Wonks Collide as Obama Climate Rules Prompt Competing Plans

May 29, 2014 10:17 am ET

(Updates with comment from RGGI chair in third paragraph under Exelon, Calpine subheadline.)

May 29 (Bloomberg) -- Great River Energy has a lot to lose from the Obama administration’s limits on greenhouse-gas emissions from power plants.

Instead of fighting the rules, the Minnesota electricity cooperative has come up with a plan to raise the cost of the power it makes from coal to cut carbon pollution.

“Carbon regulation creates challenges for us,” Jon Brekke, the Maple Grove-based cooperative’s vice president, said in an interview. “But given that it’s coming, we wanted to be involved in offering an idea in managing that regulation.”

Great River is one of a number of companies and researchers to propose ways to adapt to climate rules President Barack Obama is set to unveil next week. Some of the proposals -- ranging from taxing carbon to spurring energy efficiency or expanding cap-and-trade initiatives -- could fundamentally alter the way Americans get power at their homes and workplaces.

“It’s a survival of the fittest, Darwinian wonkfest,” Brian Turner, deputy executive director of the California Public Utilities Commission, said at a recent event in Washington. “The best state policies that make people the happiest will win out over time.”

Obama has pledged to reduce U.S. greenhouse gases about 17 percent by 2020 over 2005 levels, with deeper cuts to follow. At the heart of that effort is a plan being considered by the president that would cut power-plant emissions by as much as 25 percent, according to people familiar with the discussions. The Environmental Protection Agency proposal is scheduled to be released June 2, and will become final a year later.

State Flexibility

The administration is considering an approach that would allow states to set up their own systems to achieve mandated cuts, including setting an overall “carbon budget” for states and leaving it up to them to meet the limits, according to people familiar with the plan under discussion.

EPA Administrator Gina McCarthy said last week the rules will give states “flexibility to develop plans on how to achieve those reductions in a way that’s economically beneficial to them.”

The rules will let states “establish their own energy policies as long as the carbon pollution reductions that we are going to require in this rule actually are achieved,” she said at an event in Seattle.

Pricing Carbon

Brekke says Great River’s plan would be the cheapest, most efficient way to make the cuts. Under its proposal, a group of states would set a price for carbon that would be added to the cost to buy and sell electricity on their regional wholesale market. Right now, the cheapest power source gets used first, which is often generated by coal.

By adding a cost per ton for carbon, coal would become relatively more expensive, prompting the use of more natural gas, renewables or nuclear generation. The extra charge would be paid by the power generator to the grid operator, and then refunded to the utilities that buy the electricity. The savings could be passed along to customers.

The proposal has the benefit of not being a cap-and-trade system or a new tax, two concepts that have become politically toxic. That doesn’t mean the process isn’t without its hurdles.

“The biggest challenge for something like this is that the states have to agree,” said Judy Chang, an economist at the Brattle Group, which helped draft the plan for Great River. “If they all agree on a price, then we are home free.”

Plant Limits

Other proposals would use the existing power-market system to discourage the use of coal. Some analysts say the grid operators -- who run the network that carries electricity between generators and utilities -- could put a fake “shadow” price on coal bids, or establish limits on the hours or days coal plants could operate.

“There would be a price-premium on coal” when utilities buy electricity, Sue Tierney, a principal at the Analysis Group in Boston who wrote a paper on the mechanisms states could use to comply, said in an interview. “That’s very different from saying coal plants need to shut down.”

National cap-and-trade legislation, under which a limit on emissions is set and credits are traded among polluting sources, died when the Senate failed to take up a House bill which passed in 2009. The end of that effort, however, wasn’t the end of cap- and-trade, and the EPA rules may revive such a program.

Regional Market

Nine Northeast states -- Connecticut, Delaware, Maine, Maryland, Massachusetts, New Hampshire, New York, Rhode Island, and Vermont -- established their Regional Greenhouse Gas Initiative in 2005.

Their initiative requires power plants of 25 megawatts or greater to participate, and lets them comply by buying pollution allowances to offset the carbon emitted. The proceeds are used to promote efficiency, clean energy and rate reductions for low- income consumers.

Emissions in the region dropped 40 percent from 2005 through 2012, while electricity prices have fallen, according to RGGI. In fact, emissions are down so much that the states ratcheted down the cap for 2014.

Now, the states in RGGI are asking the EPA to make sure its national rules will keep the regional effort alive. Part of that is converting any emissions rate into a state cap, and allowing for the trade of credits within the region.

Exelon, Calpine

“Federal guidelines should not penalize early movers,” a group of environmental groups and companies operating in the RGGI states including Exelon Corp. and Calpine Corp., said in comments to EPA in December.

Those entities also would like other states to join its system -- or set up something similar.

“RGGI serves as a great model, not necessarily to join, but” to emulate, said Kelly Speakes-Backman, the Maryland public service commissioner who serves a chair of the RGGI board. “We’ve had a lot of states asking us how this works.”

California has a separate cap-and-trade program, which mandates cuts of 2 percent to 3 percent annually through 2020. It kicked in last year.

If expanding cap-and-trade isn’t fraught with political landmines, how about imposing a carbon tax? That’s what Adele Morris, a fellow at the Brookings Institution in Washington, wants states to do.

Supporters say that a carbon tax is the most efficient way to account for emissions, and it would leave it up to companies and the market to decide how to react.

‘Predictable’ Price

“A predictable compliance price fosters the long term investments that are critical to reducing the use of carbon- based fuels in a cost-effective way,” Morris wrote in a note on her plan. “States could choose which option suits them best, leaving the decision and the potential revenue in their control.”

Not everyone thinks the electrical system can absorb the EPA’s plans.

Cliff Hamal, a consultant hired by the American Public Power Association to analyze the EPA’s approach, is predicting disruption of service or skyrocketing prices. And rather than advancing action on climate, the rules will backfire against policy makers worried about the issue, he said.

“These are complicated markets; EPA has limited tools and we can’t just assume this will all work out in the end,” said Hamal, who said he wasn’t speaking on behalf of the power association. “We are forcing this through a structure that is heavily constrained.”