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SCE presentation 102209

VIEWS: 3 PAGES: 19

									  Corporate
Environmental
    Policy




                       Market-Based
                   GHG Reduction Policies
                Presentation to Southern California Alliance of
                      Publicly Owned Treatment Works
                               October 22, 2009



                                  Frank Harris, PhD
                          Manager – Corporate Climate Policy
                             Southern California Edison
  Corporate
Environmental
    Policy
                Today’s Discussion
                 A “market-based” solution, such as a cap-and-trade program enables
                  regulated entities to pursue the lowest cost compliance option.
                      Entities able to reduce emissions at relatively low cost will “sell” abatement to
                       higher cost entities.
                      Total social cost of abatement is minimized under optimal conditions.

                 Emissions allowances can be auctioned or allocated directly into the
                  market.
                      A well designed allocation process will not influence future environmental
                       choices.

                 Imposing command and control regulations on entities also obligated
                  under a cap-and-trade program will increase the overall cost of reducing
                  emissions.
                      However, the cost of allowances in the cap-and-trade market can be expected
                       to fall.

                 An ideal cap-and-trade program would broadly include all emitting sectors.
                      Transaction costs may cause some sectors to be excluded.

                 Offsets are reductions provided by entities outside of the cap-and-trade
                  program.
                      Reductions obtained via offsets that are “in the money” would also be selected
                       if the entities were covered under the cap-and-trade program.
                                                                                                   Page: 1
  Corporate
Environmental
    Policy      Market based policies utilize price signals to efficiently
                achieve a regulatory goal.
                SCOPE OF MARKET-BASED POLICIES
                Public policies to reduce GHG emissions are inherently based
                                  on governmental mandates.

                  Market-based policies create “price signals” and then allow
                 individual regulated entities the flexibility to respond to these
                               signals on a decentralized basis.

                Commonly referenced market-based policies include:

                 Emissions taxes

                 Tradable emission allowances
                       Including certain complementary policy instruments:
                            Offsets: Allowances created outside the directly regulated sectors
                            Safety Valves: Supplementary allowances sold at a given
                             “trigger” price
                            Price floors: Government is buyer of last resort of allowances at a
                             special floor price

                                                                                              Page: 2
  Corporate
Environmental
    Policy      In a cap-and-trade program, abatement occurs
                where it is most efficient, not by direct mandate.
                ABATEMENT UNDER CAP-AND-TRADE
                 Equiproportional Abatement
                       A mandate requiring all regulated entities to reduce emissions by the same
                        proportion, regardless of cost.

                 Equimarginal Abatement
                       The result of a market-based program in which the marginal cost of
                        abatement is identical across all regulated entities.

                 When equimarginality is achieved, the total cost of reducing
                  emissions is minimized
                 A cap-and-trade program is more likely to minimize total abatement
                  cost if it includes all emitting entities
                 A cap-and-trade program works best when there are a variety of
                  technical solutions available
                       No central agency can possibly know of all possible compliance solutions.
                       Entities that cannot reduce directly will benefit from the abatement of other
                        capped entities.




                                                                                                  Page: 3
  Corporate
Environmental
    Policy
                Equiproportional Abatement May Seem Fair...
                $/ton                                        $/ton




                                                                     Marginal Cost
                                                                     of Abatement
                               Marginal Cost
                               of Abatement




                                  50%               100%                   50%             100%
                                               Pollution Abated                       Pollution Abated
                              Company A             (Tons)             Company B           (Tons)

                 In this example, all companies are required to cut their emissions in half.
                  But since the cost of abatement is not the same for each company, total
                                    abatement costs are not minimized.
                                                                                           Page: 4
  Corporate
Environmental
    Policy       ... But equiproportional abatement is not
                 economically efficient.
                $/ton                                          $/ton
                                                                                           Marginal Cost
                                            Marginal Cost                                  of Abatement
                                            of Abatement                    Reduced
                         Level of                                        Abatement Costs
                        Equalized
                        Marginal      Increased
                          Cost      Abatement Costs




                                     50%                   100%                            50%           100%
                                                      Pollution Abated                              Pollution Abated
                                    Company A              (Tons)                   Company B            (Tons)


                      Economic efficiency requires the equalization of the marginal cost of
                   abatement. In a cap-and-trade market, company A is encouraged to abate
                         more while Company B abates a corresponding amount less.
                                                                                                           Page: 5
  Corporate
Environmental
    Policy        An emissions tax can equalize the marginal abatement cost,
                  but cannot ensure a specific level of abatement.
                  EMISSIONS TAX
                $/ton                                         $/ton




                                                                                      Marginal Cost
                                                                                      of Abatement


                Per
                                  Marginal Cost
                Ton
                                  of Abatement
                Tax



                                                     Tax
                                                                                                  Tax
                                                     Paid
                                                                                                  Paid




                                                           100%                                               100%
                            Abatement Undertaken   “Residual”         Abatement Undertaken      “Residual”
                                    Company A                                  Company B         Pollution
                                                    Pollution

                        All companies see the same per-ton tax and, therefore, they undertake
                         emissions abatement to the same level of marginal abatement costs.
                                                                                                         Page: 6
  Corporate
Environmental
    Policy
                 By distributing allowances equal to the cap, CARB
                 ensures that the AB-32 emission target is met.
                   “Business as Usual”
                                                                                 Allowed Emissions
                     Emissions Forecast
                                                                          Remain at Capped Level Until 2050
                                                                                 Target is Enforced
                                                      The “ramp rate”.




                                                                                                   Baseline
                                                                                                   for 2050
                                                                                                     Cap
                                           Cap = 1990 Emissions
                                                                                                      80%
                                                                                                     Below
                                                                                                      1990




                  1990          2005      Potential Intermediate   2020   2021    2022     20??     2050
                Emissions     Emissions    Points of Regulation




                                                                                                    Page: 7
  Corporate
Environmental
    Policy
                The allocation method has a direct impact on the cost
                of a cap-and-trade program to the regulated entities.

                ALLOCATION BASICS
                 Allowance allocation should not compromise the
                  integrity of the carbon price.
                      Allocations should not change as a result of future
                       incremental production.
                      Customer benefits from allocation should not be realized
                       through reduced volumetric costs.

                 Allocating allowances should create a different
                  financial result than that obtained by allocating
                  auction revenue rights.
                      The monetized value of direct allocation should equal the
                       realized auction revenue from an ARR structure.
                      CARB may be unable to distribute auction proceeds
                       without legislative approval.




                                                                                   Page: 8
  Corporate
Environmental
    Policy      Direct abatement behavior is a function of relative marginal
                abatement costs and is independent of the allocation method.
                ABATEMENT AND ALLOCATION
                P = $/ton                                              P = $/ton

                                                The market
                         Additional               clearing
                        Abatement            allowance price                   Decremental
                          Costs              will be the same                   Abatement
                        Undertaken            for both firms.                  Costs Avoided




                P*




                                                                 Abated                                              Abated
                                                                Pollution                                            Pollution
                              Initial Allocation                 (Tons)                        Initial Allocation     (Tons)

                                  Company A                                              Company B
                     Independent of allocation method, entities with lower abatement costs will
                       undertake additional abatement and sell their unneeded allowances to
                                  those companies with higher abatement costs.                                      Page: 9
  Corporate
Environmental
    Policy      PG&E, SEMPRA and LADWP favor an allocation
                scheme based on historical production.
                ALLOCATION PREFERENCES
                 PG&E and SEMPRA favor a direct allocation based
                  on historical electricity sales.
                     PG&E supports a 15% carve out to fund new technology.

                 LADWP favors a direct allocation based on
                  historical emissions.
                     Suggests that a sales based allocation amounts to a direct
                      transfer from POU to IOU ratepayers.

                 SCE favors an allocation, or the allocation of
                  auction revenue rights, in a manner that minimizes
                  economic harm.

                 CARB may face legal or political restrictions on its
                      ability to distribute auction proceeds.

                                                                               Page: 10
  Corporate
Environmental
    Policy
                 Ratepayers suffer economic harm as electricity costs
                 increase to fund allowance auctions.
                 RATEPAYER ECONOMIC HARM
                                                                           ILLUSTRATIVE PURPOSES ONLY
                      Price
                     $/MWh




                                        Price Increase = M.E.R • PGHG

                 Price After
                                                                                  Ratepayer
                                                                                    Harm
                Price Before




                                                                                                MWh

                  Allocating to LSEs on behalf of their ratepayers can mitigate the ratepayer
                  harm. To maintain the environmental integrity of the carbon price, this
                  economic value must not be provided to ratepayers on a volumetric basis.

                                                                                                  Page: 11
  Corporate
Environmental
    Policy       Generators incur economic harm when the electricity market
                 does not allow full recovery of allowance auction expenses.
                 GENERATOR ECONOMIC HARM
                                                                                   ILLUSTRATIVE PURPOSES ONLY
                 Emissions
                   Rate
                                        Wholesale electricity
                (mton/MWh)             prices will increase by                   Harm
                                       the emissions rate of
                                      the marginal unit times
                                        the allowance price.



                                     Additional
                                       Profit
                  Marginal
                 Emissions
                      Rate




                                                                 Marginal Unit


                                  Nuclear          Natural Natural Natural              Coal     MWh
                                Renewables          Gas     Gas     Gas

                  Generators with emissions rates equal to or less than that of the marginal
                  unit incur no economic harm and thus need no direct allocation. Higher
                  emitting units cannot pass all of their emissions costs to their buyers and
                  incur economic harm as a result.
                                                                                                       Page: 12
  Corporate
Environmental
    Policy
                Emissions offsets allow regulated entities to utilize
                emission reductions achieved outside the regulated sector.
                EMISSIONS OFFSETS


                                                      BAU



                              Reduction from
                                BAU creates
                            “Offsets” usable as
                             allowances in the
                              capped sector.


                                                                          Sector
                                                              Baseline   Emissions   Offsets   Cap Level

                          Uncontrolled Sector                                 Controlled Sector

                     Emission reductions in uncapped sectors effectively increase the number of
                        allowances in the capped sector, although total emissions are unaffected.
                Offsets are ideally suited to GHG emissions because these emissions quickly disperse
                                                    in the atmosphere.
                                 Restrictions on offsets will increase the cost of compliance

                                                                                                 Page: 13
  Corporate
Environmental
    Policy       Emissions offsets provide an opportunity for regulated entities to
                 indirectly reduce emissions at a lower cost than direct reductions.

                 THE ECONOMICS OF OFFSETS

                                                Total                    Offsets
                    $/ton                   Allowances                “Supply” Curve
                                               Issued




                Allowances                                                                  “Demand”
                 Price w/o                                                                For Emissions
                   Offsets                                                             (Willingness to pay
                                                                                        for allowances or
                Allowance/                                                                    offsets)
                  Offset
                 Price w/
                  Offsets
                                                                                            Baseline
                                                                                           Emissions




                                                                                       Tons Emitted
                               Allowances Issued          Offsets      Direct
                                                         Purchased   Abatement

                                                                                                  Page: 14
  Corporate
Environmental     Imposing command and control regulations on sectors covered by a
    Policy
                  cap-and-trade program effectively imposes constraints on the set of
                  possible abatement options.

                  CAP-AND-TRADE AND COMMAND-AND-CONTROL

                                              Abatement           Total
                     $/ton                                    Allowances
                                             due to direct
                                              measures           Issued



                                                                       Unrestricted
                Unrestricted                                           demand for
                 allowance                                               emission
                     price                                              reductions

                 Allowance
                 price with
                   direct
                 mandates



                                                             Restricted demand


                                                                                      Tons Emitted
                        Imposing direct mandates on capped sectors will cause the
                        abatement demand curve to shift inward to match the amount
                        of abatement achieved through direct mandates.
                                                                                               Page: 15
  Corporate
Environmental
    Policy      The economic burden of a cap-and-trade program may
                vary across industries.
                DISTRIBUTIONAL IMPACTS
                   The economic burden of the GHG regulation will not
                    necessarily be borne simply by the business at the point
                    of regulation
                       Much like a sales tax does that not simply affect the business whose sales
                        are directly taxed: This is a question of tax “incidence”

                   The burden of the regulation will be determined primarily
                    by two factors:
                       The manner in which the government distributes allowances or auction
                        revenue
                       The ability of regulated entities to pass along to their consumers the
                        higher costs of their products.
                              This will depend mainly on the price elasticity of demand for their products
                               (availability of substitutes, etc.)




                                                                                                        Page: 16
  Corporate
Environmental
    Policy
                Summary
                 A “market-based” solution, such as a cap-and-trade program enables
                  regulated entities to pursue the lowest cost compliance option.
                      Entities able to reduce emissions at relatively low cost will “sell” abatement to
                       higher cost entities.
                      Total social cost of abatement is minimized under optimal conditions.

                 Emissions allowances can be auctioned or allocated directly into the
                  market.
                      A well designed allocation process will not influence future environmental
                       choices.

                 Imposing command and control regulations on entities also obligated
                  under a cap-and-trade program will increase the overall cost of reducing
                  emissions.
                      However, the cost of allowances in the cap-and-trade market can be expected
                       to fall.

                 An ideal cap-and-trade program would broadly include all emitting sectors.
                      Transaction costs may cause some sectors to be excluded.

                 Offsets are reductions provided by entities outside of the cap-and-trade
                  program.
                      Reductions obtained via offsets that are “in the money” would also be selected
                       if the entities are covered under the cap-and-trade program.
                                                                                                  Page: 17
  Corporate
Environmental
    Policy




                       QUESTIONS?




                       Frank Harris, PhD
                Manager – Corporate Climate Policy
                   Southern California Edison
                     frank.harris@sce.com
                          626-302-1718

								
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