Introduction

A sense of urgency, a powerful quartet

With one dynamic moderator and two dynamic speakers bringing valuable information and insight to the table, the November 9, 2006, panel held at the Academy would have been a success even if no questions had been invited from the floor. But questions were invited, and the invitation unleashed a vigorous response from attendees, who not only posed penetrating queries but also added strong views of their own. With those exchanges, the audience became a fourth important contributor to the proceedings.

This was no academic seminar. A sense of urgency about how best to slow global warming—quickly, sharply—prevailed.

What subject motivated this level of participation? Climate change. More narrowly, the status of, and prospects for, two mandatory, market-based approaches to curbing the emissions of greenhouse gases that are driving climate change: the U.S. Northeast states' Regional Greenhouse Gas Initiative (RGGI) and the European Union's Emissions Trading Scheme (EU ETS). The panel's title: "Clearing Carbon: Can the Markets Do It?"

The intellectual force and passion brought to bear on the subject manifested the growing sense of urgency in many circles about the harm that climate change is already inflicting and threatens to inflict. This was no academic seminar. Well-informed, deeply concerned citizens were genuinely struggling to understand how best to slow global warming—quickly, sharply.

This sense of urgency was in marked contrast to the quieter predecessor panel held in November 2005. Also cosponsored by the Sallan Foundation and the Academy's Environmental Sciences section, it examined RGGI and New York State's Renewable [energy] Portfolio Standard. (The NYAS eBriefing documenting that panel, New York Tackles Climate Change: Promoting Renewable Energy and Capping Greenhouse Gas Emissions, summarizes how cap-and-trade programs work.)

In opening the 2006 event, the Sallan Foundation's executive director, Nancy Anderson, a member of the Academy's Environmental Sciences Section program committee, expressed her hope that a panel on various means of addressing climate change would become an annual NYAS-Sallan event.

Future panels will not lack for subject matter.

Post-election perspectives

The Sallan Foundation's mission is "advancing useful knowledge for greener cities," Anderson explained in welcoming attendees. And, she added, "I hope that is exactly what we will achieve here this evening." The panel, she suggested, is "part of a local, regional, worldwide effort—part of the 'long march through the institutions,' toward [a] ... carbon-neutral world and carbon-neutral future ..."

"We are here ... at an historic moment: two days after a major election," she reflected. "We now know that American politics will be on a different trajectory ... I believe this will lead to a real change in federal policy on climate change ... But perhaps not quite yet." Thus, the evening's panel "is of particular importance, because we will get to learn about and discuss the two major market approaches to climate change that are available for us today."

"We're on a roll here. Something very important is developing."

The approach taken by RGGI was described by panelist Luis G. Martinez, an attorney with the Natural Resources Defense Council (NRDC). In her introduction, Anderson described him as instrumental in RGGI's development. Newly elected governors will boost RGGI's membership, she predicted. (Indeed, in January 2007 Massachusetts's newly elected governor announced that his state is rejoining RGGI, and Rhode Island's governor, who was reelected, announced that his state will rejoin; those states had dropped out. Maryland is expected to join, too.) And, Anderson added, with California governor Arnold Schwarzenegger's commitment to fighting global warming and adopting an ambitious mandatory greenhouse gas cap-and-trade program that may link to RGGI, "we're on a roll here. Something very important is developing."

The EU ETS and its international framework were discussed by panelist Véronique Bugnion, an expert on energy and environmental markets and director of research at Point Carbon. She "has worked for years in the European market," Anderson said, and "will tell us, not just in the abstract, how might a market work. We now have two years of experience with the European market with all of its glory, bumps, and growing pains."

The panel's moderator was E. Gail Suchman, an attorney with Gilberti Stinziano Heintz & Smith, P.C., and senior legal advisor to the Urban Design Lab for Sustainable Development at Columbia's Earth Institute. Suchman is also a passionate crusader for improving environmental and living conditions in the South Bronx. Climate change may affect poor vulnerable populations disproportionately, she cautioned in her opening remarks. This raises environmental justice issues, and those poor communities must be included in debates about them.

Coming to terms with carbon

The panelists' scope extended from the South Bronx to the Northeast United States, to Europe, and beyond—to what is emerging as a global market in carbon emissions. That development is of potentially epochal significance for a civilization largely based on carbon and at growing risk of being irrevocably damaged by it.

In fact, the damage has begun. As UK Climate Change Minister Ian Pearson put it in November, "rising sea temperatures, ocean acidification, and melting polar ice are not just predictions, they are happening now."

The threat is matter-of-factly, heartbreakingly described in a presentation (PDF, 1.1 MB) by leading climate scientist James E. Hansen of the NASA-Goddard Institute of Space Studies. Hansen foresees an all-too-possible future in which changing climate patterns force many more species to migrate and many others to go extinct, and in which hundreds of millions of people are displaced by rising sea levels or impoverished by more droughts in the subtropics and more floods and climate variability elsewhere. He cautions that, "we cannot pour into the atmosphere all the fossil fuels that were buried in the ground over millions of years without creating a different planet, without destroying creation, without being miserable failures in our stewardship of the planet we were blessed with."

Yet the International Energy Agency's 2006 Energy Outlook baseline forecast is that, "global primary energy demand increases by 53% between now and 2030. Over 70% of this increase comes from developing countries, led by China and India. Global carbon-dioxide (CO₂) emissions reach 40 Gt in 2030, a 55% increase over today's level. China overtakes the United States as the world's biggest emitter of CO₂ before 2010."

What are we doing? What can we do now?

The extent to which RGGI and the EU ETS will actually reduce greenhouse gas emissions remains to be demonstrated, and even if they succeed, their goals are modest. China's soaring emissions are likely to significantly offset whatever they achieve. Cap and trade's stretch of "the long march" may prove to be a byway, not a highway.

But maybe not. The World Bank reports that, in the first three quarters of 2006, world carbon markets more than doubled in value over 2005, growing to an estimated $21.5 billion. What were fledging ventures just a few years ago have rapidly matured into sophisticated, vibrant exchanges in which desires to slow climate change, to promote the development of clean energy technologies, to help developing nations (in which emissions offset projects can be conducted), and to achieve pure financial gain mingle and ultimately converge in a single, shifting number: the price of a ton of CO₂.

Moreover, by the very fact of their existence, RGGI, California's plans, and the EU ETS—which would have been dismissed as fanciful if not lunatic schemes not that long ago—are steadily beaming a clear, ever-louder signal to governments and industry that business as usual is over: a new mindset is here.

On the national level the new Congress is addressing issues related to climate change and energy in earnest. On January 22, 2007, an alliance of major U.S. corporations and environmental groups made news by advocating a regulated economy-wide, market-driven approach to climate protection. Its Web site speaks of the "urgent" need for a policy framework on climate change; its report states flatly that cap and trade is "essential."

In Europe, the EU is assessing a proposal for an unprecedented Common European Energy Policy that would include a binding target to further reduce greenhouse gas emissions.The February 2, 2007, release of the Intergovernmental Panel on Climate Change’s fourth assessment report has formally confirmed what was already widely understood: we’re on a risky course that demands decisive action, now.

In short, 2007 has the makings of a watershed year for climate policy. Central to debates about it will be cap and trade.

Christine Van Lenten is a freelance writer who has written about widely varied subjects for the Academy.

States Take Matters into Their Own Hands

Speaker:
Luis G. Martinez, Natural Resources Defense Council

Highlights

• RGGI was launched in 2003 by New York State governor George Pataki. Initially, nine states chose to participate actively. Massachusetts and Rhode Island dropped out in December 2005. Massachusetts has since rejoined; Rhode Island has announced its intent to rejoin. Maryland is expected to join in 2007.
• RGGI aims to reduce CO₂ emissions from the power-generating sector and to do so cost-effectively. Its target start date is 2009. By 2019 emissions must be reduced by 10% from the 2009 baseline (even if demand for energy grows).
• RGGI is expressly designed to be replicable, not only by other regions of the country but by the federal government.
• In its provisions for offset projects and for allocating allowances, RGGI is designed to avoid problems experienced by the EU ETS.
• It's likely that 100% of emissions allowances will be auctioned, and proceeds will be directed to programs promoting energy efficiency and renewable energy.
• If those investments are adequate, RGGI won't raise electricity prices for consumers.
• Many details of RGGI's design remain to be defined and refined.

RGGI's launch and evolution

Moderator Suchman described Luis Martinez as having "really led the pack for all the environmental advocates in the country on this issue of regional greenhouse gas trading systems." He's been closely involved in negotiations over RGGI and has followed the issue closely not only in behalf of NRDC but for environmental advocates throughout the country.

(Note to readers: RGGI continues to evolve, and in a few instances this eBriefing reflects information that Martinez supplied after the panel to update and expand upon his presentation.)

NRDC is a nonprofit advocacy group headquartered in New York City. Notably, in addition to offices elsewhere in the United States, it has opened an office in Beijing. "We have been concentrating on China and their impacts, particularly on climate change," Martinez said.

Original participants in RGGI are shaded.

NRDC's involvement in RGGI dates back to its participation in the greenhouse gas (GHG) task force formed by New York governor George Pataki in 2001. The task force recommended controls on the state's emissions of GHGs, particularly CO₂. To make controls more cost-effective, it recommended a regional program. Pataki agreed and in April 2003 invited the governors of 10 Northeast and Mid-Atlantic states to join his efforts. Pennsylvania and Maryland—"big coal states," Martinez remarked—decided to be observers, not participants, but the other states signed on, for a total of nine active states.

In July of 2003 work began, with the formation of a stakeholder group. Participants included environmental advocates, consumer advocates, and representatives of the utility industry. Staff were drawn from participating states' departments of environmental protection, principally from their air-quality divisions, and from energy regulatory agencies.

The aim was to develop a model rule crafted by all the states. Through a memorandum of understanding, the states would implement a trading scheme: by individually adopting and implementing the model rule, they would allow for trading among themselves.

In December 2005 the states announced a formal agreement. But Massachusetts and Rhode Island weren't a party to it: fearing RGGI's impact on energy prices, they'd dropped out at the last minute. In January Massachusetts's newly elected governor announced that Massachusetts has rejoined; Rhode Island's governor (reelected) announced that his state will rejoin. Maryland enacted legislation in 2006 committing it to join, and it's expected to join in 2007.

RGGI's active participants as of November 2006. In January 2007 Massachusetts and Rhode Island announced their intent to rejoin, and Maryland is expected to join in 2007.

In March 2006, RGGI issued a draft model rule. It was intended to meet two main goals: to significantly reduce GHG emissions from the power-generating sector and to do so cost-effectively. The goals are intimately related, Martinez stressed, because if RGGI is not cost-effective, it just won't work, RGGI states won't adopt it, other states won't either; it won't be replicable around the nation. "We wanted something that would be a model for a future federal program. We knew we were the first out of the box; people were watching what we were doing. So we really wanted to make it work and be cheap."

The final model rule was issued in August 2006. It differed in key respects from the March draft, and it reflected what had been learned from the EU ETS's difficulties. "We've been particularly adamant about making sure that whatever mistakes were made there were corrected," Martinez stated.

Features of the model rule

The final rule provides for a two-phase cap-and-trade program. It applies to fossil-fuel power plants that are located within RGGI's member states and have a generating capacity of 25 megawatts or more. In 2009, the target start date, those plants' emissions will be capped. Each state will be allocated a quantity of allowances equal to the number of tons of CO₂ its generators can emit within a year. Generators will need to purchase an allowance for each ton of CO₂ emitted.

The cap will stabilize emissions, and they'll remain flat until 2015, when they'll start to gradually decline. By 2019, they'll have been reduced by 10% from the 2009 baseline. A comprehensive review of the program will be conducted midway through the 10-year stabilization period. (The 10% reduction from the 2009 baseline must be achieved even if demand for electricity from those plants grows.)

"For us environmental advocates, [the final rule] wasn't strong enough," Martinez reflected. "But for industry, it was extremely strong, particularly because we were jumping ahead of the nation."

"We heard that what the Europeans intended wasn't really working."

From the time RGGI's draft rule was issued, "we heard that what the Europeans intended wasn't really working." Martinez recalled. "Generators were making huge windfall profits; the price of allowances was spiking, then dove right to the ground; people were losing money. We didn't understand what was happening." RGGI's designers examined those problems closely and modified provisions of the model rule that govern offsets and allowances and how the cap is set. Martinez reviewed each of these.

Cap size

In the EU ETS, when each participating country initially allocated allowances to the sectors subject to a cap, they thought industry was going to grow and that they would need a wealth of allowances, Martinez explained. Because of this each nation gave itself too many allowances. After the end of the first compliance period, they realized that too many allowances were available in the market. "When there's too much supply and not enough demand, the price just drops," he said. That proved to be a big problem for parties investing in carbon allowances.

To define the level of RGGI's cap, designers examined actual levels of emissions in all the states from 2000 through 2004 and averaged them, and they examined growth in emission levels through these years. Using this data they projected levels of emissions forward to 2009. By 2009, emissions levels should match RGGI's forecasts. The model rule provides for a program review; among factors to be evaluated is the adequacy of the allocation.

Offsets

The Kyoto Protocol's provision for a Clean Development Mechanism (CDM) was of great interest to RGGI's designers. The CDM provides for offsets, which Martinez defined as "an equivalent reduction in emissions somewhere else that you can buy instead of reducing your own emissions." Under Kyoto, credits for emissions reductions achieved by projects in developing countries may be applied toward meeting a cap. (The reduction may be achieved by absorbing emissions or by preventing them.)

The EU ETS solicited CDM projects and was swamped with proposals. Because it hadn't already developed standards for evaluating CDM projects, it couldn't process proposals quickly enough to expedite the flow of offset allowances into the market. So "not enough offsets have flowed into the market," and that, Martinez speculated, may be one reason why EU ETS allowances initially became so expensive.

Over half of RGGI's model rule is devoted to protocols for offset projects. But offsets can't exceed 7% of the cap.

RGGI's designers decided to provide for offset credits but to allow for only four or five categories of offset projects and to "develop the whole standard from the get-go. That's why the model rule is so long," Martinez explained: over half its 200 pages are devoted to protocols defining what constitutes an acceptable offset project, what information is required to obtain state approval, how long offset credits are good for, and related matters.

"It's very, very detailed," so that when proponents propose offset projects to the state, all the state has to do is ensure that proposals are complete and that they comply with the standards. Offset credits can then flow into the market, expanding the pool of credits. "But ... we limited the pool of offsets to 7% of required reductions. So you have to do reductions; you can't just depend on offsets."

Allowances

The way allowances are handled is "the biggest transition from where the EU ETS was to what we hope to have," Martinez stated. One problem with the EU ETS is that its designers copied the U.S. sulfur dioxide cap-and-trade program (also known as the Acid Rain Program). In that program, allowances are handed out for free, because the generators were heavily regulated; they were rate controlled. "They were given the allowances for free, but if their emissions went up, which is where the cap would bite, they couldn't start charging more" to cover the cost of buying allowances. This created a big incentive to reduce emissions.

With the deregulation of electricity markets in the United States and Europe, parties can bid whatever price they want for allowances, and if their bid is accepted, they'll receive the per-unit price given to the last watt of power purchased. The EU ETS handed out allowances for free, and parties were adding the value of the allowance into their bids, moving up the price of electricity, he continued. That was because of opportunity costs: revenue foregone. Generators could use that allowance to generate electricity, or they could sell it into the market and realize its market value.

(Martinez later elaborated on this point, explaining that, for generators, an allowance can be likened to a unit of fuel they must buy: it's part of the cost of generating power. They therefore charge consumers for it, in every unit of power they sell. If generators received fuel for free from the government, they'd still charge consumers for it, as it has a market value that must be accounted for: instead of using the fuel to generate electricity they could sell it. Similarly, whether allowances are received for free or not, their value is calculated into the bid price.)

But the lesson learned from the EU ETS experience proved a tough sell for RGGI. "I don't think I can overemphasize how hard it was to get that through the heads of the people here," Martinez stressed. "They had seen sulfur dioxide cap-and-trade markets work, and they didn't want to tinker with them," particularly with allowances.

Because the Northeast states are a deregulated market, whether the generators received the allowances for free or had to pay for them, they would add the value of an allowance into their bid, justifiably, because of the opportunity cost. So once RGGI's designers understood that even if allowances were handed out for free the generators were going to charge consumers, it became clear that they needed to modify RGGI to better protect consumers from cost increases. (More on this below.)

Going, going, gone!

How will entities subject to the cap acquire their allowances? Martinez said that RGGI has had auction workshops, and that the states closest to initiating the rule-making by which they will adopt the model rule are planning to auction off 100% of their allowances. (In announcing that Massachusetts will rejoin RGGI, newly elected Governor Deval Patrick stated that he favors auctioning 100% of allowances.) Whether state auctions will be coordinated hasn't yet been decided, but, Martinez said, he assumes they will be and will be staggered throughout the year, "so you don't have a massive auction at one point." Many details remain to be worked out.

Auctions will probably be staggered throughout the year, so you don't have a massive auction at one point.

Auctions will make RGGI "look substantially different from the EU ETS," which has been handing out allowances for free, he added. An open question for RGGI is how to handle generators that hold long-term contracts that fix their rates. They can't pass along the cost of allowances by adding it to what they charge for electricity.

Price protection for consumers

RGGI's designers are asking, Martinez said, what they must do to make sure the market will work, where revenues from allowances should go, what programs should be funded. Modeling shows that if enough of the proceeds from auctions is invested in energy efficiency, the cost of electricity will decline: RGGI won't cost consumers anything. So, because one of RGGI's primary goals is to protect consumers from cost increases, the model rule requires that at least 25% of the allowances in each state cap be allocated for the benefit of consumers. How this will work hasn't yet been completely decided.

In New York the likely recipient is the state Energy Research and Development Authority, NYSERDA, which already funds energy efficiency and renewable energy projects through a system benefits charge. Many states have similar agencies; they'll probably use a portion of auction revenues to support those energy efficiency and renewable energy programs; they might create some new programs, too. And they'll "make sure ... demand in that state drops, and subsequently prices of electricity also drop," Martinez emphasized.

In response to questions that followed his presentation, Martinez discussed some important features of RGGI in greater detail.

Note to readers: On December 5, 2006, New York State's Department of Environmental Conservation (DEC) invited public comments on a pre-proposal of its adoption of RGGI's model rule. The comment period closed on January 12, 2007. The pre-proposal would allocate 100% of emissions allowances through an open, transparent auction.)

Q&A Summary

Note to readers: In the interests of brevity, topics have been resequenced for tighter organization and a few have been omitted.

How Will RGGI Work?

Will RGGI spur the development of renewable energy?

Gail Suchman posed this question. Luis Martinez replied that yes, he thinks so, but other factors are also at work. "Most states in this region have renewable portfolio standards, so they're already looking to integrate ... renewable energy into their portfolios." But RGGI will "put competitive pressure on fossil-fuel generated power, and we're hoping it's going to spur some of the less expensive renewable power."

You're relying on the price of carbon remaining high? Suchman asked him. Yes, he stated. To make wind or solar cost-competitive, it must. But it's hoped that investments in energy efficiency will lower the price of electricity even if the price of carbon is high.

How can caps be lowered, quickly, if that proves necessary?

An audience member suggested that "it's going to become very clear, soon, that we're going to have to reduce [emissions] more than what those targets are." What mechanisms will permit large reductions in caps to be made faster? he asked.

Martinez replied that RGGI's designers were mindful of the risk of allocating too many allowances, as the EU ETS had done. "That's one of the reasons they built in that review in 2012," he said. "If allowance prices are too low, the program is not being effective." After 2012 the caps can be lowered and allowances can be withdrawn from the market.

RGGI is conceived of as a model for a tougher federal program.

"I agree we're going to need steeper, bigger reductions," he continued. "Our perspective has always been to develop a program that can be replicated at the federal level, because just the region is not going to do it, even though California joined, and that's huge. We're hoping we can get a federal program passed with the steeper reductions that will be needed."

How will allowances be withdrawn from the market after 2015?

"You're issued an allowance [upon purchasing it]," Martinez explained. "You emit that CO₂ ton during the year. At the end of the year you see how much you emitted and you have to have the corresponding number of allowances. So for the following year, when the reductions happen, each state would have a pool of allowances that had been reduced by 2%–2.5%."

"It's not something you buy and hold on to?" the questioner asked.

Allowances can be banked until they are used, but most will be used in one year, Martinez said. You probably wouldn't buy an allowance if you didn't need it. If allowances weren't used, RGGI would auction fewer of them.

Will allowance balances be reported just once a year?

The EU ETS has been criticized for requiring only annual reporting of emissions, observed an audience member. In the financial markets, if companies reported their earnings only once a year, chaos would ensue when they did. What will RGGI's reporting periods be, "assuming it will be open to speculative trading?"

RGGI's designers took a hard look at the EU ETS and tried to improve on it, Martinez said. "So I'm assuming, if that became a significant problem, we'd have quarterly reporting, if that's not too burdensome. But we're just not there yet."

What will be the nuts and bolts of RGGI's market?

How will the market actually work? someone asked. Will there be a mercantile exchange? A free flow of information? Martinez explained that the details have yet to be decided. A two-day auctions workshop was held at which a half-dozen auction methodologies were examined with an eye to how best to maximize revenue.

Power generators are fighting tooth and nail against opening RGGI's market to third parties.

"Right now we're focusing on whether the market is going to be open to third parties who are not generators," he said. Letting third parties in would promote market efficiencies and liquidity, but "generators are fighting tooth and nail against it. They say it's possible that, if you open up the market, it's going to be small enough that a fund is going to swallow up all the allowances and just hold them back."

Once the large RGGI states have proposed their own rules, "we're hoping we have a little bit of time to get into market design. We're not market design experts," but the power generators buy, trade, and sell power to the utilities every day, "so we're looking to them to see how should it work."

Won't power companies sue RGGI, contending they have a right to pollute?

Auctioning emissions allowances "assumes the government owns the right to emit the carbon," a questioner said, "and if the government owns the right, you could tax it just as easily." One reason grandfather permits were issued in the federal SO₂ market and in many pollution cases is that companies have demonstrated that, up to a certain point, they have the right to pollute; that's why they're getting permits for free. You can cap emissions, but below that level, they can pollute. So auctioning presupposes it's the government's right to control this. RGGI will result in "a multiyear fight with the utilities over setting up the full auction system as opposed to giving them the permits and letting them trade."

Martinez said that NRDC has examined this issue closely, including the contention that not giving out "pollution permits" constitutes a "taking" of the polluters' property. "We just haven't found anything that says companies have a right to pollute. They can be regulated." (The state would just prevent a private party from using public property in a noxious manner, he later explained.)

Suchman observed that cap-and-trade programs for SO₂ were negotiated at the federal level, with industry. "I don't think industry is going to just lay down in New York and say, OK you can have 100% of our allocations ... There will be a lot of discussion before we get to that point." So, she said to the questioner, "your point is well taken": a cap on emissions "is very similar to at least a one-time carbon tax." That is, if the state auctions off all initial allocations, requiring generators to buy them, in effect it's taxing carbon emissions; generators pay either way.

Martinez added, "We do expect litigation." But, he said, rather than investing their resources in challenging RGGI, the litigators might wait for a federal program and see how it develops. "They might just take the federal stage. We are seeing a lot of CEOs going to Congress and asking for a federal program so they don't have to deal with piecemeal regulation."

How will RGGI address the leakage problem?

"Leakage," Martinez explained, occurs when markets are larger than one state, and people buy and sell power across state lines. If a cap-and-trade program causes generators in one state to raise the price of electricity they generate, they'll be less competitive, and that state might import more power. "You might meet your cap because you're not generating as much power in the state, but you're just exporting CO₂ emissions. So you're putting your industry at a disadvantage, and you're not meeting your [larger] environmental goals." For example, New Jersey's CO₂ is simply being emitted by coal power plants in Pennsylvania.

To remedy this, he continued, California will place the burden of its cap-and-trade program on the load-serving entity (LSE, the local company that sells electricity directly to consumers): "they buy and sell power, so at the end of the day they would have to have bought and sold power with the equivalent number of emissions to meet their cap. Otherwise they would have to buy and sell credits from other load-serving entities to meet their cap."

The leakage problem is not trivial. A second rule-making will probably be required to address it.

Initially, RGGI's designers were considering a cap on LSEs. But state air quality regulators resisted this: they regulate power generators, "so they wanted to see the generators regulated. So we went a different way and we're kind of facing this leakage problem," Martinez said. RGGI staff will report on the issue at the end of December 2006, he said, and he predicted that an emissions portfolio standard will be placed on LSEs. This will mean a second rulemaking, to be implemented not by departments of environmental protection but by agencies that regulate energy.

(In a later email exchange Martinez explained that an emissions portfolio standard would subject load-serving entities to an output-based performance standard, using pounds of carbon dioxide per megawatt hour as the metric. An LSE could demonstrate compliance with the standard by any combination of approaches, including balancing its supply portfolio to meet the target level, trading certificates created within the power market, and trading project-based emission reductions [carbon offsets] created in other sectors.)

How will offsets work?

How to define the geographic region within which offset projects could qualify occasioned much debate, Martinez recalled. The draft model rule proposed that they could be developed throughout the United States, North America, and Mexico, to create the widest offset pool. But RGGI's designers realized that monitoring and verifying offset projects would have to be done by third parties, and that this could become impractical.

"So they decided they'd only allow offset projects ... within the RGGI region and within states that have their own carbon control or global warming program." Massachusetts has regulations on the books controlling CO₂, and California will have a program to control carbon emissions on its books by the time RGGI begins.

How will offsets work? RGGI's designers developed detailed standards, and the model rule includes application forms. Project proponents would presumably submit applications to state environmental agencies for evaluation. All agencies would apply the same standards. The agencies would issue however many offset credits each project merited.

Why not adopt an interstate compact instead of a model rule?

States have adopted the Uniform Commercial Code (which applies to commercial transactions) and modified it, just as states will adopt and modify RGGI's model rule, a questioner observed. An interstate compact "would allow for uniformity and allow for uniformity of enforcement. It would probably be politically more difficult to pass, but was any consideration give to it?" (The Compact Clause, Article I, section 10, of the U.S. Constitution says that "no state shall, without the consent of Congress,  ... enter into any agreement or compact with another state ...")

"The consideration ... was basically how to avoid having this be classified as an interstate compact," Martinez replied, because an interstate compact would require congressional approval, "and we didn't think it was going to happen ... So the whole point was to design a program that could be implemented in each state, with their own regulations. It's not a compact, but [regulated entities] do have the ability to buy and sell allowances and exchange them."

How Does the EU ETS Work?

Does the EU ETS cover CO₂ from gasoline and diesel fuel used in motor vehicles?

A member of the audience posed this question to Véronique Bugnion, who replied that no, those fuels aren't covered. "But most countries so far have opted to separate out stationary emissions from moving emissions," partly because of the question of at what stage to cap emissions from vehicles. Does every individual get an emissions allowance? Do you start capping at the refinery? "It becomes pretty complicated."

The EU Commission has announced that the aviation sector (flights entering and leaving Europe) will be covered by the ETS starting at the end of Phase Two, she added. "Transportation is by far, everywhere, the biggest-growing factor" in CO₂ emissions, though less so in Europe, because they've switched to diesel from gasoline. There's talk in the United States of how to include emissions from vehicles, but nothing in concrete yet.

Why does the price of CERs and EUAs track the price of oil?

Someone asked Bugnion why she had implied a direct relationship between the price of CERs (Certificates of Emission Reductions traded by CDM projects) and EUAs (European Union Allowances allocated by the EU ETS) and the price of oil. "It seems to me it should be the opposite: as oil comes down, the value of these things should go up." In the United States, when gas prices are high, "people buy hybrids and they carpool, which means a smaller carbon footprint."

"It's counterintuitive," Bugnion replied. Weather and policy drive prices in Europe, but so does the difference between the price of natural gas and the price of coal. In most of Europe natural gas prices are still indexed to oil, so the EUA price dynamic is linked to the difference between the price of oil and the price of coal. Because the price of coal hasn't moved that much, EUAs end up tracking the price of oil. A higher price for oil means a higher price for natural gas, which means less natural gas is used; more coal is used. Lower oil prices indirectly favor natural gas.

Alternatives to Cap and Trade

Why not just tax carbon?

Charles Komanoff advocated "another mechanism altogether." (In January 2007 he cofounded a new nonprofit organization, Carbon Tax Center.) Taxing carbon offers potential advantages over a cap-and-trade system, he contended. "All uses of fossil fuels rather than just the electric generators could be targeted. The revenues could be known ahead of time, which creates the possibility—which for many of us is essential both for ethical as well pragmatic grounds—of tax shifting": regressive taxes (sales and payroll taxes) could be phased out at the same time that carbon taxes are phased in, so that "disadvantaged sectors would not be further disadvantaged."

Other advantages are greater efficiency and greater transparency: a carbon tax would not be as complex as a cap-and-trade system, he noted. But "on the other side of the ledger is the political difficulty, which should not be underestimated." So, "Why has NRDC backed this horse [RGGI] rather than the carbon tax horse?"

Martinez termed this "a great question," but added, "I think you basically answered your own question." Speaking not for NRDC but for himself, he said that the political difficulties posed by a carbon tax make it "almost a nonstarter politically." NRDC's Washington office has studied a carbon tax, he said, but the New York office, in which he works, chose to work on RGGI because they wanted to get started and to prove that reductions can be achieved cost-effectively. "We can't wait for a carbon tax to come along, even if it could be a better method."

Daniel Rosenblum (the other cofounder of Carbon Tax Center) later returned the discussion to the subject of a carbon tax, cautioning that decoupling utilities' revenues from sales of electricity and capping emissions while not increasing costs, although laudable, won't go far enough. "We need to have a push to get people to really start reducing their energy use and their emissions."

Boulder, Colorado, is the "first beachhead" for a carbon tax in the United States.

Thus, he said, he welcomes discussion of a carbon tax, and indeed, columnists and economists on the left and the right support one. He suggested that the subject be examined in future meetings. "There are a lot of very complex issues. I'm absolutely convinced that a carbon tax will in fact provide the pressure you need to have market innovation. When you have a tax, people are going to say, 'Hey! I've got to save some money. I'm going to have to do something here.' It's going to make the market. We should address it in much more detail."

Suchman suggested that the subject of Europe's experience with green taxes could be part of such future meetings.

A member of the audience added that in the November 7 elections, Boulder, Colorado, passed by a 3–2 margin a tax on electricity "that it is calling a climate tax or a carbon tax, because most of its electricity comes from coal-fired power plants. So that's the first beachhead for enacting a carbon tax in this country."

Innovation is essential; a carbon tax alone won't do it.

"Even if we had the political capability to have a significant carbon tax, it's not going to be enough," someone said. Just as we're looking at many sources of alternative energy, "we need to look at as many market mechanisms and quasi-market mechanisms as we can possibly find, because we have a big challenge ahead of us ... Markets create innovations." Government funding doesn't. "The nice thing about markets is, people will go anywhere they think there's an opportunity to make money. So as we start to develop a carbon-free economy, we need to unleash every mechanism we can get our hands on, to get as much innovation out there and as much new development on the green side as possible."

Martinez remarked that innovation is occurring. At present no "end-of-the-pipe controls" for CO₂ are on the market, but a company named GreenFuel Technologies has devised a new technology that employs algae to soak up CO₂. They reduce emissions from power plants by 40%–60%. The algae are then used to power the plant. "There's stuff happening with regard to innovation, and I'm hoping it gets here quickly," he added.

To reduce consumption of coal, its price must reflect its true costs.

The rising cost of oil is driving a shift to coal, which is cheaper, stated an audience member. That will "exacerbate CO₂ emissions problems by a factor of four because of the difference in the carbon-to-hydrogen ratios for oil, natural gas, and coal. The problem with coal is that we don't charge what it costs": its price doesn't reflect damage done to land and water by its production. We must include those costs, as Gus Speth contends in Red Sky at Morning. Raise the price of energy, and as the price goes up, innovations will increase energy efficiency and reduce consumption. "What," he asked Martinez, "is your opinion of this?

China has huge coal reserves; it's rapidly building large coal-fired power plants.

Martinez readily agreed: "I'm all for it." But, he added, "I don't know how we make it happen." NRDC opened an office in Beijing because of China's explosive growth. China is sitting on huge stock of coal; it's rapidly building new, large coal-fired power plants. "I'm not sure we can kick them off the coal and get them into something else, so we've got to figure out how we can use coal in a way that doesn't ... throw CO₂ into the atmosphere. So that's an even bigger challenge."

Suchman remarked that the New York Power Authority (NYPA) has issued a request for proposals for an advanced clean-coal technology plant and R&D on carbon sequestration. Five parties submitted bids, and a contract award is expected by the end of 2006. Later in the evening, referring back to this point, someone remarked, "You look at the economics. By the time you build a plant of that complexity, to be cost effective you can build a solar-thermal plant which is absolutely cost-competitive, it's a proven technology, and you won't have any of those problems with emissions from coal or anything else."

(On December 19, 2006, NYPA issued a preliminary contract to NRG Energy for an Integrated Coal Gasification Combined Cycle (clean coal) power plant with eventual carbon capture and sequestration.)

Why not decouple utilities' revenues from their sales of electricity?

Expressing skepticism that RGGI will be "effective in the timeframe we would like," an audience member urged using a remedy "right at hand in terms of treating the symptom: the amount of generation." States should give utilities incentives to invest for efficiency rather than new capacity, he said, adding that NRDC has publicly supported this policy. "The breakthrough, to me, was the New Jersey Board of Public Utilities' decision just three weeks ago to approve decoupling mechanisms and begin allowing investment for efficiency and reductions of emissions in the first place.

"That ... is the real interest, and we could get moving on this almost immediately. Everywhere ... there is opportunity for investment in efficiency at the customer end," with utilities making that investment on either a regulated or unregulated basis. We have "opportunities right at hand that we're turning our backs on that could be one one-hundredth the cost of building capacity: the negawatt [saving a megawatt of energy by means of efficiency or reduced energy consumption] versus the megawatt."

Martinez agreed "absolutely!" NRDC has strongly advocated decoupling and continues to advocate it. In RGGI's memorandum of understanding, the states agreed to "complementary energy policies," he explained. "In our mind that was decoupling; in their mind maybe not. But they're parallel tracks ... The way utilities are structured now, they're just opposed to energy efficiency because it reduces their sales. So we see decoupling as a necessary way to change their incentives so they can invest in efficiency, maybe profit from efficiency if they do it right. And reduce ... consumption."

Referring to a proceeding under way in New York State, Suchman asked if a New York State Public Service Commission decision on decoupling (Case 06-M-1017 – Utility Supply Procurement Practices) is expected by December. Martinez said yes, and observed that decoupling "is happening here and in New Jersey." (As of early January 2007, no PSC order had yet been issued.)

Would a Supreme Court ruling that CO₂ is a pollutant affect RGGI?

Referring to the Supreme Court case in which a group of states, cities, and environmental groups contend that, under the Clean Air Act, the EPA must regulate carbon emissions from vehicles as an air pollutant, someone asked how a ruling in their favor would affect RGGI's structure.

Martinez said he wasn't sure. Suchman expressed doubt that it would make a difference. Regulation of sulfur dioxide by means of cap and trade has been so successful not because of the market alone but because of regulations, she pointed out. Manufacturers "continue to take sulfur out of fuel. There needs to be some sort of regulatory process alongside markets; markets can't do it by themselves." Moreover, if the Supreme Court does rule in favor of the plaintiffs, it will take a long time before new regulations are in place.

Someone in the audience noted that if a federal cap on CO₂ emissions were higher than the cap envisioned for RGGI, it would have no effect. But "if by some miracle it turned out to be lower, you'd have to adjust [RGGI's] cap accordingly."

The tension is between wanting to get something done as quickly as possible and wanting to get it right the first time.

Suchman pointed out that a Supreme Court decision isn't necessary to establish a federal cap program. "You'd need legislation regardless of that, without even regulating emissions themselves."

What climate change bill is NRDC backing?

Suchman asked whether NRDC has evaluated bills pending in Congress and chosen one to support, such as the McCain-Lieberman bill.

Martinez replied that NRDC has examined bills (and in January 2007 he said he believed Jeffords-Boxer [S. 3698] and Waxman [H.R. 5642] are favored). McCain-Lieberman included provisions for nuclear power. NRDC did not support it; Environmental Defense did. "So they got some support from the environmental community." For the environmental community as a whole, "it all boils down to getting something in place as quickly as possible. We're a little more concerned about getting it right the first time. Some people are more worried about getting it done," he reflected.