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It’s The States, Stupid

Understanding greenhouse gas regulation in the United States means understanding what the states are doing; the tendency of observers to focus on Congress and EPA fundamentally misunderstands both the politics of, and the regulatory framework applicable to, GHG emissions. It is the states – not the federal government — that have imposed GHG emissions limits on vehicles, fuels, electricity production, as well as an (in-state) economy-wide price on carbon and a variety of renewable energy mandates. In contrast, to date the federal government’s processes create much noise about issues but relatively few concrete outcomes.

This situation creates two sets of risks. First, state programs are sometimes implemented – and then adopted by other states – without adequate consideration of their legality, effectiveness or economic impacts. Second, the longer federal action is delayed, the more state programs will proliferate and the more difficult it will be to reconcile eventual federal measures with embedded state regulatory systems. As the federal political stalemate continues, business needs to pay greater attention to individual state level developments and the interactions between them.

Here are some examples of such state efforts

Vehicles

The most stark example of the power of state GHG programs is how California, and the 15 other states that adopted California’s emission standards, compelled EPA to promulgate the current federal vehicle standards. Those states comprised about 40% of U.S. car market, and the automakers could not afford to make two separate versions of their U.S. fleets, meaning that all of their cars would comply with the California standards. At that point, EPA and the automakers capitulated, and agreed to make California’s de facto national standards de jure as well.

Renewable energy

37 states have renewable energy standards, requiring various amounts of the power sold in those states to come from wind and solar. In some states, renewable supply has far outstripped such regulatory mandates; in Texas, for example, almost 30% of electricity is now provided by wind. Conversely, four states (California, Minnesota, Oregon and Washington) restrict the sale of coal-fired electricity. These programs are wildly different in impact and costs, but have shaped thinking in Federal consideration of such ideas.

Economy-wide reductions

Covering the 8th largest economy in the world, California’s cap & trade system is designed to reduce, by 2050, GHG emissions by 80% from 1990 levels. The impact of the program, and whether, as some predict, energy intensive industry will flee California, will have huge consequences for federal action, which will have to take account the practical lessons of that experience.

Power plant emissions

Recently, the nine states that make up the North East states’ Regional Greenhouse Gas Initiative (RGGI) abruptly turned their power-plant CO2 emissions cap & trade program from a mere revenue raiser into a more serious emissions-reduction mechanism.  The original regional cap for the period 2012-2014 was 165 million tons, significantly higher than the actual 2011 emissions of less than 100 million tons. In February, RGGI announced that it was reducing the 2014 cap to 91 million tons, and that (as previously planned), the cap would thereafter decline by 2.5% per year. Business should note the lesson of the need to plan for the political risks inherent in such “markets”, as well as the possibility of RGGI expanding either geographically or to additional emissions sources.

Both the California and RGGI programs have very serious implications for eventual federal action, which would encounter both the problem of duplicative regulation (regulating the same molecules multiple times) and the states’ understandable reluctance to surrender the billions of dollars in cap & trade auction income.

Fuels

California and Oregon have enacted low-carbon fuel standards, and, as they did with California’s vehicle standards, the North East states are waiting for the legal challenges to California’s standards – and perhaps the practical difficulties of implementing them – to be resolved before adopting them. We believe the example of the patchwork of local and national gasoline standards, which are a significant constraint on adapting to local market disruptions, should be front and center of every company’s thinking as they watch this process develop. In addition, Virginia and Maryland have both recently taken steps to fundamentally change the basis of their gasoline taxation, in ways designed to ensure future revenue (and price) growth. Other states will be watching the effects – and electoral consequences – with interest.

The Future

Despite (and in some cases perhaps because of) the financial crisis facing many states, we expect to see more state level mandates and incentives for renewable energy, electric vehicles, fuel choices and energy efficiency, and attempts to link state-level cap and trade programs to those in Canada, the EU and (if it survives) Australia. We can be confident that not all will work as advertised.

We’ll be talking about the political and legal constraints on state action in future commentary, but all of this demonstrates the old adage that states are laboratories for federal action. In this spirit, states like California are increasingly setting the direction of U.S. climate policy by creating ‘facts on the ground’. And while laboratories often produce wonderful products, sometimes they simply blow up . . . so business needs to pay much more attention to this area of policy making.

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