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The Texas economy: how much am I offered for 25 tons of sulfur dioxide pollution?

This rather unconventional question will be increasingly heard and answered as innovative provisions of the Clean Air Act amendments of 1990 begin to take effect. These amendments incorporate a variety of free market approaches to air pollution control, die most significant being the emission trading program contained in the new acid rain control sections. Within ten years, these sections should promote a full-fledged private market in air pollution emission rights, including private and public auctions of these rights.

The acid rain market program applies to emissions of sulfur dioxide and nitrogen oxides, believed to be the primary precursors of the acid deposition that damages lakes and forests. These substances also happen to be among the most substantial pollutants emitted as a by-product of combustion, and they produce a number of more direct effects on human health and the natural environment. The most significant stationary sources of these pollutants are electrical utilities, though some independent power producers are also significant sources.

An emissions market is a means to emission reductions. To emit sulfur dioxide and nitrogen oxides, an electrical generation facility must have an allowance." the legal authorization to emit one ton of a type of pollution during or after a specified year. However, the total number of allowances in existence will be significantly lower than the current levels of total emissions. Sulfur dioxide emissions should decrease by 10 million tons between 1980 and 2000, which represents a more than 50 percent reduction in total emissions. Nitrogen oxide emissions will be cut by 2.5 million tons during this period. The apportionment of the prescribed pollution reductions will now be left largely up to the market, thereby enabling the most efficient pollution reducers to maximize reductions and profit by selling allowances to plants that find it much more expensive to reduce their emissions.

The main emissions market will develop in two phases. Phase I of the sulfur dioxide market takes effect in 1995 and applies to the more than 100 relatively high-polluting electrical generation facilities that presently emit more than 2.5 pounds of sulfur dioxide per million Btus. Each of these producers will be allocated a statutorily designated number of allowances that may be traded throughout the United States. None of these electricity-producing units are located in Texas, though they doubtless have Texas owners.

Phase II begins in 2000 and applies to all utilities emitting sulfur dioxide at a rate of more than 1.2 pounds per million Btus. This phase will apply to many Texas utilities. In both phases, allowances may be used or sold if the polluting units can find less expensive approaches to reduce emissions below their available allowances.

Texans may be particularly concerned about the rules applying to emissions from new power plants. Plants that began operating after 1990 will automatically be granted allowances corresponding to an emission rate of 0.3 pounds per million Btus for operation at 65 percent of capacity. Thus, these new facilities must operate with extremely low emission levels and at much less than capacity or buy a large number of allowances on the market. The law may therefore complicate and make more expensive the construction of new generation facilities.

The new emission controls will most severely affect certain midwestern power plants that have operated with relatively high pollution levels and are implicated in northeastern lake acidification. The law grants these producers more allowances, however, than are presumed necessary. These utilities are likely to be a prime source of allowances for new electric expansion in Texas and throughout the western states.

In addition to the allowances initially granted to power plants, EPA will accommodate growth by providing new allowances each year. Furthermore, the agency is considering new approaches -such as an electronic bulletin board-to facilitate the trading of those allowances. The law requires EPA to conduct annual auctions beginning in 1993, and in 1995, the agency will conduct semiannual auctions of 100,000 allowances, with additional allowances available at a fixed price. After 1995, at least 300,000 new allowances will be sold every year. On July 16 of this year, the Chicago Board of Trade decided to create a private market for trading in allowances, including a futures market that would assist the utilities in hedging future risk and in planning for the long term.

Various characteristics of the market have yet to be clearly defined by EPA implementing regulations. For example, there is an ongoing dispute over the degree to which buyers and sellers of allowances must disclose their identities and purchases. At the present time, compulsory disclosure appears likely, but some fear that this may discourage trading. The extent of state government control over allowance marketing remains unclear, causing concern that states may prevent utilities from selling allowances out of state.

While the market is primarily focused upon electrical utilities, the major emitters of the pollutants in question, EPA and Congress are also concerned for independent power producers. Although they must have allowances in order to operate, these producers will not be allocated government allowances for new production facilities. Congress has directed EPA to provide certain independent power producers with written guarantees that enable them to purchase allowances from a subaccount retained by the agency for their new facilities. EPA maintains a substantial reserve of allowances that will not be issued automatically under the amended law, but will be used to grant excess or bonus allowances under certain circumstances.

For example, the Clean Air Act contains a slight bias for compliance achieved through the installation of high efficiency scrubbers, rather than through cleaner fuels. Units with scrubbers may obtain a two-year extension for compliance with Phase I requirements and also can receive bonus allowances if they reduce emissions earlier than required. These rules will primarily benefit midwestern utilities. Allowances may also be granted for implementation of certain energy conservation measures.

The nitrogen oxide provisions require less emission reduction and are less clearly defined than those for sulfur dioxide. These provisions require EPA operating permits regulating emissions from individual plants and provide much less of a true free market than that established in the sulfur dioxide provisions.

The new market mechanism for pollution control may prove to be of great significance to the natural gas industry. Traditional political mechanisms have tended to prefer technological pollution controls in an effort to insulate coal producers from the effects of regulation. Some of this preference is incorporated within the new market through provisions for bonus allowances. Nevertheless, the new mechanism provides greater effect for market forces, which may drive utilities to greater gas consumption. The act also provides some bonus allowances to plants that have historically operated very cleanly, due to the use of natural gas as fuel in the baseline year of 1985.

The market created in the 1990 Clean Air Act amendments is important in its own right but can also be seen as a grand experiment. If the market succeeds, it will serve as a template for future pollution control measures, including expected carbon dioxide controls aimed at reducing the greenhouse effect. The understanding and successful use of this market mechanism is therefore of considerable importance to business enterprises, especially those operating in the energy industry.
COPYRIGHT 1991 University of Texas at Austin, Bureau of Business Research
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1991 Gale, Cengage Learning. All rights reserved.

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Title Annotation:Clean Air Act Amendments of 1990 to take effect
Author:Cross, Frank B.
Publication:Texas Business Review
Date:Oct 1, 1991
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