Federal Register, Volume 59 Issue 67 (Thursday, April 7, 1994)

[Federal Register Volume 59, Number 67 (Thursday, April 7, 1994)]

[Unknown Section]

[Page 0]

From the Federal Register Online via the Government Printing Office [www.gpo.gov]

[FR Doc No: 94-6828]

[[Page Unknown]]

[Federal Register: April 7, 1994]

_______________________________________________________________________

Part II

Environmental Protection Agency

_______________________________________________________________________

40 CFR Part 51

Economic Incentive Program Rules; Final Rule

ENVIRONMENTAL PROTECTION AGENCY

40 CFR Part 51

[FRL-4853-8]

RIN 2060-AD58

Economic Incentive Program Rules

AGENCY: Environmental Protection Agency (EPA).

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ACTION: Final rule and guidance.

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SUMMARY: This action promulgates rules for economic incentive programs 

(EIP's) which either may or must be adopted by States for certain ozone 

(O3) and carbon monoxide (CO) nonattainment areas upon the failure 

of a 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 O3 and serious CO 

nonattainment areas) or upon the failure of a serious 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 of today'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 of incentive-based, innovative 

programs, where appropriate, that will assist States in meeting air 

quality management goals through 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 

of the public comments on the EPA's February 23, 1993 proposed 

rulemaking, is available for public inspection and copying between 8 

a.m. and 4 p.m., Monday through Friday, at the address listed below. A 

reasonable fee for copying may be charged. The address of the EPA Air 

Docket 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, North 

Carolina 27711, telephone (919) 541-5667.

SUPPLEMENTARY INFORMATION: The contents of today's preamble are listed 

in the following outline:

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I. Background and Purpose

 A. Introduction

 B. Overview

 C. Principles and Regulatory Elements

II. Summary of Rules and Guidance

 A. Applicability

 B. Definitions

 C. State Program Election and Submittal

 D. State Program Requirements

 E. Use of Program Revenues

III. Discussion of Rules and Guidance

 A. Applicability

 B. Definitions

 C. State Program Election and Submittal

 D. State Program Requirements

 E. Use of Program Revenues

IV. Discussion of Comments 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 for Noncompliance

 I. Interface With Existing Emission Trading Policies

 J. General Issues

V. Administrative Requirements

 A. Executive Order 12866

 B. Paperwork Reduction Act

 C. Regulatory Flexibility Act

I. Background and Purpose

A. Introduction

 The Act, as amended in 1990, broadly encourages the use of 

incentive-based approaches to control air pollution. This encouragement 

is reflected not only in the title IV acid rain program, but also in 

the title I general provisions for State and Federal implementation 

plans for achieving the NAAQS for criteria pollutants, as well as in 

the provisions for certain Federal O3 measures. In title I, 

incentive-based approaches are encouraged, and, in certain cases, 

mandated, through the use of what has been termed an ``economic 

incentive program.'' Today's notice promulgates rules and guidance for 

EIP's adopted by the States pursuant to title I of the Act.

 The Agency views this action as an opportunity to encourage and 

provide guidance on the early implementation of appropriate 

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discretionary EIP's, as well as to provide mandated rules for use by 

States after certain specific failures occur. The Agency hopes that 

this guidance will stimulate the early adoption of innovative, 

incentive-based approaches, where appropriate, that will assist the 

States in avoiding such failures, reaching attainment of the NAAQS 

faster than might otherwise occur solely through the use of traditional 

regulatory strategies, and lowering the cost of attaining and 

maintaining the NAAQS. Through this action, the Agency intends to 

encourage the development of EIP's which benefit both the environment 

and the regulated entities by increasing flexibility and stimulating 

the use of less costly strategies, as well as by providing stronger 

incentives for development and implementation of pollution 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 of accountability 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 O3 and CO 

nonattainment areas pursuant to sections 182(g)(3), 182(g)(5), 

187(d)(3), and 187(g) of the Act. These sections mandate for certain 

areas, and identify as one of three options for certain other areas, 

the use of EIP's in certain cases. An EIP is mandated upon the failure 

of a State to submit an adequate demonstration showing that the area 

has met applicable milestones for RFP in extreme O3 nonattainment 

areas (section 182(g)(5)). An EIP is identified as one of three options 

upon such failure in serious and severe O3 nonattainment areas 

(section 182(g)(3)).1 Further, an EIP is also mandated upon the 

failure of a State to submit a milestone demonstration showing 

adequately that the area has met a required specific emissions 

reductions milestone or to attain the CO NAAQS in serious CO 

nonattainment areas (section 187(d)(3), 187(g)).

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 \1\The 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 as provided in the 

applicable contingency plan.

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 Section 182(g)(4)(A) of the Act requires that EIP's adopted by 

States pursuant to the sections of the 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's be 

nondiscriminatory with regard 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 of the 

EIP rules includes programs which may be adopted for ``reducing 

emissions from permitted stationary sources, area sources, and mobile 

sources.''

 Other sections of title I also explicitly allow for EIP's to be 

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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 O3 measures 

through the system of regulations for control of emissions from 

consumer or commercial products (section 183(e)(4)). Today's notice 

serves as the Agency's final guidance for EIP's adopted by States 

pursuant to the sections of the 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. Principles and Regulatory Elements

 The rules and guidance in today's notice are broadly applicable to 

any type of statutory or discretionary EIP, respectively. This notice 

requires that EIP's submitted for approval to the EPA as part of a SIP 

for a nonattainment area contain design features that will ensure that 

the program will not interfere with other requirements of the 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 of reductions; enforceable at both 

the State and Federal levels; and permanent over the entire duration of 

the program.2 The Agency does not intend to limit flexibility and 

innovation beyond those constraints that are necessary to meet these 

requirements.

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 \2\The program need not continue forever to generate permanent 

emissions reductions. Such reductions can be discrete or continuous, 

depending on the nature of the program. Discrete (i.e., temporary) 

reductions can be used to defer but not solely to satisfy continuous 

emission reduction requirements (e.g., RACT).

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 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 include 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 for 

MRR, 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 of 

the 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, of necessity, general in nature with regard to 

criteria for designing adequate program elements. This generality 

arises due to the large variety of EIP types and designs which may be 

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submitted, and the Agency's goal of encouraging creativity and 

innovation on the part of the States developing such programs. There 

are three broad, interrelated aspects of any program design that 

significantly affect the approvability of an 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 of MRR 

requirements for enabling determinations of compliance. For example, 

today's notice reflects the Agency's view that the scope and nature of 

MRR 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 of projected 

EIP program results. The Agency anticipates preparing additional 

guidance on specific aspects of program design as it gains experience 

with EIP's, partly through participation in feasibility and 

demonstration projects.

 Descriptions of a broad range of general types of incentive 

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 

as to avoid limiting innovation on the part of the States in developing 

programs tailored to individual State needs. The EPA has placed in the 

docket support documents which survey a wide range of EIP's that have 

actually been implemented, as well as programs in the design stage. The 

EPA has also issued information and guidance, as required by section 

108(f)(1)(A) of the Act, regarding the formulation and emissions 

reductions potential of various transportation control measures 

(TCM's).3

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 \3\Further 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.

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 The EPA also published interim guidance on the generation of 

emissions reductions credits (ERC's) from mobile source control 

programs at the same time the EIP rule was proposed.4 The EPA 

intends to respond to comments received on this interim guidance and 

publish final guidance in conjunction with other EIP-related guidance 

on ERC banking currently being developed.

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 \4\Interim Guidance on the Generation of Mobile Source Emission 

Reduction Credits, 58 FR 11134, February 23, 1993. For information 

and copies of the associated technical addendum entitled Guidance 

for the Implementation of Accelerated Retirement of Vehicles 

Programs, please contact: Mr. Mark Simons, U.S. EPA, 2565 Plymouth 

Road, Ann Arbor, MI 48105, (313) 668-4417. For information and 

copies of the associated technical addenda entitled (1) Guidance for 

Emission Reduction Credit Generation by Clean Fuel Fleets and 

Vehicles 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.

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 The EPA intends that today's notice be consistent with other 

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related rules and policies, either in place or under development, such 

as the title V operating permits rules, the title VII rules for 

enhanced monitoring, general guidance on the implementation of title I, 

and policies on emission trading.

II. Summary of Rules 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) of the Act, which either may 

or must be adopted by States upon the failure of a State either to meet 

or to submit an adequate showing that an applicable RFP or a specific 

emissions reductions milestone has been met (in serious, severe, and 

extreme O3 nonattainment areas, and serious CO nonattainment 

areas), or upon the failure of a serious CO nonattainment area to 

attain the NAAQS for CO. 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 SIP revisions.

B. Definitions

 The term ``EIP'' is defined to include State established emission 

fees, marketable permits, State fees on the sale or manufacture of 

products the use of which contributes to O3 formation, TCM's, or 

any combination of such measures.

C. State Program Election and Submittal

 Under today's rules, statutory EIP's submitted as SIP revisions, 

when applicable, must be sufficient, in combination with other elements 

of the plan, to achieve the next applicable milestone (for serious, 

severe, and extreme O3 nonattainment areas), or to reduce the 

total tonnage of emissions of CO in the area 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 of 

the Act (section 110(l)).

D. State Program Requirements

 Today's 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 addition, EIP's must be State and federally enforceable, 

nondiscriminatory (with respect to interstate commerce), and consistent 

with the timely attainment and maintenance of NAAQS, all applicable RFP 

and visibility requirements, applicable prevention of significant 

deterioration (PSD) increments, and all other applicable requirements 

of the Act. Programs in nonattainment areas for which credit is taken 

in attainment and RFP demonstrations shall be designed to ensure that 

the effects of the program are quantifiable, and that the credit taken 

is limited to that which is surplus to other SIP-credited requirements. 

Statutory EIP's must be designed to result in quantifiable, significant 

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reductions in actual emissions.

 A number of program elements are outlined in the rules which must 

be included, as applicable, as part of any 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 of Program Revenues

 The rules incorporate statutory restrictions on the use of revenues 

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 percent of the costs) for 

the development of innovative technologies for the control of O3 

air pollution and for the development of lower-polluting solvents and 

surface coatings, and funding (with up to 50 percent of the revenues) 

administrative costs of State programs under this Act. These 

restrictions on the use of revenues do not apply to discretionary 

EIP's.

III. Discussion of Rules and Guidance

 This portion of the notice provides more detail on the provisions 

of the final rules and guidance.

A. Applicability

 The rules published 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) of the Act, which either may 

or must be adopted by States upon the failure of a State either to meet 

or to submit an adequate showing that an applicable RFP or a specific 

emissions reductions milestone has been met (in serious, severe, and 

extreme O3 nonattainment areas, and serious CO nonattainment 

areas), or upon the failure of a serious CO nonattainment area to 

attain the NAAQS for CO. 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 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(l), 182, and 187 of the Act, as applicable, and associated Agency 

policies. For statutory programs, the Agency intends to review the plan 

revision and either approve or disapprove all or part of the revision 

within 9 months after the date of the State's submission of the 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 to the same schedule as is applicable to 

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any other type of plan revision. An EIP submitted as a plan revision 

will be deemed 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) of the Act, for purposes of 

today'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 of State fees on sale or manufacture of products, 

the use of which contributes to O3 formation, or any combination 

of the 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 of the transportation control measures identified in 

section 108(f).''

 For purposes of this rulemaking, this notice classifies EIP'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 of the 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 

categorization is a function of whether 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 

of production, 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 of meeting such limits. A marketable permits program (i.e., 

emission trading with source-specific mass emissions limitations, or 

caps) is a primary example of such a program. If every affected source 

in such a program complies with its emissions cap (taking into account 

both emissions 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 for individual sources or even for all 

sources in the aggregate. An emission fee program may be an example of 

a 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 of actions 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 of emissions (within any constraints 

imposed by other regulatory requirements).

 A consequence of programs based on market-response strategies is 

that actual emissions from affected sources may differ from the preimplementation projected emissions level even if every affected source 

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is in full compliance with the EIP requirements. This added degree of 

uncertainty 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 if the strategy contributes to the 

area coming into or maintaining attainment. Emissions reductions from 

such programs are not creditable towards RFP or attainment 

demonstrations because the program lacks one or more of the 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 not be 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) of the Act.

 A number of different types of incentive strategies have been 

identified upon which EIP's could be based. Appendix X contains 

descriptions of different types of strategies, together with a listing 

of the TCM's included in section 108(f) of the 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 of a program baseline is the first step in 

projecting program results. Results from EIP's can be projected in 

terms of quantifiable emissions reductions, or, in the case of 

directionally-sound programs, in terms of other emission-related 

parameters. Further, some types of incentive strategies depend upon the 

establishment of a program baseline, in terms of a level of mass 

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 as its starting point 

for any emissions trading transactions or future emissions reductions 

requirements. For other types of programs, this program baseline could 

be defined in terms 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 must be 

``nondiscriminatory'' and must be ``consistent with applicable law 

regarding interstate commerce.'' The EPA interprets these requirements 

to mean that a statutory EIP must not discriminate in favor of 

intrastate commerce and against interstate commerce. In addition, an 

EIP must meet any other applicable limitations under the Commerce 

Clause of the U.S. Constitution. For example, State taxes must meet the 

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, 

does not discriminate against interstate commerce, and is fairly 

related to the services provided by the State.'' Id. at 279. Under the 

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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. State Program Election and Submittal

 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) of the Act, may 

leave as little as 6 months for the EIP to be operational prior to 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 of a statutory EIP. As a 

result, the EPA encourages States to initiate development of an EIP as 

soon as they determine that a milestone failure is likely, or even 

sooner, as part of their SIP.

 States are encouraged to consider inclusion of discretionary EIP's, 

where appropriate, in the SIP's (or SIP revisions) due within the first 

4 years after enactment of the 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 

of the program. If such an early EIP submittal is made, States must 

account for the effects of the EIP in any subsequent required SIP 

submittals. Nothing in today's notice precludes a State from revisiting 

and amending its original EIP, or any other pre-existing rules, as 

necessary, to ensure consistency with any subsequent required SIP 

submittals.

 The requirements of section 182(g)(3) and 182(g)(5) of the Act 

apply any time that a State fails to submit an adequate milestone 

compliance showing, or when the EPA determines that a milestone has 

been missed by an area covered by these provisions. For example, if 

such a milestone is not met by a serious or severe O3 

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, including the election of an 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 

if an 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 if the area 

previously missed a milestone and adopted an EIP pursuant to section 

187(d)(3). A second missed-milestone program must provide reductions 

beyond the reductions from a first statutory program. The second EIP 

may either be a new program or a substantive revision of the first 

program.

D. State Program Requirements

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 Under today's rules, EIP's must be State and federally enforceable; 

nondiscriminatory (with respect to interstate commerce); and consistent 

with the timely attainment and maintenance of NAAQS, all applicable RFP 

and visibility requirements, applicable PSD increments, and all other 

applicable requirements of the Act. Programs in nonattainment areas for 

which credit is taken in attainment and RFP demonstrations shall be 

designed to ensure that the effects of the program are quantifiable and 

that the credit taken is limited to that which is surplus to other SIPcredited requirements. Statutory EIP's must be designed to result in 

quantifiable, significant reductions in actual emissions.

 Each of the program elements that must be included, as applicable, 

in an EIP submitted to the EPA as a plan revision are described below. 

For EIP's that allow trading to meet existing source requirements, the 

EPA will consider a two-step process for State submittal and EPA review 

of the program elements outlined below. Under such a step-wise process, 

the initial submittal shall include both a framework for all the 

general elements of program design, as well as all the specific 

regulatory details for a source-specific trade or for an entire source 

category, which trade or source category is representative, with 

respect to all program elements, of the 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 of all program elements for at 

least one source category. Alternatively, for an EIP designed to 

implement trading on a source-by-source basis, with EPA review of each 

trade, the initial submittal shall include the full details of all 

program elements for at least one source-specific trade. Thus, required 

specific aspects of the emission quantification procedures and MRR 

requirements for additional sources and/or source categories could be 

submitted at a later time to allow the State to phase-in the 

application of the program to other individual sources or source 

categories. Because adequate enforceability elements--including 

emissions quantification procedures, test methods, and MRR 

requirements--are integral to any SIP program, approval by the EPA of a 

framework for trading would constitute approval only of the framework 

elements included as part of the initial submission and of trading for 

those sources or within those source categories submitted with the 

framework and approved for trading by the EPA. Trading involving other 

sources or source categories could not occur until all elements, 

including enforceability elements, were approved by the EPA through a 

subsequent step in the process. The EPA will apply the same criteria in 

reviewing step-wise submittals of emission quantification and MRR 

requirements as in reviewing such requirements submitted together 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 of the EIP 

rules and guidance. The EPA does not intend to consider use of this 

step-wise process for EIP's that 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 must clearly define the goals of the 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's 

that they be designed to benefit both the environment and the regulated 

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entities. The final rules and guidance require States to design 

programs that will meaningfully 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'' is broadly defined to include not only 

economic benefits, such as cost savings and compliance flexibility for 

the regulated sources, but also environmental benefits that will result 

in States reaching attainment of the NAAQS faster than might otherwise 

occur solely through the use of traditional strategies. Environmental 

benefits can be created most directly by EIP's that require increased 

or more rapid emissions reductions beyond those that would be achieved 

through a traditional regulatory program. Specifically, a 10 percent 

increase in emissions reductions would presumptively meet this benefits 

sharing goal. Alternatively, environmental benefits can also be 

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 on regulatory 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 of emission caps 

which over time constrain or reduce growth-related emissions beyond 

traditional regulatory approaches.

 Statutory EIP's will benefit the environment as a result of the 

requirement that they be designed to result in significant reductions 

in actual emissions. For discretionary EIP's, no standard formula for 

benefit sharing is specified, although the EPA encourages States, to 

the extent practicable, to design such programs so as to create most 

directly increased or more rapid emissions reductions (see paragraph 

IV.A.2).

 The EPA notes that any incentive-based program has the potential to 

create incentives for pollution prevention and technological 

innovation. Such an inherent potential benefit can only meaningfully 

meet the goal of providing benefits to the environment if the program 

is specifically designed to allocate some of the effects of such 

innovation to enhancing environmental progress. Likewise, for the other 

ways listed above in which environmental benefits can be accomplished, 

the EPA intends that these approaches be meaningfully implemented so as 

to produce real environmental benefits.

 A well-designed EIP will achieve a number of different kinds of 

environmental benefits. For instance, a marketable emissions permit 

program, with mass emissions caps declining over time, may achieve 

several results. The declining cap aspect of the program can result in 

real emissions reductions creditable towards RFP milestones and 

attainment (to the extent that actual emissions are reduced). The 

marketable aspect of the program allows emission sources facing 

differing costs of further emission control to trade, lowering overall 

control costs. Such programs also encourage sources already able to 

meet their mass emissions caps to find ways of further 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's, 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 

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of achieving all the required reductions or mandating any specific 

percentage reduction. A program producing no additional emissions 

reductions or one based solely on a directionally-sound strategy, 

without quantifiable benefits, would not satisfy these criteria for an 

acceptable statutory EIP. For discretionary EIP's, the final guidance 

relies upon the new State planning, quantitative progress, and 

attainment requirements in the Act to ensure expeditious attainment of 

the NAAQS, regardless of the type of programs that States may choose to 

include in their SIP's.

 Any EIP should include a rationale for how the incentive 

mechanism(s) will achieve the stated goal(s). A State can create a 

better overall program design by carefully examining and explaining the 

linkage between a program's provisions and the desired outcome. The 

provisions of a program must 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 the program. The affected sources may be defined on 

the basis of source type (e.g., manufacturing operations), activity 

type (e.g., fuel storage tanks), location, firm size, quantity of 

emissions, 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 consider exempting zeroemitting vehicles from a new parking price program. In establishing the 

affected source criteria, a State must assure that the resultant 

program is nondiscriminatory within the meaning given that term in 

these rules.

 The program must establish procedures for dealing 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 or to be exempted from the 

program, to the extent that the program design allows for such movement 

into or out of the universe of affected sources. For example, the title 

IV acid rain allowance trading program 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 in the 

program. Certain EIP's may also provide criteria for exempting sources 

such that they can leave the program; such criteria must be described 

and the procedures for leaving the program must be included in the EIP. 

Any such procedures must ensure that movement into or out of the 

program will not interfere with other statutory requirements nor result 

in an increase in area-wide emissions that is not reflected in the 

plan's attainment or RFP demonstrations. Finally, the opt-in program 

language must specify that it will not allow sources to opt-in if the 

net result of the opt-in program as a whole is to increase area 

emissions, unless such increase has been accounted for in the 

development of the EIP, and is consistent with attainment and 

maintenance of the NAAQS, RFP, and all other SIP requirements.

 Affected sources in an EIP may also be covered by other Federal 

regulatory requirements. An EIP may not interfere with applicable 

requirements concerning attainment and RFP, or any other applicable 

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requirements of the Act. Thus, the program scope must be defined so as 

not to interfere with any other Federal regulatory requirements which 

apply to the affected sources. Such requirements for stationary sources 

may include, but are not limited 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 for hazardous air pollutants (NESHAP's), acid 

deposition program requirements, reasonably available control measures 

(RACM), and best available control measures (BACM). Such requirements 

for mobile sources may include, but are not limited to, programs 

integral to vehicle inspection and maintenance (I/M), 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 trades pursuant to an EIP as long as, apart 

from their participation in such trades, they continue to meet the 

statutory requirements. Thus, if these sources reduce their emissions 

below what the applicable statutory requirements call for, the 

reductions beyond the requirements may furnish credits for the 

EIP.5 Following is a more specific discussion of the interplay of 

the EIP rules with several of the statutory provisions listed above.

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 \5\For example, since VOC reductions that occur as a result of 

controls put in place to meet NESHAP's are creditable to RFP, such 

VOC reductions cannot be considered as surplus to supply VOC credits 

through an EIP. However, if in such a case greater than required 

reductions are made, the incremental VOC reductions could furnish 

credits through an EIP.

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 RFP Requirements. Credits for emissions reductions from stationary, 

mobile, or area sources may generally be used to meet the ``progress'' 

requirements of the nonattainment provisions of the Act. The SIP's for 

O3 nonattainment areas classified as moderate or higher under 

section 181(a)(1) are required to provide for reductions in volatile 

organic compounds (VOC) of at least 15 percent from baseline emissions 

by 1996, and areas classified as serious or higher are required to 

provide for reductions of at least 3 percent each year (averaged over a 

3-year period) thereafter until the attainment date (section 182(b)(1), 

182(c)(2)(B)). Emissions reductions from all sources may be used to 

meet these 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 subject to the RACT requirement to 

attain RACT-level emissions reductions in the aggregate, and thereby 

trade among themselves. In designing such RACT trading programs (to 

implement new and/or previously existing RACT requirements), as with 

any EIP, States are encouraged, to the extent practicable, to meet the 

benefits sharing goal directly, by requiring increased emissions 

reductions beyond those that would be achieved through a traditional 

RACT program.

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 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 RACT requirement (``non-RACT sources'') when such 

trading results in an exceptional environmental benefit, e.g., a level 

of reductions that is significantly greater than RACT-level amounts. 

With respect to the level of emissions reductions required from the 

non-RACT sources, the appropriate amount of emissions reductions 

generally should be set at a level that takes into account the severity 

of the nonattainment status in a given area.

 Today's rules establish the statutory offset ratios for 

nonattainment areas as the determinant of the amount of emissions 

reductions that would be required from non-RACT sources generating 

credits for RACT sources. The offset ratios are lower for lowerclassified areas (e.g., compare section 182(a)(4), with a 1.1 to 1 

offset ratio for marginal areas, and section 182(d)(2), with a 1.3 to 1 

offset ratio for severe areas). Looking to offset ratios is instructive 

because offsets are an aspect of emissions 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 RACT and 

non-RACT sources at less than the offset ratios if exceptional 

environmental benefits are otherwise demonstrated, such as, for 

example, an emissions trade that promoted the market penetration of 

emissions reduction measures for non-RACT sources, such that future 

emissions reductions from the universe of non-RACT sources would be 

expected to increase over time. Such measures could include new vehicle 

technologies that utilize alternative fuels, provided that such 

technologies meet all relevant EPA standards and guidelines. Where a 

lower trading ratio is authorized in order to promote the market 

penetration of an environmentally-beneficial, new control measure, a 

lower bound for the trading ratio of 1.1 to 1 will 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 a 

result of other exceptional environmental features of an EIP (such as a 

separate ``environmental bonus'' provision, as discussed in EPA's 

Interim Guidance on the Generation of Mobile Source Emissions Reduction 

Credits). In no case, however, can a trading ratio be lower than 1 to 

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, as may 

be authorized to promote the market penetration of environmentallybeneficial, new control measures).

 Offsets. Credits for emissions reductions generated by stationary, 

mobile, or area sources may be used for purposes of meeting the offset 

requirement for major new and modified sources in nonattainment areas 

so long as they meet the restrictions imposed on offsets by section 173 

of the 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 

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construction and operation in a nonattainment area unless, among other 

things, their new emissions are offset by reductions from other sources 

in the area (section 172(c)(5), 173(a)(1)(A)). For O3 

nonattainment areas, minimum offset ratios range from 1.1 to 1 for 

marginal 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, any portion of the necessary offsets may be 

generated by the local air quality district or by the State. In other 

words, a jurisdiction 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 the new 

emissions. This means that the jurisdiction must be able to demonstrate 

that the program has secured sufficient excess emissions reductions to 

offset all new emissions at the proper ratio. If the source itself is 

only held responsible for securing emissions reductions in an amount 

equal to its new emissions (i.e., a 1 to 1 ratio), the SIP must 

generate sufficient reductions to cover the extra reductions required 

(e.g., 1.2 to 1 in serious O3 nonattainment areas).

 The Act limits offsets to emission reductions not ``otherwise 

required by this Act.'' As part of the ``General Preamble for the 

Implementation of Title I of the Clean Air Act Amendments of 1990,'' 

the EPA described certain circumstances under which reductions would 

not be creditable for offset purposes because those reductions are 

required by other provisions of the Act (57 FR 13498, 13553 (April 16, 

1992)). In addition, the EPA intends to provide additional guidance 

regarding offsets in the near future.

 BACT and LAER. 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 of PSD and LAER in the case of NSR) be met by 

the proposed major new source or major modification itself as a 

condition of permit issuance. Consequently, neither of these 

requirements can be met through emissions trading.

 Regarding BACT, section 165(a) of the Act provides that no major 

new source or major 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 * * * 

setting forth emission limitations for such facility which conform to 

the requirements of this 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 this Act emitted from, or which results 

from, such facility.''7

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 \6\Section 302(k) of the Act defines the terms ``emission 

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limitation'' and ``emission standard'' interchangeably.

 \7\Section 169(3) in turn defines BACT as ``an emission 

limitation based on the maximum degree of reduction of each 

pollutant subject to regulation under this Act emitted from or which 

results from any major emitting facility, which the permitting 

authority, on a case-by-case basis, taking into account energy, 

environmental, and economic impacts and other costs, determines is 

achievable for such facility.''

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 The Act sets forth a similar statutory scheme with respect to LAER. 

Section 173(a) provides that the 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 if the requirements set 

forth in section 173(a)(1)-(5) are met. Among these enumerated 

requirements is section 173(a)(2), which specifies that ``the proposed 

source is required to comply with the lowest achievable emission 

rate.''9

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 \8\Section 173(a) incorrectly refers to the ``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 of revised section 173.

 \9\Section 171(3) defines LAER as ``that rate of emissions which 

reflects'' either ``the most stringent emission limitation which is 

contained in (any SIP) for such class or category of source,'' or 

``the most stringent emission limitation which is achieved in 

practice by such class or category of source, whichever is more 

stringent.''

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 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 no 

provision in the statute for lawfully complying with BACT or LAER 

through obtaining emissions reductions at other sources that would 

result in an equivalent reduction of emissions or ambient 

concentrations.

 Inspection and Maintenance Programs. The I/M provisions of the Act 

require a vehicle I/M program that meets specified performance 

standards. The requirements of the I/M provisions cannot be met by 

obtaining ERC's from sources other than vehicles, or from vehicles 

through means other than I/M of the vehicle. An EIP may not substitute 

entirely for an enhanced or basic periodic vehicle I/M program.

 This view is based on the provisions of the Act that set forth 

requirements for a basic I/M program, as well as certain provisions 

relating to enhanced I/M programs. Sections 182(a)(2)(B)(i) (I/M ``fixfile:///G|/AIR_DOCKETS/ROBIN/CA%202009-0366%20...nts/Economic%20Incentive%20Program%20Rules.htm (18 of 72) [10/19/2011 12:35:22 PM]
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ups'' for O3 nonattainment areas classified marginal and higher), 

182(b)(4) (I/M ``catch-ups'' for O3 nonattainment areas classified 

moderate and higher), and 187(a)(4) (I/M ``fix-up'' requirement for CO 

nonattainment areas classified moderate and higher) each require a SIP 

revision that includes provisions for a ``vehicle inspection and 

maintenance program'' that meets a specified performance standard.

 The provision for an enhanced I/M program for CO nonattainment 

areas classified as moderate and with a design value higher than 12.7 

ppm, or classified as serious, requires the SIP to include provisions 

for ``an enhanced vehicle inspection and maintenance program as 

required in section 182(c)(3) (concerning serious O3 nonattainment 

areas)'' (section 187(a)(6)). This provision confirms that the required 

I/M program is in fact a vehicle I/M program. The primary provision for 

an enhanced I/M program for O3 nonattainment areas classified as 

serious or higher does not include a comparable ``inspection and 

maintenance'' phrase (i.e., requires the SIP ``to provide for an 

enhanced program to reduce hydrocarbon emissions and nitrogen oxides 

(NOX) emissions from in-use motor vehicles''), but it further 

includes specific requirements for various types of testing, 

inspections, etc., that make clear that the program must obtain 

reductions from vehicle I/M (section 182(c)(3)).

 Nevertheless, both the basic I/M program and the enhanced I/M 

program requirements authorize a substantial degree of flexibility in 

program design. The Act directs the EPA to require a specific amount of 

emissions reductions, but also authorizes the State to design the 

program in a manner that meets the EPA established performance standard 

through different means. The EPA's final rule on I/M programs describes 

the EPA's performance standards and the ways that States can meet those 

standards (57 FR 52950-53014). In so doing, the State can take 

advantage of economic efficiencies (e.g., have a better test on more 

older cars to get greater performance, in exchange for some relaxation 

in another element). In addition, States could address mal-maintenance 

in the vehicle fleet in part by including an old car scrappage program 

as an element of the overall package used to meet the performance 

standard. However, the SIP must include a program obtaining the 

required reductions through vehicle inspections.

3. Program Baseline

 An EIP baseline must be fully defined within the EIP, and used as a 

basis for projecting program results and, if applicable, for 

initializing the incentive mechanism. States have flexibility in 

defining the program baseline for EIP's that implement new RACT 

requirements for previously unregulated source categories through 

trading programs, as long as the new RACT requirements reflect, to the 

extent practicable, increased emissions reductions beyond those that 

would be achieved through a traditional RACT program. States may also 

use a flexible baseline for EIP'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, 

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yields reductions in actual emissions at least equivalent to those 

which would result from source-by-source compliance with the existing 

RACT limit for that source category. This requirement can be satisfied 

by using existing data on actual and allowable emissions from the 

previously regulated sources in the affected source category (see 

paragraph IV.C.).

 A State also has flexibility in defining the program baseline for 

any EIP submitted in conjunction with, or subsequent to, the submission 

of any complete areawide progress plan due at the time of EIP submittal 

(e.g., the 15 percent RFP plan (section 182(b)(1)) and subsequent 3 

percent plans (section 182(c)(2))), and/or an attainment demonstration.

 In all such cases, the flexible program baseline may be based on 

actual, allowable, or some other intermediate10 or lower level of 

emissions, provided the State demonstrates that the program baseline is 

consistent with and reflected in the associated RACT rule, progress 

plans, or attainment demonstration. Further, for EIP's submitted prior 

to the submittal of a required progress or attainment demonstration, 

the State must include with its EIP submittal a commitment that its 

subsequent attainment demonstration and all future progress plans will 

be consistent with the EIP baseline in effect at that time, as well as 

a discussion of how the baseline will be integrated into the State's 

attainment demonstration. Further, in this discussion, the State should 

take into account the potential that emission reduction credits issued 

prior to the attainment demonstration may no longer be surplus relative 

to the attainment demonstration.11

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 \1\0A typical intermediate baseline may consist of a SIPallowable emission rate and an actual level of production.

 \1\1For example, the State could establish an escrow account or 

a formula for pro rata reductions of credits to cover credits that 

subsequently are no longer surplus.

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 Conversely, for EIP's that do not meet the above conditions 

relating to RACT and progress requirements, the program baseline must 

be set no higher than the lower of actual or allowable emissions. 

Actual emissions are to be taken from the most appropriate inventory, 

such as the 1990 actual emission inventory (which was 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 of the NAAQS.

 In addition, following submission of an EIP that incorporates a 

flexible baseline, if the State fails to submit a complete attainment 

demonstration, or if the EPA disapproves the attainment demonstration 

on the grounds that it does not provide for attainment of the NAAQS, 

the EPA may require the State to incorporate in the EIP a program 

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baseline set no higher than the lower of actual or allowable emissions.

 The baseline for an EIP submitted in conjunction with an attainment 

demonstration must be consistent with the assumptions employed in the 

attainment demonstration, including the location of emissions assumed 

in the photochemical grid modelling, if applicable.

 In considering emissions trading, the EPA continues to focus on the 

aspect of trading that involves the relaxation of a control requirement 

on a particular emissions-producing unit (the credit-receiving unit). 

Under trading programs, this relaxation is offset by tightening the 

control requirements on another emissions-producing unit (the creditgenerating unit). Under section 110(l), this relaxation is authorized 

only if it, taken in conjunction with the tighter control requirements, 

does not interfere with the ability of the SIP to meet the various 

requirements of the Act--most importantly, for present purposes, the 

RACT requirement and the requirements for progress (e.g., for RFP in 

O3 nonattainment areas, 15 percent reductions in VOC emissions by 

1996; and 3 percent-per-year over each 3-year period until the 

attainment date), as well as attainment requirements. It is understood 

that when the credit-generating unit's actual emissions are below the 

level mandated by the applicable control requirement, relaxing a 

control requirement on the credit-receiving unit in exchange for 

tightening the requirement on the credit-generating unit may result in 

an increase in aggregate actual emissions. Under these circumstances 

(i.e., trading from an 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 of actual emissions 

increases, EIP's may authorize trading from an allowables baseline when 

the EIP is submitted in conjunction with, or following, the submission 

of the applicable progress plans, and the allowables baseline is 

consistent with those plans. Under these circumstances, trading on the 

basis of allowables would not jeopardize the progress requirements. In 

some cases, the EPA will permit trading to occur on the basis of 

allowables prior to submission of the attainment demonstration SIP. 

However, once the State has submitted any applicable progress plans due 

at the time of EIP 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's judgment, sufficient evidence that 

an EIP authorizing an allowables baseline submitted in conjunction with 

an applicable progress plan will not jeopardize continued progress or 

attainment. In addition, States and sources should be aware that any 

emission limit relaxations approved through an EIP may be subject to 

ongoing scrutiny, and further tightening, if it is unexpectedly 

necessary to do so as part of an attainment demonstration.

 In addition, as described above, the EPA will permit EIP's that 

authorize trading from an allowables baseline in the case of source 

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categories, or portions of source categories, that are newly subjected 

to the RACT requirement under the RACT ``catch-up'' provisions of 

section 182(b)(2). Under these circumstances, the imposition of RACTlevel controls meets the RACT requirement, as described above, and is 

expected to result in emissions reductions with respect to the affected 

source categories or sources taken as a whole, even if some of the 

affected sources conduct emissions trades based on allowables. The fact 

that overall emissions from these source categories or sources will be 

reduced indicates that 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 or attainment requirements.

 If a SIP does not include a required RACT emission limit for 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 of a 

statutory EIP. That is, under the circumstances described above, a 

statutory EIP may incorporate a flexible baseline as long as the EIP as 

a whole provides the required reductions.

 A State may define a program baseline to address a variety of 

equity considerations, such as differing degrees of emission control 

among affected sources prior to the start of the EIP. While emissions 

reductions creditable towards a specific required demonstration will be 

calculated according to the requirements for that demonstration, the 

EIP may use a different baseline. For example, a declining value 

marketable permits program, submitted in conjunction with an areawide 

RFP or attainment plan, could initially allocate mass emissions caps on 

the basis of allowable emissions. However, to the extent that such a 

program baseline exceeds the aggregate actual emissions for the sources 

covered by the program, the EIP baseline allocation would be required 

to decline at a rate consistent with achieving the areawide RFP 

milestone as measured against the RFP baseline.

 The EIP must clearly specify whether the program baseline applies 

to aggregate emissions from all affected sources (similar to the RFP 

baseline) or to individual sources (similar to source-specific LAER 

requirements, for example). If historic emissions are relevant in 

setting the program baseline, the time period must be specified in the 

program. Provisions must be 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 and changes in emissions will be 

quantified for SIP credit. If other measurable factors are essential to 

an EIP, the quantification procedures for those must be specified in 

the program. For instance, if emissions reductions are generated by 

reducing total usage of a type of solvent, procedures for measuring 

solvent usage are critical. The program must specify the minimum 

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required credible, workable, replicable procedures for quantifying 

emissions, which could include emission factor calculations, direct 

emission monitoring, calculation procedures which are a function of 

process 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 of the 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 daily 

emissions.

 An EIP must establish procedures for quantifying emissions 

reductions arising from sources that shut down or curtail production. A 

State may not take credit for such emissions reductions as part of an 

EIP if the 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 of source shutdowns 

and curtailments. Credit also cannot be taken for shutdowns or 

curtailments that do not result in a decrease in an area's aggregate 

emissions. Changes in emissions at one source may merely increase 

emissions at another. For example, if one retail operation goes out of 

business, the total level of retail business will not necessarily 

change. Instead, customers may shift their business to other merchants 

in the area. The effect on aggregate emissions of such ``demand 

shifting'' will depend upon the nature of the business, and should be 

considered in the design of the EIP.

 An EIP also must establish procedures for quantifying emissions 

from sources with uneven emission patterns due to batch, seasonal or 

cyclical operations. The appropriate procedure for handling these 

expected fluctuations in emissions will depend in part on the emissions 

averaging time upon which the EIP is based.

 The EPA recognizes that the development of quantitative procedures 

for mobile sources can present significant challenges. Such procedures 

must consider, as appropriate, the factors which will affect or 

determine the level of participation in a transportation program, as 

well as how much and where vehicles are driven. Such procedures should 

clearly address how double-counting will be 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 or models which States may use to predict 

behavioral modifications as a result of the implementation of an 

economic incentive strategy must be presented as support information 

with the EIP submittal. The EPA views the development of sound 

incentive-based mobile source programs as an opportunity for the design 

of better, more rigorous tools for accounting for and encouraging 

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mobile source emissions reductions beyond those required by traditional 

programs.

 The final rules allow for long-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 of the 

specified averaging time is consistent with attaining the O3 NAAQS 

and satisfying applicable RFP requirements on the basis of typical 

summer day emissions; and, if applicable, a statistical showing that 

aggregate daily emissions from all affected sources covered by a 

Federal RACT requirement (net of any RACT/non-RACT trades) are no 

greater than the aggregate daily emissions from such sources that would 

result from the implementation of all applicable source-specific RACT 

requirements (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 

or procedures, providing product content labeling, or other measures 

specified by the program. Thus, the final rules allow for a wide range 

of alternative MRR procedures that provide sufficiently reliable and 

timely information for determining compliance. Criteria to be 

considered in the development of such 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 of the compliance period. This will 

require an authoritative, reliable repository of all relevant 

information at each facility.

6. SIP Creditability and Audit/Reconciliation Procedures

 A SIP revision that contains an EIP must include projections of the 

emissions reductions the State expects to achieve through the 

implementation of the program. The projections may be based on 

federally-enforceable limits on mass emissions or on other emissionrelated parameters, estimates of market response, economic modelling, 

or other relevant information. The State does 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 states how sources 

in an EIP are or will be addressed in the emissions inventory, RFP 

plan, and attainment or maintenance plan, as applicable. This 

documentation should include a description of the assumptions used in 

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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 market-response 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 of 

the other categories for which credit may be taken.

 For determining SIP credit, 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 a rule 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 of various 

quantification methods with differing confidence levels). These sources 

of uncertainty must be accounted for through the use of a 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 as the 

quantification and enforcement procedures, and on the predictive 

quality of the information used by the State to develop the projected 

emissions reductions. Inherent in the way in which these factors are 

defined, the value of either factor must be less than or equal to one. 

The State must include with its EIP submittal a justification 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 

source-specific trade, if appropriate, to ensure that quantification 

uncertainties not lessen a source's emissions reductions requirements. 

The uncertainty factors should be developed and justified by the State 

by taking into account various aspects of the design of the EIP, 

including but not limited to, the type of incentive mechanism upon 

which the program is based; the variability in emissions from affected 

sources and the nature and extent of uncertainty in the emissions 

quantification procedures required by the program; the frequency and 

type of MRR required by the program; sanctions for noncompliance; the 

frequency, scope and committed responses to program audits; and the 

nature of administrative procedures to be used by the State in 

implementing and enforcing the program (see paragraph IV.F.).

 Unless otherwise provided in program-specific guidance issued by 

the EPA, EIP's for which SIP credit is taken must also contain program 

audit procedures designed to evaluate program implementation and track 

program results in terms of both actual emissions reductions and, to 

the extent practicable, cost savings realized during program 

implementation. The auditing methods and the timing of the audits must 

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be specified in the EIP. The maximum time interval for conducting such 

audits is 3 years, although States are encouraged to consider more 

frequent audits. Further, the State must provide timely post-audit 

reports to the EPA. For emission-limiting EIP's, program audit 

provisions must include a State commitment to ensure timely 

implementation of programmatic revisions or other measures which the 

State, in response to the audit, deems necessary for the successful 

operation of the program (see paragraph IV.G.).

 Program audit provisions for market-response EIP's must be 

accompanied by reconciliation procedures, designed to compare credited 

emissions (i.e., adjusted projected emissions) with actual emissions 

achieved through the implementation of the program. The reconciliation 

procedures must specify a range of appropriate actions (e.g., invoke 

part of a general SIP contingency plan or a program-specific 

contingency), revisions to the program requirements (e.g., increase the 

fee, include more sources) that will make up for any shortfall between 

credited and actual emissions revealed by the audit, or reductions in 

the credit taken for the EIP in the SIP (provided that RFP and 

attainment requirements continue to be satisfied area-wide based on 

such reduced EIP credits in combination with the effects of all other 

SIP programs). Such measures must be automatically executing to the 

extent necessary to make up the shortfall, with State action required 

only to identify which of the specified actions are necessary to make 

up the shortfall. Such measures must not require a revision to the 

implementation plan to be effectuated once identified by the State; 

rather, the measures must be built into the original EIP design (or 

incorporated by reference).

 Greater burdens should not necessarily be imposed on EIP's, 

compared to traditional regulatory programs, by virtue of the audit and 

reconciliation requirements. These audit and reconciliation procedures 

are consistent with the general approach to implementing the Act being 

taken by the EPA, as illustrated in the Agency's rules for vehicle I/

M12 and for reformulated gasoline,13 and in the Agency's 

general guidance on the implementation of title I dealing with the rule 

effectiveness of stationary source control measures.14 Further, in 

appropriate cases, routine ongoing air program management procedures 

may be sufficient to fulfill the audit and reconciliation requirements. 

In designing audit procedures, the State should consider the relative 

uncertainty associated with the EIP and specify the scope and extent of 

the audit procedures to be commensurate with that level of uncertainty.

---------------------------------------------------------------------------

 \1\2Inspection/Maintenance Program Requirements, 57 FR 52950, 

November 5, 1992.

 \1\3Regulation of Fuels and Fuel Additives: Standards for 

Reformulated and Conventional Gasoline, 59 FR 7716, February 16, 

1994.

 \1\4Rule Effectiveness Guidance: Integration of Inventory, 

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Compliance, and Assessment Applications, EPA-452/4-94-001, January 

1994.

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7. Implementation Schedule

 An EIP must contain a schedule for implementing the program. The 

schedule must include dates for notifying potentially affected sources, 

as early as possible, about the impending EIP; program initialization 

and start-up procedures; compliance and submittal requirements for 

affected sources; and audit and reconciliation processes, including 

subsequent actions required to make up for any shortfall that occurs.

8. Administrative Procedures

 As part of any EIP design, the State must establish appropriate 

administrative procedures, specific to the type of incentive strategy, 

necessary to implement all of the elements of the EIP. For example, in 

a fee program a State must assure the proper administration of the fee 

collection process, and if rebate provisions are included, the 

administration of the rebate distribution process.

 Administrative procedures specific to marketable emissions permit 

programs which the State must address in a program design are the 

mechanisms required for conducting, approving, verifying, recording, 

and tracking trades. The EIP must clearly describe the administrative 

system, and any State commitments to implement and maintain the system, 

that enables market participants to conduct valid and legally protected 

transactions. The State must design the program to ensure that all 

program requirements are met by sources involved in trades, such that 

the trades result in enforceable changes in allowable emissions levels. 

A well-designed EIP will include the minimum amount of transactional 

oversight, approval, recording, and tracking provisions necessary to 

create a verifiable and enforceable system. Unnecessary or excessive 

administrative requirements in a trading system increase the cost of 

the program and inhibit trading. An active trading market increases the 

opportunities for cost-savings. However, a State must establish 

sufficient administrative procedures to ensure that the environmental 

goals of the EIP are met, and that the program is adequately 

enforceable (see paragraph IV.J.2. and the discussion of emissions 

trading markets in Appendix X).

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 State/local and 

Federal statutory maximum penalties preserve the deterrent effect of 

traditional regulatory programs. Enforcement provisions should preserve 

the criminal sanctions (for knowing violations) authorized in the Act 

for violations of SIP requirements per se.

 Traditional regulatory programs provide for enforcement against 

noncompliance with emissions limits at both the Federal and State/local 

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levels. The statutory maximum Federal penalties under the Act are 

$25,000 per day, per source in violation. To preserve the existing 

level of deterrence under the Act, an EIP that imposes multiday and/or 

multisource emission limits must define violations of those limits in 

such a way that the violations will translate into some combination of 

sufficient numbers of violations, sources in violation, and days of 

violation. One possible approach would be for the EIP to authorize 

predetermined penalties based on the amount of an exceedance of such a 

cap, 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 the 

specified averaging period. Such plans must identify appropriate and 

enforceable control measures or other procedures or strategies 

sufficient to achieve and maintain compliance with applicable emissions 

limits. Further, for sources subject to title V requirements, the 

elements of such 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 EIP's. Thus, an EIP must include enforcement provisions that 

establish a regulatory structure which clearly and effectively deters 

inadequate or improper MRR, 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. Use of Program Revenues

 Today's rules incorporate statutory restrictions on the use of 

revenues generated by statutory EIP's. These restrictions are mandated 

by section 182(g)(4)(B) of the Act on 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) of the Act. Revenues may be generated by an EIP 

from a wide variety of fees or charges, 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 of costs) for the 

development of innovative technologies for the control of O3 air 

pollution and for the development of lower-polluting solvents and 

surface coatings, and funding (with up to 50 percent of the revenues) 

administrative costs of State programs under the Act. These 

restrictions on the use of revenues do not apply to discretionary 

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EIP's.

 Because the use of revenues from discretionary programs is not 

constrained, some or all of the revenues generated by discretionary 

EIP's may be rebated in order to create a revenue-neutral program, or 

one with less revenue retained by the State. Rebate provisions of 

revenue-generating EIP's can be designed to reduce the total cost to 

the affected sources without diminishing the incentive to reduce 

emissions created by the EIP. For example, an emission fee program 

could place a fee on total emissions from affected sources, and rebate 

an amount based on average emissions or percentage emissions reductions 

of the affected sources. In a program with a large number of sources, 

each source would only have a minor influence on the average emissions. 

Thus, the rebate is not dependent on a source's own actions, and would 

not distort the incentive of the fee on every unit of emissions created 

by the source.

IV. Discussion of Comments and Regulatory Changes

 This portion of the preamble is organized according to the 

``Discussion of Issues'' section in the proposal, with additional 

discussion of general issues raised in public comments. The following 

discussion highlights the changes and clarifications made in the final 

rules in response to the public comments on these issues.

A. Program Goals

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) of the 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'' of the plan, or together with a 

``transportation control plan,'' to achieve the necessary reductions.

 In the proposal, the EPA solicited comments on whether to require 

that some specified minimum percentage of the required reductions be 

met by a statutory EIP. Most commenters, including State and local 

agencies, industry, and an environmental group, felt that EIP's should 

not be required to meet a specified minimum percentage of emission 

reductions. These comments were generally based on the premise that 

opportunities for such reductions will vary because of potential 

differences between nonattainment areas that may implement EIP's. A 

specified minimum percentage would not provide recognition of these 

differences nor the flexibility that needs to be an inherent part of 

EIP's. On the other hand, an environmental group commented that a 

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specified minimum percentage of required reductions should be met by a 

statutory EIP, equivalent to the percentage difference between what the 

SIP is achieving and what the next milestone requires.

 The final rules 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 for the shortfall. This position is most 

consistent with statutory intent that the States have flexibility in 

determining how best 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 all EIP's.

2. Discretionary Programs

 In explicitly allowing for discretionary (i.e., nonstatutory) EIP's 

to be included as SIP provisions, the Act does not impose 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 in the Act to ensure expeditious attainment of 

the NAAQS, regardless of the type of emissions reductions programs that 

States may choose to include in their 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 shared between two 

accounts: the regulated sources should retain only as much savings as 

is sufficient to maintain the incentive to participate in the EIP, with 

the remainder of the savings being used by the State to reach 

attainment more quickly than would be practicable under a nonincentivebased 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 a joint environmental/industry work group agreed with the 

proposal that the EPA should not require discretionary EIP's to achieve 

more rapid progress than other regulations. A joint environmental/

industry work group emphasized that EIP's should be designed to 

increase flexibility and cost effectiveness, and should not be held to 

any stricter standard than traditional 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 should be structured 

to produce reductions equivalent to traditional SIP rules that the 

EIP's replace, the addition of further 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 

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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's which replace traditional SIP requirements should 

be equally effective, equitable, and enforceable as the program it 

replaces.

 The final rules take into account the broad array of benefits that 

can result from the use of discretionary EIP's, the statutory 

requirement for expeditious attainment, and the fact that EIP'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 of EIP's requires some degree of consensus 

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 this benefits 

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 of attaining and maintaining the NAAQS, and provide stronger 

incentives for the 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 III.D.1. While the EPA encourages that 

discretionary EIP's be designed to produce environmental benefits 

directly, through increased or more rapid emissions reductions, States 

should consider these and other benefits in designing a program to meet 

the goal of sharing benefits between the regulated entities and the 

environment. In many cases, benefits in terms of cost savings will not 

be quantifiable prior to program implementation, due to the complex 

market decisions that sources participating in an EIP will need to make 

and changes in market conditions during the course of the program. 

Thus, the final rules and guidance include analysis of control cost 

savings, to the extent practicable, as a part of the required program 

audit.

 However, the difficulty of quantifying cost savings and the extent 

to which those cost savings constitute an incentive to trade leads the 

EPA to conclude that it is not practicable to require that all EIP'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' view that such programs may help 

achieve emissions reductions more effectively or efficiently, but not 

necessarily more expeditiously, than traditional regulatory 

requirements.

 The final rules reflect that it most appropriately falls to the 

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States to determine the type and extent of benefits sharing that is 

practicable and appropriate, given the unique circumstances that any 

particular discretionary EIP is designed to address. Therefore, the 

final rules do not require any specific formula for benefit sharing. 

However, the final rules do recognize that the issue of benefits 

sharing will be part of the political consensus building process 

associated with designing a discretionary EIP. In assessing this issue, 

States should not confuse this sharing with accounting for uncertainty 

in an EIP. Since uncertainty is to be accounted for through compliance 

and programmatic uncertainty factors (see paragraph III.F.), 

determining a degree of sharing based on weighing the uncertainty in an 

EIP would in essence be accounting twice for the same uncertainty.

 One commenter also argued that the requirements for attainment as 

expeditiously as practicable [section 181(a)(1)] and for imposition of 

reasonably available control measures [section 172(c)(1)] mandate the 

inclusion of emission fees in EIP's. The EPA encourages States to 

consider emissions fees, but does not believe that, at present, their 

impacts are sufficiently well understood in all cases to conclude that, 

for all EIP's, they are either practicable or reasonably available.

B. Interface With Reasonably Available Control Technology (RACT) and 

Other Statutory Requirements

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 in the 

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 

II.D.2.). Further, the proposal defined exceptional environmental 

benefits in terms of the statutory offset ratios for nonattainment 

areas and other demonstrations of exceptional long-term environmental 

benefits.

 With regard to meeting RACT in the aggregate, all but one commenter 

agreed with the proposed position that trading be allowed among all 

RACT sources. Further, these commenters generally felt that such RACT 

trading should produce emissions reductions that are equivalent to 

those that would be obtained if each source met its source categoryspecific RACT limit. On the 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 the EPA 

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 

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that since RACT limits have historically been set based on sourcespecific economic and technical constraints, ``tradeable'' RACT limits 

must be based on an analysis of the 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 that any ``tradeable'' RACT limits 

should be lower than source-specific RACT limits.

 With regard to RACT/non-RACT trading in general, most commenters, 

including industry, State and local agencies, and an environmental 

group, supported such trading. Some stated that any regulation which 

requires certain reductions to be obtained at specified sources, and 

nowhere else, contradicts a ``market-based'' approach. They felt that 

the broadest possible participation in a trading market should be 

encouraged so as to achieve the most benefits from the program. Some 

commenters felt that allowing RACT/non-RACT trading encourages the 

development of new technologies and facilitates obtaining controls on 

previously unregulated sources and source categories. Limiting trades 

to particular source categories was thought by some to substantially 

reduce both the incentives and savings available. Such comments were 

premised on the belief that trading between different source categories 

(involving both RACT and non-RACT categories) can have sufficient 

controls and safeguards built in to ensure compliance.

 On the other hand, other environmental groups opposed RACT/non-RACT 

trading. One such commenter asserted that statutory language regarding 

RACT ``sources'' only refers to stationary sources, such that trading 

between RACT sources and mobile sources would violate the Act. Further, 

this commenter asserted that such trading would make it impossible for 

States to manage mobile source and stationary source budgets properly 

for purposes of demonstrating 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 in part on 

the belief that trading between RACT sources and mobile sources 

violates the Act, because it is impossible to determine whether a given 

mobile source emission reduction is truly surplus. Further, both 

commenters felt that mobile source emissions reductions could not be 

reliably quantified.

 As to the 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 to justify RACT/non-RACT trading. 

These commenters felt that any trading ratio greater than 1 to 1 would 

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 

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RACT/non-RACT trades to achieve an exceptional environmental benefit in 

general, and the use of the proposed statutory offset ratios in 

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's were found in part D of title I of the Act. Section 172 specified 

the attainment date and the required SIP measures. Subsection (a) of 

section 172 required that nonattainment SIP's provide for attainment by 

specified dates; subsection (b)(2) required that those SIP's ``provide 

for the implementation of all 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 

attainment date) reasonable further progress * * * including such 

reduction in emissions from existing sources as may be obtained 

through the adoption, at a minimum, of reasonably available control 

technology.

 The EPA took the position that RACT requirements do not require 

each affected emissions unit to achieve a prescribed amount of 

reductions in emissions from its own processes, but rather require the 

affected sources to achieve in the aggregate the reductions that would 

be achieved if each applied RACT controls to itself. Under the EPA's 

interpretation, the application of the requirement to impose RACT upon 

``existing sources'' meant that RACT applied in the 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 NRDC v. EPA, 33 ERC 1657 (4th 

Cir. 1991), an unpublished decision. There, the Court of Appeals for 

the Fourth Circuit upheld as reasonable EPA's approval of a 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 of title I by updating the general 

requirements applicable to all nonattainment SIP's, placing those 

requirements in subpart 1 of part 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, but were 

combined differently--the RACM and attainment date requirements were 

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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 of all reasonably available control 

measures as expeditiously as practicable (including such reductions 

in emissions from existing sources in the area as may be obtained 

through the adoption, at a minimum, of reasonably available control 

technology) and shall provide for attainment of the national primary 

ambient air quality 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 the 

implementation of reasonably available control technology under 

section 172(c)(1) with respect to each of the following:

 (A) Each category of VOC sources in the area covered by a CTG 

document issued by the Administrator between the date of enactment 

of the Clean Air Act Amendments of 1990 and the date of attainment.

 (B) All VOC sources in the area covered by any CTG issued before 

the date of the enactment of the Clean Air Act Amendments of 1990.

 (C) All other major stationary sources of VOC's that are located 

in the area.

 Each revision described in subparagraph (A) shall be submitted 

within the period set forth by the Administrator in issuing the 

relevant CTG document. The revisions with respect to sources 

described in subparagraphs (B) and (C) shall be submitted by 2 years 

after the date of the enactment of the Act, and shall provide for 

the implementation of the required measures as expeditiously as 

practicable but no later than May 31, 1995.

 Under the 1990 Act, the EPA continues to take the position 

established under the 1977 Act that RACT applies in the aggregate 

because the RACT requirement of section 172(c)(1) of the Act is phrased 

identically to the RACT requirement of the 1977 Act (vis., ``existing 

sources''). EPA does not read 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 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 

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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 of reduction of emissions from stationary sources subject to 

RACT, but as authorizing those sources to substitute significantly 

greater emissions reductions credits from non-RACT sources in lieu of 

putting 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 EPA 

believes that its interpretation allowing such trading is permissible, 

based on the language of section 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 of the 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 as may 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 of any particular set of controls or technologies. Further, 

the term ``RACT'' is not defined in the statute. In light of the 

function of this term--to identify the level of required 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 as a zero level of reductions 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 of emissions reductions required from the 

RACT source itself, the EPA believes that if the RACT source acquires 

an appropriate amount of emissions 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 itself is not ``reasonably 

available''.

 With respect to the level of emissions reductions required from the 

non-RACT sources, the final rules retain the proposed approach to 

define such a benefit in terms of the statutory offset ratios in 

general, although flexibility is provided if exceptional environmental 

benefits are otherwise demonstrated, with a lower bound for the trading 

ratio of 1.1 to 1 in such cases. EPA believes that these additional 

amounts of reductions are required because it is ``reasonable''--within 

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the meaning of the amount of reductions required through ``RACT''--to 

forego reductions that could be obtained at the RACT source itself only 

when the trading program will result in an exceptionally strong benefit 

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 

that result 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 of 

Congress' view of benefits to the environment to be required in this 

context of emissions trading.

 Section 182(b)(2), quoted above, does not alter EPA's analysis. 

Section 182(b)(2) mandates ``the implementation of reasonably available 

control technology under section 172(c)(1) with respect to (three 

categories of stationary sources).'' The EPA interprets the crossreference to section 172(c)(1) to incorporate into section 182(b)(2) 

the definition of the 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 of 

controls 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 the 

time-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 is permissible under 

Chevron U.S.A. Inc. v. Natural Resources Defense Council, 467 U.S. 837 

(1984), because the relevant statutory provisions are not 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, the EPA may 

proceed to interpret the provision in a manner that is reasonable and 

consistent with the purpose of the statute. (See generally sections 

110(a)(2)(A) and 172(c)(6) (authorizing SIP measures to include 

``economic incentives such as * * * marketable permits'').)

 As discussed above in paragraph IV.A.2., the final rules and 

guidance require that EIP's be designed to meet the goal of sharing 

benefits between the environment and the regulated entities. For EIP's 

that allow trading or other types of compliance flexibility to meet 

RACT requirements, as with any EIP, the EPA encourages States, to the 

extent practicable, to meet this benefits sharing goal most directly by 

requiring increased emissions reductions beyond those that would be 

achieved through a traditional RACT program. Increased reductions could 

be created in a number of ways, such as by including more sources in 

the program or requiring a greater than 1-to-1 trading ratio. Depending 

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on the 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, of course, also meet the other 

requirements in the final rules, such as those that relate to credible, 

workable, and replicable quantification methods and to monitoring, 

recordkeeping, and reporting that allow for compliance determinations 

and State and Federal enforceability. The EPA recognizes that several 

commenters raised concerns about the technical workability 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 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).'' The EPA will address technical 

concerns raised by commenters when it finalizes guidance on the 

generation of ERC's from mobile source control programs.

 Beyond the requirements in the final rules, the EPA is developing 

more specific guidance on the use of emissions trading to implement new 

NOX RACT requirements. 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 in paragraphs 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 of the EIP 

rules and related guidance into EIP's that are environmentally sound 

and administratively efficient.

2. Offsets

 The EPA received 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 of this EIP 

rulemaking, but the EPA intends to address them in the near future in 

guidance on ERC banking currently being developed. In the interim, the 

EPA intends to work with States who want to develop offset banking 

programs.

3. ECO Programs

 The EPA received a number of comments dealing with ECO programs 

which are beyond the scope of this EIP rulemaking. The EPA has 

previously issued guidance on ECO programs 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. Program Baseline

 The proposed rules were based on the premise that a State can only 

take credit in attainment and RFP demonstrations for emissions 

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reductions from EIP's that are surplus to what is otherwise required 

and credited to other elements of a federally-approved SIP. This 

restriction is necessary to ensure that a State does not double count 

emissions reductions in SIP demonstrations. The general requirements 

for program baselines are intended to ensure that such double counting 

does not occur, while still providing as much 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 of 

an attainment demonstration. Further, comments were solicited on 

approaches for achieving consistency between EIP's with ``allowable'' 

program baselines and statutory RACT, RFP, and attainment requirements.

 There were many comments from industry and State and local agencies 

in support of the proposed flexibility in setting baselines. These 

comments generally supported the concept of considering the use of 

allowable emissions in setting EIP baselines, provided the EIP is 

consistent with RFP and attainment demonstrations. The commenters did 

not, however, address how such consistency could be achieved or 

demonstrated. Some State agencies commented that if allowable emissions 

baselines are used, they should not lead to more actual emissions, in 

the 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 until the 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 EIP baseline was a wholly inadequate constraint to ensure 

expeditious as practicable attainment. Further, this commenter 

expressed the view that ``surplus'' reductions should be defined 

relative to those reductions which are necessary to achieve attainment. 

As a result, the commenter concluded that the EPA should not approve 

any EIP's based on emissions trading prior to approval of an attainment 

demonstration.

 The final rules and guidance focus on consistency between progress 

plans and EIP baselines. 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 

difficult by the use of an EIP baseline which incorporates allowable 

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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 of an overall attainment strategy that 

lowers the cost of attainment. The final rules recognize that 

attainment strategies that incorporate EIP's can reflect both 

environmentally and economically sound policy choices. Therefore, the 

final rules retain the proposed baseline flexibility and definition of 

surplus, while requiring States to demonstrate in their EIP submittal 

that the EIP baseline is consistent with their progress plans15 

and RACT requirements, when applicable, and to commit that such 

consistency will be reflected in any subsequent progress plans and 

attainment demonstrations. The State should describe how the EIP 

baseline will be integrated into a subsequent 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 one commenter emphasized, that 

consistency with RFP does not automatically assure consistency with 

attainment when additional reductions are needed for attainment. 

However, the EPA takes the position that an allowables baseline that is 

consistent with an RFP submittal does not specifically interfere with 

attainment under section 110(l). 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 is 

presented by the sanctions/FIP requirement, as well as the fact that 

emissions limits allowed under the EIP may be tightened if they 

unexpectedly develop into impediments to attainment, further support 

the EPA's positions.

---------------------------------------------------------------------------

 \1\5EPA has concluded that it is not necessary in this notice to 

define RFP with any greater specificity than found in the statute; 

that is, it is not necessary to identify the extent, if any, of 

annual emissions reductions needed to comply with the statutory RFP 

requirements.

---------------------------------------------------------------------------

 As stated above in paragraph IV.B.1., the EPA is developing 

guidance that addresses baselines for EIP's implementing new NOX 

RACT requirements. Further, the EPA intends to work with States who 

want to develop trading-based RACT programs to incorporate the 

requirements of the EIP rules and related guidance into EIP's that are 

environmentally sound and administratively efficient.

D. Emission Quantification

1. Criteria for Adequacy of Approach

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 The proposed rules and guidance were based on the premise that the 

development and use of credible, workable, and replicable methods to 

quantify emissions are necessary elements of any quantifiable EIP. The 

proposed rules require EIP quantification methods to have a level of 

certainty comparable to that for source-specific standards and 

traditional methods of control strategy development. The proposal 

explicitly allowed States to develop alternative approaches to meet 

these emissions quantification requirements. The proposal solicited 

comments on adequacy criteria for various 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 this issue were supportive of the general 

requirements in the proposal. Of those supporting the general 

requirements, no commenters offered any specific criteria for levels of 

certainty or accuracy by which quantification approaches should be 

evaluated. On the other hand, an environmental group commented that, 

for trading programs, the EPA should require the use of the most 

accurate available continuous emissions monitors (CEM's) on every 

source in an emissions trading program, and, where such direct 

emissions quantification is not possible, no emissions trading should 

be allowed.

 The final rules reflect the importance of both ensuring 

environmental protection with an adequate degree of accountability and 

fostering the development of innovative and flexible programs. 

Innovation and flexibility would be unduly restricted if the 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 be more appropriate for various source 

categories. The final rules 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. Subject to these enforceability 

considerations, the final rules address uncertainty in emission 

quantification in determining SIP credit through the use of a 

programmatic uncertainty factor.

 A commenter stressed that the need to assure accuracy in trading 

would further burden State agencies, and argued that EPA could not 

approve an EIP absent a demonstration that the State agency has 

adequate resources to handle the additional workload. Many of the 

additional requirements Congress imposed on States through the Clean 

Air Act Amendments of 1990 would 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 

of EIP submissions in the same manner as EPA implements these 

requirements in the context of other SIP submissions.

2. Extended Averaging Times

 The proposed rules recognize that long-term averaging by individual 

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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's which require a number of sources to comply with 

total emissions caps or average 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 for by random 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 of RFP on 

the basis of typical summer day emissions, demonstrations of attainment 

of short-term NAAQS, and RACT requirements. The proposed approach 

provided increased flexibility to sources and to States in their plan 

development without undermining the EPA's traditional control programs 

or the validity of RFP or attainment demonstrations.

 The proposal recognized the need for additional guidance on such 

statistical ``equivalency'' showings. The proposal also solicited 

comments on specific approaches for RACT equivalency showings, 

including the use of a presumptive norm discount factor of 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 of short-term caps in conjunction with longterm caps or limits.

 Many commenters supported the proposed flexibility to allow for 

long-term averaging. One State commenter strongly supported the 

provision to allow States to 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 shortterm standards or demonstrations of compliance. Other States noted the 

need for consistency in the EPA's RACT guidance on averaging times. 

Industry commenters endorsed the allowance of long-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 not be 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 in emissions which could 

prevent attainment of short-term NAAQS.

 With regard to long-term averaging and RACT equivalency, many 

commenters disagreed with the use of a presumptive 30-day RACT 

equivalency factor, such as the 70 percent factor mentioned in the 

proposal. One commenter felt that a RACT equivalency showing should not 

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be required if some statistical information was provided showing that 

long-term averaging would not interfere with RFP or the 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 as requirements 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 show equivalency to, or noninterference with, 

each of these statutory requirements, although as a practical matter 

the same showing may suffice to assure consistency with more than one 

of the 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 

must demonstrate that the pattern of emissions resulting from relaxed 

averaging periods would approximate the pattern of emissions that would 

occur without relaxed 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 of short-term standards. The EPA 

anticipates that more general guidance will be developed in the 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 of sources, no one approach is necessarily the most 

appropriate, or even technically feasible, for all types of sources 

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.

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 Public comments focused on whether EIP's do depend more strongly on 

MRR and on whether CEM's should be 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 in EIP's than those required in traditional programs. These 

commenters supported the provision allowing a range of MRR requirements 

to be used in EIP'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 of 

CEM'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 of the 

most accurate available CEM's on every source involved in any emissions 

trading program. Further, this group felt that the maximum amount of 

CEM measurement inaccuracy should be reflected in a program discount 

factor. On the other hand, some industry commenters urged that EIP's 

not require the use of CEM's for any sources.

 The final rules retain the proposed flexibility for alternative 

monitoring approaches that allow for adequate compliance determinations 

and provide for effective 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. In the development of adequate MRR 

requirements, criteria should be considered to assure that qualityassured, representative monitoring data will be obtained that can be 

used to determine compliance.

 The EPA recognizes that special consideration should be given to 

developing 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. State Implementation Plan (SIP) Creditability

 The proposed rules identify various types of uncertainties 

associated with different categories of EIP's, and required that States 

apply discount factors in calculating SIP credit based on the 

uncertainties inherent in the design of any 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 of a rule effectiveness factor, 

generally set at 80 percent for traditional stationary source SIP 

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programs. The proposal identified an option of setting presumptive 

norms for these factors in lieu of the requirement that the State 

develop and justify program-specific factors. The proposal solicited 

comments on criteria for the development of such factors.

 Many commenters expressed different concerns with the proposed 

approach to dealing with uncertainty. Some commenters interpreted the 

proposal as allowing credit only for emission-limiting programs (e.g., 

emission trading), and argued that credit should be allowed for marketresponse programs (e.g., emission fees) and even directionally-sound 

programs (e.g., those that benefit 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 must be 

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 of programs. The proposed 

and final rules also encourage the use of directionally-sound 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 of any 

up-front discounting of SIP credit, 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 or the 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 of applying up-front discount factors.

 Some industry commenters disagreed with the use of two discount 

factors, on the basis that such an approach would double count 

uncertainty. These commenters also expressed the view that a 

presumptive norm of 80 percent for a rule compliance factor is too low. 

On the other hand, an environmental group commented that a presumptive 

norm of 80 percent was too high. This commenter also urged that credit 

not be given for prior reductions or for plant shutdowns and slowdowns 

which would have occurred in the absence of a control program.

 The final rules generally retain the proposed approach of requiring 

the State to develop and apply discount factors to account for 

compliance-related and programmatic design uncertainties. In addition, 

however, the final rules also include further guidance and criteria for 

developing and justifying such factors. In particular, various aspects 

of program design should be considered in developing such factors, 

including but not limited to the type of incentive mechanism upon which 

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the program is based; the variability in emissions from affected 

sources and the nature and extent of uncertainty in the emissions 

quantification procedures required by the program; the type and 

frequency of MRR required by the program; sanctions for noncompliance; 

the frequency, scope, and committed responses to program audits; and 

the nature of administrative procedures to be used by the State in 

implementing and enforcing the program.

G. Audit/Reconciliation Procedures

 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 as to allow time to make programmatic 

corrections or adjustments (in either direction) to SIP credited 

emissions reductions, before an RFP milestone is reached. The proposal 

solicited comments on the appropriate audit frequency.

 Several comments were received on the general issue of programs 

audits. Most such comments were generally supportive of a requirement 

for ongoing program tracking and feedback, although the commenters 

differed on the role that the audit should have relative to other EIP 

requirements. Some State commenters felt that ongoing audits should 

serve as an alternative to many of the proposed regulatory requirements 

for up-front technical analyses. Another State supported the use of 

audits to assess EIP adequacy and the need to take 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 of 

concern that audits not become so burdensome as to serve as a 

disincentive for developing an EIP. On the other hand, one industry 

commenter felt that EIP's ought not be subject to any special audit 

requirements different from those applicable to traditional programs.

 On the issue of audit frequency, most commenters generally agreed 

with the proposed 3-year interval. One State commenter felt that annual 

audits should be conducted to assess progress, with a summary of such 

audits to be incorporated in triennial SIP RFP reports.

 The final rules and guidance retain the proposed requirements for 

program audit and reconciliation procedures, and establish 3 years as 

the maximum time interval for conducting such audits. The final rules 

recognize that the State has flexibility in establishing the frequency 

(within the 3-year constraint) and scope of audit provisions. Further, 

the final rules recognize that there is an interplay between the 

frequency, scope, and other design features of the audit provisions and 

the nature and scope of other program design elements (such as the 

justification for uncertainty factors). In addition, to better define 

the benefits from EIP's, the final rules include analysis of control 

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cost savings, to the extent practicable, as a part of the required 

program audit.

H. Penalties for Noncompliance

 The proposed rules recognize that determination of statutory 

maximum penalties for noncompliance is significantly complicated in the 

case of EIP's that incorporate multisource emissions caps and/or longterm 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 to that of traditional programs, the proposal solicited 

comment on criteria for the development of such penalty provisions.

 Commenters generally agreed with the principle of equivalent 

deterrence. Several industry commenters opposed any criteria that would 

suggest that any multisource emissions cap violation should be 

considered to have occurred at each source. Some commenters recommended 

that penalty provisions be based on the amount of the exceedence of a 

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 that are determined not to be willful or negligent.

 The final rules and guidance continue to allow for a variety of 

approaches to specifying statutory maximum penalties, although 

exceedance-based approaches are encouraged. Thus, for example, where 

emission limits are specified in units of mass emissions, statutory 

maximum penalties can be specified as a function of the 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 of the cost of credits or allowances in trading 

programs. The final rules and guidance require that EIP's be structured 

in conjunction with applicable enforcement authorities, in such a way 

that violations of multisource and/or multiday emission limits 

translate into sufficient numbers of some combination of violations, 

sources in violation, and days of violation. There are no criteria that 

suggest that this requirement should necessarily be met by considering 

that the violation occurred at each such source. The final rules 

further identify supplemental provisions that may enhance deterrence, 

such as mandatory minimum penalties, or address uncertainties inherent 

in the design of a program, such as penalty triggers linked to measures 

of compliance tracked through the program audit.

 The following criteria have been established for assessing the 

adequacy of the deterrent effect of EIP penalty provisions. The primary 

focus is on an assessment of the adequacy of the statutory maximum 

penalties in the EIP, through an evaluation of deterrence ratios (i.e., 

the ratio of the maximum penalty per violation to the cost of 

compliance). In a program with tradeable emission allowances or ERC's, 

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the cost of compliance will be related to the market value of 

allowances or credits. Under a range of foreseeable noncompliance 

circumstances, this deterrence ratio must be high enough to deter 

noncompliance to a degree comparable to traditional programs.

 Other aspects of deterrence should also be considered in evaluating 

the adequacy of penalty provisions. These aspects include the 

likelihood that noncompliance will be detected and the credibility and 

predictability of responses to noncompliance. These aspects should be 

considered in light of administrative procedures and resources 

established within the EIP, as well as other program design elements 

related to emission quantification and monitoring, recordkeeping, and 

reporting.

I. Interface With Existing Emission Trading Policies

 The EIP rules and guidance, being broadly applicable to any kind of 

EIP, 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 FR 43831, Dec. 

4, 1986). Although based upon the same general principles, the EIP 

rules and guidance provide both greater flexibility and more 

comprehensive programmatic requirements for such programs. The proposal 

defined the relationship between the EIP rules and the ETPS such that 

the provisions of the ETPS which apply to trading between existing 

sources (i.e., the bubble 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 EIP rules. The 

proposal, however, in no way constrained EIP's involving emission 

trading to the specific provisions of the 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 of the ETPS that are now addressed by the EIP rules, on 

the basis that such ETPS provisions are rendered obsolete by the new 

rules, and the EPA should not encourage the use of less flexible 

policies. Another commenter recommended that the ETPS should be updated 

to include the flexibility contained in the EIP rules and that it 

should then continue to be applied to trading done for the purpose of 

meeting 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 States to limit 

their design of EIP's to meet the specific provisions in the ETPS. 

However, the final rules recognize that States may want to implement 

emission trading without embarking on the design of new approaches to 

emission trading. Retaining the ETPS provides a known regulatory option 

for those States that want to apply it.

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J. General Issues

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 of the 

specific elements of proposed 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 EIP 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 or to establish 

baselines might be so daunting as to discourage attempts to develop 

EIP's. This commenter felt 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 of the Act.

 Some commenters on both sides of this issue recommended that the 

EPA provide examples of successful, appropriate EIP's. Such commenters 

recommended that such information be provided through supplemental 

documentation or through an EPA-established EIP 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 of 

principles 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 the benefits of market-based 

regulatory approaches.

 Although the final rules do not include specific examples of EIP's 

that have been successfully implemented, the EPA agrees that such 

information is a useful and important aspect of encouraging the 

development of such programs. For the last 3 years, the EPA has funded 

grants to support market-based 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 EPA's goal of disseminating information about the 

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design and implementation of EIP's.

---------------------------------------------------------------------------

 \1\6The docket contains summaries of such programs and contacts 

for information.

---------------------------------------------------------------------------

 Beyond this grant program, the EPA is committed to working with 

individual States as they 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 of these rules. Such commenters felt 

that undue administrative complexity would stifle the development of 

EIP'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 of the EIP.

 One type of complexity cited by two State commenters related to 

excessive government process, and the associated lack of timeliness, in 

the review of individual emissions trades. These commenters recommended 

that individual emissions trading transactions not be required 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 of an EIP 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 of emissions trading transactions approved by the 

States to assure the integrity of the 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 EIP program, these 

procedures would then be reviewed by the EPA in the course of EPA 

review of the SIP revision incorporating the EIP into the SIP. Thus, 

the EIP 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 of such programs is 

predicated on the program containing all the appropriate environmental 

safeguards that are required by the EIP rules. One such safeguard is 

the inclusion of program audits, to be conducted by the State, to 

evaluate program implementation and track program results. The EIP 

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rules require that the State provide post-audit reports to the EPA, and 

that the State commits to implement timely programmatic revisions or 

other measures necessary for the successful operation of the program. 

Additionally, the rules require 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 EIP must contain a mechanism for ensuring State and 

Federal enforceability of the measures taken to generate the credits.

 The EPA is currently developing additional guidance on such issues 

associated with banking of ERC's. The EPA intends to complete this 

additional guidance as quickly as possible, and, in the interim, to 

work 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 

of regional and interstate emissions trading. Several commenters raised 

this issue, however, particularly in the context of trading of 

emissions offsets. Most such commenters felt that the EPA should 

encourage interstate trading by establishing consistent rules and 

prohibiting States from creating interstate barriers. One State group 

felt that the final rules should provide for the fullest possible 

implementation of trading strategies on a regional basis within the 

Northeast Ozone Transport Region. One environmental group urged that 

the final rules remind States of the statutory geographical constraints 

on trading.

 The EPA has developed some preliminary guidance on this issue as it 

relates to NOx offsets in the Northeast Ozone Transport 

Region.17 Additional guidance on interstate or regional trading 

will be developed in the context of the EPA's working with interested 

States in program development activities.

---------------------------------------------------------------------------

 \1\7This guidance is contained in a March 31, 1993 letter from 

Mr. John Seitz, Director of the EPA's Office of Air Quality Planning 

and Standards, to Mr. Bruce Carhart, Executive Director of the Ozone 

Transport Commission, which includes all or portions of the 

northeastern States from Washington, DC, to the New England States. 

This letter is available in the docket for this rule.

---------------------------------------------------------------------------

V. Administrative Requirements

A. Executive Order 12866

 Under Executive Order 12866, (58 FR 51735 (October 4, 1993)) the 

Agency must determine whether the regulatory action is ``significant'' 

and therefore subject to OMB review and the requirements of the 

Executive Order. The Order defines ``significant regulatory action'' as 

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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 of the 

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 interfere with an 

action taken or planned by another Agency;

 (3) Materially alter the budgetary impact of entitlements, grants, 

user fees, or loan programs or the rights and obligations of recipients 

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 of Executive 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 Reduction Act

 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, et seq.

C. Regulatory Flexibility Act

 The Regulatory Flexibility Act of 1980 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 of these entities, agencies are required to perform 

a Regulatory Flexibility Analysis (RFA).

 This rule does not of itself impose any requirements on small 

entities, nor require or exclude small entities from any EIP's which 

may be implemented in the future. As a result, the EPA has determined 

that these rules will not have a significant impact on a substantial 

number of small entities.

 Therefore, as required under section 605 of the RFA, 5 U.S.C. 601 

et seq., I certify that these rules do not have a significant impact on 

a substantial number of small entities.

List of Subjects in 40 CFR Part 51

 Administrative practice and procedure, Air pollution control, 

Carbon monoxide, Intergovernmental relations, Lead, Nitrogen dioxide, 

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Ozone, Particulate matter, Reporting and recordkeeping requirements, 

Sulfur oxides, Volatile organic compounds.

 Dated: March 15, 1994.

Carol M. Browner,

Administrator.

 For reasons set out in the preamble, 40 CFR part 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 amended by adding a new subpart U, consisting of 

Secs. 51.490 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 of program revenues.

Subpart U--Economic Incentive Programs

Sec. 51.490 Applicability.

 (a) The rules in this subpart apply to any statutory economic 

incentive program (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) of the Act. Such programs may be submitted by any authorized 

governmental organization, including States, local governments, and 

Indian governing bodies.

 (b) The provisions contained in these rules, except as explicitly 

exempted, shall also serve as the EPA's policy guidance on 

discretionary EIP's submitted as implementation plan revisions for any 

purpose other than to comply with the statutory requirements specified 

in paragraph (a) of this section.

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Sec. 51.491 Definitions.

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

 Actual emissions means the emissions of a pollutant from an 

affected source determined by taking into account actual emission rates 

associated with normal source operation and actual or representative 

production rates (i.e., capacity utilization and hours of operation).

 Affected source means any stationary, area, or mobile source of a 

criteria pollutant(s) to which an EIP applies. This term applies to 

sources explicitly included at the start of a program, as well as 

sources that voluntarily enter (i.e., opt into) the program.

 Allowable emissions means the emissions of a pollutant from an 

affected source determined by taking into account the most stringent of 

all applicable SIP emissions limits and the level of emissions 

consistent with source compliance with all Federal requirements related 

to attainment and maintenance of the NAAQS and the production rate 

associated with the maximum rated capacity and hours of operation 

(unless the source is subject to federally enforceable limits which 

restrict the operating rate, or hours of operation, or both).

 Area sources means stationary and nonroad sources that are too 

small and/or too numerous to be individually included in a stationary 

source emissions inventory.

 Attainment area means any area of the country designated or 

redesignated by the EPA at 40 CFR part 81 in accordance with section 

107(d) as having attained the relevant NAAQS for a given criteria 

pollutant. An area can be an attainment area for some pollutants and a 

nonattainment area for other pollutants.

 Attainment demonstration means the requirement in section 

182(b)(1)(A) of the Act to demonstrate that the specific annual 

emissions reductions included in a SIP are sufficient to attain the 

primary NAAQS by the date applicable to the area.

 Directionally-sound strategies are strategies for which adequate 

procedures to quantify emissions reductions or specify a program 

baseline are not defined as part of the EIP.

 Discretionary economic incentive program means any EIP submitted to 

the EPA as an implementation plan revision for purposes other than to 

comply with the statutory requirements of sections 182(g)(3), 

182(g)(5), 187(d)(3), or 187(g) of the Act.

 Economic incentive program (EIP) means a program which may include 

State established emission fees or a system of marketable permits, or a 

system of State fees on sale or manufacture of products the use of 

which contributes to O3 formation, or any combination of the 

foregoing or other 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 may be directed toward 

stationary, area, and/or mobile sources, to achieve emissions 

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reductions milestones, to attain and maintain ambient air quality 

standards, and/or to provide more flexible, lower-cost approaches to 

meeting environmental goals. Such programs are categorized into the 

following three categories: Emission-limiting, market-response, and 

directionally-sound strategies.

 Emission-limiting strategies are strategies that directly specify 

limits on total mass emissions, emission-related parameters (e.g., 

emission rates per unit of production, 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 of meeting program requirements.

 Indian governing body means the governing body of any tribe, band, 

or group of Indians subject to the jurisdiction of the U.S. and 

recognized by the U.S. as possessing power of self-government.

 Maintenance plan means an implementation plan for an area for which 

the State is currently seeking designation or has previously sought 

redesignation to attainment, under section 107(d) of the Act, which 

provides for the continued attainment of the NAAQS.

 Market-response strategies are strategies that create one or more 

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.

 Milestones means the reductions in emissions required to be 

achieved pursuant to section 182(b)(1) and the corresponding 

requirements in section 182(c)(2) (B) and (C), 182(d), and 182(e) of 

the Act for O3 nonattainment areas, as well as the reduction in 

emissions of CO equivalent to the total of the specified annual 

emissions reductions required by December 31, 1995, pursuant to section 

187(d)(1).

 Mobile sources means on-road (highway) vehicles (e.g., automobiles, 

trucks and motorcycles) and nonroad vehicles (e.g., trains, airplanes, 

agricultural equipment, industrial equipment, construction vehicles, 

off-road motorcycles, and marine vessels).

 National ambient air quality standard (NAAQS) means a standard set 

by the EPA at 40 CFR part 50 under section 109 of the Act.

 Nonattainment area means any area of the country designated by the 

EPA at 40 CFR part 81 in accordance with section 107(d) of the Act as 

nonattainment for one or more criteria pollutants. An area could be a 

nonattainment area for some pollutants and an attainment area for other 

pollutants.

 Nondiscriminatory means that a program in one State does not result 

in discriminatory effects on other States or sources outside the State 

with regard to interstate commerce.

 Program baseline means the level of emissions, or emission-related 

parameter(s), for each affected source or group of affected sources, 

from which program results (e.g., quantifiable emissions reductions) 

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shall be determined.

 Program uncertainty factor means a factor applied to discount the 

amount of emissions reductions credited in an implementation plan 

demonstration to account for any strategy-specific uncertainties in an 

EIP.

 Reasonable further progress (RFP) plan means any incremental 

emissions reductions required by the CAA (e.g., section 182(b)) and 

approved by the EPA as meeting these requirements.

 RFP baseline means the total of actual volatile organic compounds 

or nitrogen oxides emissions from all anthropogenic sources in an 

O3 nonattainment area during the calendar year 1990 (net of growth 

and adjusted pursuant to section 182(b)(1)(B) of the Act), expressed as 

typical O3 season, weekday emissions.

 Replicable refers to methods which are sufficiently unambiguous 

such that the same or equivalent results would be obtained by the 

application of the methods by different users.

 Rule compliance factor means a factor applied to discount the 

amount of emissions reductions credited in an implementation plan 

demonstration to account for less-than-complete compliance by the 

affected sources in an EIP.

 Shortfall means the difference between the amount of emissions 

reductions credited in an implementation plan for a particular EIP and 

those that are actually achieved by that EIP, as determined through an 

approved reconciliation process.

 State means State, local government, or Indian-governing body.

 State implementation plan (SIP) means a plan developed by an 

authorized governing body, including States, local governments, and 

Indian-governing bodies, in a nonattainment area, as required under 

titles I & II of the Clean Air Act, and approved by the EPA as meeting 

these same requirements.

 Stationary source means any building, structure, facility or 

installation, other than an area or mobile source, which emits or may 

emit any criteria air pollutant or precursor subject to regulation 

under the Act.

 Statutory economic incentive program 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) of the Act.

 Surplus means, at a minimum, emissions reductions in excess of an 

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 as 

to prevent the double-counting of emissions reductions.

 Transportation control measure (TCM) is any measure of the types 

listed in section 108(F) of the Act, or any measure in an applicable 

implementation plan directed toward reducing emissions of air 

pollutants from transportation sources by a reduction in vehicle use or 

changes in traffic conditions.

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Sec. 51.492 State program election and submittal.

 (a) Extreme O3 nonattainment areas. (1) A State or authorized 

governing body for any extreme O3 nonattainment area shall submit 

a plan revision to implement an EIP, in accordance with the 

requirements of this part, 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 Administrator determines that the area has not met any 

applicable milestone.

 (2) The plan revision in paragraph (a)(1) of this 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 next milestone.

 (b) Serious CO nonattainment areas. (1) A State or authorized 

governing body for any serious CO nonattainment area shall submit a 

plan revision to implement an EIP, in accordance with the requirements 

of this part, if:

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

period, pursuant to section 187(d) of the Act.

 (ii) The Administrator notifies the State, pursuant to section 

187(d) of the Act, that a milestone has not been met.

 (iii) The Administrator determines, pursuant to section 186(b)(2) 

of the Act that the NAAQS for CO has not been attained by the 

applicable date for that area. Such revision shall be submitted within 

9 months after such failure or determination.

 (2) Submittals made pursuant to paragraphs (b)(1) (i) and (ii) of 

this section shall be sufficient, together with a transportation 

control program, to achieve the specific annual reductions in CO 

emissions set forth in the implementation plan by the attainment date. 

Submittals made pursuant to paragraph (b)(1)(iii) of this section shall 

be adequate, in combination with other elements of the revised plan, to 

reduce the total tonnage of emissions of CO in the area by at least 5 

percent per year in each year after approval of the plan revision and 

before attainment of the NAAQS for CO.

 (c) Serious and severe O3 nonattainment areas. If a State, for 

any serious or severe O3 nonattainment area, elects to implement 

an EIP in the circumstances set out in section 182(g)(3) of the Act, 

the State shall submit a plan revision to implement the program in 

accordance with the requirements of this part. If the 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 of the SIP, to achieve 

the next milestone.

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 (d) Any nonattainment or attainment area. Any State may at any time 

submit a plan or plan revision to implement a discretionary EIP, in 

accordance with the requirements of this part, pursuant to sections 

110(a)(2)(A) and 172(c)(6) and other applicable provisions of the Act 

concerning SIP submittals. The plan revision shall not interfere with 

any applicable requirement concerning attainment and RFP, or any other 

applicable requirements of the Act.

Sec. 51.493 State program requirements.

 Economic incentive programs shall be State and federally 

enforceable, nondiscriminatory, and consistent with the timely 

attainment of NAAQS, all applicable RFP and visibility requirements, 

applicable PSD increments, and all other applicable requirements of the 

Act. Programs in nonattainment areas for which credit is taken in 

attainment and RFP demonstrations shall be designed to ensure that the 

effects of the program are quantifiable and permanent over the entire 

duration of the program, and that the credit taken is limited to that 

which 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) Statement of goals and rationale. 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 of goals must include the goal that the program 

will benefit both the environment and the regulated entities. The 

program shall be designed so as to 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 of emission caps which over time 

constrain or reduce growth-related emissions beyond traditional 

regulatory approaches.

 (2) The incentive-based strategy shall be described in terms of one 

of the following three strategies:

 (i) Emission-limiting strategies, which directly specify limits on 

total mass emissions, emission-related parameters (e.g., emission rates 

per unit of production, product content limits), or levels of emissions 

reductions relative to a program baseline that affected sources are 

required to meet, while providing flexibility to sources to reduce the 

cost of meeting program requirements.

 (ii) Market-response strategies, which create one or more 

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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 of the sources affected by the program. This definition 

shall address:

 (i) The extent to which the program 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.

 (iii) Provisions, if any, by which sources covered by the program 

may voluntarily leave the program.

 (2) Any opt-in or opt-out provisions in paragraph (b)(1) of this 

section shall be designed to provide mechanisms by which such program 

changes are reflected in an area's attainment and RFP demonstrations, 

thus ensuring that there will not be an increase in the emissions 

inventory for the area caused by voluntary entry or exit from the 

program.

 (3) The program scope shall be defined so as not to interfere with 

any other Federal requirements which apply to the affected sources.

 (c) Program baseline. A program baseline shall be defined as a 

basis for projecting program results and, if applicable, for 

initializing the incentive mechanism (e.g., for marketable 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, as 

applicable. The State shall provide sufficient supporting information 

from the areawide emissions inventory and other sources to justify the 

baseline used in the EIP.

 (1) For EIP's submitted in conjunction with, or subsequent to, the 

submission of any areawide progress plan due at the time of EIP 

submission (e.g., the 15 percent RFP plan and/or subsequent 3 percent 

plans) or an attainment demonstration, a State may exercise flexibility 

in setting a program baseline provided the program baseline is 

consistent with and reflected in all relevant progress plans or 

attainment demonstration. A flexible program baseline may be based on 

the lower of actual, allowable, or some other intermediate or lower 

level of emissions. For any EIP submitted prior to the submittal of an 

attainment demonstration, the State shall include the following with 

its EIP submittal:

 (i) A commitment that its subsequent attainment demonstration and 

all future progress plans, if applicable, will be consistent with the 

EIP baseline.

 (ii) A discussion of how the baseline will be integrated into the 

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subsequent attainment demonstration, taking into account the potential 

that credit issued prior to the attainment demonstration may no longer 

be surplus relative to the attainment demonstration.

 (2) Except as provided for in paragraph (c)(4) of this 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-or-allowable emissions. In such cases, actual 

emissions shall be taken from the most 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 of the 

NAAQS.

 (3) For EIP's that are designed to implement new and/or previously 

existing RACT requirements through emissions trading and are submitted 

in conjunction with, or subsequent to, the submission of an associated 

RACT rule, a State may exercise flexibility in setting a program 

baseline provided the program baseline is consistent with and reflected 

in the 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 of a required RFP plan or attainment 

demonstration, States also have flexibility in determining the program 

baseline, provided the following conditions are met.

 (i) For EIP's that implement new RACT requirements for previously 

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 a previously 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 to that which would result from source-by-source compliance 

with the existing RACT limit for that source category.

 (5) A program baseline for individual sources shall, as 

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

 (6) An initial baseline for TCM's shall be calculated by 

establishing the preexisting conditions in the areas of interest. This 

may include establishing to what extent TCM's have already been 

implemented, what average vehicle occupancy (AVO) levels have been 

achieved during peak and off-peak periods, what types of trips occur in 

the region, and what mode choices have been made in making these trips. 

In addition, the extent to which travel options are currently available 

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within the region of interest shall be determined. These travel options 

may include, but are not limited to, the degree of dispersion of 

transit 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 of 

accountability as currently exists for traditional control requirements 

for the categories of sources affected by the program.

 (d) Replicable emission quantification methods. This program 

element, for programs other than those which are categorized as 

directionally-sound, shall include credible, workable, and replicable 

methods for projecting program results from affected sources and, where 

necessary, for quantifying emissions from individual sources subject to 

the EIP. Such methods, if used to determine credit taken 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 of control strategy 

development. Such methods include, as applicable, the following 

elements:

 (1) Specification of quantification methods. This element shall 

specify the approach or the combination or range of approaches that are 

acceptable for each source category affected by the program. Acceptable 

approaches may include, but are not limited to:

 (i) Test methods for the direct measurement of emissions, either 

continuously or periodically.

 (ii) Calculation equations which are a function of process or 

control system parameters, ambient conditions, activity levels, and/or 

throughput or production rates.

 (iii) Mass balance calculations which are a function of inventory, 

usage, and/or disposal records.

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

 (v) Any combination of these approaches.

 (2) Specification of averaging times.

 (i) The averaging time for any specified mass emissions caps or 

emission rate limits shall be consistent with: attaining and 

maintaining all applicable NAAQS, meeting RFP requirements, and 

ensuring equivalency with all applicable RACT requirements.

 (ii) If the averaging time for any specified VOC or NOX mass 

emissions caps or emission rate limits for stationary sources (and for 

other sources, as appropriate) is longer than 24 hours, the State shall 

provide, in support of the SIP submittal, a statistical showing that 

the specified averaging time is consistent with attaining the O3 

NAAQS and satisfying RFP requirements, as applicable, on the basis of 

typical summer day emissions; and, if applicable, a statistical showing 

that the longer averaging time will produce emissions reductions that 

are equivalent on a daily basis to source-specific RACT requirements.

 (3) Accounting for shutdowns and production curtailments. This 

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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) Accounting 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, for 

TCM's. This accounting shall consider the factors or attributes of the 

different forms of travel modes (e.g., bus, ridesharing) which 

determine which type of travel an individual will choose. Such factors 

include, but are not limited to, time, cost, reliability, and 

convenience of the mode.

 (e) Source requirements. 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/non-RACT trading, such 

trading shall result in an exceptional environmental benefit. 

Demonstration of an exceptional environmental benefit shall require 

either the use of the statutory offset ratios for nonattainment areas 

as the determinant of the amount of emissions reductions that would be 

required from non-RACT sources generating credits for RACT sources or, 

alternatively, a trading ratio of 1.1 to 1, at a minimum, may be 

authorized, provided exceptional environmental benefits are otherwise 

demonstrated.

 (2) Monitoring, recordkeeping, and reporting requirements.

 (i) An EIP (or the 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 strategy-specific 

requirements, and to provide for State and Federal enforceability of 

such limits and requirements. Methods for MRR may include, but are not 

limited to:

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 (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 of mass emissions or emission rates using 

reference test methods.

 (D) Operation and maintenance procedures and/or other work 

practices designed to prevent, identify, or remedy noncomplying 

conditions.

 (E) Manual or automated recordkeeping of material usage, 

inventories, throughput, production, or levels of required 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 for which 

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 results and audit/reconciliation procedures. (1) The 

SIP submittal shall include projections of the emissions reductions 

associated with the implementation of the 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 be 

consistent with the reductions in mass emissions or emissions-related 

parameters specified in the program design.

 (ii) For market-response programs, the projected results shall be 

based on market analyses relating levels of targeted emissions and/or 

emission-related 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 of two uncertainty factors, as appropriate, 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 of a rule compliance factor.

 (ii) Programmatic uncertainty shall be addressed through the use of 

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a program uncertainty factor. Any presumptive norms set by the EPA 

shall be used unless an adequate justification for an alternative 

factor is included in supporting information to be supplied with the 

SIP submittal. In the absence of any EPA-specified presumptive norms, 

the State shall provide an adequate justification for the selected 

factors as part of the supporting information to be supplied with the 

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 of both 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 timely implementation of programmatic revisions or other 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.

 (ii) 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) Implementation schedule. The program shall contain a schedule 

for the adoption and implementation of all 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 of the program, and the administrative system to be used 

to implement the program, addressing the adequacy of the personnel, 

funding, and legislative authority.

 (1) States shall furnish adequate documentation of existing legal 

authority and demonstrated administrative capacity to implement and 

enforce the provisions of the 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 paying for parking), States shall furnish adequate documentation 

of State authority and administrative capacity to implement and enforce 

the underlying program.

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 (i) Enforcement mechanisms. 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 enforcement 

actions. The program shall contain effective penalties for 

noncompliance which preserve the level of deterrence in traditional 

programs. For all such programs, the manner of collection of penalties 

must be specified.

 (1) Emission limit violations. (i) Programs imposing limits on mass 

emissions or emission rates that provide for extended averaging times 

and/or compliance on a multisource basis shall include procedures for 

determining the number of violations, the number of days of violation, 

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 as 

compared to a program applied on a source-by-source, daily basis.

 (ii) Programs shall require plans for remedying noncompliance at 

any facility that exceeds a multisource emissions limit for a given 

averaging period. These plans shall be enforceable both federally and 

by the State.

 (2) Violations of MRR requirements. The MRR requirements shall 

apply on a daily basis, as appropriate, and violations thereof shall be 

subject to State enforcement sanctions and to the Federal penalty of up 

to $25,000 for each day a violation occurs or continues. In addition, 

where the requisite scienter conditions are met, violations of such 

requirements shall be subject to the Act's criminal penalty sanctions 

of section 113(c)(2), which provides for fines and imprisonment of up 

to 2 years.

Sec. 51.494 Use of program revenues.

 Any revenues generated from statutory EIP's shall be used by the 

State for any of the following:

 (a) Providing incentives for achieving emissions reductions.

 (b) Providing assistance for the development of innovative 

technologies for the control of O3 air pollution and for the 

development of lower-polluting solvents and surface coatings. Such 

assistance shall not provide for the payment of more than 75 percent of 

either the costs of any project to develop such a technology or the 

costs of development of a lower-polluting solvent or surface coating.

 (c) Funding the administrative costs of State programs under this 

Act. Not more than 50 percent of such revenues may be used for this 

purpose. The use of any revenues generated from discretionary EIP's 

shall not be constrained by the provisions of this part.

 3. Part 51 is amended by adding a new appendix X to read as 

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follows:

Appendix X to Part 51--Examples of Economic Incentive Programs

I. Introduction and Purpose

 This appendix contains examples of EIP's which are covered 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 at 40 CFR 51.491 defines an EIP as a program 

which may include State established emission fees or a system of 

marketable permits, or a system of State fees on sale or manufacture 

of products the use of which contributes to O3 formation, or 

any combination of the foregoing or other 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 of program designs.

 The EIP's are comprised of several elements that, in combination 

with each other, must insure that the fundamental principles of any 

regulatory program (including accountability, enforceability and 

noninterference with other requirements of the Act) are met. There 

are many possible combinations of program elements that would be 

acceptable. Also, it is important to emphasize that the 

effectiveness of an 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 and programs will 

differ among areas.

 Because of these considerations, the EPA is not specifying one 

particular design or type of strategy as acceptable for any given 

EIP. Such specific guidance would potentially discourage States (or 

other entities with delegated authority to administer parts of an 

implementation plan) from utilizing other equally viable program 

designs that may be more appropriate for their situation. Thus, the 

examples given in this Appendix are general in nature so as to avoid 

limiting innovation on the part of the 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 of sources, can complement one another when 

implemented together as an EIP ``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 

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distribution or public awareness programs, while not EIP's in and of 

themselves, are often critical to the success of other measures and, 

therefore, would be appropriate complementary components of a 

program package. All SIP emissions reductions credits should reflect 

a consideration of the effectiveness of the entire package.

II. Examples of Stationary and Mobile Source Economic Incentive 

Strategies

 There is a wide variety of programs that fall under the general 

heading of EIP's. Further, within each general type of program are 

several different basic program designs. This section describes 

common types of EIP'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 of the possible 

types of EIP's. Innovative approaches incorporating new ideas in 

existing programs, different combinations of existing 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 of EIP's is based upon the creation of a 

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 per unit of time 

(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 by trading 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 to sources facing more expensive alternatives. These 

programs can lower the overall cost of meeting a given total level 

of abatement. 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 if they 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 

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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 costreducing trades. Thus, for example, areas which face relatively high 

stationary source control costs relative to mobile source control 

costs benefit most by 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 

(ERC) trading programs. The Federal Acid Rain Program is an example 

of an emission 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 be effective at the 

start of a program, at some specific time in the future, or at 

varying levels over time. An ERC trading program requires ERC's to 

be measured against a pre-established emission baseline. Allowance 

allocations or emission baselines can be established either directly 

by the EIP rules or by reference to traditional regulations (e.g., 

RACT requirements). In either type of program, sources can either 

meet their EIP requirements by maintaining their own emissions 

within the limits established by the program, or by buying surplus 

allowances or ERC's from other sources. 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 of the commodity to be traded and the design of 

the administrative procedures the buyer and 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 at the lowest cost. An emissions 

market is defined as efficient if it achieves the environmental goal 

at 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 of 

an emission trading program should be evaluated not only in terms of 

the likelihood that the program design will ensure that the 

environmental goals of the program will be met, but also in terms of 

the 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 of allowances 

or ERC'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 an 

emissions trading market are affected by various aspects of the 

design of the market, such as the nature of the procedures for 

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reviewing, approving, and recording trades, the timing of such 

procedures (i.e., before or after the trade is made), uncertainties 

in the value of the allowance or credit being traded, the legitimacy 

of the allowance or credit being offered for sale, and the long-term 

integrity of the market itself. Emissions trading programs in which 

every transaction is different, such as programs requiring 

significant consideration of the differences in the chemical 

properties or geographic location of the emissions, can result in 

higher transaction costs than programs with a standardized trading 

commodity and well-defined 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 or 

credits.

 While the market considerations discussed above are clearly 

important in designing an efficient market to minimize the 

transaction costs of such a program, other considerations, such as 

regulatory certainty, enforcement issues, and public acceptance, 

also clearly need to be factored into the design of any emissions 

trading program.

B. Fee Programs

 A fee on each unit of emissions is a strategy that can provide a 

direct incentive for sources to reduce emissions. Ideally, fees 

should be set so as to result in emissions being reduced to the 

socially optimal level considering the costs of control and the 

benefits of the emissions reductions. In order to motivate a change 

in emissions, the fees must be high 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. Fee programs using small fees are designed primarily to 

generate revenue, often to cover some of the administrative costs of 

a regulatory program.

 There can be significant variations in emission fee programs. 

For example, potential emissions could be targeted by placing a fee 

on an input (e.g., a fee on the quantity and BTU content of fuel 

used in an industrial boiler) rather than on actual emissions. 

Sources paying a fee on potential emissions could be eligible for a 

fee waiver or rebate by demonstrating that potential emissions are 

not actually 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 the total revenues may be more readily 

adopted in a SIP than a simple emission fee. Some programs lower the 

amount of total revenues generated by waiving the fee on some 

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emissions. These programs reduce the total amount of revenue 

generated, while providing an incentive to decrease emissions. 

Alternatively, a program may impose higher per-unit fees on a 

portion of the emissions stream, providing a more powerful but 

targeted incentive at the same revenue levels. For example, fees 

could be collected on all emissions in excess of some fixed level. 

The level could be set as a percentage of a baseline (e.g., fees on 

emissions above some percentage of historical emissions), or as the 

lowest emissions possible (e.g., fees on emissions in excess of the 

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 be carefully designed to avoid 

lessening the incentive provided by the emission fee. For example, a 

rebate based on comparing a source'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 fee programs collect a fee in relation to 

particular activities or types of products to encourage the use of 

alternatives. While these fees are not necessarily directly linked 

to the total amount of emissions from the activity or product, the 

relative simplicity of a 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 a 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 process can encourage product 

reformulation (e.g., fees on solvent sold to makers of architectural 

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 and temporally shift 

driving patterns, and attempt to effect land usage changes. Primary 

examples include increased peak period roadway, bridge, or tunnel 

tolls (this could 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 and Zoning 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 of programs, such as accelerated depreciation of 

capital equipment used for emissions reductions, corporate income 

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tax deductions or credits for emission abatement costs, property tax 

waivers based on decreasing emissions, exempting low-emitting 

products from sales tax, and limitations on parking spaces for 

office facilities. Mobile source strategies include waiving or 

lowering any 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 of lower-emitting capital equipment, or a switch to less 

polluting operating practices. Examples of such programs include 

clean vehicle conversions, starting shuttle bus or 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 of the subsidy 

program, or drive up the cost of achieving a targeted level of 

emissions reductions.

E. Transportation Control Measures

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

 (i) Programs for improved public transit;

 (ii) Restriction of certain roads or lanes to, or construction 

of such 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 and transportation corridor parking facilities 

serving multiple-occupancy vehicle programs or transit service;

 (vii) Programs to limit or restrict vehicle use in downtown 

areas or other areas of emission concentration particularly during 

periods of peak use;

 (viii) Programs for the provision of all forms of highoccupancy, shared-ride services;

 (ix) Programs to limit portions of road surfaces or certain 

sections of the metropolitan area to the use of non-motorized 

vehicles or pedestrian use, both as to time and place;

 (x) Programs for secure bicycle storage facilities and other 

facilities, including bicycle lanes, for the convenience and 

protection of bicyclists, in both public and private areas;

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 (xi) Programs to control extended idling of vehicles;

 (xii) Programs to reduce motor vehicle emissions, consistent 

with title II, 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 of mass transit, and to generally 

reduce the need for single-occupant vehicle travel, as part of 

transportation planning and development efforts of a locality, 

including programs and ordinances applicable to new shopping 

centers, special events, and other centers of vehicle activity;

 (xv) Programs for new construction and major reconstruction of 

paths, tracks or areas solely for the use by pedestrian or other 

non-motorized means of transportation when economically feasible and 

in the public interest. For purposes of this clause, the 

Administrator shall also consult with the Secretary of the Interior; 

and

 (xvi) Programs to encourage the voluntary removal from use and 

the marketplace of pre-1980 model year light-duty vehicles and pre1980 model light-duty trucks.

[FR Doc. 94-6828 Filed 4-6-94; 8:45 am]

BILLING CODE 6560-50-P

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