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California Cap-and-Trade - Some Cause for Concern


California Cap-and-Trade - Some Cause for C0ncern  

Tom Markowitz - Wednesday, November 02, 2011

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California Cap-and-Trade - Some Cause for Concern

© Enerhope.com  2011

November 1st, 2011

The News

The State of California has decided to boldly go where no state has gone before.

On October 20th, the California Air Resources Board adopted a regulation to implement a cap-and-trade program for California greenhouse gas emissions, starting in 2013.

The Regulation, known as “Subchapter 10 Climate Change, Article 5, Sections 95800 to 96023, Title 17, California Code of Regulations
can be downloaded from the following site:

An official, one-page news release, California Air Resources Board adopts key element of state climate plan, is available at:

A 2-page Fact Sheet, OVERVIEW OF ARB Emissions Trading Program, is available at:

The cap-and-trade system is part of AB 32, California’s climate change legislation. By the year 2020, California intends to reduce its greenhouse gas emissions to the same total as in 1990.

By 2015, the California Air Resources Board intends to cover 600 sites “under the cap,” representing 85% of the state’s current emissions of greenhouse gases.

The Importance of California’s Decision

With the world’s 8th largest economy, California sets the pace for the other 49 states, and other North American jurisdictions. Moving forward with cap-and-trade for greenhouse gases, California has taken the lead in the United States, after the failure of the federal government’s cap-and-trade bills in the US Congress, and the disappointments in the RGGI system in the northeastern states.

California is by far the biggest economy and biggest emitter in the Western Climate Initiative, a greenhouse gas initiative of 7 US States and 4 Canadian Provinces. The WCI has been planning a WCI-wide greenhouse gas cap-and-trade system since 2007. Partners in the WCI have committed to reducing their greenhouse gas emissions to 15% below 2005 levels by 2020. Following California’s lead, other partners in the WCI will probably overcome their reluctance to commit to cap-and-trade. The target date for the start of the WCI cap-and-trade system is January 1st, 2012.

Scope of the Cap-and-Trade System
The plan for the California’s first compliance period (2013 – 2014) appears to have some elements of a well-constructed cap-and-trade system. The capped sector will be limited to large, direct emitters in the heavy industrial and power generation sectors. Initially, allowances will be allocated for free to capped facilities.

The “threshold,” the minimum emission rate of a facility captured by the Regulation, is 25,000 t/y CO2e, except for importers of electrical energy, for which there is no minimum threshold.

During the second stage of the plan, facilities that supply liquid fuels, liquid petroleum gases and natural gas will also be placed under the cap for the greenhouse gas emissions of their customers. The second phase includes suppliers of gasoline and diesel fuel for motor vehicles.

The Cap: Do The Numbers Add Up?
This graph shows the overall caps, year-by-year, for California’s greenhouse gas cap-and-trade system. The graph shows that the total State of California cap for all capped facilities together will decrease gradually, according to a decreasing, year-by-year cap adjustment factor. The graph also shows a major increase in the cap in 2015, when distributors of gaseous and liquid fuels will be placed under the cap.


How do these caps compare with historical emissions by the capped sector?

The official California Air Resources Board web site:     
http://www.arb.ca.gov/cc/inventory/data/tables/ghg_inventory_scopingplan_00-08_2010-05-12.pdf  lists the 2008 emission totals for the sectors which will be capped under the Regulation. These totals are shown on the graph.

(Data for 2009 – 2010, not yet available,
may show a small decrease in total emissions.)

The graph shows a very large difference, between the historical total emissions by the sectors to be capped, and the total allowances that will be available under the Regulation.

The California cap-and-trade system may suffer from a shortage of allowances, even with sincere efforts by capped facilities to reduce their emissions. The Regulation allows retirement of some offsets, to supplement allowances at retirement, but the differences between total emissions and total allowances plus offsets will still be dangerously large.

Allowance Tracking System
The Regulation mentions registries for offsets and account holders, and a tracking system for allowances, but does not offer a clear statement of public access to the data. An honest cap-and-trade system requires a completely transparent tracking system, visible to the public, showing the history of every allowance and offset in the system, from creation to retirement. The public has a right to know about the disposition of public assets, including allowances and offsets. A transparent tracking system is also necessary for efficient trading of allowances and offsets.

An excellent USEPA publication, Tools of the Trade, explains the importance of a transparent allowance tracking system in emissions trading.

Allowance Allocation
The system will start with some free allocation of allowances to capped facilities, according to established efficiency benchmarks. Some allowances will be set aside for renewable electricity and industry assistance.
The 2-page Fact Sheet mentions that (2013) allowances are to be set at about 90 percent of average emissions computed from recent data. If this percentage were applied to the total 2008 emissions from the 2013 capped sector, 188 Mt of allowances would be free allocated to 2013 capped facilities.

A large number of allowances, 97.7 Mt in 2013, will be allocated for free to electricity distribution utilities, who are ordered to auction these allowances and to use the auction proceeds for ratepayer benefit, consistent with California’s climate change goals.

The total of allowances to be free allocated to capped facilities plus the 97.7 Mt of allowances to be free allocated to electric utilities greatly exceeds the 2013 cap of about 160 Mt.

Eventually, all of California’s allowances will be allocated by auction. California appears to be following the seriously troubled RGGI cap-and-trade system in auctioning allowances. Auctioning of allowances adds to the price of electricity and consumer products, and is perceived as an unfair tax by opponents of cap-and-trade. The consumer of products of capped facilities must pay the price of the products, plus the price of emission reductions, plus the auction price, plus the price of speculation by investors.

The mechanics of auction create the need for secrecy, which contradicts the need for transparency in the cap-and-trade system.

Proponents of allowance auctions reply that the state’s revenue from cap-and-trade is used to finance emission reduction projects.

However, in at least one RGGI state, some of these revenues have been used to pay down the state deficit, instead of financing emission reductions. Will California, with its state budget problems, divert cap-and-trade auction revenues into its state budget?

The alternative to auctioning of allowances is free allocation of allowances to capped facilities, according to a fair scheme, under a hard cap. The successful cap-and-trade programs which reduced smog gases from USA electricity generators in the late 1990’s featured free allocation.

Limited Use of Offsets
The California cap-and-trade system will allow trading and retirement of approved offsets, from California and elsewhere. At retirement, the maximum use of offsets by a capped facility will be limited to 8% of total retired allowances plus offsets.

The list of protocols for acceptable offsets is initially restricted to projects in four areas: forestry, urban forestry, dairy digesters, and destruction of ozone-depleting substances.

The potential for energy efficiency improvements and the associated emission reductions in California is enormous. A lively offsets system could stimulate these efficiency improvements and could provide more tradeable units to supplement the limited number of allowances at retirement.

Fuel Distributors Under the Cap
During and after 2015, at the end of each year, each supplier of petroleum products or natural gas will be required to purchase and retire allowances equal to the greenhouse gas emissions by its customers, from combustion of the fuel that it sold.

Cap-and-trade succeeds in regulating direct emissions by large, direct emitters. Cap-and-trade does not succeed in reducing indirect emissions.

Capping fuel distributors for their indirect emissions, i.e. for emissions by their customers, is a serious mistake. Motorists who buy and consume gasoline from service stations will not be under any regulatory obligation to reduce their greenhouse gas emissions. Instead, the motorists will see a price increase between 4% and 8% in the price of gasoline, varying with the week-by-week price of Allowances. The motorists will resent this price increase but will not reduce their emissions.

Similarly, capping natural gas distributors for indirect emissions by their customers will not result in emission reductions. Residential customers will see increases between 4% and 9% in the price of natural gas, not a big enough increase in price to cause any emission reductions.

Historical data (New York Times, May 2, 2010) shows that between 1990 and 2007, the average USA price of gasoline (adjusted for inflation), climbed from $1.87/USgallon (1990) to $2.95/USgallon (2007) (a 58% increase, 1990-2007) but the changes in the price of gasoline had no effect on total greenhouse gas emissions from gasoline combustion, which climbed steadily from 966 Mt CO2e (1990) to 1187 Mt CO2e (2007).

(The gasoline emissions data are from the following USEIA site:) http://www.eia.doe.gov/oiaf/1605/ggrpt/carbon.html#transportation

The Future
A basic greenhouse gas cap-and-trade system for large direct emitters would be an inspiring accomplishment in California’s efforts to reduce greenhouse gas emissions. Such a system would include a hard cap, free allocation of all allowances to capped emitters under a fair allocation scheme, a lively offsets system, and a vigilant, transparent tracking system for all allowances and offsets.

Unfortunately, the system described in the October 20th Regulation is too complex, and contains some major errors, described above.

Hopefully, the other states and provinces which are partners in the Western Climate Initiative will implement simpler cap-and-trade systems, without the problems described above.


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