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Citation: 59 Fed. Reg. 16690 1994

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-- The search text of this PDF is generated from uncorrected OCR text.16690 Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

ENVIRONMENTAL PROTECTION

AGENCY

40 CFR Part 51

[FRL-4853-8]

RIN 2060-AD58

Economic Incentive Program Rules

AGENCY: Environmental Protection Agency (EPA). ACTION: Final rule and guidance.

SUMMARY: This action promulgates rules foreconomic incentive programs (EIP's) which either may or must be adopted by States for certain ozone (03) and carbon monoxide (CO)nonattainment areas upon the failure ofa State to submit an adequate showing that an applicable reasonable further progress (RFP) or a specific emissions reductions milestone has been met (in serious, severe, and
extreme 03 and serious CO nonattainment areas) orupon the failure ofa seribus CO nonattainment area to attain the national ambient air quality standards (NAAQS) for CO. Under the Clean Air Act as amended in 1990 (Act). the EPA was required to promulgate final EIP rules for stationary, area, and mobile sources by November 15, 1992; this action is that rulemaking.

The provisions oftoday's rules are also guidance for discretionary EIP's that any State may choose to adopt for any criteria pollutant, as explicitly allowed for in the Act. The Agency views this action as an opportunity to encourage the development and early implementation of appropriate EIP's.In

so doing, the Agency hopes these rules and guidance will stimulate the adoption ofincentive-based, innovative programs, where appropriate, that will assist States in meeting air quality management goalsthrough flexible approaches which benefit both the environment and the regulated entities, allow for less costly control strategies, and provide stronger incentives for the development and implementation of pollution prevention measures and innovative emissions reductions technology.

The EPA intends that the portion of the preamble and rules published today that concern discretionary EIP's constitute guidance, not final action. Final action with respect to discretionary EIP's will occur when the EPA approves or disapproves State implementation plan (SIP)revisions containing discretionary EIP's. EFFECTIVE DATE: The regulations in this rulemaking go into effect on April 7, 1994. ADDRESSES: The-public docket for this action, A-91-56, including copies ofthe public comments on the EPA's February 23, 1993 proposed rulemaking, is available forpublic inspection and copying between 8 a.m. and 4 p.m., Monday through Friday, atthe address listed below. A reasonable feefor copying may be charged. The address of the EPA AirDocket is EPA Central Docket Section, South Conference Center, room 4, 401 M Street, SW, Washington, DC 20460.. FOR FURTHER INFORMATION CONTACT: Mr. Willis P. Beal, U.S. EPA, MD-12, Research Triangle Park, NorthCarolina 27711, telephone (919) 541-5667. SUPPLEMENTARY INFORMATION: The contents oftoday's preamble are listed in the following outline:
I.Background and Purpose

A.Introduction B.Overview C. Principles and Regulatory Elements II.SummaryofRules and Guidance

A.Applicability B.

Definitions C.State Program Election and Submittal D.State Program Requirements E.

UseofProgram Revenues III. Discussion ofRules andGuidance

A.Applicability B.

Definitions C.State Program Election and Submittal D.State Program Requirements E.UseofProgram Revenues IV.Discussion ofComments and Regulatory Changes A.Program Goals B.Interface With Reasonably Available

Control Technology (RACT)and Other Statutory Requirements C.

Program Baseline D.Emission Quantification E.Monitoring, Recordkeeping, Reporting

(MRR) F.State Implementation Plan (SIP)

Creditability G.Audit/Reconciliation Procedures H.Penalties forNoncompliance I.Interface With ExistingEmission Trading

Policies J.General Issues V.Administrative Requirements

A.Executive Order 12866 B.Paperwork Reduction Act C.Regulatory FlexibilityAct

I. Background andPurpose

A. Introduction

The Act, 6s amended in 1990, broadly encourages the use ofincentive-based approaches to control air pollution. This encouragement is reflected not only in the titleIV acid rain program, but also inthe title Igeneral provisions for State and Federal implementation plans for achieving the NAAQS forcriteria pollutants, as well as in the provisions for certain Federal 03 measures. In title I,incentive-based approaches are encouraged, and, in certain cases, mandated, through theuse ofwhat has been termed an "economic incentive program." Today's notice promulgates rules and guidance forEIP's adopted by the States pursuant to titleI ofthe Act.

The Agency views thisaction as an opportunity to encourage and provide guidance on the early implementation of appropriate discretionary EIP's, as well

asto provide mandated rules foruse by States after certain specific failures

occur. The Agency hopes thatthis guidance will stimulate the early adoption ofinnovative, incentive-based approaches, where appropriate, that will assist the States in avoiding such failures, reaching attainment ofthe NAAQS faster than might otherwise

occur solely through the use of traditional regulatory strategies, and lowering thecost ofattaining and maintaining the NAAQS. Through this action, the Agency intends to encourage the development ofEIP's which benefit both the environment and the regulated entities by increasing flexibility and stimulating the use ofless costly strategies, as well as byproviding stronger incentives for development and implementation ofpollution prevention
measures, innovative emissions reductions technology, and strategies beyond those specifically mandated through State and Federal standards and regulations. The Agency believes that these goals can be met by EIP's that also meet the standards ofaccountability and enforceability currently found in traditional regulatory programs.
B. Overview

Today's notice promulgates rules for EIP's which may be adopted by an authorized governing body, including States, local governments, and Indian governing bodies (henceforth State), for certain 03 and CO nonattainment areas pursuant to sections 182(g)(3), 182(g)(5),. 187(d)(3), and 187(g) ofthe Act. These sections mandate for certain area's, and identify as one ofthree options for certain other areas, the use ofEIP's in certain cases. AnEIP is mandated upon the failure ofa State to submit an adequate demonstration showing that the area hasmet applicable milestones for RFP in extreme 03 nonattainment

areas (section 182(g)(5)). AnEIP is identified as one ofthree options upon such failure in serious and severe 03 nonattainment areas (section 182(g)(3)).1 Further, an EIPis also mandated upon the failure ofa State to submit a

IThe other two options are to have the area reclassified to the next higher classification and to implement specific additional measures adequate to meet the next milestone asprovided in the applicable contingency plan.Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

milestone demonstration showing adequately that the area has met a required specific emissions reductions milestone orto attain the CO NAAQS in serious CO nonattainment areas (section 187(d)(3), 187(g)).

Section 182(g)(4)(A) ofthe Act requires that EIP's adopted by States pursuant to the sections ofthe Act cited * above, characterized in today's notice as statutory EIP's, be consistent with the Agency's final rules for EIP's. This. section also requires that such EIP'sbe nondiscriminatory withregard to applicable laws regarding interstate

commerce. In addition, section 182(g)(4)(B) imposes constraints on how any revenues generated by such programs shall be used.The scope ofthe EIP rules includes programs which may be adopted for "reducing emissions from permitted stationary sources, area sources, and mobile sources."'

Other sections oftitle Ialso explicitly. allow forEIP's to be included as provisions in SIP's in general (section 110(a)(2)(A)), as well as specifically in nonattainment area SIP's (section 172(c)(6)). Economic incentives are allowable in Federal implementation plans (FIP's)by definition (section 302(y)), and in Federal 03measures through the system ofregulations for control ofemissions from consumer or commercial products (section 183(e)(4)). Today's notice serves as the Agency's final guidance forEIP~s adopted by States pursuant to the sections ofthe Act relating to general SIP provisions, characterized in today's notice as discretionary EIP's. Discretionary EIP's may be adopted for any criteria pollutant in both nonattainment and attainment areas. C.PrinciplesandRegulatoryElements

The rules and guidance in today's notice arebroadly applicable to any type ofstatutory or discretionary EIP, respectively. This notice requires that EIP's submitted for approval to the EPA

as part ofa SIP for a nonattainment area contain design features that will ensure that the program will not interfere with other requirements ofthe Act and that emissions reductions credited to the program will be quantifiable; consistent with SIP attainment and RFP demonstrations; surplus to reductions required by, and credited to, other implementation plan provisions to avoid double counting ofreductions; enforceable atboth the State and Federal levels; and permanent over the entire duration ofthe program. 2The

2The program need not continue forever to generate permanent emissions reductions. Such reductions can be discrete orcontinuous, Agency does not intend to limit flexibility and innovation beyond those constraints that are necessary to meet these requirements.

This notice identifies key program provisions which must generally be included to ensure that the above requirements will be met. Adequate
program designs will generally inclule the following elements: Clearly defined goals and an incentive mechanism that

can be rationally related to accomplishing the goals; a clearly defined scope, which identifies affected

sources and assures that the program will not interfere with any other applicable Federal regulatory requirements; a program baseline from which projected program results (e.g., quantifiable emissions reductions) can be determined; credible, workable, replicable procedures for quantifying emissions and/or emission-related parameters, as appropriate; source requirements, including those forMRR, that are consistent with specified quantification procedures and allow for compliance certification and enforcement; requirements for projecting program results and dealing with uncertainty; and an implementation schedule, administrative system, and enforcement provisions adequate for ensuring Federal and State enforceability ofthe program. All EIP's for which SIP credit is taken in attainment and RFP demonstrations must include additional elements, such as audit procedures to evaluate program implementation and track results, and, in certain cases, reconciliation procedures to trigger corrective or contingency measures to make up any shortfall between projected emissions reductions and emissions reductions actually achieved in practice.

The rules are, oi necessity, general in nature with regard to criteria for designing adequate program elements. Thisgenerality arises due to the large yariety ofEIP types and designs which
may be submitted, and the Agency's goal ofencouraging creativity and innovation on the part ofthe States developing such programs. There are three broad, interrelated aspects ofany program design that significantly affect the approvability ofan EIP: How the EIP relates to other SIP provisions, the level of certainty in quantifying emissions and projecting EIP results, and the nature and extent ofMRR requirements for enabling determinations of compliance. For example, today's notice

depending on the nature ofthe program. Discrete (i.e., temporary) reductions can be used to defer but not solely to satisfy continuous emission reduction requirements (e.g., RACT). reflects the Agency's viewthat the scope and nature ofMRR requirements, including the extent to which an EIP exceeds the minimum requirements for such, would be among the factors to be considered in assessing the adequacy of any demonstration ofprojected EIP program results. The Agency anticipates preparing additional guidance on specific aspects ofprogram design as it gains experience with EIP's, partly through participation in feasibility and demonstration projects.

Descriptions ofa broad range of general types ofincentive strategies which exemplify potential EIP's are appended to the final rules.These descriptions identify key provisions which distinguish the different model program types. These examples are general in nature so asto avoid limiting innovation on the part ofthe States in developing programs tailored to individual State needs. The EPA has placed in the docket support documents which survey awide range ofEIP's that have actually been implemented, as well asprograms in the design stage. The EPAhas also issued information and guidance, asrequired by section 108(f)(1)(A) ofthe Act, regarding the formulation and emissions reductions potential ofvarious transportation control measures (TCM's).3

The EPA also published interim guidance onthe generation ofemissions reductions credits (ERC's) from mobile

source control programs at the same time the.EIP rule was proposed.4The EPA intends torespond to comments received on this interim guidance and publish finalguidance in conjunction with other EIP-related guidance on ERC banking currently being developed.

The EPA intends that today's notice be consistent with other related rules and policies, either in place or under development, such as the titleV operating permits rules,the titleVII rules forenhanced monitoring, general

3Further information on potential TCM's and other mobile source measures is also contained in

a staff memorandum. "Preliminary Mobile Source Economic Incentive Program Strategies," from P. Okurowski to P. Lorang, March 30, 1992, which is available in the docket.

4 Interim Guidance on the Generation ofMobile Source Emission Reduction Credits, 58 FR 11134, February 23, 1993.For information and copies of the associated technical addendum entitled Guidance forthe Implementation ofAccelerated Retirement ofVehicles Programs, please contact: Mr. Mark Simons, U.S. EPA, 2565 Plymouth Road, Ann Arbor, MI 48105, (313) 668-4417. For information and copies ofthe associated technical addenda entitled (1)Guidance for Emission Reduction'Credit Generation by CleanFuel Fleets andVehicles or (2) Guidance for Mobile Emission Credit Generation by Urban Buses,please contact: Mr.Glenn Passavant,'U.S. EPA, 2565 Plymouth Road, Ann Arbor, MI 48105, (313) 668-4408. 1669116692 Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

guidance on the implementation oftitle I, and policies on emission trading.

II. Summary ofRules and Guidance

A. Applicability

The rules promulgated in today's notice apply to any statutory EIP submitted to the EPA as a SIP revision to comply with sections 182(g)(3), 182(g)(5), 187(d)(3), or 187(g) ofthe Act, which either may or must be adopted by States upon the failure ofa State either

to meet or to submit an adequate showing that an applicable RFP ora specific emissions reductions milestone hasbeen met (in serious, severe, and

extreme 03 nonattainment areas, and serious CO nonattainment areas), or upon the failure ofa serious CO nonattainment area to attain the NAAQS forCO. The provisions contained-in these rules, except as explicitly exempted, also serve as the Agency's policy guidance on any discretionary

EIP's submitted as SIPrevisions.

B.Definitions

The term "EIP" is defined to include State established emission fees, marketable permits, State fees on the sale or manufacture ofproducts the use ofwhich contributes to 03 formation, TCM's, or any combination ofsuch

measures.

C. StateProgramElectionandSubmittal

Undertoday's rules, statutory EIP's submitted as SIP revisions, when applicable, must be sufficient, in combination with other elements ofthe plan, to achieve the next applicable milestone (for serious, severe, and
extreme 03 nonattainment areas), or to reduce the total tonnage ofemissions of CO in thearea by at least 5 percent per year until attainment is achieved (for serious CO nonattainment areas). Discretionary EIP's must not interfere with any applicable requirement concerning attainment and RFP, or any other applicable requirement ofthe Act (section 110(1)).

D. StateProgramRequirements

Today's rules and guidance establish

as a goal for all EIP'sthat they be designed to benefit both the environment and the regulated entities. In addition, EIP's mustbe State and federally enforceable, nondiscriminatory (withrespect to interstate commerce), and consistent with the timely attainment and maintenance of NAAQS, all applicable RFP and visibility requirements, applicable prevention ofsignificant deterioration (PSD)increments, and all other applicable requirements ofthe Act. Programs in nonattainment areas for which credit is taken in attainment and RFP demonstrations shall be designed to ensure that the effects ofthe
program are quantifiable, and that the credit taken is limited to that which is surplus to other SIP-credited requirements. Statutory EIP's mustbe designed to result in quantifiable, significant reductions in actual emissions.

A number ofprogram elements are outlined in the rules which must be included, as applicable, as part ofany EIP design. These elements are required
to delineate program scope, to specify credible, workable, replicable emission quantification procedures and all affected source requirements, to project program results, to specify audit and, if appropriate, reconciliation procedures (to evaluate program implementation, track results, and, as appropriate, trigger corrective or contingency measures), and to define an implementation schedule, administrative procedures, and effective enforcement mechanisms.

E. Use ofProgram Revenues
The rules incorporate statutory restrictions on the use ofrevenues generated by statutory EIP's. Specifically, any such revenues may be used by a State for providing incentives for achieving emissions reductions, providing assistance (up to 75 percentof the costs) for the development of innovative technologies for the control of03 air pollution and for the development oflower-polluting solvents and surface coatings, and funding (with
up to 50 percent ofthe revenues) administrative costs ofState programs under this Act. These restrictions on the

use ofrevenues do not apply to discretionary EJP's.

HI. Discussion ofRules and Guidance

This portion of the notice provides

more detail on the provisions ofthe final rules and guidance.

A. Applicability

The rules published in today's notice apply to any statutory ElF submitted to the EPA as a SIP revision to comply with sections 182(g)(3), 182(g)(5), 187(d)(3), or 187(g) ofthe Act, which either may ormust be adopted by States
upon the failure ofa State either to meet

orto submit an adequate showing that

an applicable RFP or a specific emissions reductions milestone has been met (in serious, severe, and

extreme 03 nonattainment areas, and serious CO nonattainment areas), or upon the failure ofa serious CO nonattainment area to attain the NAAQS for CO. The provisions contained in these rules, except asexplicitly exempted, also serve as the Agency's policy guidance on any discretionary EIP's submitted as SIP revisions. Further, the EPA Will use the provisions contained in these rules as guidance in preparing EIP's, when appropriate, for FIP's necessitated by State failures and for other Federal measures.

The EPA intends to review EIP's submitted as plan revisions based on the general SIP review requirements contained in sections 110(k), 110(1), 182, and 187 ofthe Act, as applicable, and associated Agency policies. For statutory programs, the Agency intends

to review the plan revision and either
approve ordisapprove all or part ofthe revision within 9 months afterthe date ofthe State's submission ofthe plan revision, consistent with section 182(g)(3) and 182(g)(5) of the Act. For discretionary EIP's, Agency action on plan revisions submitted for review will be taken according tothe same schedule

as is applicable to any other type ofplan revision. AnEIP submitted as a plan revision will bedeemed to be approved only upon an affirmative decision by the Agency.

B. Definitions

The definitions in today's notice include many terms drawn from the Act

or other regulations or guidance documents, as well as new terms relating to EIP's. Key new terms are discussed below.

1.Economic Incentive Program

Consistent with section 182(g)(4)(A) ofthe Act, for purposes oftoday's rulemaking, "EIP" is defined to mean a program which may include "State established emission fees or a system of marketable permits, or a system ofState fees on saleor manufacture ofproducts, the,use ofwhich contributes to 03 formation, or any combination ofthe foregoing or other similar measures." In addition, the Act expands this definition to include "incentives and requirements to reduce vehicle emissions and vehicle miles traveled in the area, including any ofthe transportation control measures identified in section 108(0."'

Forpurposes ofthis rulemaking, this notice classifies ElP's into three broad categories: emission limiting, market
response, and directionally-sound. This categorization is based on whether a quantifiable emission-related requirement is'directly specified as an integral element ofthe program or whether the program depends upon marketplace decisions, in response to a program's incentive, to produce the intended emission-related objective of the program. Further, the categorizationFederal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

is a function ofwhether the results of the program are quantifiable.

Emission-limiting strategies directly specify limits on total mass emissions, emission-related parameters (e.g., emission rates per unit ofproduction, product content limits), or levels of emissions reductions relative to a program baseline that are required to be
met by affected sources, while providing flexibility to sources to reduce the cost ofmeeting such limits. A marketable permits program (i.e., emission trading with source-specific mass emissions limitations, orcaps) is a primary example ofsuch a program. Ifevery affected source in such a program complies with its emissions cap (taking into account-both emisions generated by the source as well as any emissions trading), the program will necessarily achieve the specified emissions limits.

A market-response strategy creates

one or more incentives for affected

sources to reduce emissions, without directly mandating emission-related requirements forindividual sources or
even for all sources in the aggregate. An emission feeprogram may be an example ofa market-response strategy. In such a program, each source might be required to pay a fee on each unit of emissions. The response to the incentive, in terms ofactions which affect emissions levels, will be determined by each source according to its abatement opportunities, costs, and other factors. Thus, each source has flexibility in determining its ultimate level ofemissions (within any constraints imposed by other regulatory requirements).

A consequence ofprograms based on market-response strategies is that actual emissions from affected sources may differ from the pre-implementation projected emissions level even ifevery affected source is in full compliance with theEIP requirements. This added degree ofuncertainty in program results must be accounted for in designing such

a strategy (see paragraph III.D.6.).

Directionally-sound strategies do not yield quantifiable emissions reductions creditable towards RFP or attainment demonstrations. Such strategies may be included in an area's attainment plan, without credit, or in a maintenance plan ifthe strategy contributes to the area coming into ormaintaining attainment. Emissions reductions from such programs are not creditable towards RFP

or attainment demonstrations because the program lacks one or more ofthe basic program elements, such as a quantifiable program baseline or adequate emissions 'quantification procedures. However, a State may want to pursue such a strategy as a part of their overall program to attain and maintain the NAAQS. Directionally- sound strategies must notbe used as the primary basis for any statutory EIP submitted pursuant to sections 182(g)(3), 182(g)(5), 187(d)(3), and 187(g) ofthe Act.

A number ofdifferent types of incentive strategies have been identified upon which EIP's could bebased. Appendix X contains descriptions of different types ofstrategies, together with a listing ofthe TCM's included in section 108(0 ofthe Act. There is not, however, in all cases a direct correspondence between a type of strategy and the regulatory categories described above, since program design details can in some cases make a difference in the extent to which program results are quantifiable or dependent on market response. 2.Program Baseline

The determination ofa program baseline is the first step in projecting program results. Results from EIP's can be projected in terms ofquantifiable emissions reductions, or, inthe case of directionally-sound programs, interms ofother emission-related parameters. Further, some types ofincentive strategies depend upon the establishment ofa program baseline, in

- terms ofalevel ofmass emissions or emission-related parameter(s), for each affected source or aggregated overall affected sources, as a starting point for the incentive program mechanism. For example, a marketable emissions permit program could be initialized by a program baseline that allocates to each

source a cap on mass emissions that

serves asits starting point for any emissions trading transactions or future emissions reductions requirements. For other types ofprograms, thisprogram baseline could be defined interms of emission-related parameters, such as average emission rates, solvent content,

or vehicle ridership factors.

3.Nondiscriminatory

Section 182(g)(4) provides that statutory EIP's mustbe "nondiscriminatory" and mustbe "consistent with applicable law regarding interstate commerce." The EPA interprets these requirements to

mean that a statutory EIP must not discriminate in favor ofintrastate

commerce and against interstate

commerce. In addition, an EIP must meet any other applicable limitations under the Commerce Clause ofthe U.S. Constitution.For example, State taxes must meetthe requirements, to the extent applicable to the tax, set out by the U.S. Supreme Court in Complete Auto Transit, Inc. v. Brady,430 U.S. 274 (1977). There, the Court stated that a State tax will pass scrutiny under the Commerce Clause only if "the tax is applied to an activity with a substantial

nexus with the taxing State, is fairly apportioned, doesnot discriminate against interstate commerce, and is fairly related to the services provided by the State." Id.at 279. Under the EPA's interpretation, Congress did not intend, by the provisions authorizing EIP's, either statutory or discretionary, to delegate its authority under the Commerce Clause to the States, and thereby release State EIP's from the limitations that would apply under the Commerce Clause had Congress not specifically authorized the EIP; rather, Congress intended to maintain those limitations.

C.StateProgram ElectionandSubmittal
The mandated schedules for the development, submittal, review/ approval, and implementation of statutory EIP's, submitted pursuant to sections 182(g)(3), 182(g)(5), 187(d)(3), and 187(g) ofthe Act, may leave as little

as 6 months for the EIP to be operational priorto the next milestone requirement. Thus, in these cases, the time available
to develop, implement, and achieve emissions reductions from an EIP will be extremely limited if a State waits until a milestone failure occurs to initiate the selection and development ofa statutory EIP. As a result, theEPA encourages States to initiate development ofan EIP as soon as they determine that a milestone failure is likely, or even sooner, as part oftheir SIP.

States.are encouraged to consider inclusion ofdiscretionary EIP's, where appropriate, in the SIP's (or SIP revisions) due within the first 4 years after enactment ofthe amended Act (e.g., sections 182 (b)(1) and (c)(2), 187(a)(1)). Submittal at that time would

more likely allow sufficient time to develop, implement, and evaluate the effectiveness ofthe program. Ifsuch an early EIP submittal is made, States must account for the effects ofthe EIPin any subsequent required SIP submittals. Nothing in today's notice precludes a State from revisiting and amending its original EIP, orany other pre-existing rules, asnecessary, to eflsure consistency with any subsequent required SIP submittals.

The requirements ofsection 182(g)(3) and 182(g)(5) ofthe Act apply any time that a State fails to submit an adequate milestone compliance showing, or when theEPA determines that a milestone has been missed by an area covered by these provisions. For example, if such a16693W-694 Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

milestone is not metby a serious or

severe 03 nonattainment area, the area may elect among three options, including an EIP.The Act does not provide any additional or different requirements that would apply when a State that missed one milestone, and makes a proper election, misses a subsequent milestone. Accordingly, if a subsequent milestone is missed, the

same choices are available, indluding the election ofan EIP.Thus, the imposed requirements or specified options apply not only the first time that

a milestone is missed, but also if subsequent milestones are missed even ifan EIP had previously been implemented. Similarly, the EPA interprets section 187(g) (requiring serious CO nonattainment areas that fail
to attain to adopt an EIP) as applying

even ifthe area previously missed a milestone and adopted an EIP pursuant to section 187(d)(3). A second missedmilestone program must provide reductions beyond the reductions from

a first statutory program. The second
EIPmay eitherbe a new program or a substantive revision ofthe first program.
D.StateProgramRequirements

Undertoday's rules, EIP's mustbe State and federally enforceable; nondiscriminatory (with respectto interstate commerce); and consistent with the timely attainment and maintenance ofNAAQS, all applicable RFP and visibility requirements, applicable PSD increments, and all other applicable requirements ofthe Act. Programs in nonattainment areas for which credit is taken in attainment and RFP demonstrations shall be designed to ensure that the effects ofthe program are quantifiable and that the credit taken is limited to thatwhich is surplus to other SIP-tredited requirements. Statutory EIP's must be designed to result in quantifiable, significant reductions in actual emissions.

Each ofthe program elements that
must be included, as applicable, in an EIP submitted to the EPA as aplan revision are described below. For EIP's that allow trading to meet existing

source requirements, theEPA will consider a two-step process for State submittal and EPA review ofthe
program elements ontlined below. Under such a step-wise process, the initial submittal shall include both a framework for all the general elements ofprogram design, as well as all the specific regulatory details for a sourcespecific trade or for an entire source category, which trade or source category isrepresentative, with respect to all program elements, ofthe types of trading to be allowed under the general framework. For example, for an EIP designed to directly implement trading within source categories, the initial submittal shall include the full details ofall program elements forat least one

source category. Alternatively, for an EIP designed to implement trading on a source-by-source basis, with EPA review ofeach trade,the initial submittal shall include the full details ofall program elements for at least one source-specific trade. Thus,required specific aspects of the emission quantification procedures and MRR requirements foradditional

sources and/or source categories could be submitted ata later time to allow the State to phase-in the application ofthe program to other individual sources or

source categories. Because adequate enforceability elements-including emissions quantification procedures,
test methods, and MRRrequirementsare integral to any SIP program, approval by the EPA ofa framework for trading would constitute approval only ofthe framework elements included as part oftheinitial submission and of trading forthose sources or within those

source categories submitted with the framework and approved for trading by the EPA. Trading involving other

sources orsource categories could not

occur until all elements, including enforceability elements, were approved by theEPA through a subsequent step in the process. The EPA will apply the

same criteria inreviewing step-wise submittals ofemission quantification and MRR requirements as in reviewing such requirements submittedtogether with the other program elements. Thus,

a subsequent submittal must be fully compatible with all the elements in the initial submittal, and, taken together, both submittals must meet all the requirements ofthe EIP rules and guidance. The EPA does not intend to consider use ofthis step-wise process for EIP'sthat mandate new requirements for affected sources (e.g., requiring mass emission caps on sources previously required to meet emission rate limits).
1.Program Goals and Rationale

An acceptable EIP mustclearly define the goals ofthe program and provide a rationale relating how the program design will accomplish the goals. These final rules and guidance establish as a goal for all EIP'sthat they be designed
to benefit both the environment and the regulated entities.The finalrules and guidance require States to design
programs that.willmeaningfully meet this goal, while providing flexibility to the States to determine how best to accomplish such "benefits sharing" in the context of each specific program. The term "benefits" isbroadly defined to includenot only economic benefits, such as cost savings and compliance flexibility forthe regulated
sources, but also environmental benefits that will result in States reaching attainment ofthe NAAQS faster than might otherwise occur solelythrough the use oftraditional strategies. Environmental benefits can becreated
most directly by EIP's that require increased ormore rapid emissions reductions beyond those thatwould be achieved through atraditional regulatory program. Specifically, a 10 percent increase in emissions reductions would presumptively meet thisbenefits sharing goal. Alternatively, environmental benefits can alsobe achieved by programs that incorporate, for example, improved administrative mechanisms (e.g., that achieve emissions reductions from sources not readily controllable through traditional regulation), reduced administrative burdens onregulatory agencies that result in increased environmental benefits through other regulatory programs, improved emissions inventories that enhance and lend increased certainty to State planning efforts, and the adoption ofemission
capswhich overtime constrain or reduce growth-related emissions beyond traditional regulatory approaches.

Statutory EIP's will benefit the environment asa result ofthe requirement that they be designed to result in-significant reductions in actual emissions. For discretionary E1P's, no standard formula forbenefit sharing is specified, although the EPA encourages States,to the extentpracticable, to design such programs so as to create most directly increased ormore rapid emissions reductions (see paragraph IV.A.2).

The EPA notes that any incentivebased program has the potential to create incentives for pollution prevention and technological innovation. Such an inherent potential benefit can only meaningfully meetthe goal ofproviding benefits to the environment ifthe program is specifically designed to'allocate some of the effects ofsuch innovation to enhancing environmental progress. Likewise, forthe other-ways listed above in which environmental benefits

can be accomplished, the EPA intends that these approaches bemeaningfully implemented so as toproduce real environmental benefits.

A well-designed EIP will achieve a number ofdifferent kinds of environmental benefits. For instance, a marketable emissions permit program, with mass emissions caps decliningFederal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

over time, may achieve several results. The declining cap aspect ofthe program
can result in real emissions reductions creditable towards RFP milestones and attainment (to the extent that actual emissions are reduced). The marketable aspect ofthe program allows emission

sources facing differing costs offurther emission control totrade, lowering overall control costs. Such programs also encourage sources already able to meet theirmass emissions caps to find ways offurther reducing emissions beyond what would otherwise be required by traditional regulatory programs (e.g., through pollution prevention, technological innovation, or changes in operational procedures).

Statutory EIP'so submitted because of failures in achieving required emissions reductions, must make a significant contribution to the required reductions, while not necessarily bearing the full burden ofachieving all the required reductions ormandating any specific percentage reduction. A program producingno additional emissions reductions orone based solely on a directionally-sound strategy, without quantifiable benefits, would not satisfy these criteria for anacceptable statutory EIP. For discretionary EIP's, the final guidance relies upon the new State planning, quantitative progress, and attainment requirements in the Actto

ensure expeditious attainment ofthe NAAQS, regardless ofthe type of programs that Statesmay choose to include in their SIP's.

Any EIP should include arationale for how the incentive mechanism(s) will achieve the stated goal(s). A State can create abetter overall program design by carefully examining and explaining the linkagebetween a program's provisions and the desired outcome. The provisions ofa programmust be sufficient to ensure the program goals

are successfully achieved without creating unintended detrimental side effects.
2. Program Scope

As with any regulatory program, an EIP must identify the affected sources covered by theprogram. The affected

sources may be defined on thebasis of

source type (e.g., manufacturing operations), activity type {e.g., fuel storage tanks), location, firm size, quantity ofemissions, or other such characteristics. In addition, a State may choose to grant exemptions from program requirements to sources meeting specified criteria.For example, States may considerexempting zeroemitting vehicles from a new parking priceprogram. In establishing the affected source criteria, aState must assure that theresultant program is nondiscriminatory within the meaning given that term inthese rules.

The program must establish procedures fordealing with sources entering or exiting affected source categories. In order to promote economic growth consistent with achieving environmental goals, a regulatory program should not create unwarranted barriers to entry for new or expanding business entities.

In addition, the program must establish criteria and procedures for

sources voluntarily choosing to opt-in to

orto be exempted from the program, to the extent that theprogram design allowsfor such movement intoor out of the universe ofaffected sources. For example,the title IV acid rain allowance tradingprogram includes provisions for

sources not originally in the program to opt-in to the program in order to sell sulfur dioxide (SO2)emission allowances to sources already inthe program. Certain EIP's may also provide criteria forexempting sourcessuch that theycan leave the program; such criteria must be described and the procedures forleaving theprogram mustbe included inthe EIP. Any such procedures must ensure that movement intoor out ofthe program will not interfere with other statutory requirements nor result in an increase in area-wide emissions that is notreflected inthe plan's attainment orRFP demonstrations. Finally, the opt-in program language must specify that it will not allow sources to opt-in ifthe net result ofthe opt-in program as a whole is toincrease area emissions, unlesssuch increase has been accounted forin the development ofthe EIP, and is consistent with attainment and maintenance ofthe NAAQS, RFP, and all other SIP requirements.

Affected sources in an EIPmay also be covered by otherFederal regulatory requirements. AnEIP maynot interfere with applicable requirements concerning attainment and RFP, or any other applicable requirements ofthe Act.Thus, the program scope must be defined so asnot to interfere with any other Federal regulatory requirements which apply to the affected sources. Such requirements for stationary

sources may include, but are notlimited to, reasonably available control technology (RACT), PSD and new
source review (NSR) offset requirements, lowest achievable emission rate (LAER), best available control technology (BACT), new source performance standards (NSPS), national emissions standards forhazardous air pollutants (NESHAP's), acid deposition program requirements, reasonably available control measures (RACM), and bestavailable control measures (BACM). Such requirements formobile sources may include,but are not limited to, programs integral to vehicle inspection and maintenance (UM), clean-fueled fleets, reformulated gasoline, oxygenated fuels,employee commute options 

### (ECO), TCM's. and Federal motor vehicle controls.

In general, sources subject to these statutory requirements may participate in emissions tradespursuant to an EIP

as longas,apart from theirparticipation in such trades, they continue to meet the statutory requirements. Thus, if these sources reduce their emissions below what theapplicable statutory requirements call for, the reductions beyond the requirements may furnish credits-for the EIP.5 Following isa more specific discussion ofthe interplay of the EIP rules with several ofthe statutory provisions listed above.

RFP Requirements.Credits for emissions reductions from stationary, mobile, orarea sources may generally be used to meet the "progress" requirements ofthe nonattainment provisions oftheAct. The SIP's for 03 nonattainment areas classified as moderate orhigher under section 181(a)(1) are required to provide for reductions in volatile organic compounds (VOC) ofat least 15 percent from baseline emissions by 1996, and

areas classified asserious orhigher are required to provide forreductions ofat least 3 percent each year (averaged over
a3-year period) thereafter until the attainment date (section 182(b)(1), 182(c)(2)(B)). Emissions reductions from all sources may beused to meetthese progress requirements, except for those reductions attributable to Federal motor vehicle programs and RACT and NSR corrections (section 182(b)(1) (C)-(D)).

RACT. An EIP may allow sources 'subjectto the RACTrequirement to attain RACT-level emissions reductions in the aggregate, and thereby trade amongthemselves. Indesigning such RACT trading programs (to implement

new and/or previously existing RACT requirements), aswith any EIP,States

are encouraged, to theextent practicable, to meet thebenefits sharing. goal directly, by requiring increased emissions reductions beyond thosethat would be achieved through a traditional RACT program.

5For example, since VOC reductions that occur
as aresult ofcontrols put inplaceto meet NESHAP's arecreditableto RFP, suchVOC reductions cannot be considered as surplus to supplyVOC credits through anElP.However, ifin sucha case greater than required reductions are made, the incremental VoC reductions could furnish credits through anEIP. 1669516696 Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

In addition, today's rules and guidance authorize emissions trading between the stationary sources subject to the RACT requirement ("RACT sources") and any sources (i.e., stationary, mobile, and area sources)not subject to the RACTrequirement ("nonRACT sources") when such trading results in an exceptional environmental benefit, e.g., a level ofreductions that is significantly greater than RACT-level
amounts. With respectto the level of emissions reductions required from the non-RACT sources, the appropriate amount ofemissions reductions generally should be set at a level that takes into account the severity ofthe nonattainment status in a given area.

Today's rules establish the statutory offset ratios fornonattainment areas as the determinant ofthe amount of emissions reductions that would be required from non-RACT sources , generating credits for RACT sources. The offset ratios are lower forlowerclassified areas (e.g., compare section 182(a)(4), with a 1.1 to 1offset ratio for marginal areas, and section 182(d)(2), with a 1.3 to 1offset ratio for severe areas). Looking to offset ratios is instructive'because offsets are an aspect ofemissions trading that is directly addressed in the Act. The offset ratios provide a suitable analogy because they represent the most substantial benefit to the environment for a given area that-is required in this statutory context of emissions trading.

However, today's rules authorize emissions trading between RACTand non-RACT sources at less than the offset ratios ifexceptional environmental benefits are otherwise demonstrated, such as, for example, an emissions trade that promoted the market penetration of emissions reduction measures for nonRACT sources, such that future emissions reductions from the universe ofnon-RACT sources would be expected to increase overtime. Such

measures could include new vehicle technologies that utilize alternative fuels, providedthat such technologies meet all relevant EPA standards and guidelines. Where a lower trading ratio is authorized in orderto promote the market penetration ofan environmentally-beneficial, new control
measure, a lowerbound forthe trading ratio of 1.1 to 1will assure that in all events some additional benefit will,

accrue to the environment. In setting the appropriate ratio for trades between RACT and non-RACT sources, States may also take into account additional State and federally-enforceable emissions reductions that are achieved

as aresult ofother exceptional environmental features ofan EIP (such as a separate "environmental bonus." provision, as discussed inEPA's Interim Guidance on the Generation ofMobile Source Emissions Reduction Credits). In

no case, however, can a trading ratio be lower than 1to 1,and in no case can the effective trading ratio be less than the appropriate offset ratio (or such ratio, as low as 1.1 to 1.0, asmay be authorized to promote themarket penetration ofenvironmentallybeneficial, new control measures). Offsets.Credits for emissions reductions generated by stationary, mobile, or area sources-maybe used for purposes ofmeeting the offset requirement for major new and modified sources in nonattainment

areas so long asthey meet the restrictions imposed on offsetsby section 173 ofthe Act and the EPA's

new source review regulations (40 CFR 51.165 and part 51, appendix S). Under the nonattainment provisions, new or modified major stationary sources may not receive permits for construction and operation in a nonattainment area unless, among other things, their new emissions are offsetby reductions from other sources in the area (section 172(c)(5), 173(a)(1)(A)). For 03 nonattainment areas, minimum offset ratios range from 1.1 to I formarginal

areas to 1.5 to 1 for extreme areas (section 182(a)(4), 182(b)(5), 182(c)(10), 182(d)(2), 182(e)(1)).

However, the Act does not require that offsets be secured by the new
source. Rather, anyportion ofthe necessary offsets may begenerated by the local air quality district orby the State. In other words, ajurisdiction may set up an offset "bank" to supply new
sources with sufficient emissions reductions to satisfy their offset obligations. To satisfy the requirements set forth in section 173, each time a new
source commences operations, the jurisdiction must have already generated the necessary emissions reductions to offset thenew emissions. This means that thejurisdiction must be able to demonstrate that the program has secured sufficient excess emissions reductions to offset all new emissions at the proper ratio. Ifthe source itself is .onlyheldresponsible for securing emissions reductions in an amount equal toits new emissions (i.e., a I to 1ratio), the SIPmust generate sufficient reductions to cover the extra reductions required (e.g., 1.2 to 1in serious 03 nonattainment areas).

The Act limits offsets to emission reductions not "otherwise required by this Act." As part ofthe "General Preamble forthe Implementation of Title Iofthe Clean Air Act Amendments of 1990," the EPA described certain circumstances under which reductions would notbe creditable for offset
purposes because thosereductions are required by other provisions ofthe Act (57 FR 13498, 13553 (April 16, 1992)). In addition, the EPA intends to provide additional guidance regarding offsets in the near future.

BACT andLAER. Both the PSD
program and the nonattainment NSR program contain technology-based emission limitations that are source specific. The Act expressly requires that these emissions limitations (i.e., BACT in the case ofPSD and LAER in the case ofNSR) be met by the proposed major

new source ormajor modification itself

as a condition of permit issuance. Consequently, neither ofthese requirements can be met through emissions trading.

Regarding BACT, section 165(a) ofthe Act provides that no major new source

ormajor modification may be constructed in a PSD area unless the requirements in section 165(a)(1)-(8) are met. Section 165(a)(1) specifies that
among these requirements is "a permit * * *'settingforth emission limitations for such facility which conform to the requirements ofthis part." Section 165(a)(3)(C) further specifies that the proposed facility must demonstrate that emissions from the facility will not exceed any applicable emission standard under the Act.6 The applicable emissions limitations are those provided in section 165(a)(4), which provides that the proposed facility must "be subject to the best available control technology for each pollutant subject to regulation under thisAct emitted from, or which results from, such facility."7

The Act sets forth a similar statutory scheme with respect to LAER. Section 173(a) provides thatthe permit program applicable to major new sources or major modifications, which is required
to be included in part D SIP's under section 172(b)(5),8 shall provide that permits to construct and operate may be issued only ifthe requirements set forth in section 173(a)(1)-(5) are met. Among these enumerated requirements is

"Section 302(k) ofthe Actdefines the terms .emission limitation" and "emission standard" interchangeably.

7Section 169(3) in turn defines BACTas "an emission limitation based on themaximum degree ofreduction ofeach pollutant subject to regulation under this Act emitted from orwhich results from any major emitting facility, which the permitting authority, ona case-by-case basis, taking into account energy, environmental, and economic impacts and other costs.,determines isachievable for such facility."

8Section 173(a) incorrectly refers tothe.'permit
program required by section 172(b)(6)." Section 172(b)(6) was renumbered as section 172(b)(5) by

.the 1990 Amendments. Apparently, this change was not picked up by the drafters ofrevised section 173.Federal Register 

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section 173(a)(2), which specifies that "the proposed source is required to comply withthe lowest achievable emissionrate." 9

The statutory provisions addressing both BACT and LAER clearly require the permitting authority to set, and the

source owner to comply with, the applicable technology-based emission limitation. There is noprovision in the
statute for lawfully complying with BACT or LAER through obtaining emissions reductions at other sources that would result in an equivalent reduction ofemissions or ambient concentrations.

InspectionandMaintenance Programs. The I/M provisions ofthe Act require a vehicle IIM program that
meets specified performance standards. The requirements oftheI/Mprovisions
cannot be met by obtaining ERC's from

sources other than vehicles, or from vehicles through means other than I/M ofthe vehicle. AnEIP may not substitute entirely for an enhanced-or basic periodic vehicle I/M program.

Thisview is based on the provisions oftheAct that set forth requirements for

abasic I/M program, as well as certain provisions relating to enhanced I/M programs. Sections 182ja)(2)(B)(i) (I/M "fix-ups" for Os nonattainment areas classified marginal and higher), 162(b)(4) (I/M"catch-ups" for 03 nonattainment areas classified moderate and higher), and 187(a)[4) (LIM "fix-up" requirement for COnonattainment areas classified moderate and higher) each require a SIPrevision that includes provisions for a "vehicle inspection and maintenance program" that meets a specified performance standard.

The provision for an enhanced JYM
program for COnonattaintment areas classified as moderate and with adesign value higher than 12.7 ppm, or classified asserious, requires the SIPto include provisions for "an enhanced vehicle inspection and maintenance
program as required in section 182(c)(3) (concerning serious 03nonattainment areas)" (section 187(a)(6)). This provision confirms that the required I/ M program is in fact a vehicle I/M
program. Theprimary provision for an enhanced I/Mprogram for03 nonattainment areas classified as serious orhigher does not include a comparable "inspection and maintenance" phrase (i.e.,requires the SIP "to provide foran enhanced

9Section 1tSt3) defines LAERas "that rate of emissions which reflects" either "the most stringent emission limitation which'iscontained in (anySIP) for such class orcategory ofsdurce," or "the most stringent emission limitation which isachieved in practice by suchclass or category ofsource, whichever ismore stringent." program to reduce hydrocarbon emissions and nitrogen oxides (NOx) emissions from in-use motor vehicles"), butit further includes specific requirements for various typesof testing, inspections,etc., that make clear that the program must obtain reductions from vehicle I/M (section 182(c)(3)).

Nevertheless. both the basic IIM program and the enhanced I/M program requirements authorize a substantial degree offlexibility in program design. The Act directs theEPA to requirea specific amountofemissions reductions, butalsoauthorizes the State to design the program in a manner that
meets the EPA established performance standard through different means. The EPA's final rule onI/M programs describes the EPA's performance standards and the ways that States can meetthose standards (57 FR 52950- 53014). In so doing, theState can take advantage ofeconomic efficiencies (e.g., have a bettertest on moreolder cars to get greater performance, inexchange for

some relaxation inanother element). In addition, States couldaddress malmaintenance in the vehicle fleet in part by including an old car scrappage program as an element ofthe overall package usedto meet the performance standard. However, the SIPmust include a program obtaining the required reductions through vehicle inspections. .3. ProgramBaseline
AnEIP baseline must be fully defined within the EIP,and used asa basis for projecting program results and, if applicable, for initializing the incentive mechanism. States haveflexibility in defining the program baseline forEIP's that implement new RACTrequirements forpreviously unregulated source categories through trading programs, as long as the new RACT requirements reflect, totheextent practicable, increased emissions reductions beyond those that would be achieved through a traditional RACTprogram. States may also use a flexible baseline forEIP's that allow trading with respect to newly imposed RACT requirements on previously unregulated sources in a, previously regulated source category (e.g., sources newly covered by lower applicability cut-offs), as long as the EIP, in the aggregate,yields reductions in actual emissions at leastequivalent to those which would result from sourceby-source compliance with the existing RACTlimit forthat source category. Thisrequirement canbe satisfied by using existing dataon actual and allowable emissions from the previously regulated sources in the affected source category (seeparagraph IV.C.). A Statealso has flexibility in defining the program baseline for any EIP submitted in conjunction with, or subsequent to, the submission ofany complete areawide progress plan due at thetime ofEIP submittal (e.g., the 15 percent RFPplan (section 182(b)(1)) and subsequent 3percent plans (section 182(c){2))), and/or an attainment demonstration.

In all such cases, the flexible program baseline maybe based onactual, allowable, or some otherintermediate 10

orlower level ofemissions, provided the Statedemonstrates thatthe program baseline isconsistent with and reflected in the associated RACTrule, progress plans,or attainment demonstration. Further, forEIP'ssubmitted priorto the submittal ofarequired progress or attainment demonstration, the State must include with itsEIP submittal a commitment that its subsequent attainmentdemonstration and all future progress plans willbe consistent with theEIP baseline in effect at that time, as well as a discussion ofhow thebaseline will be integrated into the State's attainment demonstration. Further, in this discussion, the State shouldtake into account the potential that emission reduction credits issued prior to the attainment demonstration may no longer be surplus relative tothe attainmentdemonstration. I

Conversely, for EIP'sthat do not meet theabove conditions relating to RACT and progress requirements, the program baseline mustbe setno higherthan the lower ofactual or allowable emissions. Actual emissionsare to be taken from themost appropriate inventory, such as the 1990 actual emission inventory (which was due for submission in November 1992), and allowable emissions are the lower ofSIPallowable emissions orthe level ofemissions consistent with source compliance with all Federal requirements related to attainment andmaintenance ofthe NAAQS.

In addition, following submission of

anELP that incorporates a flexible baseline, ifthe State fails to submit a complete attainment demonstration, or ifthe EPA disapproves the attainment demonstration on thegrounds that it does notprovide for attainment ofthe NAAQS, the EPA may require the State to incorporate in theRIP aprogram baseline setno higher than the lower of actual or allowable emissions.

leA typical intermediate baseline may consist of

a SIP-allowable emission rate and an actual level of production.

"For example,the State could establish an

escrow account ora formula forprorats reductions ofcredits to covercredits thatsubsequently are no longer surplus. 1669716698 Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

The baseline for an EIP submitted in conjunction with an attainment demonstration must beconsistent with theassumptions employed in the attainment demonstration, including the location ofemissions assumed in the photochemical grid modelling, if applicable.

Inconsidering emissions trading, the EPA continues to focus on the aspect of trading that involves the relaxation ofa control requirement on a particular emissions-producing unit (the creditreceivingunit). Under trading programs, thisrelaxation is offset by tightening the control requirements on another emissions-producing unit (the creditgenerating unit).Under section 110(1), this relaxation is authorized only ifit, taken in conjunction with the tighter control requirements, does not interfere with the ability ofthe SIPto meet the various requirements ofthe Act-most importantly, forpresent purposes, the RACT requirement and the requirements for progress (e.g., forRFP in 03nonattainment areas, 15 percent reductions in VOC emissions by 1996; and 3percent-per-year over each 3-year period until the attainment date), as well as attainment requirements- It is understood thatwhen the creditgenerating unit's actual emissions are below the level mandated by the applicable control requirement, relaxing

a control requirement on the creditreceiving unit in exchange fortightening the requirement on the credit-generating unit may result in an increase in aggregate actual emissions. Under these circumstances (i.e., trading froman allowables baseline), the relaxation and its resulting increase in actual emissions could, in some circumstances, jeopardize RFP and attainment.

As described above, notwithstanding the chance ofactual emissions increases, EIP's may authorize trading from an allowables baseline when the EIP is submitted in conjunction with, or following, the submission ofthe applicable progress plans, and the allowables baseline is consistent with those plans. Under these circumstances, trading on the basis ofallowables would
not jeopardize the progress requirements. In somecases, the EPA will permit trading to occur onthe basis ofallowables prior to submission ofthe attainment demonstration SIP. However,

once the State has submitted any applicable progress plans due at the time ofEIP submission, the State has made significant progress towards attainment. This significant progress, coupled with the sanctions provisions that provide strong safeguards that the State will develop a SIP requiring any subsequent progress plans and an attainment demonstration, provide, in the EPA'sjudgment, sufficient evidence that an EIP authorizing an allowables baseline submitted inconjunction with

an applicable progress plan will not jeopardize continiied progress or attainment. In addition, States and

sources should be aware that any emission limit relaxations approved through an EIP may be subjectto ongoing scrutiny, and further tightening, ifit is unexpectedly necessary to do so

aspart ofan attainment demonstration.

Inaddition, as described above, the EPA willpermit EIP'sthat authorize trading from an allowables baseline in the case of source categories, or portions ofsource categories, that are newly subjected to the RACT requirement under the RACT "catch-up" provisions ofsection 182(b)(2). Under these circumstances, the imposition ofRACTlevel controls meetsthe RACT requirement, as described above, and is expected to result in emissions reductions with respect to the affected

source categories or sources taken asa whole, even ifsome ofthe affected

sources conduct emissions trades based

on allowables. The factthat overall emissions from these source categories

or sources will be reduced indicatesthat with respect to these source categories, progress is being made towards attainment. This progress provides adequate assurance that any such trades

on an allowables basis will not jeopardize progress orattainment requirements.

Ifa SIP does not include arequired RACT emission limitfor a source, that

source may not participate in an EIP until an appropriate RACT limit is determined.

The provisions described above apply

as well in the case ofa statutory EIP; That is, under the circumstances described above, a statutory EIP may incorporate a flexible baseline as long as the EIP asa whole provides the required reductions.

A State may define a program baseline
to address a variety ofequity considerations, such asdiffering degrees ofemission control among affected

sources prior to the start ofthe EIP. While emissions reductions creditable towards a specific required demonstration willbe calculated according to the requirements for that demonstration, the EIPmay use a differentbaseline. For example, a declining value marketable permits
program, submitted in conjunction with

an areawide RFP orattainment plan, could initially allocate mass emissions caps on the basis ofallowable emissions.However, to the extent that such a program baseline exceeds the aggregate actual emissions for the

sources covered bythe program, the EIP baseline allocation would berequired to decline ata rate consistent with achieving the areawide RFP milestone

as measured againstthe RFP baseline.

TheEIPmust clearly specify whether the program baseline applies to aggregate emissions from all affected

sources (similar to the RFP baseline) or to individual sources (similarto sourcespecific LAER requirements, for example). Ifhistoric emissions are relevant in setting the programbaseline, the time period must be specified in the
program. Provisions mustbe made for determining baselines for sources not active during the specified baseline time period. Also,the averaging time associated with a program baseline for emissions must be specified.
4. Quantification Procedures

An EIP must describe how emissions andchanges in emissions will be quantified for SIP credit. Ifother measurable factors are essential toan EIP, the quantification procedures for those mustbe specified in the program. Forinstance, ifemissions reductions are generated byreducing total usage ofa type ofsolvent, procedures for measuring solvent usage are critical. The program must specify the minimum required credible, workable, replicable procedures for quantifying emissions, which could include emission factor calculations, direct emission monitoring, calculation procedures which are a function ofprocess parameters, production practices or volume, or inventory usage, or other procedures, as appropriate. Criteria for selecting quantification methods and time-averaging considerations are discussed below.

States must carefully consider matching their environmental goals with various aspects ofthe program when determining-adequate quantification procedures. For example,

a procedure wholly adequate for determining compliance with long-term

mass emissions caps may be clearly inadequate for a program aimed at limiting peak dailyemissions.

AnElP must establish procedures for quantifying emissions reductions arising from sources that shut down orcurtail production. A State may not take credit for such emissions reductions as part of

an EIP ifthe same reductions have already received credit in the SIP's attainment or RFP demonstrations. For example, SIP demonstrations may , include assumptions about equipment turnover rates and normal operating levels which may already credit some assumed rate ofsource shutdowns and

### Federal Register 

### /Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

curtailments. Credit also cannotbe taken for shutdowns orcurtailments that do not result in a decrease in an area's aggregate emissions. Changes in emissions at one source may merely increase emissions atanother. For example, ifone retail operation goes out ofbusiness, the total level ofretail business will notnecessarily change. Instead, customers may shift their business to other merchants inthe area. The effect on aggregate emissions of such "demand shifting" will depend upon the nature ofthe business, and shouldbe considered in the design of the EIP.

An EIPalso must establish procedures for quantifying emissions from sources with uneven emission patterns due to batch, seasonal or cyclical operations. The appropriate procedure forhandling these expected fluctuations in emissions will depend in part on the emissions averaging timeupon whichthe EIPis based.

TheEPA recognizes that the development ofquantitative procedures for mobile sources can present significant challenges. Such procedures mustconsider, as appropriate, the factors which will affect or determine the level ofparticipation in a , transportation program, as well ashow much and where vehicles are driven. Such procedures should clearly address how double-counting willbe avoided

across various mobile source programs (e.g., not double-counting I/M program reductions in quantifying credits from

an accelerated vehicle scrappage program). Any assumptions ormodels which States may use to predict behavioral modifications as a result of the implementation ofan economic incentive strategy mustbe presented as support information with the EIP submittal. The EPA views the development ofsound incentive-based mobile source programs as an opportunity forthe design ofbetter,

more rigorous tools foraccounting for and encouraging mobile source emissions reductions beyond those required by traditional programs.

The finalrules allow forlong-term averaging, while requiring that States make statistical showings that any such averaging is consistent with applicable RACT, RFP, and short-term NAAQS. Any State that wishes to use long-term averaging must include, with the plan revision submittal, a statistical showing that the aggregate effect ofthe specified averaging time is consistent with attaining the 03 NAAQS and satisfying applicable RFP requirements on the basis oftypical summer dayemissions; and, if applicable, a statistical showing that aggregate daily emissions from all affected sources covered by a Federal RACT requirement (net ofany RACT/ non-RACT trades) are no greater than the aggregate daily emissions from such

sources that would result from the implementation ofall applicable sourcespecific RACTrequirements (see paragraph IV.D.2.).

5. Monitoring, Recordkeeping and Reporting

Each affected source in an EIP must comply with requirements imposed by the program, and must implement the MRR procedures necessary to assure compliance with such requirements and
to provide State and Federal enforceability. Requirements imposed by an EIP could include meeting mass emissions limits (either directly or through trading marketable permits), paying an emission fee, using specified products orprocedures, providing product content labeling, or other

measures specified by the program. Thus, the final rules allow for a wide range ofalternative MRR procedures that provide sufficiently reliable and timely information for determining compliance. Criteria to be considered in the development ofsuch procedures include representativeness, accuracy, precision, reliability, frequency, and timeliness.

All source-specific program requirements must be structured in such

a way that both inspectors and facility

owners can judge-the compliance status of a facility at any time, or, in the case of long-term emissions limits, at the end ofthe compliance period. This will require an authoritative, reliable repository ofall relevant information at each facility.

6. SIP Creditability and Audit/ Reconciliation Procedures

A SIP revision that contains an EIP
must include projections ofthe emissions reductions the State expects to achieve through'the implementation ofthe program. The projections may be based on federally-enforceable limits on .mass emissions or on other emissionrelated parameters, estimates ofmarket response, economic modelling, or other relevant information. The State doe 'not have to project emission changes for each source, unless that is how the State chooses to estimate the emissions reduction from the program. All EIP submittals must include documentation which clearly stateshow sources in an EIP are or will be addressed in the emissions inventory, RFP plan, and attainment ormaintenance plan, as applicable. This documentation should include a description ofthe assumptions used in measuring. emissions and emissions reductions from affected sources.

Credit in a nonattainment SIP may-be taken for emission limiting programs (e.g., emissions trading) and marketresponse programs (e.g., emissions fees). Credit may not be taken for directionally-sound programs until experience with such programs makes quantification possible, at which time the program could be reclassified into

one ofthe other categories for which credit may be taken.

For determining SIPcredit, the projected emissions reductions must be adjusted to reflect the uncertainties inherent in EIP's. This adjustment is currently done for traditional stationary

source control measures through the use of arule effectiveness factor, developed from experience with traditional regulatory control programs. For EIP's, the State must use two uncertainty adjustment factors, as appropriate, to calculate creditable emissions reductions. The sources of uncertainty that must be separately addressed are compliance uncertainty (i.e., the extent to which sources will actually comply with program requirements) and programmatic uncertainties (e.g., the
extent to which voluntary market
responses to incentives actually occur and/or the use ofvarious quantification methods with differing confidence levels). These sources ofuncertainty
must be accounted for through theuse ofa rule compliance factor and a program uncertainty factor, respectively.

The State must specify values for rule compliance and program uncertainty factors, based on program elements such

asthe quantification and enforcement procedures, and on the predictive quality ofthe information usedby the State to develop the projected emissions reductions. Inherent inthe way in which these factors are defined, the value ofeither factor must be less than

or equal to one. The State must include with its EIP submittal ajustification for the values assigned to these factors. The State must use these factors in determining the SIP credit for the
program as a whole, or for each sourcespecific trade, ifappropriate, to ensure that quantification uncertainties not. lessen a source's emissions reductions requirements. The uncertainty factors should be developed andjustified by the State by taking into account various aspects of the design ofthe EIP, including but not limited to, the type of incentive mechanism upon which the
program isbased; the variability in emissions from affected sources and the
nature and extent ofuncertainty in the emissions quantification procedures required by the program; the frequency 1669916700 Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994. / Rules and Regulations

and type ofMRR required by the program; sanctions for noncompliance;- the frequency, scope and committed responses-to program audits; and:the nature ofadministrative procedures to be used by the State inimplementing and enforcing.the program (see paragraph 

### V.F.).

Unless otherwise provided in program-specific guidance issued by the EPA, EIP's for which SIP credit istaken must also contain program audit procedures designed to evaluate program implementation and track program results interms ofboth actual emissions reductions and,to the extent practicable, cost savings realized during program implementation. The auditing methods and thetiming ofthe audits mustbe specified in theEIP.The maximum time interval forconducting7 such-audits-is 3years. although States:

are encouraged to considermore frequent audits. Further,the State must provide timely post-audit reports to the EPA. For emission-limitingEIP's,. program auditprovisions must include

a State commitmentto'ensure timely- implementation ofprogrammatic revisions orother measures which the State;.in response to the'audit,.deems necessary for thesuccessful operation of the program (see paragraphIV.G.).

Program audit provisions formarketresponse-EIP's mustbe accompanied.by reconciliation procedures, designed to compare credited emissions (i.e., adjusted projected emissions) with actual emissions achieved through the implementation ofthe program. The reconciliation procedures must specify a range ofappropriate actions-(e.g:, invoke part ofa general SIP contingency plan

ora program-specific contingency), revisions to the program requirements (eg.,increase the-fee, include more sources)thatwill make up for any shortfallbetween credited'and actual emissions revealedbythe audit,or reductions in-the'credit taken forthe EIP in the-SIP (providedthatRFP and attainment requirements continue tobe satisfied area-wide based on such reduced EIP credits in combination with the effects,ofallother SIP'programs); Such measures mustbe automatically, executing to the extent necessary to make up the shortfall, with State action required only to identify which ofthe specified actions are necessary to'make up the shortfall. Such measures-must not require a revision tothe implementation plan to be effectuated

once identified by the State;-rather, the

measures mustbebuiltinto the original EIP design (orincorporated by reference).

Greater burdens should not necessarily be imposed.on EIP's, compared totraditional regulatory programs, by virtue ofthe audit and reconciliation requirements. These audit andreconciliation procedures are consistentwith the general approach to, implementing the Act being taken by the EPA, as illustrated in the Agency's nles for vehicle I/M 12 and for reformulated gasoline,13 and.in the Agency's general'guidance on the. implementation oftitle Idealing with the rule effectiveness of stationarysource control measures, 4 Further,in appropriate cases, routine ongoing air program management procedures may be sufficient to fulfill the auditand reconciliation requirements. In' designing audit procedures, the State should considerthe relative uncertainty associated withthe EIP andspecify the scope andextent ofthe audit procedures to be commensurate with thatlevel of uncertainty.

7.Implementation Schedule

An ElF must contain a schedule for implementing the program. The schedule mustinclude dates for notifying potentially affected sources, as early aspossible, about the impending EIP;program initialization and start-up procedures;' compliance and-submittalrequirements,foraffected sources, and audit and reconciliation processes, including subsequent actions required to make up forany shortfall that occurs. 8. AdministrativeoProcedures

As part ofany Ei'design, the State must establish appropriate administrative procedures, specific to the type ofincentive strategy; necessary to implement all ofthe elements ofthe EIP. For example, in a fee program a State must assurethe proper administration ofthe fee collection process, and ifrebateprovisions are included, the administration ofthe rebate distribution.'process.

Administrative procedures-specific to marketable emissions permit programs which the'State must address in a program design are the mechanismsrequired for'conducting; approving, verifying, recording, andtracking trades. The EIPmust clearly describe the admt1histrative system, and any State commitments to implement and maintain the system, that enables' market participants to conduct valid and legally protected transactions. The

12

Inspection/Maintenance Program Requirements,,57 FR 52950,November5, 1992.

13Regulation of Fuels-and Fuel 'Additives: Standards for Reformulated andConvetional Gasoline, 59 FR 7716,February 16, 1994.

14Rule Effectiveness Guiidance: Integration or Inventory, Compliance, andAssessment' Applications, EPA,-452/4-94-O01, January 1994. State must design the program to ensure that all program requirements aremet by sources involved in trades, such that the trades result in enforceable changes in allowable emissions levels.A welldesigned EIP will include the minimum amount oftransactional oversight, approval, recording, andtra'cking provisions necessary totcreate a verifiable and enforceable system. Unnecessaryor excessive administrative requirements in a trading system increase the cost oftheprogram and inhibit trading. An activetrading market increases the opportunities forcostsavings. However, a State must establish sufficient administrative procedures to
ensurethat the environmental goals of the EIPare met, andthat the program is adequately enfbrceable (seeparagraph IV.J.2.and the discussion ofemissions trading markets in AppendixX).
9. Enforcement Mechanisms

An EIP must include adequate enforcement consequences for noncompliance with any source requirements-, including MRR' requirements. Each program must include provisions ensuring that St'ate/' local and Federal statutory maximumpenalties preservethe deterrent effect of traditional regulatory-programs. Enforcement provisions should preserve the criminal sanctions (forknowing violations) authorized in theAct for violations ofSIP requirements per se.

Traditional regulatory programs provide for enforcement,against noncompliance with emissions limitsat both the Federal and State/local'levels. The statutory maximum Federal penalties under the Act are $25,000 per day, per source in violation. TOpreserve the existing level ofdeterrence under the Act, an EIPthat imposes multiday and/or multisource emission.limits must define violations ofthose limits in such a way that the violations will translate into some combination of sufficient numbers ofviolations, sources in violation, and days.ofviolation. Oe possible approach would be fortheEP to authorize predetermined: penalties based,on the amount ofan exceedance ofsuch acap, provided the predetermined!amounts are sufficiently large (see paragraph,IV.H.).

The.Eip's that impose multisource emissions limits must require facilities to develop-enforceable-plans for remedying noncompliance in those

cases where facilities-have exceeded emissions limits-for-thespecified& averaging period. Suchplans must identify appropriate and enforceable, control measures orotherprocedures or strategies sufficient toachieve and maintain compliance with applicableFederal Register / Vol. 59, No. 67 1 Thursday, April 7, 1994 / Rules and Regulations

emissions limits. Further, for sources subject to title V requirements, the elements ofsuch plans must,.at a minimum, be consistent with any applicable title V permit requirements concerning compliance plans.

Compliance with MRR requirements is critical to the integrity and success of Ell's.Thus, an EIP must include enforcement provisions that establish a regulatory structure which clearly and effectively deters inadequate or improperMRR, providing for both State/local and-Federal penalties. Further, the enforcement provisions
must include methods for determining required data when MRR violations result in missing, inadequate, or

erroneous monitoring and recordkeeping data. These methods
must ensure that sources have a sufficiently strong incentive to properly perform monitoring and recordkeeping in the first place.

E. Useof Program Revenues Today's rules incorporate statutory, restrictions onthe use ofrevenues generated by statutory EIP's. These restrictions are mandated by section 182(g)(4)(B) of the Acton the use of

revenues generated by statutory EIP's submitted pursuant to sections 182(g)(3), 182(g)(5), 187(d)(3), and 187(g) ofthe Act. Revenues may be generated by an EIP from a wide variety offees orcharges, including emission or permit fees, fees associated with approving and recording trades, application fees associated with labelling or sources opting into an EIP, and fees or charges associated with TCM's. Specifically, any such revenues may be used by a State for providing incentives for achieving emissions reductions, providing assistance (up to 75 percent ofcosts) for the development of innovative technologies for the control of 03 air pollution and for the development oflower-polluting solvents and surface coatings, and funding (with
up to 50 percent ofthe i-evenues) administrative costs ofState programs under the Act. These restrictions on the

use ofrevenues do not apply to discretiona EIP's.

Because use ofrevenues from discretionary programs is not constrained, some or all ofthe revenues generated by discretionary EIP's may be rebated in order to create a revenueneutral program, or one with less

revenue retained by the State. Rebate provisions ofrevenue-generating EIP's

canbe designed to reduce the total cost to the affected sources without diminishing the incentive to reduce emissions created by the EIP. For example, ail emission fee program could place a feeon total emissions from affected sources, and rebate an amount based on average emissions or percentage emissions reductions ofthe affected sources. Ina program with a large number of sources,each source would onlyhave a minorinfluence on the average emissions. Thus, the rebate is not dependent on a source's own actions, and would not distort the incentive ofthe fee on every unit of emissions created by the source.
IV.Discussion of Comments and Regulatory Changes

This portion ofthe preamble is organized according to the "Discussion ofIssues" section inthe proposal, with additional discussion ofgeneral issues raised in public comments; The following discussion highlightsthe changes and clarifications made in the finalrules inresponse to the public
comments on these issues.

A. ProgramGoals
1.Statutory Programs

Statutory EIP's are those programs submitted pursuant to sections 182(g)(3), 182(g)(5), 187(d)(3), and 187(g) ofthe Act, generally because of failures in achieving required emissions reductions. The Act does not specify the
extent to which the EIP must,in and of itself,make up for the specific failure in achieving the emissions reductions necessary to meet the next milestone requirement. Rather, the provisions specify only that the EIP "shall be sufficient, in combination with other elements" ofthe plan, ortogether with

a "transportation control plan," to achieve the necessary reductions.

In the proposal, the EPA solicited
comments onwhether to require that

some specified minimum percentage of the required reductions be metby a statutory EU'. Most commenters, including State and local agencies, industry, and an environmental group, felt that EIP's should not berequired to meet a specified minimum percentage of emission reductions. These comments

were generally based on thepremise that opportunities for such reductions willvary because ofpotential differences between nonattainment

areasthat may implement EIP's. A specified minimum percentage would notprovide recognition ofthese differences nor the flexibility that needs tobean inherent part ofEIP's.On the other hand, an environmental group commented that a specified minimum percentage ofrequired reductions should bemet by a statutory EIP, equivalent to the percentage difference between what the SIP is achieving and what the next milestone requires.

The finalrules retain the requirement that a statutory EIP make a significant contribution to the required emissions reductions, without mandating any percentage reduction requirement or that the EIP assume the entire burden of making up forthe shortfall. This position is most consistent with statutory intent that the States have flexibility in determining howbest to combine an EIP with other emission reduction programs to achieve the necessary emissions reductions. Further,this position is consistent with meeting the benefits sharing goal established for allEIP's.
2.Discretionary Programs

In explicitly allowing for discretionary (i.e., nonstatutory) EIP'sto be included as SIPprovisions, the Act does notimpose any specific emissions reductions requirements on such • programs (sections 110(a)(2)(A) and 172(c)(6)). Thus,the proposed rules imposed no specific emissions reductions requirements on discretionary EIP's. The proposal relied upon the new State planning, quantitative progress, and attainment requirements inthe Act to ensure expeditious attainment ofthe NAAQS, regardless ofthe type ofemissions reductions programs that States may choose to include intheir SIP's.

Comments were received from an environmental group in support of an alternative view outlined in the proposal. The alternative view is that any savings in compliance costs resulting from discretionary EIP's (relative to nonincentive-based programs) should be sharedbetween two accounts: the regulated sources should retain only as much savings as is sufficient to maintain the incentive to participate inthe EIP, withthe remainder ofthe savings being used by the State to reach attainment more quickly than would be practicable under

a nonincentive-based plan. This alternative view is based on the statutory requirement that States should attain the NAAQS as expeditiously as practicable.

In contrast, other commenters from State and local agencies, industry, and

ajoint environmental/industry work group agreed with the proposal that the EPA should notrequire discretionary EIP'sto achieve more rapid progress than other regulations. Ajoint environmental/industry workgroup emphasized that EIP's shouldbe designed to increase flexibility-andcost effectiveness, and should notbe held to any stricter standard than traditional 1670116702 Federal Register / VoL 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

programs. Several industry commenters felt that requiring more rapid progress towards attainment in exchange for a
more flexible program appears,to be a penalty provision. These commenters felt that, while EIP's shouldbe structured to produce reductions equivalent to traditional SIFrules that the EIP's replace, the addition offurther reductions as the price for entry into an EIP will discourage participation and reduce benefits that might otherwise result from broad participation. A State
agency disagreed with requiring greater emission reductions from discretionary EIP's since different types of environmental benefits-can be achieved by EIP's, such as technological innovation, more available capital for other control measures, conservation of natural resources; and increased commitment from the regulated sources. Another State agency believes that EIP'swhichreplace traditional SIP requirements should be equally effective, equitable, and enforceable as the program it replaces..

The final rules take into account the broad array ofbenefits that can result from the use ofdiscretionary EIP's,the statutory requirement for expeditious attainment, andthe fact thatEIP's are relatively new and controversial in principle as well as in.practice. Further,
current experience with EIP's makes clear that successful adoption and implementation ofEIP's requires some degree ofconsensus among the interested groups that both the regulated entities and the environment will benefit from such programs. Thus, the final rules and guidance establish as a goal for all EIP's that they be.designed
to benefit both the environment and.the regulated entities. In so doing, the final rules and guidance require States to meet thisbenefits sharing goal, while providing flexibility to the States to determine how best to-do so. As a result, EIP's will increase flexibility, lower the
cost ofattaining and maintaining the NAAQS, and provide stronger incentives forthe development and implementation of pollution prevention

measures and. innovative.technologies.. Benefits from discretionary EIP's can be defined in various terms, as discussed in paragraph II.D.1. While the EPA encourages that discretionary EIP's be designed to produce environmental benefits directly, through increased ormore rapid emissions reductions, States should consider these and other benefits in designing a program to meetthe goal ofsharingbenefits between the regulated entities and the environment. In many cases, benefits in tPrms ofcost savings will.not be quantifible prior to program implementation, dueto~the complex market decisions thatsources participating in anEIP will need to make andchanges in marketconditions during the course ofthe program. Thus, the final rules and guidance include analysis ofcontrol cost savings, to the extent practicable, asa part ofthe required program audit.

However, thedifficulty ofquantifying cost savings and theextent to which those cost savings constitute an incentive to trade leads the EPA to conclude that it is notpracticable to require that allEIP's discount trades or otherwise require-increased or more rapid emissions reductions that directly benefit the environment. The authorization for discretionary EIP's in sections 110(a)(2)(A) and 172(c)(6) may be interpreted to indicate Congress' viewthat such programs may help achieve emissions reductions more effectively orefficiently, but not necessarily more expeditiously, than traditional regulatory requirements.

The final rules reflect that it most appropriately falls to the States to determine the type and extent of benefits sharing that'is practicable and appropriate, given the unique circumstances that any particular discretionary EIPis-designed to address. Therefore, thefinal rules donot require any specific formula forbenefit sharing. However,.thefinal rules dorecognize that the issue ofbenefits.sharingwill be part ofthe political consensus building process associated with designing a discretionary EIP. In assessingthis issue, States should notconfuse this sharing with.accountingfor uncertainty in an EIP. Since uncertainty is tobe accounted forthrough compliance and programmatic uncertainty factors (see paragraph ILF.), determining a degreeofsharing based on weighing the uncertainty in an ElP would in essence beaccounting twice forthesame uncertainty.

One commenter also arguedthat the requirements forattainment as expeditiously aspracticable [section 181(a)(1)] and for imposition of reasonably available control measures [section T72(c(1}) mandate the inclusion ofemission fees inEIP's. The EPA encourages States to consider emissions fees, but doesnotbelieve that, at present, theirimpacts are sufficiently well understoodi in all cases to conclude that, for allEIP's, they are either practicable orreasonably available. B. InterfaceWith.Reasonably. Available ControlTechnology,(RACT) andOther StatutoryRequirements.

1. RACT

The proposal was based on an interpretation. of'the-statutory RACT requirements that authorizes sources subject to the'statutory RACT requirements (RACT sources) to meet their RACT obligations inthe aggregate (i.e., through trading among themselves)., and, when-such trading results in an.exceptionaL environmental benefit, by acquiring emissions reductions from non-RACT sources (as discussed in paragraph ILD.2J. Further, the proposal defined exceptional environmental benefitsin terms ofthe statutory offset ratios for nonattainment

areas and other demonstrations of exceptional long-term environmental benefits.

With regard to meeting RACTinthe aggregate, all but one commenter agreed with the proposed position thattrading be allowed among all RACT sources. Further, these commenters,generally felt that such RACT trading should produce emissions reductionsthat are equivalent
to those that would be obtained ifeach

source met its source category-specific RACT limiLOnthe other hand, one environmental group disagreed with the proposed position allowing all sources covered by RACT requirements to trade among themselves. This commenter stated that nothing in the Act specifically authorizes substituting any trading regime for source-specific RACT requirements. However, if theEPA allows trading to-meet RACT requirements, only trading within a given RACT source category should be allowed since section 182(b)(2), addresses RACT by source categories. Further, this-commenter stated that since RACT limits havehistorically been.setbased on source-specific economic and technical constraints, "tradeable" RACT limits must bebased

on an analysis ofthe cost savings achievable by meeting RACT through whatever trading approach is permitted in the RACT rule. Since trading approaches provide increased. compliance flexibility and cost savings, the commenter believes thatany "tradeable" RACT limits shouldbe lower than source-specific RACT limits.

Withregard to. RACT/non-RACT trading in general, most commenters, including industry,.State and focal agencies, andan environmental group, supported such trading. Somestated that any regulation which requires certain reductions to be obtained at specified sources, and nowhere else, contradicts a "market-based" approach.Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules. and Regulations

They feltthat thebroadest possible participation in atrading market should be encouraged so as to achieve the most benefits from the program. Some commenters feltthat allowing RACT/ non-RACT trading encourages the development ofnew technologies and facilitates obtaining controls on previously unregulated sources and

source categories. Limiting tradesto particular source categories was thought by someto substantially reduce both the incentives and savings available. Such
comments were premised on the belief that trading between different source categories (involvingboth RACT and non-RACT categories) can have sufficient controls and safeguards built in to ensure compliance.

Onthe otherhand, other environmental groups opposed RACT/ non:RACT trading. One such commenter asserted that statutory language regarding RACT "sources" onlyrefers to stationary sources, such that trading between RACT sources and mobile sources would violate theAct. Further, this commenter asserted that such trading would makeit impossible for States to manage mobile source and stationary source budgets properly for purposes ofdemonstrating RFP and attainment. The other environmental group commended the EPA's objectives, and approved its means in theory, of allowing trades between mobile and stationary sources, but concluded that the time for trading between stationary and mobile sources has not arrived. This conclusion was premised inpart on-the beliefthat trading between RACT

sources and mobile sources violates the Act, because itis impossible to determine whether a given mobile

source emission reduction is truly surplus. Further, both commenters felt that mobile source emissions reductions could notbe reliably quantified.

As tothe conditions under which RACT/non-RACT trading may occur, many commenters from industry expressed the view that such trading should be allowed at a 1-to-1 ratio, i.e., that no exceptional environmental benefit was required tojustifyRACT/ non-RACT trading. These commenters felt that anytrading-ratio greater than 1 to 1would limit the economic, technological, and environmental benefits that could be derived from innovations brought about by RACT/ non-RACT trading. Other commenters, including State and local agencies and

some industries and environmental groups, supported the concept.of requiring RACT/non-RACT trades to achieve an exceptional environmental benefit in general, and the use ofthe proposed statutory offset ratiosin particular. However, some of these
commenters expressed concern that the offset ratios may have a chilling effect

on such trading, and encouraged the EPA to identify justifiable circumstances under which trading ratios could be lower than the offset ratios.

The final rules continue to allow RACT to be met in the aggregate. In addition, the final rules continue to allow RACT/non-RACT trading, provided that an exceptional environmental benefit is achieved.

Under the 1977 Act, the requirements specific to nonattainment SIP'swere found in part D oftitle I ofthe Act. Section 172 specified the attainment date and the required SIP measures. Subsection (a) ofsection 172 required that nonattainment SIP's provide for attainment by specified dates; subsection (b)(2) required that those SIP's "provide for the implementation ofall reasonably available control

measures (RACM) as expeditiously as practicable." Subsection (b)(3) required that the SIP's provide for RFP, including RACT:

(Nonattainment SIP's must)require, in the interim (prior to the atfainment date) reasonable further progress * * *including such reduction in emissions from existing

sources asmaybe obtained through the adoption, at a minimum,ofreasonably available control technology.

The EPA took the position that RACT requirements do notrequire each affected emissions unit to achieve a prescribed amount ofreductions in emissions-from its own processes, but rather require the affected sources to achieve in the aggregate the reductions that would be achieved ifeach applied RACT controls to itself. Under the EPA's interpretation, the application ofthe requirement to impose RACT upon 'existing sources" meant that RACT applied inthe aggregate, as opposed to

source by source. This interpretation, which is reflected in the Emissions Trading Policy Statement (51 FR 43814 (December 4, 1986), the "Bubble Policy"), was upheld in NRDCv. EPA, 33 ERC.1657 (4th Cir. 1991), an unpublished~decision. There, the Court ofAppeals forthe Fourth Circuit upheld

as reasonable EPA's approval ofa Maryland SIP revision for the American Cyanamid-Company relaxing the SIP limit on several lines in exchange for tighter limits on other lines.The EPA reasoned that the RACT requirement

was met by the subject lines in the aggregate.

.The Act revamped part D oftitle Iby updating the general requirements applicable to all nonattainment SIP's, placing those requirements in subpart I ofpart D,and adding subparts 2-5 to

cover pollutant-specific nonattainment SIP's. Subpart 2 concerns ozone SIP's.

Under the 1990 Amendments, the 1977 Act's requirements for nonattainment SIP's were generally retained in subpart 1,butwere combined differently-the RACM and % attainment date requirements were consolidated into one provision and the RACT requirement was shifted to the RACM provision. Those provisions (section 172(c)(1)-(2)) now read:

(1)In General-Such (nonattainment SIP) provisions shall provide for the implementation ofall reasonably available control measures as expeditiously as practicable (including such reductions in emissions from existing sources in the area
asmaybe obtained through the adoption, at

a minimum, ofreasonably available control technology) and shall provide for attainment ofthe national primary ambient airquality standards.

(2)RFP-Such plan provisions shall require reasonable further progress.

In addition, subpart 2 contains several RACT provisions. Most importantly, section 182(b)(2) sets out the RACT requirement for areas classified moderate or higher, as follows:

The State shall submit a revision to the applicable implementation plan to include provisions to require theimplementation of reasonably available control technology under section 172(c)(1) with respect to each ofthe following:

(A) Each category ofVOC sources in the

area covered by a CTG document issued by the Administrator between the date of
enactment ofthe Clean AirAct Amendments of1990 andthe date ofattainment.

(B)All VOC sources in the areacovered by anyCTG issued before the date ofthe
enactment ofthe CleanAirAct Amendments of 1990., I (C)All other majorstationary sources of VOC's that are located inthe area.

Each revision described in subparagraph (A)shall be submitted withinthe period set forthby the Administrator in issuing the relevant CTG document. Therevisions with respect to sources described in siibparagraphs (B)and (C) shall be submitted by 2 years after the date ofthe enactment of the Act, and shall provide forthe implementation ofthe required measures as expeditiously as practicable but no later than May 31, 1995.

Under the 1990 Act, theEPA continues to take the position established under the 1977 Act that RACT applies in the aggregate because the RACT requirement ofsection 172(c)(1) ofthe Act isphrased identically to the RACT requirement of the 1977 Act (vis., "existing sources"). EPA does notread section 182(b)(2) to indicate to the contrary. Rather, the cross-reference to section 172(c)(1) contained in section 182(b)(2) indicates 1670316704 Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

that RACT is to be interpreted in the

same manner under section 182(b)(2) as under section 172(c)(1).

In addition, the EPA interprets the RACT requirement to authorize emissions trading among the stationary

sources subject to the RACT ,,requirement ("RACT sources") and those not subject ("non-RACT sources") when emissions reductions result in an amount that provides an exceptional environmental benefit, e.g., a level of reductions that is significantly greater than RACT-level amounts. This interpretation entails viewing the RACT requirement as generally requiring a specified level ofreduction ofemissions from stationary sources subject to RACT, but as authorizing those sources to substitute significantly greater emissions reductions credits from nonRACT sources in lieu ofputting controls

on themselves..

The EPA acknowledges that the
statute permits different interpretations, including the interpretation that the universe of sources subject to RACT
must themselves implement RACT-level controls, and therefore may not trade with non-RACT sources. However, the EPAbelieves that its interpretation allowing such trading is permissible, based on the language ofsection 172(c)(1). The EPA's interpretation emphasizes that the RACT requirement is an emissions reduction requirement for stationary sources that is designed to yield reductions to facilitate the ultimate attainment ofthe NAAQS and, in the interim, RFP towards attainment (sections 172(c)(1)-(2)).

Section 172(c)(1), as quoted above, requires SIP provisions to provide "such reductions in emissions from existing

sources in the area asmay be obtained through the adoption, at a minimum, of reasonably available control technology. This provision requires an amount of emissions reductions that equates to the
amount that would result from the imposition of"RACT", but does not require the imposition ofany particular

set ofcontrols ortechnologies. Further, the term "RACT" is not defined in the
statute. In light ofthe function ofthis
term-to identify the level ofrequired emissions reductions-the EPA believes the term may be defined either as a specified level of emissions to be reduced from the RACT source itself, or

as little asa zero level ofreductions from the RACT source, coupled with the acquisition by the RACT source of emissions reductions from sources other than RACT sources in an amount that will yield an exceptional environmental benefit.

With respect to the level ofemissions reductions required from the RACT source itself, the EPA believes that if the RACT source acquires an appropriate

amount ofemissions reductions "credits" from non-RACT sources, it is
not reasonable to require additional reductions from the source itself. Under these circumstances, control technology needed to produce such reductions from the source itselfis not "reasonably available".

With respect to the level ofemissions reductions required from the non-RACT

-sources, the final rules retain the proposed approach to define such a benefit in terms ofthe statutory offset ratios in general, although flexibility is provided ifexceptional environmental benefits are otherwise demonstrated, with a lower bound for the trading ratio of 1.1 to 1in such cases: EPA believes that these additional amounts of reductions are required because it is "reasonable"-within the meaning of the amount ofreductions required • through "RACT"-to forego reductions that could be obtained atthe RACT

source itselfonly when thetrading
program will result in an exceptionally strongbenefit to the environment. In addition, requiring substantial additional emissions reductions credits from non-RACT sources is consistent with the underlying purpose of the RACT requirement-to assure reductions thatresult in an important step towards fulfilling the RFP and attainment requirements.

The EPA incorporated statutory offset ratios because offsets are an aspect of emissions trading, and thus provide an indication ofCongress' view ofbenefits
to the environment to be required inthis
context ofemissions trading.

Section 182(b)(2), quoted above, does
not alter EPA's analysis. Section 182(b)(2) mandates "the implementation ofreasonably available control technology under section 172(c)(1) with respect to (threecategories ofstationary sources)." The EPA interprets the crossreference to section 172(c)(1) to incorporate into section 182(b)(2) the definition ofthe phrase "reasonably available control technology" and the RACT requirement generally under section 172(c)(1). In addition, the EPA interprets the phrase "with respect to"

to authorize RACT sources to acquire emissions reductions credits in the

manner described above, and not to mandate the imposition ofcontrols directly on the RACT sources. The EPA believes that this provision may be interpreted to identify the source categories responsible for securing RACT-level reductions, and to mandate thetime-frame for them to do so; but does not mandate that those sources themselves implement the emissions reductions measures.

The EPA believes that its interpretation ispermissible under Chevron U.S.A. Inc.v. Natural ResourcesDefense Council,467 U.S. 837 (1984), because the relevant statutory provisions arenot defined in the statute in a manner that makes clear whether sources subject to RACT may acquire the necessary emissions 'reductions from other sources in lieu of imposing the controls themselves. As a result, theEPA may proceed to interpret the provision in amanner that is reasonable and consistent with the purpose ofthe statute. (See generally sections 110(a)(2)(A) and 172(c)(6) (authorizing SIP measures toinclude "economic incentives such as * * marketable permits").)

. As discussed above in paragraph IV.A.2., the final rules and guidance require that EIP'sbe designed to meet the goal ofsharing benefits between the environment and the regulated entities. For EIP'sthat allow trading or other types ofcompliance flexibility to meet RACT requirements, as with any EIP, the EPA encourages States, to the extent practicable, to meet thisbenefits sharing goal most directly byrequiring increased emissions reductions beyond those that would be achieved through a traditional RACT program. Increased reductions could be created in a number ofways, such as by including more

sources in the program or requiring a greater than 1-to-1 trading ratio. Depending onthe scope and nature of

an EIP, compliance flexibility might include not only emissions trading between sources,but also alternative compliance methods such as pollution prevention, energy conservation, and fuel switching.

RACT/non-RACT trading programs must, ofcourse, also meet the other requirements in the final rules, such as those thatrelate to credible, workable, and replicable quantification methods and tomonitoring, recordkeeping, and reporting that allow for compliance determinations and State and Federal enforceibility. The EPA recognizes that several commenters raised concerns about the technicalworkability of emissions trades involving mobile

sources. Congress arguably contemplated that EIP's could incorporate trades involving mobile
sources, as indicated by the definition of

an EIP in section 182(g)(4)(A) to include "incentives andrequirements toreduce vehicle emissions and vehicle miles traveled in the area, including any ofthe transportation control measures identified in section 108(o." The EPA will addresstechnical concerns raisedFederal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

by commenters when it finalizes guidance on the generation-ofERC's from mobile source control programs.

Beyondthe requirements inthe final rules,the EPAis developing more specific guidance onthe use of emissions trading to implement new NOx RACTrequirements. This guidance will address issues such as setting tradeable NOx RACT limits and baselines, and is consistent with the general RACT trading principles set out inparagraphs III.D.2. and III.D.3. The EPA intends to work with States who want to develop trading-based RACT programs to incorporate the requirements ofthe EIPrules and related guidance into'EIP's that are environmentally sound and administratively efficient.

2. Offsets

The EPAreceived a number of comments specifically dealing with NSR offset issues. These covered a range of issues, but focused primarily on offsets banking. Such issues are beyond the scope ofthis EIP rulemaking,but the EPA intends to address them in'the near future in guidance on ERCbanking currently being developed. In the interim, the EPA intends towork with States who wantto develop offset banking programs. 3..ECO.Programs

The EPA received a number of comments dealing with ECOprograms which arebeyond the scope ofthisEIP rulemaking. The EPAhas previously issued guidance on ECOprograms and anticipates the development of additional guidance. Final action with respect to ECO programs will occur when the EPA acts on SIP revisions concerning ECO programs. C.ProgramBaseline

The proposed ruleswere based on the premise that a State can only take credit inattainment and RFP demonstrations for emissions reductions from EIP's that

are surplus to what is otherwise required and credited to other elements ofafederally-approved SIP. This restriction is necessary to ensure that a State does not double count emissions reductions in SP demonstrations. The general requirements for program baselines are intended to ensure that such double counting does not occur, while still providing asmuch flexibility

as possible.

The proposal solicited comments on the conditions under which States should have the flexibility to use an "allowable" baseline. In particular, comments were solicited on the proposed approach to accept an "allowable" baseline in an EIP submitted in conjunction with the submission of an applicable progress plan (e.g., 15 percent RFP plan and/or subsequent 3 percent-per-year plans), prior to the submission ofan attainment demonstration. Further, comments were solicited on approaches for achieving consistency between EIP's with "allowable" program baselines and statutory RAT,RFP, and attainment requirements.

There were many comments from industry and State and local agencies in support ofthe proposed flexibility in setting baselines. These comments generally supported the concept of considering the use ofallowable emissions in setting'EIP baselines, provided the EIP is consistent with RFP and attainment demonstrations. The commenters didnot, however, address how such consistency could be achieved or demonstrated. Some State agencies commented -thatifallowable emissions baselines are used, they should not lead to more actual emissions, inthe aggregate area-wide, than allowed under a traditional plan. The commenters felt that this flexibility would allow States to select baselines that were the most practicable and equitable to all sources involved.

An alternative view was expressed by "

an environmental group which advocated that the final rules should require an actual emissions baseline for all EIP's untilthe attainment demonstration is approved. This comment was premised on the belief that an allowable emissions baseline would violate the requirements for attainment as expeditiously as possible and for noninterference with attainment.The commenter asserted that-relying only on a'RFP demonstration and a commitment by the State that a future attainment demonstration would be consistent with the EIPbaseline was a wholly inadequate constraint to ensure expeditious as practicable attainment. Further, this commenter expressed the view that "surplus" reductions should be defined relative tothose reductions which are necessary to achieve attainment. As aresult, the commenter concluded that the EPA should not approve any EIP's based on emissions trading prior to approval ofan attainment demonstration.

The final rules and guidance focus on consistency between progress plans and EIPbaselines. The rules recognize that RFP requirements are defined in terms of actual areawide emissions reductions and annual progress. Although such consistency and requirements may be made more difficultby the use ofan EIP baseline which incorporates allowable emissions, the final rules provide States flexibility in designing an EIP to achieve these requirements. Further, the final rules encourage the development of EIP's as part ofan overall attainment strategy that lowers the cost of attainment. The finalrules-recognize that attainment strategies that incorporate EIP's can reflect both environmentally and economically sound policy choices. Therefore, the finalrules retain the proposed baseline flexibility and definition ofsurplus, while requiring States to demonstrate in their EIP submittal that the EIP baseline isconsistent with theirprogress plans 15 and RACTrequirements, when applicable, and to commit that such consistency willbe reflected in any subsequent progress plans and attainment demonstrations. The State should describe how the EIP baseline will be integrated into asubsequent attainment demonstration. The EPA takes the position that an allowables baseline, when consistent with a submitted, complete, and potentially approvable RFP plan generally is permissible. It is true, as onecommenter emphasized, that consistency with RFP does not automatically assure consistency with attainment when additional reductions are needed for attainment. However, the EPA takesthe position that an allowablesbaseline that is consistent with an RFP submittal does not specifically interfere with attainment under section 110(1). The State's commitment that the attainment demonstration, when submitted, will be consistent with the allowables baseline lends additional support to the EPA's position. The inducement to States to complete the attainment demonstration that ispresented by the sanctions/FIP requirement, aswell as the fact that emissions limits allowed under the EIP may be tightened ifthey unexpectedly develop into impediments to attainment, further support the EPA's positions.

As stated above In paragraph IV.B.1., the EPA is developing guidance that addresses baselines forEIP's implementing new NOx RACT requirements. Further,the EPA intends towork with States whowant to develop trading-based RACTprograms to incorporate the requirements ofthe EIPrules andrelated guidance into EIP's that are environmentally sound and administratively efficient.

1 EPA has concluded that it is.not necessary in this notice to define RFPwith any greater specificity than.found in the statute; that is, it is not necessary to identify the extent, ifany,ofannual emissions reductions needed to complywith the statutory RFPrequirements. 1670516706 Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

D.Emission Quantification

1.Criteria forAdequacy ofApproach

The proposed rules and guidance

were based on the premise that the development and use ofcredible, workable, and replicable methods to quantify emissions are necessary elements ofany quantifiable EIP. The proposed rulesrequire EIP quantification methods tohave a level ofcertainty comparable to that for source-specific standards and traditional methods ofcontrol strategy development. The proposal explicitly allowed States to develop alternative approaches to meet these emissions quantification requirements. The proposal solicited comments on adequacy criteria forvarious types of

source categories, recognizing that no
one approach is the most appropriate, or
even technically feasible, for all source categories.

Most comments received on thisissue

were supportive ofthegeneral requirements in the proposal. Ofthose supporting the general requirements, no commenters offered any specific criteria forlevels ofcertainty or accuracy by which quantification approaches should be evaluated. Onthe other hand, an environmental group commented that, fortrading programs, the EPA should require the use ofthe most accurate available continuous emissions monitors (CEM's) on every source in an emissions trading program, and, where such direct emissions quantification is notpossible, no emissions trading should be allowed.

The final rules reflect the importance ofboth ensuring environmental protection with an adequate degree of accountability and fosteringthe development ofinnovative and flexible programs. Innovation and flexibility would be unduly restricted ifthe use of the most accurate available CEM's were

a prerequisite for all sources to be included in any emissions trading program. The final rules recognize that other approaches may bemore appropriate for various source categories. The finalrules reflect that credible approaches necessarily entail levels of accuracy and precision sufficient to determine compliance and allow for effective enforcement of all emission limits in any EIP. Subjectto these enforceability considerations, the final rules address uncertainty in emission quantification in determining SIP credit through the use ofa programmatic uncertainty factor.

A commenter stressed that the need to

assure accuracy intrading would further burden State agencies, and argued that EPA could not approve an EIP absent a demonstration that the State agency has adequate resources tohandle the additional workload. Many ofthe additional requirements Congress imposed on States through the Clean Air Act Amendments of 1990would place additional burdens on State agencies-- EPA intends to implement the Act's requirements that States have sufficient

resources (e.g., section 110(a)(2)(E)) in the context ofEIP submissions inthe

same manner as EPA implements these requirements inthe context ofother SIP submissions.
2. Extended Averaging Times

The proposed rules recognize that long-term averaging by individual

sources can significantly relax standards that require compliance on a short-term basis and jeopardize RFP and attainment demonstrations that are based on "typical summer day" emissions. The proposal also recognized that EIP'swhich require a number of

sources to comply with total emissions caps oraverage emission rate limits could potentially mitigate this type of rule relaxation. In such programs, random daily positive fluctuations in emissions that are likely to occur from any given source (i.e., emission "spikes" that could jeopardize attainment) may tend to be compensated forbyrandom daily negative fluctuations from other

sources. Thus, the proposal allowed long-term averaging, provided a. statistical showing is made that the long-term caps or limits are consistent with applicable demonstrations ofRFP

on the basis oftypical summer day emissions, demonstrations ofattainment ofshort-term NAAQS, and RACT requirements. The proposed approach provided increased flexibility to sources and to States in their plan development without undermining theEPA's traditional control programs orthe validity ofRFP or attainment demonstrations.

The proposal recognized the need for additional guidance on such statistical "equivalency" showings. The proposal also solicited comments on specific approaches forRACT equivalency showings, including the use ofa presumptive norm discount factorof 70 percent to be applied to a RACT limit averaged over 30 days, other rulespecific discount factors determined by States to represent RACT equivalency, and the use ofshort-term caps in conjunction with long-term caps or limits.

Many commenters supported the proposed flexibility to allow forlongterm averaging. One State commenter strongly supported the provision to allow Statesto relate long-term averaging to daily emissions by statistical analysis. Another State agreed that the use of long-term averaging should not come at the expense of attaining short-term standards or demonstrations ofcompliance. Other States noted the need for consistency in the EPA's RACT guidance on averaging times. Industry commenters endorsed the allowance oflong-term averaging, although"they expressed differing views about the need for statistical showings
to demonstrate consistency with RACT and short-term standards. Some felt that any such showing should notbe burdensome, while others disagreed that any such showing was necessary. An environmental group agreed that increasing averaging periods can significantly relax standards and threaten RFP and attainment. This group commented, however, that the proposal understated the difficulties which would flow from such a relaxation, and felt that discount factors would not provide adequate protection against spikes inemissions which could prevent attainment of short-term NAAQS.

With regard to long-term averaging and RACT equivalency, many commenters disagreed with the use ofa presumptive 30-day RACT equivalency factor, such asthe 70 percent factor mentioned in the proposal. One
commenter felt that a RACT equivalency showing should notbe required ifsome statistical information was provided showing that long-term averaging would
not interfere with RFP orthe attainment demonstration. Many regulatory agency and industry commenters supported allowing States flexibility in determining RACT equivalency factors.

The final rules retain the proposed allowance for long-term emissions averaging, as well asrequirements that States make statistical showings that any such emissions averaging is consistent with applicable RACT, RFP, and short-term NAAQS. These statistical showings are necessary to showequivalency to, ornoninterference with, each ofthese statutory requirements, although as a practical matter the same showing may suffice to

assure consistency with more than one ofthe requirements. The statistical showings should take into account the
extent to which emissions variations from an individual source or from all

sources are random or systematic and, thus, the extent to which the variations

can be considered to be independent. The showings mustdemonstrate that the pattern ofemissions resulting from relaxed averaging periods would approximate the pattern ofemissions that would occurwithout relaxedFederal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

averaging periods to an extent sufficient
to reasonably conclude that the relaxed averaging periods would not interfere with the statutory requirements.

The final rules do not include any presumptive RACT discount factor, on the basis that no one factor can adequately account for the variations that may occur across different
programs. However, the EPA remains open-minded to discount factors, especially for specific industries, that

are substantiated by State analyses. The EPA will work with States that want to develop EIP's that incorporate long-term averaging requirements to ensure that such a program does not interfere with RFP and the attainment ofshort-term standards. The EPA anticipates that

more general guidance will be developed inthe course of.working with States on statistical approaches for such equivalency demonstrations. In the case of EIP's implementing RACT requirements, the guidance referenced above in paragraph IV.B.1. addresses long-term averaging for NOx RACT.

E.Monitoring, Recordkeeping,Reporting (MRR)

The proposed rules were based on the premise that EIP's depend more strongly than traditional control programs on MRR to ensure compliance and to allow for adequate enforcement because they

are inherently more flexible and less prescriptive than traditional technology

or performance standards. The proposal recognized that while a wide range of MRR approaches are available that can be used to show compliance for different types ofsources, no one approach is necessarily the most appropriate, or even technically feasible, for all types ofsources that may be included in an EIP. Thus, the proposal explicitly allowed for alternative monitoring methods, while soliciting comments on criteria for adequate MRR requirements for EIP's.

Public comments focused on whether EIP's do depend more strongly on MRR and on whether CEM's shouldbe required for any or all sources covered by an EIP. Several industry commenters disagreed with the premise that EIP's depend more strongly on MRR to ensure compliance, and, therefore, felt that no

more stringent MRR requirements should be required inEIP's than those required intraditional programs. These

commenters supported the provision allowing arange ofMRR requirements
to be used inEIP's.

One State commented that EIP's should be limited to source categories for which emission quantification and compliance methods are available and reasonably accurate. This State felt that the use ofCEM's was the optimal monitoring method, although it recognized that other unit-specific field monitoring methods could be acceptable. An environmental group commented that the rules should require use ofthe most accurate available CEM's onevery source involved in any emissions trading program. Further, this group felt that the maximum amount ofCEM measurement inaccuracy should be reflected in a program discount factor. Onthe other hand, some industry commenters urged that EIP's notrequire the use ofCEM's forany sources.

The finalrules retain the proposed flexibility for alternative monitoring approaches that allow foradequate compliance determinations and provide foreffective State and Federal enforcement. As discussed above (see paragraph IV.D.1.), innovation and flexibility would be unduly restricted if CEM's were a prerequisite for all

sources in any emissions trading program. Inthe development of adequate MRRrequirements, criteria should beconsidered to assurethat quality-assured, representative monitoring data will be obtained that

can be used to determine compliance.

The EPA recognizes that special consideration should be given to developilig MRR requirements for small

sources to avoid undue burdens, consistent with assuring that all EIP

sources are required to comply with adequate and effective MRR requirements. For mobile source programs, the State should refer to program-specific guidance from EPA, if applicable.

F.StateImplementationPlan(SIP) Creditability

The proposed rulesidentify various types ofuncertainties associated with different categories ofEIP's,and required that States apply discount factors in calculating SIP creditbased

onthe uncertainties inherent in the design ofany given EIP. The proposal separately addressed compliance-related uncertainty, through a rule compliance factor, and programmatic uncertainties associated with quantification methods and projected market responses, through

a program uncertainty factor. The proposal compared the need for a rule compliance factor to the historical use ofa rule effectiveness factor, generally set at 80 percent for traditional stationary source SIP programs. The proposal identified an option ofsetting presumptive norms for these factors in lieu ofthe requirement that the State develop andjustify program-specific factors. The proposal solicited comments on criteria for the development ofsuch factors.

Many commenters expressed different

concerns with the proposed approach to dealing with uncertainty. Some
commenters interpreted the proposal as allowing credit only for emissionlimiting programs (e.g., emission trading), and argued that credit should be allowed for market-response.
programs (e.g., emission fees) and even directionally-sound programs (e.g., those thatbenefit the environment but
cannot be quantified). One such commenter, an environmental group, urged not only that credit be given for emission fee programs, but that they
mustbe encouraged since they offer the
most attractive opportunity for environmental progress. In fact, the proposed and final rules allow credit for market-response as well as emission limiting programs, and encourage States
to consider all such types ofprograms. The proposed and final rules also
encourage the use ofdirectionallysound programs, but specify that SIP credit cannot be taken until'sufficient experience with the program results in the ability to adequately quantify the results.

Some State commenters expressed general concern with the use ofany upfront discounting of SIPcredit, urging instead that alternative approaches be allowed to account for uncertainty. In particular, some State commenters recommended that the program audit procedures be used to provide information on actual emissions reductions resulting from program implementation. Such audit results would feed back into updated emissions inventories, be compared to initially projected program results, and if appropriate, result in additional credit

orthe need for additional reductions if the audited results differ from those credited to the EIP in the SIP. One State
commenter recommended that the State be allowed to adopt various back-up provisions in an EIP instead ofapplying up-front discount factors.

Some industry commenters disagreed with the use oftwo discount factors, on the basis that such an approach would double count uncertainty. These
commenters also expressed the view that a presumptive norm of80 percent for a rule compliance factor istoo low. On the other hand, an environmental
group commented that a presumptive

norm of80 percent was too high. This
commenter also urged that credit not be, given for prior reductions orfor plant shutdowns and slowdowns which would have occurred in the absence of

a control program. 

### 1670716708 Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

.The final rules generally retain the proposed approach ofrequiring the State to develop and apply discount factors to account for compliancerelated and programmatic design uncertainties. In addition, however, the final rules also include further guidance and criteria for developing and justifying such factors. Inparticular, various aspects ofprogram design shouldbe considered in developing such factors, including but not limited to the type of incentive mechanism upon which the program isbased; the variability in emissions from affected

sources and the nature and.extentof uncertainty in the emissions quantification procedures required by the program; the type and frequency of MRR required by the program; sanctions fornoncompliance; the frequency, scope, and committed responses to program audits; and the nature of administrative procedures to beused by the State in implementing and enforcing, the program. G.Audit/ReconciliationProcedures

The proposed rules specify that program audits be made at least every 3 years, consistent with intervals associated with RFP milestones and emission inventory requirements. Alternatively, the State could specify a shorter period, so asto allow time to make programmatic corrections or adjustments (in eitherdirectioni to SIP credited emissions reductions, before an RFP milestone isreached. The proposal solicited comments on the appropriate audit frequency.

Several comments were received on the general issue ofprograms audits. Most such comments weregenerally supportive ofarequirement forongoing program tracking and feedback, although the commenters differed on the role that the audit should have relative to otherEIP requirements: Some State commenters felt that ongoing audits should serve asan alternative to many ofthe proposed regulatory requirements forup-front technical analyses. Another State supported the

use ofaudits toassess EIP adequacy and theneed totake corrective actions. An environmental group recommended that the EPA require for all EIP's contingency measures to compensate for shortfalls revealed through the audits. Other State, environmental, and

- industry commenters felt that requiring audits was reasonable, but expressed varying degrees ofconcern that audits notbecome soburdensome asto serve
as a disincentive for developing an EIP. On the other hand, oneindustry commenter felt that EIP's ought notbe subject to any special audit requirements different fromthose applicable to traditional programs.

On the issueof auditfrequency, most commenters generally agreed with the proposed 3-year interval. One State commenter felt that annual audits should be conducted toassess progress, with a summary ofsuch audits to be incorporated in triennial SIPRFP reports.

Thefinal rules and guidance retain the proposed requirements for program audit andreconciliation procedures, and establish 3 years asthe maximum time interval for conducting such audits. The final rules recognize that the State has flexibility in establishing the frequency (withinthe 3-year constraint) and scope ofauditprovisions. Further, thefinal rules recognize thatthere is an interplay between the frequency, scope, and other design features ofthe audit provisions and thenature and scope of other program design elements .(suchas thejustification foruncertainty factors). In addition, to better define the benefits from EIP's, the final rulesinclude analysis ofcontrol cost savings,to the extent practicable, as a partofthe required program audit.

•H. Penalties forNoncompliance The proposed rules recognize that determination ofstatutory maximum penalties fornoncompliance is significantly complicated'in the case of EIP'sthat incorporate multisource emissions caps and/or long-term averaging times, since Federal statutory maximum penalty authority is specified

on a per-day, per-source basis. While establishing the principle that such penalty provisions must create a deterrent effect comparable tothat of traditional programs, the proposal solicited comment on criteria for the development ofsuch penalty provisions.

Commenters generally agreed with the principle ofequivalent deterrence. Several industry ommenters opposed any criteria that would suggest that any multisource emissions cap violation should beconsidered to have occurred at each source. Some commenters , recommended that penalty provisions be based on the amount ofthe exceedence ofa cap, and one commenter suggested that the final rules should recommend predetermined minimum penalties. Another
commenter recommended that penalty provisions differentiate between violations that are willful or negligent and those thatare determined not tobe willful or negligent.

Thefinal rules and guidance continue to allow for'avariety ofapproaches to specifying statutory maximum penalties, although exceedance-based approaches areencourage87. Thus,for example, where emission limitsare specified in unitsof mass emissions, statutory maximum penalties canbe specified as a function ofthe degree to which the limits are exceeded, as measured in terms of some increment of

mass emissions. Alternatively, statutory maximum penalties could be specified

as a function ofthe cost ofcredits or allowances intradingprograms. The final rules and guidance require that EIP'sbe structured in conjunction with applicable enforcement authorities, in such a way that violations of

- multisource and/or multiday emission limits translate into sufficient numbers ofsome combination ofviolations,

sources in violation, and days of violation. There are nocriteria that suggest that this requirement should necessarilybe metbyconsidering that the violation occurred at each such

source. The finalrules further identify supplemental provisions that may enhance deterrence, such as mandatory minimum penalties, oraddress uncertainties inherent inthe design ofa program, such as penalty triggers linked to measures ofcompliance tracked through the program-audit.

The following criteria have been established for assessingthe adequacy ofthe deterrent effect ofEIP penalty provisions. Theprimary focus is on an assessment ofthe adequacy ofthe statutory maximum penalties in the EIP, through an evaluation ofdeterrence ratios (i.e., the ratio ofthe maximum penalty perviolation to the cost of compliance). In a program with tradeable emission allowances orERC's, the cost ofcompliance will be related to the market value ofallowances or credits. Under a range offoreseeable noncompliance circumstances, this deterrence ratio mustbe high enough to deternoncompliance to adegree comparable totraditional programs.

Other aspects ofdeterrence should also be considered in evaluating the adequacy ofpenalty provisions. These aspects include the likelihood that noncompliance willbe detected and the credibility and predictability of responses to noncompliance. These aspects should be considered inlight of administrative procedures and resources established within the EIP, aswell as other program design elements related
to emission quantification and monitoring, recordkeeping, and reporting.

I.InterfaceWith ExistingEmission TradingPolicies

TheEIP rures and guidance, being broadly applicable toany kind ofEIP.Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

generally cover the same type of emission trading programs that have historically been addressed by the EPA's previously released guidance on emission trading, primarily contained in the Emissions Trading Policy Statement (ETPS) and its appendices (51 FR43831, Dec. 4, 1986). Although based upon the

same general principles, the EIPrules and guidance provide both greater flexibility and more comprehensive programmatic requirements for such
programs. The proposal defined the relationship between the EIPrules and the ETPS such that the provisions ofthe ETPS which apply to trading between existing sources (i.e., ihebubble and generic bubble provisions) would represent one particular model for how States could choose to design such a program that would be approvable under the EIPrules. The proposal, however, in no way constrained EIP's involving emission trading to the specific provisions ofthe ETPS. The proposal solicited comments on this proposed relationship.

Only a few commenters addressed this issue. Two commenters agreed with the proposed approach. Another
commenter disagreed with retaining the elements ofthe ETPS that are now addressed by the EIPrules, on the basis that such ETPS provisions are rendered obsolete by the newrules, and the EPA should not encourage the use ofless flexible policies. Another commenter recommended that the ETPS should be updated to include the flexibility contained in the EIPrules and that it should then continue to be applied to trading done for the purpose ofmeeting other statutory requirements (e.g., RACT/non-RACT trading).

The final rules retain the proposed relationship between the ETPS and the EIP rules.The final rules do not encourage Statesto limit their design of EIP'sto meetthe specific provisions in the ETPS. However, the final rules recognize that States may want to implement emission trading without embarking on the'design ofnew approaches to emission'trading. Retaining the ETPS provides a known regulatory option forthose Statesthat
want to apply it.
]. GeneralIssues

1. Detailed vs. General Guidance

Some commenters felt that the EIP proposal was overly specific and limited flexibility. These commenters contended that it would be difficult for EPA guidance to anticipate and identify all ofthe specific elements ofproposed
programs that might be approvable until actual programs are developed and adopted. They felt that the final EIP rules should be limited to a detailed policy statement and discussion of principles and criteria to which EIP's
must adhere rather than specific guidance on how EU' programs should be designed and administered.

Other commenters, including a State and an environmental group, felt that the final rules should include more detailed guidance. One such commenter felt that without more detailed guidance, technical questions such as how to calculate emissions reductions

orto establish baselines might be so daunting as to discourage attempts to develop EIP's.This commenterfelt that the need for such guidance is particularly great for EIP's relying on

area and mobile source emissions reductions. Another such commenter felt that without more detailed guidance spelling out appropriate design criteria and policy and legal limitations, States will succumb to pressures to develop EIP's that do not effectively implement the requirements ofthe Act.

Some commenters on both sides of thisissue recommended that the EPA provide examples ofsuccessful, appropriate EIP's.Such commenters recommended that such information be provided through supplemental documentation or through an EPAestablished EP information clearinghouse.

Just as an individual State EIP rule should balance flexibility with specificity, the EPA's final EIP rules should do the same. Thus, the final rules retain the balance between general
statements ofprinciples and criteria and specific detailed guidance on technical requirements that was reflected in the proposal. The final rules provide sufficient detail to allow States to design and implement EIP's that will effectively implement the requirements of the Act without defeating the purpose of capturing thebenefits ofmarketbased regulatory approaches.

Although the final rules do not include specific examples ofEIP's that have been successfully implemented, the EPA agrees that such information is

a useful and important aspect of encouraging the development ofsuch programs. For the last 3 years, the EPA has funded grants to support marketbased initiatives by State, regional and local agencies. 16 All such initiatives have included strong involvement from the State, affected local interests, and the relevant EPA Regional Office(s). Final reports from these projects are, available from the States to further the

16The docket contains summaries of such

programs and contacts for information. EPA's goal ofdisseminating information about the design and implementation of EIP's.

Beyond this grant program, the EPA is committed to working with individual States asthey develop EIP's. In addition
to the program survey documents which have been placed in the docket, the EPA. is developing plans for future outreach activities to make information about successful EIP initiatives as broadly available as possible.

2. Administrative Simplicity

Several commenters agreed that administrative complexity can be one of the greatest impediments to a regulation and urged the EPA to simplify the terms and processes ofthese rules. Such
commenters felt that undue administrative complexity would stifle the development ofEIP's and provide a significant disincentive for participation in trading programs. These commenters generally felt that the EIP rules should minimize regulatory barriers because they interfere with the functioning of desirable market mechanisms which are necessary for the success ofthe EIP.

One type ofcomplexity cited by two State commenters related to excessive government process, and the associated lack oftimeliness, in the review of individual emissions trades. These
commenters recommended that individual emissions trading transactions not berequired to be submitted to the EPA for review once a State's generic trading rule has been approved by the EPA. Further, one such
commenter recommended more focus

on the audit and evaluation ofanEIP program, rather than on administrative burdens upfront in implementing emissions trades. This commenter felt that the EPA should have the authority
to conduct periodic audits ofemissions trading transactions approved by the States to assure the integrity ofthe
program.

In seeking to provide States with the flexibility to implement emissions trading programs effectively, the final EIP rules retain the proposed requirement for the State to establish appropriate administrative procedures for conducting, approving, verifying, recording, and tracking trades. As part of an EIPprogram, these procedures would then be reviewed by the EPA in the course ofEPA review ofthe SIP revision incorporating the EIP into the SIP. Thus, the EP does not necessarily envision single-source SIP revisions for each trade conducted in the context of

an EPA-approved generic emissions trading program. Of course, EPA approval ofsuch programs is predicated

on the program containing all the 1670916710 Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

appropriate environmental safeguards that are required by theEIP rules.One such safeguard is the inclusion of program audits, to be conducted bythe *State,to evaluate program implementation andtrack program results. TheEIPrules require that the State provide post-audit reports tothe EPA, and that the State commits to implement timely programmatic revisions or other measures necessary forthe successful operation ofthe program. Additionally, therulesrequire that State and Federal enforceability must be preserved, such that when ERC's generated within an emissions trading program are used to offset increases in emissions from other

sources, the ETPmust contain a mechanism for ensuring State and Federal enforceability ofthe measures taken togenerate thecredits.

The EPA is currently developing additional guidance onsuch issues associated with banking ofERC's. The EPA intends tocomplete this additional guidance as quicklyas possible, and, in the interim, towork with States developing EIP's involving banking of ERC's.
3.Regional and Interstate Trading

Neither the proposal nor final rules specifically address the issue ofregional and interstate emissions trading. Severalcommenters raised this issue, however, particularly in the context oftrading of emissions offsets. Most such commenters felt that the EPA should encourage interstate tradingby establishing consistent rules and prohibiting States from creating interstate barriers. One State group felt that the finalrules should provide for the fullestpossible implementation of trading strategies on a regional basis within the Northeast Ozone Transport Region. One environmental group urged that the finalrules remind States ofthe statutory geographical constraints on trading.

The EPA has developed some preliminary guidance on this issue as it relates to NO,, offsets inthe Northeast Ozone Transport Region.17Additional guidance on interstate or regional trading willbe developed inthe context ofthe EPA's working with interested States in program development activities.

"7Thisguidance is contained ina March 31, 1993 letter from Mr. John Seitz. Director ofthe EPA's Office ofAir Quality Planning and Standards, to Mr. Bruce Carhart, ExecutiveDirector ofthe Ozone Transport Commission, which includes all or portions ofthenortheastern States from Washington, DC, to the New England States. This letter is available in thedocket for this rule. V. AdministrativeRequirements

A. Executive Order12866

Under Executive Order 12866, (58 FR 51735 (October4, 1993)) the Agency
must determine whether the regulatory action is "significant" and therefore subject to OMB review and the requirements of theExecutive Order. The Order defines "significant regulatory action" as one that is likely
to result in a rule that may:

(1) Have an annual effect on the
economy of$100 million or more or adversely affect in a material way the
economy, a sector ofthe economy, productivity, competition, jobs, the environment, public health or safety, or State, local, or tribal governments or communities;

(2) Create a serious inconsistency or otherwise interferewith an action taken

or planned by another Agency;

(3] Materially alter the budgetary impact ofentitlements, grants, user fees,

or loan programs or therights and obligations ofrecipients thereof; or

(4) Raise novel legal or policy issues arising out of legal mandates, the President's priorities, or the principles
set forth in the Executive Order."

It has been determined that these rules are not a "significant regulatory action" under the terms ofExecutive Order 12866. This action was submitted
to OMB for review. Changes made in
response to OMB suggestions or recommendations will be documented in the public record.

B. Paperwork ReductionAct

These rules do not contain any information collection requirements subject to review by the OMB under the Paperwork Reduction Act of 1980, 44 U.S.C. 3501, etseq.

C.RegulatoryFlexibility Act

The Regulator Flexibility Act of1980 and applicable EPA guidelines revised in 1992 require Federal agencies to identify potentially adverse impacts of Federal rules upon small entities. Small entities include small businesses, organizations, and governmental jurisdictions- In instances where significant impacts are possible on a substantial number ofthese entities, agencies are required to perform a Regulatory Flexibility Analysis (RFA).

This ruledoes not ofitselfimpose any requirements on small entities, nor require or exclude small entities from
any EIP's which maybe implemented in the future. As a result, the EPAhas determined that these rules Will not have a significant impact on a substantial number ofsmall entities. Therefore, asrequired under section 605 ofthe RFA, 5 U.S.C. 601 etseq.,f certify that theserulesdo nothave a significant impact on a substantial number ofsmall entities.

List of Subjects in 40CFRPart51

Administrative practice and procedure, Air pollution.control, Carbon monoxide,Intergovernmental relations, Lead, Nitrogen dioxide, Ozone, Particulate matter, Reporting and recordkeeping requirements, Sulfur oxides, Volatile organic compounds.

Dated: Karch 15, 1994. CarolM. Browner, Administrator.

For reasons set outin the preamble, 40 CFRpart 51 is amended as follows:

PART 51-REQUIREMENTS FOR PREPARATION, ADOPTION, AND SUBMITTAL OF IMPLEMENTATION PLANS

1.The authority citation for part 51 continues to read as follows:

Authority:42 U.S.C. 7401-7671q.
2.Part 51 is amendedby adding a
new subpart U, consisting of§g51.490 through 51.494, to read as follows: Subpart U--Economic Incentive Programs

Sec. 51.490, Applicability. 51.491 Definitions. 51.492 State program election and submittal. 51.493 State program requirements. 51.494 Use ofprogram revenues. Subpart U--Economic Incentive Programs

§51.490 Applicability.

(a)The rules in'this subpart apply to any statutory economic incentive program (EIP)submitted totheEPA as
an implementation plan revision to comply with sections 182(g)(3), 182(g)(5), 187(d)(3), or 187(g) ofthe Act. Such programs may be submitted by any authorized governmental organization, including States, local governments, and Indian governing bodies.

(b)Theprovisions contained inthese rules, except as explicitly exempted, shall also serve as the EPA'spolicy guidance on discretionary EIP's submitted as implementation plan revisions for anypurpose other than to comply with the statutory requirements specified in paragraph (a ofthis section.
§51.491 Definitfons.

Actmeans the Clean Air Act as amended November 15, 1990.

Actualemissionsmeans the emissions ofa pollutant from an affected sourceFederal Register 

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### 1 Thursday, April 7, 1994 / Rules and Regulations,

determined bytakinginto account actual emission rates associated with

normarsource operation and actual or representative productionrates (i.e., capacity utilization andhours of operation).

Affectedsourcemeansany stationary,. area, ormobile sourcer ofacriteria pollutant(s) towhich,anElP applies.. This term applies to sources explicitly included at the start ofa program, as well assources that vohntarity enter (i.e., optinto) the program.

Allowableemissionsmeans the emissions ofapollutant froman affected source determinedbytaking into account the.moststringentofall applicable SIP emissions limitsand the, level ofemissionsconsistent with

source compliance with allFederal requirements related,toattainment and maintenance oftheNAAQS andthe production rate.associated withthe maximumratedcapacity and hours of operation (unlessthe.source issubject to federally enforceable limits which restrict the operating rate,,orhours of operation,.orboth).

Areasourcesmeans stationary and nonroad sources thataretoo small and/

ortoo numerous tobeIndividually included in a stationary source emissions inventory.

Attainmentarea means any areaof the country designated or redesignated. by the EPA at40 CFRpart.81 in.. accordance with section 107(d) as having attained the relevant NAAQS for

a given criteria pollutant. An areacan be

an attainment area forsome pollutants and a nonattainment area forother pollutants.

Attainmentdemonstration means the requirement in section 182(b)l')(A),-of the Actto demonstrate thatthe specific annual emissions reductions Included in a SIP are sufficient to attain the primary NAAQS bythe dateapplicable to the area.

Directionally-sound strategies are, strategies for which adequate procedures to quantify emissions reductions orspecify a program,baseline

are not defined aspart ofthe EIP.

Discretionary economicincentive programmeans anyEIPsubmitted tothe, EPA as an implementation plan.revision. for purposes other than.to comply with the stautoryrequirements ofsections 182(g)(3). 182(g)5), 187(d)(3),.or 18.7(g) ofthe Act.

Economicincentive program(EIP),

means a program which mayinclude State established emission fees.or a system ofmarketable permits, ora system ofState fees on:r sale or manufacture ofproducts the use of which contributes to 03 formation, or any combination ofthe foregoing or other similarmeasures, as well as Incentives and requirements toreduce vehicle emissions andvehicle miles traveled in the area, including any ofthe transportation control measures identified in section 108(. Such programs maybe directed toward stationary, area, and/or mobile sources, to achieve emissionsreductions. milestones, to attain and maintain ambient air quality standards, and/or to provide more flexible, lower-cost approaches tomeeting environmental goals. Such programs are categorized intothe following three categories: Emission-limiting, market-response, and directionally-sound strategies..

Emission-limitingstrategies are strategies that directly specify limits on total mass emissions, emission-related parameters (e.g., emission ratesper unit ofproduction, product content limits),

or levels ofemissions reductions relative to a program baseline that are required to bemet by affected sources, while providing flexibility to sources to reduce the costofmeeting program requirements.

Indian governing, bodymeansthe governing body ofany tribe, band, or group ofIndians subject tothe jurisdiction ofthe U.S. andrecognized by the U.S- aspossessing power ofselfgovernment.

Maintenance planmeans an implementationplan foran area for which theState is currently seeking designation orhas previously sought redesignation to attainment, under section 107(d) ofthe Act, which provides forthe continued attainment of the NAAQS.

Market-responsestrategiesare strategies that create one ormore incentives'for affected sources to reduce emissions, without directly specifying limits on emissions or emission-related parameters thatindividual sources or
even all sources inthe aggregate are required to meet.

Milestonesmeans the reductions in emissions required,tobe achieved pursuantto section 182(b)(1) and the corresponding requirements in section 182(c)(2) (B)and,(C). 182(d), and 182(e) ofthe Act fore03 nonattainment areas, as,well as the reduction in emissions of CO equivalenttothetotal ofthe specified annual emissions reductions required by December31,, 1995, pursuant to.section 187(d)(1)..

Mobilesourcesmeans on-road. (highway).vehicles.(e.g., automobiles,. trucks and motorcycles) and,nonroad vehicles (e.g., trains, airplanes,, agricultural equipment, industrial equipment'. construction vehicles, offroad motorcycles, andmarine vessels),. Nationalambientairqualitystandard (NAAQS) means a standard setby the. EPA at40 CFR part 50 under section 109 ofthe Act.

Nonattainmentareameans any area ofthecountry designated by the EPA at 40 CFR part 81 in accordance with section 107(d) ofthe Actas nonattainment for one or more criteria, pollutants. An area couldbea nonattainment area forsomepollutants and an attainment area forother pollutants.

Nondiscriminatory means that a program in one State does not result in discriminatory effects on other Statesor

sources outside the State with regard to, interstate commerce.

Program baseline means the level of emissions, oremission-related parameter(s), for each affected source or group ofaffected sources, from which
program results (e.g.,quantifiable emissions reductions) shallbe determined.

Programuncertainty factor meansa, factor applied to discount the amount of emissions reductions credited inan implementation plan demonstratior to account forany strategy-specific uncertainties in an EIPR

Reasonable further progress(RFP), planmeans any incremental emissions reductions required by the CAA (e~g., section 182(b)) and approved by the EPA as meeting these requirements.

RFPbaselinemeans the total ofactual volatile organic compounds ornitrogen oxides emissions from all anthropogenic

sources in an 03 nonattainment area during the calendar year 1990 (netof growth and adjusted pursuant to section 182(b)(1)(B) ofthe Act), expressed as typical O season, weekday emissions.

Replicablerefers to methods which

are safficiently unambiguous such that the same or equivalentresults would: be obtained by the application ofthe methods by different users.

Rule compliance factormeans a factor applied to discount the amount of .emissions reductions credited in an implementation plan demonstration to account for less-than-complete, compliance by theaffected sources in an, EIP.

Shortfallmeansthe difference between the amount ofemissions reductions credited in an implementation plan for a. particular EIP and those that are actually achievedby that EIP,as determined,through an approved reconciliation process.

Statemeans State, local government,

orIndian-governing body.

Stateimplementationplan, (SIP),

means a, plan.developed by an authorized governing,body,.including: States, local governments, and.Indian16711 1671116712 Federal Register /,

### Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

governing bodies, in a nonattainment
area, asrequired under titles I&IIofthe Clean AirAct, and approved by the EPA

as meeting these same requirements.

Stationarysourcemeans any building, structure, facility or installation, other than an area or mobile source, which emits ormay emit any criteria air pollutant or precursor subject to regulation underthe Act.

Statutoryeconomicincentiveprogram
means any EIP submitted to the EPA as

an implementation plan revision to comply with sections 182(g)(3), 182(g)(5), 187(d)(3), or 187(g) ofthe Act.

Surplusmeans, at a minimum, emissions reductions in excess ofan established program baseline which are not required by SIP requirements or State regulations, relied upon in any applicable attainment plan or demonstration, or credited in any RFP

or milestone demonstration, so asto prevent the double-counting of emissions reductions. Transportation controlmeasure (TCM) is any measure ofthe types listed in section 108(F) ofthe Act, or any

measure in an applicable implementation plan directed toward reducing emissions ofair pollutants fromtransportation sources by a reduction in vehicle use or changes in traffic conditions.
§51.492 State program election and submittal.

(a) Extreme03nonattainment areas. (1)A State or authorized governing body for any extreme 03 nonattainment area shall submit a plan revision to implement an EIP, in accordance with the requirements ofthispart, pursuant to section 182(g)(5) of the Act, if:

(i)A required milestone compliance demonstration is not submitted within the required period.

(ii) The Adinistrator determines that the area has not met any applicable milestone.

(2) The plan revision in paragraph (a)(1) ofthis section shall be submitted within 9 months after such failure or determination, and shall be sufficient, in combination with other elements of the SIP, to achieve the nextmilestone.- (b) SeriousCO nonattainment areas. (1)A State orauthorized governing body forany serious CO nonattainment area shall submit a plan revision to implement an EIP, in accordance with the requirements ofthispart, if:

(i)A milestone temonstration is not submitted within the required period, pursuant to section 187(d) ofthe Act. (ii)The Administrator notifies the State, pursuant to section 187(d) ofthe Act, that a milestone has notbeen met. (iii)The Administrator determines, pursuant to section 186(b)(2) ofthe Act that the NAAQS forCO has not been attained by the applicable date forthat

area. Such revision shallbe submitted within 9 months after such failure or determination. (2) Submittals made pursuant to paragraphs (b)(1) (i) and (ii)ofthis section shallbe sufficient, together with

a transportation control program, to achieve the specific annual reductions in CO emissions set forth inthe implementation plan by the attainment date. Submittals made pursuant to paragraph (b)(1)(iii) ofthis section shall be adequate, in combination withother elements ofthe revised plan, to reduce the total tonnage ofemissions ofCO in the area by at least 5 percent peryear in each year after approval ofthe plan revision and before attainment ofthe NAAQS for CO. (c)Seriousandsevere 03 nonattainmentareas.Ifa State, for any serious or severe 03 nonattainment area, elects to implement an EIP inthe circumstances set out in section 182(g)(3) ofthe Act, the State shall submit a plan revision to implement the program in accordance with the requirements ofthis part. Ifthe option
to implement an EIP is elected, a plan revision shall be submitted within 12 months after the date required for election, and shall be sufficient, in combination with other elements ofthe SIP, to achieve the next milestone.

(d)Any nonattainment orattainment

area.Any State may at any time submit

a plan or plan revision to implement a discretionary EIP, in accordance with the requirements ofthis part, pursuant
to sections 110(a)(2)(A) and 172(c)(6) and other applicable provisions ofthe Act concerning SIP submittals. The plan revision shall not interfere with any applicable requirement concerning attainment and RFP, orany other applicable requirements ofthe Act.
§51.493 State program requirements.

Economic incentive programs shall be State and federally enforceable, nondiscriminatory, and consistent with the timely attainment ofNAAQS, all applicable RFP and visibility requirements, applicable PSD increments, and all other applicable requirements ofthe Act. Programs in nonattainment areas for which credit is taken in attainment and RFP demonstrations shall be designed to

ensure thatthe effects ofthe program

are quantifiable and permanent over the entire duration of the program, and that the credit taken is limited to thatwhich is surplus. Statutory programs shall be designed to result in quantifiable, significant reductions in actual emissions. The EIP's shall include the following elements, as applicable:

(a) Statementof goalsandrationale. This element shall include a clear
statement as to the environmental .problem being addressed, the intended environmental and economic goals of the program, and the rationale relating the incentive-based strategy to the
program goals.

(1) The statement ofgoalsmust include the goal that the program will benefit both the environment and the regulated entities. The program shall be designed so asto meaningfully meet this goal either directly, through increased

or more rapid emissions reductions beyond those that would be achieved through a traditional regulatory
program, or, alternatively, through other approaches that will result in real environmental benefits. Such alternative approaches include, but are not limited to, improved administrative mechanisms, reduced administrative burdens on regulatory agencies, improved emissions inventories, and the adoption ofemission caps which

over time constrain or reduce growthrelated emissions beyond traditional regulatory approaches. (2) The incentive-based strategy shall be described in terms ofone ofthe following three strategies:

(i) Emission-limiting strategies, which directly specify limits -ontotal mass emissions, emission-related parameters (e.g., emission rates per unit of production, product content limits), or levels ofemissions reductions relative

to a program baseline that affected

sources are required to meet, while providing flexibility to sources to reduce the cost ofmeeting program requirements. (i) Market-response strategies, which

create one ormore incentives for affected sources to reduce emissions, without directly specifying limits on emissions or emission-related parameters that individual sources or

even all sources in the aggregate are required to meet. (iii)Directionally-sound strategies, for which adequate procedures to quantify emissions:reductions are not defined.

(b)Program scope. (1) This element shall contain a clear definition ofthe

sources affected by the program. This ,definition shall address: (i) The extent to which theprogram is mandatory or voluntary for the affected

sources.

(ii) Provisions, if any, by which

sources that are not required to be in the
program may voluntarily enter the
program.Federal Register / VOl. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

(iii)Provisions, ifany, by which

sources covered by the program may voluntarily leave the program.

(2) Any opt-in oropt-out provisions in paragraph (b)(1) ofthis section shall be designed to provide mechanisms by which such program changes are. reflected in an area's attainment and. RFP demonstrations, thusensuring that there will.not be an increase inthe emissions inventory for the area caused by voluntary entry or exit from the program. 3).

The program scope shall be

defined so as notto interfere,with any other Federal requirements which apply tothe affected sources.

Cc) Programbaseline.A program baseline shall be defined as a.basisfor projecting program results and, if applicable, for initializing the incentive mechanism (e.g., formarketable permits programs). The program baseline shall be consistent with, and adequately reflected in, the assumptions and inputs used to develop an area's RFP plans and attainment and maintenance demonstrations, asapplicable. The State shall provide sufficient supporting information from.the areawide emissions inventory and other sources tojustify the baseline used in the EtP.

{A) For EIP's submitted in conjunction, with, or subsequent to, the submission ofany areawide progress plan due atthe time ofEIP submission (e.g., the I5 percent RFP plan and/or subsequent 3 percent plans) or an attainment demonstration, a State may exercise flexibility in setting.a program baseline provided theprogram baseline is consistent with and reflected in all relevant progress plans orattainment demonstration. A flexible program baseline may bebased on the,lower of actual, allowable, or some other intermediate or lower level of emissionasFor any EIP submitted prior to the submittal Qfan attainment. demonstration, the State shall include the following withitsEIP submittalh

(i)A commitment that its subsequent attainment demonstration and all future progress plans, ifapplicable, will be consistent with the EIP baseline. (ii)A discussion ofhow thebaseline willbe.integrated into thesubsequent attainment demonstration, taking into account the potential that credit issued prior to the attainment demonstration may nolonger be surplus relative to the attainment demonstration.

(2)Except as provided for in paragraph (c)(4) ofthis section,. for EIP's submitted during a time period when any progress plans are required but.not yet submitted (e.g., the 15 percent RFP plan and/or the subsequent 3- percent plans), the program baseline shall be based on the lower-of-actual-orallowable emissions. In,such cases, actual emissions shall be takenfrom the fost appropriate inventory, such as the 1990 actual emission inventory (due,for submission in November 1992), and allowable emissions are the lower of SIP-allowable emissions or the level of emissions consistent with source compliance with all Federal requirements related to attainment and maintenance ofthe NAAQS.

(3)ForEIP's that are designed to implement new and/or previously existing RACTrequirements through emissions trading and are submitted in conjunction with, orsubsequent to, the submission ofan associated RACT rule,

a Statemay exercise flexibility in setting

a program baseline provided-the program baseline is consistent with and reflected inthe associated RACT rule,. and any applicable progress plans and attainment demonstrations.

(4) For EIP's that are designed to implement new and/or previously existing RACT requirements through emissions trading and are submitted prior to the submission ofa required RFP plan.orattainment demonstration, States also have flexibility in determining the program baseline, provided the following conditions are met.

(i)For EIP'sthat implement new RACT requirements forpreviously unregulated source categories through emissions trading, the new RACT requirements must reflect, to the extent practicable, increased emissions reductions beyond those that would be achieved through a traditional RACT program.

(ii)For EIP's that impose new RACT requirements on previously,unregulated

sources in apreviously regulated source category (e.g., RACT "catch-up" programs), the new incentive-based RACT rule shall,in the aggregate, yield reductions in actual emissions at least equivalent tothat which would result from source-by-source compliance with the existingRACT limit for that source .category. (5)A program baseline for individual

sources shall, as appropriate, be contained or incorporated by reference in federally-enforceable operating permits or a federally-enforceable SIP.

(6) An initial baseline forTCM's shall. be calculated by establishing the, preexisting conditions in. the areas of interest. Thismay include establishing to what extent TCM's have already been implemented, what average vehicle occupancy (AVO) levelshave been achieved during peak andoff-peak periods, whattypesoftrips occur inthe regibn, and what mode choices have been made in making these trips. In addition, the extent to which travel options are currently available within, the region ofinterest shallbe determined. These travel options may include, but are not limited to, the degree ofdispersion oftransit services, the current ridership rates, and the availability and usage of parking facilities.

(7) Information used in setting a program baseline shall be of sufficient quality to- provide for at least as high a degree ofaccountability as currently exists.for traditional control requirements for the categories of

sources affected by the program.

(d) Replicableemission quantification: methods.This program element, for
programs other than those which arecategorized.as directionally-sound, shall include credible, workable, and replicable methods forprojcting
program resuts frome' affected sources and, where necessary, for quantifying emissions from individual sources subjectto the EIP.Such methods, if used to determine credittaken in attainment, RFP, and maintenance demonstrations, as applicable, shall yield results which can be shown to have a level of certainty comparable to that for source-specific standards and traditional methods ofcontrol strategy development. Such methods include, as applicable, the,following elements:

(1) Specification ofquantification methods. This.element shall specify the. approach or the combination or range of approaches that are'acceptable foreach

source category affected bythe program. Acceptable approaches may include, but

are not limited to: i}

Test methods forthe direct
measurement of emissions, either continuously .orperiodically.

(ii) Calculation equations which are a function ofprocess or-control system parameters, ambient conditions, activity levels, and/or throughput orproduction
rates.

(iii)Mass balance calculations which

are a function ofinventory, usage, and/

or disposal records.

(iv)EPA-approved emission factors, where appropriate.and adequate.

(v)Any combination ofthese approaches. I.

(2). Specificatio ofaveraging times.

(i)The averaging time for any specified mass emissions caps or emission rate limits shallbe consistent with: attaining and maintaining all applicable NAAQS, meeting RFP requirements, and ensuring equivalency with all applicable RACTrequirements.

. (ii) Ifthe averaging time for any specified VOC orNOx mass emissions caps or emission rate limits for 1671316714 Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

stationary sources (and for other

sources, as appropriate) is longer than 24 hours,the State shall provide, in support ofthe SIP submittal, a statistical showing that the specified averaging time is consistent with attaining the 03 NAAQS and satisfying RFP requirements, as applicable, on the basis oftypical summer day emissions; and, ifapplicable, a statistical showing that the longer averaging time will produce emissions reductions that are equivalent

on a daily basis to source-specific RACT reguirements.

(3) Accounting for shutdowns and production curtailments. This accounting shall include provisions which ensure that: (i) Emissions reductions associated with shutdowns and production curtailments are not double-counted in attainment or RFP demonstrations. (ii) Any resultant "shifting demand" which increases emissions from other

sources is accounted for in such demonstrations.

(4) Accouriting for batch, seasonal, and cyclical operations. This accounting shall include provisions which ensure that the approaches used to account for such variable operations are consistent with attainment and RFP plans.

(5) Accounting for travel mode choice options, as appropriate, forTCM's. This accounting shall consider the factors or attributes ofthe different forms oftravel modes (e.g., bus, ridesharing) which determine which type oftravel an individual will choose. Such factors include, but are not limited to, time, cost, reliability, and convenience of the mode.

(e) Sourcerequirements.This program element shall include all source-specific requirements that constitute compliance with the program. Such requirements shall be appropriate, readily ascertainable, and State and federally enforceable, including, as applicable: (1)Emission limits. (i) For programs that impose limits on total mass emissions, emission rates, or other emission-related parameter(s),- there must be an appropriate tracking system so that a facility's limits are readily ascertainable at all times.

(ii) For emission-limiting EIP's that authorize RACT sources to meet their RACT requirements through RACT/nonRACT trading, such trading shall result in an exceptional environmental benefit. Demonstration ofan exceptional environmental benefit shall require either the use ofthe statutory offset ratios for nonattainment areas as the determinant ofthe amount ofemissions reductions that would be required from non-RACT sources generating credits for RACT sources or, alternatively, a trading ratio of1.1 to 1, at a minimummay be authorized, provided exceptional environmental benefits are otherwise demonstrated.

(2) Monitoring, recordkeeping, and reporting requirements. (i) An EIP (orthe SIP as a whole)must contain test methods and, where
necessary, emission quantification methodologies, appropriate to the emission limits established in the SIP. EIP sources must be subject to clearly specified MRR requirements appropriate
to the test methods and any applicable quantification methodologies, and consistent with the EPA's title V rules, where applicable. Such MRR requirements shall provide sufficiently reliable and timely information to determine compliance with emission limits and other applicable strategyspecific requirements, and to provide for State and Federal enforceability of such limits and requirements. Methods for MRR may include, but are not limited to:

(A) The continuous monitoring of

mass emissions, emission rates, or process or control parameters.

(B) In situ or portable measurement devices to verify control system operating conditions.

(C) Periodic measurement ofmass emissions or emission rates using reference test methods. (D) Operation and maintenance procedures and/or other work practices designed to prevent, identify, orremedy noncomplying conditions.

(E) Manual or automated recordkeeping ofmaterial usage, inventories, throughput, production, or levels ofrequired activities.

(F) Any combination of these methods. EIP's shall require that responsible parties at each facility in the EIP program certify reported information.

(ii) Procedures for determining required data, including the emissions Contribution from affected sources, for periods forwhich required data monitoring is not performed, data are otherwise missing, or data have been demonstrated to have been inaccurately determined.

(3) Any other applicable strategy specific requirements.

(f)

Projected resultsandaudit! reconciliation procedures.(1) The SIP submittal shall include projections of the emissions reductions associated with the implementation ofthe
program. These projected results shall be related to and consistent with the assumptions used to develop the area's attainment demonstration and maintenance plan, as applicable. For
programs designed to produce emissions reductions creditable towards RFP milestones, projected emissions reductions shall be.related to the RFP baseline and consistent with the area's RFP compliance demonstration. The State shall provide sufficient supporting information that shows how affected

sources are or will be addressed in the emissions inventory, RFP plan, and attainment demonstration or maintenance plan, as applicable.

( {i) For emission-limiting programs, the projected results shall beconsistent xrith the reductions inmass emissions

or emissions-related parameters specified in the program design.

(ii) Formarket-response programs, the projected results shall be based on market analyses relating levels of targeted emissions and/or emissionrelated activities to program design parameters.

(iii) For directionally-sound programs, the projected results may be descriptive and shall be consistent with the area's attainment demonstration or maintenance plan.

(2) Quantitative projected results shall be adjusted through the use oftwo uncertainty factors, asappropriate, to reflect uncertainties inherent in both the
extent to which sources will comply with program requirements and the overall program design. (i)Uncertainty resulting from incomplete compliance shall be addressed through the use ofa rule compliance factor.

(ii) Programmatic uncertainty shall be addressed through the use ofa program uncertainty factor. Any presumptive

norms setby the EPA shall be used unless an adequatejustification for an alternative factor is included in supporting information to be supplied with the SIP submittal. In the absence ofany EPA-specified presumptive
norms, the State shall provide an adequate justification forthe selected factors as part ofthe supporting information to be supplied withthe SIP submittal. •

(3)Unless otherwise provided in program-specific guidance issued by the EPA, EIP's for which SIP credit is taken shall include audit procedures to evaluate program implementation and track program results in terms ofboth actual emissions reductions, and, to the
extent practicable, cost savings relative
to traditional regulatory program requirements realized during program implementation. Such audits shall be conducted at specified time intervals, not to exceed three years. The State shall provide timely post-audit reports to the EPA.

(i)For emission-limiting EIP's, the State shall commit to ensure the timelyFederal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations 16715

implementation of programmatic revisions orother measures which the State, in response to the audit, deems necessary for the successful operation of the program in the context of overall RFP and attainment requirements.

(i) For market-response EIP's, reconciliation procedures that identify a range of appropriate actions or revisions
to program requirements that will make up for any shortfall between credited results (i.e., projected results, as adjusted by the two uncertainty factors described above) and actual results obtained during program implementation shall be submitted together with the program audit provisions. Such measures must be federally enforceable, as appropriate, and automatically executing to the
extent necessary to make up the shortfall within a specified period of time, consistent with relevant RFP and attainment requirements.

(g) Implementationschedule.The program shall contain a schedule for the adoption and implementation ofall State commitments and source requirements included in the program design.

(h) Administrative procedures. The
program shall contain a description of State commitments which are integral to the implementation ofthe program, and the administrative system to be used to implement the program, addressing the adequacy ofthe personnel, funding, and legislative authority.

(1) States shall furnish ad)quate documentation ofexisting legal authority and demonstrated administrative capacity to implement and enforce the provisions ofthe EIP.

(2) For programs which require private and/or public entities to establish emission-related economic incentives (e.g., programs requiring employers to exempt carpoolers/ multiple occupancy vehicles from -payingforparking), States shall furnish adequate documentation ofState authority and administrative capacity to implement and enforce the underlying
program.

(i) Enforcementmechanisms.The program shall contain a compliance instrument(s) for all program requirements, which is legally binding and State and federally enforceable. This program element shall also include

a State.enforcement program which defines violations, and specifies auditing and inspections plans and provisions for enf6rcement actions. The program shall contain effective penalties for noncompliance which preserve the level ofdeterrence in traditional programs. For all such programs, the manner ofcollection ofpenalties must be specified.

(1)Emission limit violations. (i) Programs imposing limits on mass emissions oremission rates that provide for extended averaging times and/or compliance on a multisource basis shall include procedures for determining the number ofviolations,the number of days ofviolation, and sources in violation, for statutory maximum penalty purposes, when the limits are exceeded. The State shall demonstrate that such procedures shall not lessen the incentive for source compliance a's compared to a program applied on a source-by-source, dailybasis.

(ii) Programs shall require plans for remedying noncompliance at any facility thatexceeds a multisource emissions limit for a given averaging period. These plans shall be enforceable both federally and by the State.

(2)Violations ofMRR requirements. The MRR requirements shall apply on a dailybasis, as appropriate, and violations thereofshall be subject to State enforcement sanctions and to the Federal penalty ofup to $25,000 for each day a violation occurs or continues. In addition, where the requisite scienter conditions are met, violations ofsuch requirements shall be subject to the Act's criminal penalty sanctions ofsection 113(c)(2), which provides for fines and imprisonment of up to 2years.
§51.494 Use ofprogram revenues.

Any revenues generated from statutory EIP's shall be used by the State for any ofthe following: •

(a)Providing incentives for achieving emissions reductions.

(b) Providing assistance forthe development ofinnovative technologies for the control of03 air pollution and for the development oflower-polluting solvents and surface coatings. Such assistance shall not provide forthe payment ofmore than 75 percent of either the costs ofany project to develop such a technology or the costs of development ofa lower-polluting solvent or surface coating.

(c) Funding the administrative costs ofState programs under this Act. Not

more than 50 percent of such revenues may be used forthis purpose. The use ofany revenues generated from discretionary EIP's shall notbe constrained by the provisions ofthis part."

3.Part 51 is amended by adding a
new appendix X to read as follows: Appendix X to Part 51-Examples of Economic Incentive Programs

I. Introduction andPurpose
This appendix contains examples ofEIP's .which arecovered by the EIP rules. Program descriptions identify key provisions which distinguish the different model program types. The examples provide additional information and guidance on various types of regulatory programs collectively referred to

as EIP's. The examples include programs involving stationary; area, and mobile

sources. The definition section !at40 CFR 5f.491 defines an EIP as a program which may include State established emission fees

or a system ofmarketable permits, or a system ofState fees on sale ormanufacture ofproducts the use of which contributes to 03 formation, orany combination ofthe foregoing orother similar measures, as well

as incentives and requirements to reduce vehicle emissions and vehicle miles traveled in the area, including any of the transportation control measures identified in section 108(f). Such programs span a wide spectrum ofprogram designs.

The EIP's are comprised ofseveral elements that, in combination with each other, must insure that the fundamental principles ofany regulatory program (including accountability, enforceability and noninterference with other requirements of the Act) are met.There are many possible combinations ofprogram elements that would beacceptable. Also, it is important to emphasize that the effectiveness ofan EIP is dependent upon the particular area in which it is implemented. No two areas face the

same air quality circumstances and, therefore, effective strategies andprograms will differ among areas.

Because ofthese considerations, the EPA is not specifying one particular design or type ofstrategy as acceptable forany givenEIP. Such specific guidance would potentially discourage States (orother entities with delegated authority to administer parts ofan implementation plan)from utilizing other equally viable program designsthat may be

more appropriate for their situation. Thus, the examples given in this Appendix are general in nature so asto avoid limiting innovation on thepart ofthe States in developing programs tailored to individual State needs.

Another important consideration in designing effective EIP's is the extent to which different strategies, or programs targeted at different types ofsources, can complement one another when implemented together as anEIP "package." The EPA encourages States to consider packaging different measures together when such a strategy is likely to increase the overall benefits from the program as a whole. Furthermore, some activities, such as information distribution or public awareness programs, while notEIP's in and of themselves, are oftencritical to the success ofothermeasures and, therefore, would be appropriate complementary components ofa program package. All SIP emissions reductions credits should reflect a consideration ofthe effectiveness of the entire package.16716 Federal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

H.ExamplesofStationaryandMobile Source EconomicIncentiveStrategies

There is a wide variety ofprograms that
fall under the general heading ofEIP's. Further,within each general type ofprogram

are several different basic program designs. This section describes common types ofEIP's that have been implemented, designed, or discussed in the literature for stationary and mobile sources. The program types discussed below do not include all ofthe possible types ofEIP's. Innovative approaches incorporating

new ideas in existing programs, different combinations ofexisting program elements,

or wholly new incentive systems provide additional opportunities for States to find
ways to meet environmental goals at lower total cost.
A. Emissions Trading Markets

One prominent class ofEIP's is based upon the creation ofa market in which trading of source-specific emissions requirements may

occur. Such programs may include traditional rate-based emissions limits (generally referred to as emissions averaging)

or overall limits on a source's total mass emissions perunit oftime (generally referred

to as an emissions cap)..The emissions limits, which may be placed on individual emitting units or on facilities as a whole, may decline

over time. The common feature of such
programs is that sources have an ongoing incentive to reduce pollution and increased flexibility in meeting their regulatory requirements. A source may meet its own requirements either by directly preventing or controlling emissions or bytrading or averaging with another source. Trading or averaging may occur within the same facility, within the same firm, or between different firms. Sources with lower cost abatement alternatives may provide the necessary emissions reductions tq sources facing more expensive alternatives. These programs can lower the overall cost of meeting agiven total level ofabatement. All sources eligible to trade in an emissions market are faced with continuing incentives to find better ways of reducing emissions at the lowest possible cost, even ifthey are already meeting their

own emissions requirements.

Stationary, area, and mobile sources could be allowed to participate in a common emissions trading market. Programs involving emissions trading markets are particularly effective at reducing overall costs when individual affected sources face significantly different emissions control
costs. A wider range in control costs among affected sources creates greater opportunities for cost-reducing trades. Thus, for example,

areas which face relatively high stationary

source control costs relative to mobile source control costs benefit mostby including both stationary and mobile sources in a single emissions trading market.

Programs involving emissions trading markets have generally been designated as either emission allowance or emission reduction credit (ERG) trading programs. The Federal Acid Rain Program is an example of

anemission allowance trading program, while "bubbles" and "generic bubbles" created under the EPA's 1986 Emission Trading Policy Statement are examples of ERC trading.Allowance trading programs can establish emission allocations to beeffective
at the start ofa program, at some specific time in the future, or at varying levels over time. An ERCtrading program requires ERC's
to bemeasured against a pre-established emission baseline. Allowance allocations or emission baselines can be established either directly by the EIPrules or by reference to traditional regulations (e.g., RACT requirements). Ineither typeofprogram,

sources can eithermeet their EIP requirements by maintaining their own emissions within the limits established by theprogram, or by buying surplus allowances

orERC's from othersources. In any case, the State will need to establish adequate enforceable procedures for certifying and tracking trades, and for monitoring and enforcing compliance with the EIP.

The definition ofthe commodity tobe traded and the design ofthe administrative procedures the buyerand seller must follow
to complete a trade are obvious elements that
must be carefully selected to help ensure a successful trading market that achieves the desired environmental goal atthe lowest
cost. An emissions market is d6fined as efficient ifit achieves the environmental goal it the lowest possible total cost. Any feature of a program that unnecessarily increases the total cost without helping achieve the environmental goals causes market inefficiency. Thus, the design ofan emission tradingprogram should be evaluated not only in terms ofthe likelihood that the program design will ensure that the environmental goals ofthe program will be met,but also in. terms ofthe costs that the design imposes
upon market transactions and the impact of those costs on market efficiency.

Transaction costs are the investment in time and resources to acquire information about the price and availability ofallowances

orERC's, to negotiate a trade, and to assure the trade is properly recorded and legally enforceable. All trading markets impose some level of transaction costs. The level of transaction costs in anemissions trading market are affected by various aspects ofthe design ofthe market, such as the-nature of the procedures for reviewing, approving, and recording trades, thetiming ofsuch procedures (i.e., before or after the trade is made), uncertainties in the value ofthe allowance orcredit being traded, the legitimacy ofthe allowance or credit being offered for sale, and thelong-term integrity ofthe market itself. Emissions trading programs in which every transaction is different, such asprograms requiring significant consideration ofthe differences in the chemical properties or geographic location ofthe emissions, can result in higher transaction costs than programs with a standardized trading commodity andwelldefined rules for acceptable trades. Transaction costs are also affected by the relative ease with which information can be obtained about the availability and price of allowances orcredits.

While themarket considerations discussed above are clearly important in designing an efficient market to minimize the transaction
costs of such a program, other considerations, such asregulatory certainty, enforcement issues, and public acceptance, also clearly need to be factored into the design ofany emissions trading program. B.Fee Programs

A fee on eachunit ofemissions is a strategy that can provide a direct incentive for sources to reduce emissions. Ideally, fees shouldbe set soas to result in emissions being reducedto the socially optimal level considering the costsof control andthe benefits of the emissions reductions. In order
to motivate a change in emissions, the fees
must behigh enough that sources will actively seek to reduce emissions. It is important to note that not all emission fee programs are designed to motivate sources to lower emissions. Feeprograms using small fees are designed primarily to generate
revenue, often to cover some ofthe administrative costs ofa regulatory program.

There can be significant variations in emission feeprograms. Forexample, potential emissions could be targeted by placing a fee on an input (e.g., a fee on the quantity and BTU content offuel used in an industrial boiler)rather than on actual emissions. Sources paying a fee on potential emissions could be eligible for a feewaiver

or rebate by demonstrating that potential emissions are notactually emitted, such as through a carbon absorber system on a coating operation.

Some fee program variations are designed to mitigate the potentially large amount of

revenue that a fee program could generate. Although more complex than a simple fee program, programs that reduce or eliminate thetotal revenues maybe more readily adopted in a SIPthan a simple emission fee. Some programs lower the amount oftotal

revenues generated by waiving the fee on

some emissions. These programs reduce the total amount ofrevenue generated, while providing an incentive to decrease emissions. Alternatively, a program may impose higher per-unit feeson a portion ofthe emissions stream, providing a more powerful but targeted incentive atthe same revenue levels. Forexample, fees could becollected on all emissions in excess ofsome fixed level. The level could be set as a percentage ofa baseline (e.g., fees on emissions above some percentage ofhistorical emissions), or asthe lowest emissions possible (e.g., fees on emissions in excess ofthe lowest demonstrated emissions from the source category).

. Other fee programs are "revenue neutral," meaning that the pollution control agency does not receive any net revenues. One way to design a revenue-neutral program is to have both a fee provision and a rebate provision. Rebates must becarefully designed to avoid lessening the incentive provided by the emission fee. For example,

a rebatebased on comparing asource's actual emissions and the average emissions for the

source category can be designed to be

revenue neutral and not diminish the incentive.

Other types of feeprograms collect a fee in relation to particular activities or types of products to encourage the use ofalternatives. While these fees are not necessarily directly linked to the total amount of emissions from the activity or product, therelative simplicityFederal Register / Vol. 59, No. 67 / Thursday, April 7, 1994 / Rules and Regulations

ofa usage fee may make such programs an effective way to lower emissions. An area source example is a construction permit fee for wood stoves. Such i permit fee is directly related to the potential to emit inherent in a wood stove, and not to the actual emissions from each wood stove in use. Fees on raw materials to a manufacturing processcan encourage product reformulation (e.g., fees

on solvent sold to makers ofarchitectural coatings) or changes in work practices (e.g., fees on specialty solvents and degreasing compounds used in manufacturing).

Road pricing mechanisms are fee programs that are available to curtail low occupancy vehicle use, fund transportation system improvements and control measures, spatially andtemporally shift driving patterns, and attemptto effect land usage changes. Primbry examples include increased peak period roadway, bridge, or tunnel tolls (thiscould also be accomplished with automated vehicle identification systems as well), and toll discounts for pooling arrangements and zero-emitting/low-emitting vehicles.
C. Tax Code andZoning Provisions

Modifications to existing State or local tax codes, zoning provisions, and land use planning can provide effective economic incentives. Possible modifications to encourage emissions reductions cover a broad span ofprograms, such as accelerated depreciation ofcapital equipment used for emissions reductions, corporate income tax deductions or credits for emission abatement costs, property tax waivers based on decreasing emissions, exempting lowemittingproducts from sales tax, and limitations on parking spaces for office facilities. Mobile source strategies include waiving or loweringany of the following for

zero- or low-emitting vehicles: vehicle registration fees, vehicle property tax, sales tax, taxicab license fees, and parking taxes. D. Subsidies

A State may create incentives for reducing emissions by offering direct subsidies, grants

or low-interest loans to encourage the purchase oflower-emitting capital equipment, ora switch to less polluting operating practices. Examples ofsuch programs include clean vehicle conversions, starting shuttle busor van pool programs, and mass transit fare subsidies. Subsidy programs often suffer from a variety of"free rider" problems. For instance, subsidies for people or firms who were going to switch to the cleaner alternative anyway lower the effectiveness ofthe subsidy program, ordrive up the cost ofachieving a targeted level of emissions reductions.
E.Transportation Control Measures

The following measures are theTCM's listed in section 108(f):

(i)Programs for improved public transit; (ii) Restriction of certain roads or lanes-to,

orconstruction ofsuch roads or lanes for use by, passenger buses or high occupancy vehicles;

(iii) Employer-based transportation management plans, including incentives;

(iv) Trip-reduction ordinances; (v) Traffic flow improvement programs that achieve emission reductions;

(vi) Fringe andtransportation corridor

- parking facilities serving multiple-occupancy vehicle programs or transit service;

(vii) Programs to limit or restrict vehicle

use in downtown areas or otherareas of emission concentration particularly during periods ofpeak use;

(viii)Programs for the provision ofall forms ofhigh-occupancy, shared-ride services; (ix) Programs to limitportions ofroad surfaces or certain sections ofthe metropolitan area to the use ofnon- motorized vehicles or pedestrian use, both as to time and place;

. (x)Programs for securebicycle storage facilities and other facilities, including bicycle lanes, for the convenience and protection ofbicyclists, inboth public ana private areas;

(xi) Programs to control extended idling of vehicles;

(xii) Programs to reduce motor vehicle emissions, consistent with title 11, which are caused by extreme cold start conditions;

(xiii)Employer-sponsored programs to permit flexible work schedules;

(xiv)Programs and ordinances to facilitate non-automobile travel, provision and utilization ofmass transit, and togenerally reduce the need for single-occupant vehicle travel, as part oftransportation planning and development efforts ofa locality, including programs and ordinances applicable to new shopping centers, special events, and other centers ofvehicle activity;

(xv) Programs for new construction and major reconstruction ofpaths, tracks or areas solely for the use by pedestrian orother non- motorized means oftransportation when economically feasible and in the public interest. For purposes ofthis clause, the Administrator shall also consult with the Secretary ofthe Interior; and

(xvi)Programs to encourage the voluntary removal from use and the marketplace ofpre- 1980 model year light-duty vehicles andpre- 1980 model light-duty trucks. [FR Doc. 94-6828 Filed 4-6-94; 8:45 am]

BILLING CODE 6560-60-P 16717