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House Passes Landmark Climate and Energy Bill

On June 26, 2009 the House of Representatives passed the American Clean Energy and Security Act of 2009 (“ACES”) by a vote of 219 to 212. The bill’s comprehensive climate and energy provisions would establish a cap on greenhouse gas (“GHG”) emissions and an emissions trading system, and set a national renewable energy standard and building and appliance efficiency standards. It would also provide financial assistance for clean energy technology. It would be the first major piece of environmental legislation since the Clean Air Act Amendments of 1990. By putting a price on carbon emissions, the bill could have a significant impact on energy-intensive industries while providing new opportunities in the clean energy and energy efficiency sectors.

Due to differences in committee structure, climate change and energy legislation has progressed on a different path in the Senate. The Senate Energy and Natural Resources Committee reported a comprehensive energy bill out of the Committee on June 17, 2009 that also includes a renewable energy standard, energy efficiency requirements, and more involvement of the federal government in transmission planning, siting, and cost allocation. Senate Environment and Public Works Committee Chairwoman Barbara Boxer (D-CA) has stated that her committee will mark up a climate change bill that contains cap-and-trade provisions similar to those in ACES at the end of July. Moreover, Senate Majority Leader Harry Reid (D-NV) has stated he will work with the Obama administration to pass energy and climate change legislation this fall. Given that it is still unclear whether there are enough votes in the Senate to pass such a bill, it is likely that there will be changes to the broad reach of ACES and the extensive array of special interest provisions it contains. If action stalls in the Senate, the Administration appears ready to move forward with GHG regulation under existing Clean Air Act authority.

Greenhouse Gas Reduction Program

ACES sets a goal of reducing greenhouse gas (GHG) emissions by 17% by 2020 and 83% by 2050. The bill covers carbon dioxide (CO2) and 16 other GHGs (including methane, nitrous oxide, and several hydrofluorocarbons). EPA would allocate a certain number of emission allowances every year starting in 2012, then decrease that number each year to gradually meet the overall reduction goals.

1. Covered Entities

ACES defines a class of “covered entities” which will be required to hold allowances or offset credits equal to their emissions (or in the case of fuel producers and natural gas distributors, the emissions associates with their products) on April 1 of each year for the previous calendar year. Covered entities include:

• Electricity sources (except those using petroleum-based or coal-based liquid fuel, natural gas liquid, renewable biomass or gas derived from renewable biomass, or petroleum coke or gas derived from petroleum coke)
• Natural gas local distribution companies (compliance not required until 2016) (excludes deliveries to customers that are covered entities)
• Fuel producers and importers (responsible for emissions associated with combustion of fuels produced or imported)
• Industrial gas producers and importers
• Certain industrial stationary sources (compliance not required until 2014) (excludes emissions from burning fuels noted above in electricity sources), including those in the following sectors:
  • primary aluminum production
  • cement production
  • petroleum refining
  • titanium dioxide production
  • chemical production, iron and steel production, food processing, pulp and paper manufacturing (25,000 ton/year CO2 equivalent threshold)
• Industrial fossil fuel-fired combustion devices not covered under the industrial stationary source category, and emitting more than 25,000 tons CO2 equivalent GHG (excludes emissions from burning fuels noted above in electricity sources)

2. Allowance Distribution

Most of the allowances would be distributed at no charge in the early years of the program. However, the allowances would not be distributed evenly to covered entities, and some covered entities would not receive any free allowances. Rather, the allowances would be distributed in a manner designed to protect consumers and certain industries from increased energy costs, increase investment in clean energy and energy efficiency, worker assistance and training, prevent of deforestation, and support domestic and international climate change adaption. Therefore, while many of the allowances would be distributed directly to covered entities (such as electric utilities and “trade-vulnerable industries”), others would be distributed to states and non-covered entities, which would then sell the allowances and use the proceeds to further the goals of the bill. The bulk of the allowances would be distributed as follows:

• Electricity consumers (Secs. 782, 783): 43.75% of total available allowances in 2012, stepping down to 7% in 2029, would be allocated to local electricity distribution companies, electricity generators with long-term purchase contracts, and “merchant coal generators” (coal-fired power plants not subject to rate regulation by a State public utility commission or self-regulation of rates) to be used exclusively for the benefit of ratepayers. The covered utilities are directed to keep rates low, and to the extent they use rebates, to do so to the maximum extent practicable by reducing the fixed-rate portion of consumer electricity bills. Allowances would be distributed according to a formula based half on emissions from the utility and half on electricity sales.
• Low Income Consumers (Sec. 782): 15% would be auctioned by EPA, with the proceeds to be used for the benefit of low income consumers.
• Trade-Vulnerable Industries (Sec. 282): 15% in 2014, stepping down to zero in 2050, would be distributed to “energy-intensive, trade-exposed industries” such as the steel, paper and cement industries.
• Natural gas consumers (Secs. 782, 784): 9% in 2012, stepping down to 1.8% in 2029, would be distributed to natural gas local distribution companies to be used exclusively for the benefit of retail ratepayers. One third of the allowances must be used for energy efficiency programs, and the remainder must be passed through to consumers through lower prices under provisions similar to those that apply to regulated electric utilities.
• Home Heating Oil and Propane Consumers (Secs. 782, 785): 1.875% in 2012, stepping down to 0.3% in 2029, would be distributed to states for programs to benefit residential and commercial users of home heating oil and propane through energy efficiency programs or direct rebates.
• Refineries (Sec. 787): 2% would be distributed to petroleum refineries.
• Investment in Energy Efficiency and Renewable Energy (Sec. 782): 9.5% in 2012, stepping down to 4.5% in 2050, would be allocated to energy efficiency and clean energy investments.

EPA estimates that allowances will cost $11 to $15 per ton in 2012 and increase to $22 to $28 per ton by 2025. At these prices, the total value of the allowances created under the bill ranges from $50-70 billion in 2012 to $90-120 billion in 2025. Emissions trading would be regulated by the Federal Energy Regulatory Commission and the Commodity Futures Trading Commission.

3. Offsets

The bill allows covered entities to use emissions offset credits in lieu of allowances to demonstrate compliance for a portion of their emissions. An overall cap of 2 billion offset credits is established, divided evenly between domestic offsets (i.e., generated in the US) and international offsets (i.e., generated outside of the US). If there is an insufficient supply of domestic offsets, the bill would allow up to 1.5 billion international offsets to be used in a give year under certain circumstances. Individual covered entities can meet up to 30-40% of their obligations with emissions offsets (based on a formula set out in the bill).

The bill includes a suggested list of agricultural and forestry activities that would be eligible for credits (but no list for non-agriculture/forestry projects) and requires that EPA and the Department of Agriculture (DOA) promulgate initial lists of eligible projects within one year of enactment, with DOA given authority over agricultural and forestry-related offsets. The suggested list of agriculture/forestry activities includes altered tillage practices, winter cover cropping, reduction in nitrogen fertilizer use, reduction in GHG emissions from manure and effluent, reforestation, and conservation of grassland and forests.

Offset projects can generate credits only to the extent that they result in GHG reductions not otherwise required by law (a concept known as “additionality”). Only projects commenced after January 1, 2009 are eligible, unless they were registered under an approved offset program and were commenced after January 1, 2001. The bill requires EPA to establish a methodology for accounting and mitigating “leakage” from offset project types. “Leakage” occurs when an offset or other carbon reduction activity results in increased carbon emissions elsewhere (such as reforestation of farmland that results in deforestation elsewhere). EPA must also establish requirements to account for and address “reversals” of offsets (such as a fire that destroys a reforestation project). The bill also establishes an Offsets Integrity Advisory Board, which EPA must consult in developing the offset program.

4. Penalties

A covered entity that fails to hold emissions allowance and offset credits equal to its emissions for a given year must pay a penalty equal to twice the fair market value of its allowance shortfall. It must also offset that shortfall in the next calendar year.

5. Early Action, State-Issued Allowances, and International Allowances

The bill would allow EPA to provide compensation in the form of emission allowances to certain covered entities that can demonstrate that they reduced greenhouse gas emissions between 2001 and 2009 as a result of actual projects implemented to meet publicly stated GHG reduction goals. The bill would also allow entities holding allowances issued by the State of California, or under the northeast Regional Greenhouse Gas Initiative or the Western Climate Initiative to exchange those allowances for federal allowances of equal value. In addition, the bill would recognize international allowances issued pursuant to comparable cap and trade programs.

6. Preventing Tropical Deforestation

Recognizing that tropical deforestation is a major source of global GHG emissions (estimated to account for 20% of total), and that reducing emissions from deforestation is more cost effective than many other emissions reduction efforts, the bill requires EPA to work with USAID and other appropriate agencies to reduce deforestation in developing countries by the equivalent of 10% of 2005 US GHG emissions by 2020 (720 million tons CO2) and 6 billion tons by 2025. The program would seek to build capacity to measure, monitor and enforce reductions in deforestation, to generate deforestation reduction offset credits for sale, and to reduce the leakage of emissions.

Energy Provisions

The most significant energy-related provisions of the bill include: (1) a renewable electricity standard; (2) increased federal role in transmission planning and siting; (3) new building and appliance efficiency standards; and (4) an Office of Consumer Advocacy.

1. Renewable Electricity Standard

The bill creates a federal combined efficiency and renewable electricity standard for federal agencies and all retail electricity suppliers that sell more than 4 million megawatt-hours of electricity to consumers each year. It would require that 6% of electricity come from renewable energy resources and electricity savings by 2012, rising to 20% by 2020. As it stands now, one-quarter of the requirement for electricity suppliers could be met through electricity savings, although the governor of a state can petition the Federal Energy Regulatory Commission (“FERC”) to increase the proportion to two-fifths of the requirement. For federal agencies, the President can reduce the requirement if the federal government is unable to meet it.

2. Increased Federal Role in Transmission Planning and Siting

The bill provides a stronger federal role in transmission planning by having FERC adopt national grid planning principles and then coordinate regional plans consistent with those principles. FERC is directed to review the regional plans, provide support to the planning processes, and organize multi-regional meetings to discuss integration of the regional plans and resolve any conflicts. In terms of siting authority, ACES limits existing federal backstop siting authority under Section 216 of the Federal Power Act to only interstate lines, or integral intrastate segments of interstate lines, in the Eastern Interconnection. It would allow FERC to site transmission projects in the Western Interconnection if they are included in the final regional or interconnection-wide plans and are needed to meet demand for renewable energy. Such authority can only be utilized if state authorities have not issued a decision on the transmission application within a year of filing, denied the application, or approved the application with conditions that impede development. During debate on the House floor, Congressman Waxman said he would continue to work towards a comprehensive transmission policy that covers both interconnections.

3. Efficiency Standards

The bill establishes new building efficiency standards, requiring new buildings to be 30% more efficient starting the date of enactment and residential and commercial buildings to be 50% more efficient in 2014 and 2015 respectively. It would require additional 5% reductions every three years. States would be required to meet or exceed the national building standards and the Department of Energy (“DOE”) is provided with authority to enforce building codes if states and/or local governments fail to do so. ACES also sets new efficiency standards for lighting products, commercial furnaces, and other appliances.

4. Office of Consumer Advocacy

Finally, ACES creates a new Office of Consumer Advocacy (“OCA”) within FERC to represent customers’ interests in rates and service matters before FERC and as amicus curiae in judicial proceedings and proceedings at other federal regulatory agencies and commissions. The OCA would also monitor and review customer complaints, investigate the services provided by and the rates charged by public utilities and natural gas companies, collect rate and service data, and prepare and issue reports and recommendations.

Beyond the changes in regulatory standards, ACES would also increase support for clean energy technology. It would establish a Clean Energy Deployment Administration and a Clean Energy Investment Fund to promote domestic development and deployment of clean energy technologies, including nuclear power, energy infrastructure technologies, and energy efficiency technologies. The bill would also provide financial support for large-scale demonstrations of electric vehicles in multiple regions and establish a program within DOE to provide financial assistance to vehicle manufacturers to facilitate electric vehicle production.

O’Melveny & Myers is continuing to monitor congressional developments in these areas and is available to provide more specific information. Please contact any of the Related Professionals listed above if you have questions related to this Client Alert.