Ray Kopp Resources for the Future Economics of Climate Policy Workshop Series October 10, 2007

Presentation Plan Status report on federal climate policy development How to think about federal legislative proposals Lessons learned from the EU Emissions Trading Scheme What happens next

ABC NEWS - WASHINGTON POST - STANFORD POLL Released April 20, 2007

2007 Policy Developments Congressional action in the House & Senate State policy developments continue –California AB 32 regulatory policy moving forward –More states join RGGI –Western Climate Initiative (7 states & 2 Canadian provinces) sets GHG targets Supreme Court rules on CAA & CO 2 –EPA begins to develop GHG transport regulation More companies speak out - US CAP 4 th IPCC reports released

Congressional Action Important questions to ask 1.What is the scope of the regulatory program? 2.Who gets regulated? 3.What are the emission reduction targets? 4.What do we know about the expected cost? 5.Are there attempts to limit cost uncertainty? 6.How are the allowances allocated? 7.What about competitiveness impacts?

The Bills 110 th Congress Sanders-Boxer S.309: economy-wide cap Kerry-Snowe S.485: economy-wide cap McCain-Lieberman S.280: economy-wide cap Bingaman-Specter S. 1766: economy-wide cap Waxman H.R. 1590: economy-wide cap Alexander-Lieberman S. 1168: electricity sector cap (CO 2 ) Feinstein-Carper S. 317 : electricity sector cap (CO 2 ) Stark H.R. 2069: economy-wide tax (CO 2 ) Larson H.R economy-wide tax (CO 2 )

Who Gets Regulated? Upstream –Stark, Larson Downstream –Feinstein-Carper, Alexander-Lieberman Hybrid –McCain-Lieberman, Bingaman-Specter Power plants downstream (M-L large emitters downstream) Transport upstream Unspecified –Sanders-Boxer, Kerry-Snowe, Waxman

Historical Emissions ( ) Business-As-Usual Projections (AEO 2006) Bingaman-Specter 1 (S. 1766) Sanders-Boxer (S. 309) Kerry-Snowe (S. 485) Lieberman- McCain (S. 280) Udall-Petri 1 (May draft) Waxman (H.R. 1590) Historical Electricity Emissions ( ) BAU Electricity Projections (AEO 2006) Alexander-Lieberman (S. 1168) Feinstein- Carper (S. 317) Emission Reduction Targets

Cost to Reach the Target MIT Model Runs – Allowance Prices 14

Cost to Reach the Target EIA Analysis of Electricity Prices 17

Cost Certainty Stark – tax certainty, $3/ton rising $3 each year Larson – tax certainty, $16.5/ton rising 10% real Bingaman-Specter – $12/ton “safety valve” rising 5% real McCain-Lieberman – allowance borrowing up to 25% for 5 years Kerry Snowe – no provisions Alexander Lieberman – no provisions Waxman – no provisions Feinstein-Carper – allowance borrowing up to 10% for 5 years Carbon Market Efficiency Board (Warner-Lieberman)

Allowance / Revenue Allocation Bingaman-Specter –55% free to industry (phased out), 22% auctioned (phased in), 14% for CCS and bio-seq., 9% to states Lieberman-McCain –Discretion of EPA with some guidance for free allocation and auction Larson – $16.5/ton rising 10% real Alexander Lieberman – 75% free to industry (heat input) Feinstein-Carper – 85% free to industry (based on output) Kerry Snowe – Discretion of the President Waxman – Discretion of the President Stark 100% tax revenue to Treasury Larson 1/6 to R&D, 1/12 to industry, remainder to reduce payroll taxes

Competitiveness Competitiveness is tied to energy intensity and the degree to which domestic industries can pass along costs RFF studies find total production costs would rise by 1- 2% for each $10/t of CO2 pricing Recent EU studies found higher impacts in some industries –6% in basic oxygen furnace steel and 13% in cement for same CO2 prices How can competitiveness issues be addressed? –Harmonized policies –“Boarder tax” adjustments, permit requirements for imports –Gratis permit allocation

European Union Emissions Trading Scheme (EU-ETS) Began 2005 and includes the 27 countries of the EU The program is run in two phases. –Phase 1 from 2005 – 2007, Phase 2 from 2008 – 2012, coinciding with the Kyoto commitment period. Cap covers only CO 2, about 12,000 sources, about ½ of EU CO 2 emissions Transport is not currently included in the system, although air transport will be added in 2011

EU ETS Structure National Allocation Plan (NAP) Decision #1: How much of Kyoto target will be in trading program? Decision #2: What will be the allocations for each sector? Decision #3: How will allowances be allocated to each installation? Currently finalizing plans. Kyoto Target Allocation to ETS Allocation to Trading Sectors Allocation to Installations

EU ETS Structure Allowance Allocation Hybrid gratis-auction allocation scheme for Phase 2 European Commission placed upper limit of 10% on auction Phase 2 allocation appears designed to purposefully distribute the cost of the program

EU ETS Structure Has the Program Worked? Phase 1 was developed and implemented quickly – problems arose Phase 2 seems set for an orderly start Jan and will avoid many Phase 1 problems –Current Dec price = euros ($30) However, some issues remain –Price stability –Coverage –Beyond 2012

EU ETS Structure Lessons for the US? Allowance Allocation matters – A Lot These systems work, make them broad Add as much certainty as possible to the path of future emissions and allowance prices Keep the system simple and transparent

Next Steps: Fight over Allowance Allocation Using allowances to distribute the burden –Regulated entities and cost pass through –Unregulated entities Large energy consumers States Method of allocation –Gratis historical “grandfathering” & dynamic output based allocation –Auctioning

Bingaman-Specter Early action1.0 Natural Gas2.1 Refining3.7 Low-Income Asst4.0 Agriculture sequestration5.0 Coal6.4 Adaptation8.0 CCS Bonus8.0 States9.0 Carbon Intensive Manufacturing10.1 Technology12.0 Electric Power $25/ton CO2e) 28.3

Next Steps: Rising Energy Prices Energy prices will increase throughout the country, but in varying degrees –e.g., electricity prices likely to rise most in areas of coal fired generation Magnitude of increase in proportion to severity and timing of the GHG cuts

Next Steps: Winners and Losers Credible policy will alter expectations regarding future energy prices Household energy consumption decisions will be altered & benefit producers of energy efficient durables Low income households will need increased energy assistance Energy intensive manufacturers will be disadvantaged. –Especially those facing foreign competition from countries with low or zero GHG prices

Next Steps: States States are already moving forward – CA and Northeast states in the lead State action raises fear of patchwork regulation & further motivates federal action –Will federal policy preempt state programs? –How much of a role will states play in permit allocation?

Next Steps: Adaptation Actions to mitigate climate change pose challenges, but these may pale in comparison to the challenges posed by adaptation. The recent IPCC report is clear – the climate is changing now But, one sees little if any attention paid to this fact in terms of federal policy proposals