul of the final rule which is not feasible on the June 30 signature deadline • Implementing the alternatives would necessitate a substantial increase in program administration resources • Some alternatives raise procedural concerns Deliberative - Do Not Cite or Quote 11 05/24/201 1