CARBON LEAKAGE PROBLEMS
COMPACTS
AND THE
NEED
FOR
BINDING INTERSTATE CLIMATE
By Asher Spiller
INTRODUCTION
“Cap and trade is dead.”1 “[It] died of what amounts to natural causes in
Washington.”2 “It’s dead, gone forever.”3
Regardless of whether one agrees that the death knell has sounded for a
nationwide cap and trade program, it is unlikely that Congress will enact a
comprehensive climate change bill in the near future. And it remains to be seen whether
the EPA will use its authority under the Clean Air Act to pursue a nationwide cap and
trade program on its own initiative. This Article begins from the relatively
uncontroversial premise that the United States will not be seeing a nationwide cap and
trade program in the near future. For better or for worse, the political will to pursue
climate change policy goals may need to be found elsewhere.
Tackling climate change at the state level, however, may be like trying to bail
water from a sunken ship, not because the problems that climate change presents are
insurmountable, but because of inherent flaws in the structure of sub-global climate
change efforts. One of these flaws manifests itself in a phenomenon called “carbon
leakage” or “emissions leakage.”
1
Kimberly A. Strassel, Cap and Trade Is Dead, WALL ST. J. (Nov. 26, 2009, 11:41 PM),
http://online.wsj.com/article/SB10001424052748703499404574558070997168360.html
2
John M. Broder, Tracing the Demise of Cap and Trade, N.Y. TIMES (Mar. 25, 2010),
http://www.nytimes.com/2010/03/26/science/earth/26climate.html?_r=0
3
Will Rahn, Inhofe: Cap and Trade Is “Dead, Gone Forever”, DAILY CALLER (Feb. 27,
2010, 7:12 PM), http://dailycaller.com/2012/02/27/inhofe-cap-and-trade-is-dead-goneforever/.
1
Carbon leakage can occur in several ways, however in the broadest sense, it
occurs when emissions reductions in a jurisdiction that regulates greenhouse gas
(“GHG”) emissions are offset by emissions increases in an unregulated jurisdiction.4
While the notion of leakage is transferable to other regulatory fields, the way in which it
manifests itself in the field of climate change regulation is unique.
Consider, for
instance, the field of clean water regulation. Imagine that a paper plant decides to
relocate its operations from a state with water pollution regulations stricter than the
federal minimum5 to a site on a river in a less regulated state, hoping to lower its
regulatory compliance costs.
The highly regulated state has realized a pollution
reduction, but water pollution in the country as whole has stayed the same. In other
words, water pollution from the highly regulated state has simply leaked out into another
jurisdiction.
Now imagine that the two states in this hypothetical regulated GHG
emissions instead of water pollution. The plant’s decision to move to a state with weaker
(or nonexistent) GHG restrictions would not only result in zero net GHG reductions for
the country as a whole, but, unlike in the water pollution context, would also result in
neither state realizing an environmental benefit. This is because climate change is a
global problem.
Reductions and increases in GHG emissions have the same
environmental impact no matter where they occur. Climate change thus presents the
ultimate commons problem.
4
See e.g. Cal. Health & Saf Code § 38505(j) (2013) (“[L]eakage means a reduction in
emissions of greenhouse gases within the state that is offset by an increase in emissions
of greenhouse gases outside the state.”).
5
See Clean Water Act, 33 U.S.C. § 1370 (2012) (excepting state standards that are more
stringent from federal standards from preemption).
2
The flight of industry from a regulated state to an unregulated state, described in
the above hypothetical, however, is just one among several forms of leakage. 6 Leakage
also occurs when electricity purchasers in a regulated state begin purchasing from
unregulated generators out of state at a lower cost. In addition, a more difficult to detect
form of leakage occurs when high-emitting generators of electricity in unregulated states
shift their electricity sales out of the regulated state, and the left over demand is met by
low-emitting generators.7 This scenario is typically referred to as “resource shuffling” or
“contract shuffling.”8 In each of the above-mentioned scenarios, the regulated jurisdiction
has realized a reduction in GHG emissions; however, from a cross-jurisdictional
perspective, no net reduction has occurred.
6
Robert K. Huffman & Jonathan M. Weisgall, Climate Change and the States:
Constitutional Issues Arising from State Climate Protection Leadership, CLIMATE L.
REP., Winter 2008, at 10 (stating that leakage occurs “when a regulated entity imports
cheaper, higher-polluting power from an area outside the program to evade cap
obligations”); Thomas Alcorn, The Constitutionality of California’s Cap-and-Trade
Program and Recommendations for Design of Future State Programs, MICH. J. ENVTL. &
ADMIN. L. (forthcoming 2013), at 11 (stating that leakage occurs “when in-state
businesses leave the regulating state to go to nonregulating states or when in-state
businesses lose market share to out-of-state businesses in nonregulating states”); JUSTIN
CARON, SEBASTIAN RAUSCH & NIVEN WINCHESTER, LEAKAGE FROM SUB-NATIONAL
CLIMATE INITIATIVES: THE CASE OF CALIFORNIA 1 (2012), available at
http://globalchange.mit.edu/files/document/MITJPSPGC_Rpt220.pdf
(stating
that
“Leakage occurs when greenhouse gas (GHG) restrictions in some regions increase
emissions in unconstrained regions”).
7
The simplest way to understand this form of leakage is to picture a scenario in which
that the low-emitting generator and the high-emitting generator simply swap customers.
8
See, e.g., Cal. Code Regs., tit. 17, § 95802(a)(250) (defining “resource shuffling” as
“any plan, scheme, or artifice to receive credit based on emissions reductions that have
not occurred, involving the delivery of electricity to the California grid”); Patricia
Weisselberg, Comment, Shaping the Energy Future in the American West: Can
California Curb Greenhouse Gas Emissions from Out-of-State, Coal-Fired Power Plants
Without Violating the Dormant Commerce Clause?, 42 U.S.F. L. REV. 185, 196 (2007)
(stating that “contract shuffling” occurs when “suppliers with large portfolios of
resources with differing levels of GHG emissions allocate their contracts to California in
such a way as to show a reduction in GHG emissions without actually lowering their
overall GHG emissions”).
3
While political inertia has stalled efforts to develop a nationwide cap and trade
program, some state-based efforts have picked up steam. In 2006 the California General
Assembly enacted the California Global Warming Solutions Act,9 which requires
California to reduce its aggregate GHG emissions to 1990 levels by 2020. In the years
that followed, the California Air Resources Board (“CARB”) designed the most robust
cap and trade scheme in the country, and perhaps the world. In its earliest stages of
development, the program’s administrators downplayed the leakage threat.
Many
believed that the overall geographic footprint of the Western Climate Initiative (“WCI)”,
with which the California system was to be interconnected, would sufficiently mitigate
leakage.10 However, every American signatory of the WCI other than California has since
withdrawn,11 leaving California’s market vulnerable to carbon leakage in neighboring
jurisdictions connected to the California grid.
Because their geographic buffer has evaporated, California has looked to other
market incentives and enforcement strategies to combat leakage. These strategies include
a prohibition on resource shuffling and a free allocation system designed to prevent
9
Cal. Health & Safety Code § 38500–38599 (West 2013).
CAL. AIR. RES. BD., CAL. ENVTL. PROT. AGENCY, APPENDIX H: MARKET ADVISORY
COMMITTEE
RECOMMENDATIONS,
at
H-51
(2010),
available
at
http://www.arb.ca.gov/regact/2010/capandtrade10/capv3apph.pdf (hereinafter MARKET
ADVISORY COMMITTEE RECOMMENDATIONS) (“Although the leakage issue deserves close
consideration, it is worth noting that if California links its cap-and-trade program with
programs of other states in the western electricity grid, much if not all of the leakage
problem would be eliminated. Six states, including California, have already joined the
Western Regional Climate Action Initiative, and discussions for potential linkages are
already underway.”).
11
See 6 States Pull Out of Western Climate Initiative, SUSTAINABLEBUSINESS.COM (Nov.
22,
2011,
5:29
PM)
http://www.sustainablebusiness.com/index.cfm/go/news.display/id/23178
10
4
industry flight.12 Even though California has adopted its own ambitious strategies for
combating leakage, successful implementation of these strategies presents significant
difficulties.
Other sub-national climate change efforts like the Regional Greenhouse Gas
Initiative (“RGGI”) have also struggled to solve the leakage problem. Studies have
suggested that anywhere from forty to ninety percent of RGGI’s GHG emission
reductions will be offset by unregulated sources unless RGGI implements comprehensive
and effective strategies to minimize leakage.13 Yet, participating states have proved inept
at reaching effective multilateral agreements to combat leakage. The non-binding nature
of the Memorandum of Understanding (“MOU”) that underlies the RGGI program has
resulted in states adopting overtly unambitious strategies to address the problem.
This Article suggests that strategies adopted to date by subnational actors in the
climate change arena may prove to be of limited effectiveness in combating leakage. To
12
It should be noted that other aspects of the California system are designed to minimize
leakage. However, this Article will focus primarily on free allocation and the prohibition
on resource shuffling.
13
See Richard Cowart, Regulatory Assistance Project, Addressing Leakage in a Cap-andTrade System: Treating Imports as Sources, at 3 (2006), available at
www.raponline.org/docs/RAP_Cowart_CapAndTradeLeakage_2006_11.pdf (“[L]eakage
may not rise to the 70% range suggested in some earlier model runs. But it might, and it
is possible that it could easily turn out to be in the 40% to 60% range if not controlled.”);
JUSTIN CARON, SEBASTIAN RAUSCH AND NIVEN WINCHESTER, LEAKAGE FROM SUBNATIONAL CLIMATE INITIATIVES: THE CASE OF CALIFORNIA 3 (2012) (citing reports
suggesting that “49-57% of emissions abated by RGGI electricity generators will be
offset by unconstrained sources”); see also Alcorn, supra note 6, at 15 (“Indeed, the
RGGI, which auctioned allowances for the nominal $1.93 in the June 2012 auction, faces
estimates of leakage from 17–90 percent, with 50 percent being a generally accepted
estimate, because it has not taken any action to prevent leakage.”); KAREN PALMER,
DALLAS BURTRAW, AND ANTHONY PAUL, ALLOWANCE ALLOCATION IN A CO2 EMISSIONS
CAP- AND-TRADE PROGRAM FOR THE ELECTRICITY SECTOR IN CALIFORNIA 6 (2009),
available at http://www.rff.org/RFF/Documents/RFF-DP-09-41.pdf (“[L]eakage from
RGGI could be closer to 70 to over 90 percent of CO2 emissions reductions in the RGGI
region.”).
5
supplement and enhance the effectiveness of current mechanisms, states should pursue
binding multilateral interstate compacts. Such compacts would mitigate leakage by
increasing the geographic footprint of a given regulatory scheme thus largely eliminating
the resource shuffling threat and reducing the extra-jurisdictional options available to
instate actors seeking to avoid compliance costs and maintain market share. These
compacts would also circumvent limits stemming from the Dormant Commerce Clause.
Part I of this Article provides an overview of the California and RGGI markets
and explains why the mechanisms that these markets have adopted may prove insufficient
in combating leakage. Part II discusses the constitutional and collective actions problems
that limit the effectives of leakage mechanisms and recommends that states pursue
binding multilateral agreements through congressional ratification.
I.
SUB-NATIONAL CLIMATE EFFORTS AND PROBLEM OF “LEAKAGE”
A. The Regional Greenhouse Gas Initiative
The Regional Greenhouse Gas Initiative (“RGGI”) began in 2005 when the
governors of nine signatory states drafted and signed an MOU outlining the basic
components of a region-wide cap and trade program.14 The program, which took effect
on January 1, 2009, focuses entirely on the electricity sector, aiming for a ten percent
reduction in the region’s GHG emissions by 2018.15 The RGGI model is relatively
straightforward. Signatory states “first establish[] a base annual emissions budget for the
region. This value is then divided and apportioned accordingly, based on the energy
14
See REGIONAL GREENHOUSE GAS INITIATIVE: MEMORANDUM OF UNDERSTANDING 1
(DEC.
20,
2005),
http://www.rggi.org/docs/mou_12_20_05.pdf
[hereinafter
MEMORANDUM OF UNDERSTANDING].
15
See id. at 3.
6
needs of the different states partaking in the initiative.”16 Once the states collectively
agree on a budget, states have complete discretion to determine respectively how
allowances are allocated or auctioned to emitters.17 However, the MOU does “require”
participating state to allocate at least twenty-five percent of auction proceeds for
consumer benefit programs.18 Notably under the RGGI system allowances are available
to any wising to purchase them, which allows “environmental groups to buy carbon
allowances in order to remove them completely from the market.”19
It is particularly important to note that the RGGI MOU is a non-binding
agreement. While it does provide for the existence of a centralized agency to oversee
RGGI, this “Regional Organization” has no enforcement authority over member states.
In fact, a member state can unilaterally alter its implementing legislation at will without
approval from other signatory states, and “may, upon 30 days written notice, withdraw its
agreement to th[e] MOU and become a Non-Signatory State.”20 Furthermore, “if a state
does withdraw from RGGI, the carbon caps established by the agreement must be
reconfigured to avoid jeopardizing the reduction goals of the program.”21
With respect to leakage, the MOU is equally toothless. Despite the fact that the
problems associated with leakage would seem to require some cross-border enforcement
mechanism, the MOU is devoid of any collaborative scheme to address leakage. While
16
Eric Maher, Weathering Rising Seas in a Sinking Ship: The Constitutional
Vulnerabilities of the Regional Greenhouse Gas Initiative, 23 FORDHAM ENVTL. L. REV.
162, 165 (2012).
17
See Id. (citing MASS. GEN. Laws. ch. 21A § 22 (2008); N.Y. Comp. Codes R. & Reg.
tit. 21, § 507 (2008))
18
MEMORANDUM OF UNDERSTANDING, supra note 14, at 6.
19
Maher, supra note 16, at 166.
20
MEMORANDUM OF UNDERSTANDING, supra note 14, at 9.
21
Maher, supra note 16, at 168
7
recognizing “the potential that the Program may lead to increased electricity imports and
associated emissions leakage,” the MOU does nothing more than create a working group
to consider options for addressing leakage at a later time.22
In 2008, the RGGI Staff Working Group released a report assessing the leakage
threat and proposing policy options for signatory states wishing to minimize leakage.23
The report found that leakage was a significant concern, particularly from neighboring
states like Pennsylvania. The Working Group’s “early modeling showed leakage as high
as 90% depending on the programmatic assumptions. The final models predict annual
leakage of CO2 between 40% and 57% over the life of the RGGI program.” 24 The
Working Group’s recommendations focused largely upon promoting energy efficiency
measures within signatory states and reducing electricity demand.25 Perhaps due to
Dormant Commerce Clause concerns, none of these recommendations involved tariffs on
electricity imports from non-signatory states (which have been recommended elsewhere),
nor implementation of policies reliant upon interstate cooperation.
Not surprisingly, the integrity of the RGGI market has suffered from
inconsistency among signatory states. Despite the RGGI MOU’s requirement that
signatory states to direct allowance auction proceeds toward consumer benefit programs,
some signatory states “have started to dip into these established consumer and energy
22
MEMORANDUM OF UNDERSTANDING, supra note 14, at 9.
Id. at 3.
24
Steven Ferrey, Goblets of Fire: Potential Constitutional Impediments to the Regulation
of Global Warming, 35 ECOLOGY L.Q. 835, 862–863 (2008).
25
POTENTIAL EMISSIONS LEAKAGE AND THE REGIONAL GREENHOUSE GAS INITIATIVE
(RGGI), FINAL REPORT OF THE RGGI EMISSIONS LEAKAGE MULTI-STATE STAFF
WORKING GROUP TO THE RGGI AGENCY HEADS (2008), available at
http://rggi.org/docs/20080331leakage.pdf
23
8
efficiency funds.”26 Failures on the part of state governments to apply these funds to
consumer and energy efficiency programs has led allegations that auctioning of CO2
allowances amounts to a tax, and some signatory states have begun to withdraw
altogether from the RGGI program. For example, New Jersey governor Chris Christie
withdrew New Jersey from the program in 2011.27 And in New Hampshire, Governor
John Lynch has had to fight back efforts on the part of the New Hampshire House of
Representatives to pass legislation withdrawing the state from RGGI.28 While New
Hampshire ultimately decided to remain in RGGI, the legislature amended its legislation
to include a “backdoor withdrawal provision . . . allowing the state to withdraw from
RGGI upon the withdrawal of another state that produced 10% or more of the electricity
within the program.”29
B. California’s Global Warming Solutions Act of 2006
i. System Overview
On September 27th, 2006, Governor Arnold Schwarzenegger signed Assembly
Bill 32, the California Global Warming Solutions Act of 2006 (“AB 32”) into law. AB
32 requires California to reduce its aggregate GHG emissions to 1990 levels by 202030
and directs the California Air Resources Board (CARB) to promulgate rules effectuating
26
Maher, supra note 16, at 162.
Mireya Navarro, Christie Pulls New Jersey From 10-State Climate Initiative, N.Y.
TIMES (May 26, 2011), http://www.nytimes.com/2011/05/27/nyregion/christie-pulls-njfrom-greenhouse-gas-coalition.html?_r=1&.
28
See Maher, supra note 16, 171-172.
29
Id.; see also Kevin Landrigan, Future Bleak for NH's Part in Cap-in-Trade, NASHUA
TELEGRAPH
(Feb.
24,
2011),
http://www.nashuatelegraph.com/newsstatenewengland/910067-227/future-bleak-fornhs-part-in-cap-trade.html.
30
California Global Warming Solutions Act of 2006, Cal. Health & Safety Code
§§38500-38599 (West 2007)
27
9
this goal.31 Under AB 32, CARB is authorized but not obligated to institute “a marketbased compliance system.”32 To assist CARB in its development of California’s cap and
trade scheme the Governor created the California Market Advisory Committee
(“MAC”).33
After years of planning and deliberation, in late 2011 CARB released its plan for
a statewide comprehensive cap and trade program that would initially regulate eighty-five
percent of the sources of GHG emissions in California, and would become operational in
early 2012.34 Under the program, emissions are allocated in two different ways. In the
electricity sector, emissions allowances would be auctioned off,35 but in other industries,
emissions allowances would be distributed through a “benchmarked, updating, outputbased allocation method.”36
Whereas most industries would be regulated according to the source of emissions,
in the electricity sector, California’s model is designed to regulate both in-state and out-
31
Id. § 38530 (“On or before January 1, 2008, the state board shall adopt regulations to
require the reporting and verification of statewide greenhouse gas emissions and to
monitor and enforce compliance with this program.”).
32
Id. § 38570(a).
33
See Ferrey, supra note 24, at 856 (noting that “MAC’s primary objective was to design
a mandatory cap-and-trade program to achieve cost-effective emissions cuts across all
sectors”).
34
CAL. AIR RES. BD., CAL. ENVTL. PROT. AGENCY, RESOLUTION 11-32, CALIFORNIA CAPAND-TRADE
PROGRAM
10–11
(2011),
available
at
http://www.arb.ca.gov/regact/2010/capandtrade10/res11-32.pdf (hereinafter Resolution
11-32).
35
CAL. AIR. RES. BD., CAL. ENVTL. PROT. AGENCY, PROPOSED REGULATION TO
IMPLEMENT THE CALIFORNIA CAP AND TRADE PROGRAM, STAFF REPORT: STATEMENT OF
REASONS, at II-30 (2010) available at
http://www.arb.ca.gov/regact/2010/capandtrade10/capisor.pdf [hereinafter INITIAL
STATEMENT OF REASONS].
36
Alcorn, supra note 6, at 11.
10
of-state emissions from electricity generation flowing into the state.37 But instead of
imposing a tariff on electricity imports to maintain market integrity, CARB adopted a
“first seller” or “first-jurisdictional-deliverer” approach:
Under this approach, the entity that first sells electricity in the state is
responsible to meet the compliance obligation established under the
greenhouse gas cap-and-trade program. For electricity generated within
California, the owner or operator of the in-state power plant is the first
seller and would be required to surrender emissions allowances. For power
imported from outside the state, the first seller is most often an investorowned or municipal utility or a wholesale power marketer who sells the
electricity to an in-state, load-serving entity, another power marketer, or a
large end-user.38
The first seller approach was designed to ensure that California’s GHG reductions are
“real” in accordance with AB 3239 while surviving judicial scrutiny under the Supreme
Court’s Dormant Commerce Clause jurisprudence.
The “first seller” method
theoretically treats in-state and out-of-state generators the same, avoiding any appearance
of economic protectionism and discrimination of out-of-state firms.40 Presuming that it
survives a Dormant Commerce Clause attack (which some observers have questioned41),
the first seller method could be a powerful way of combating leakage in the electricity
sector, however, an analysis of this aspect of the California system, is beyond the scope
of this Article.
37
Id.
MARKET ADVISORY COMMITTEE RECOMMENDATIONS, supra note 10, at H-9.
39
Id.
40
INITIAL STATEMENT OF REASONS, supra note 35 at II-12.
41
See generally, Alcorn, supra note 6 (discussing the Constitutionality of the California
system in general).
38
11
Some studies have suggested that without sufficient safeguards leakage could
completely eliminate any environmental benefits of the California market.42 And because
“coal accounts for very little of instate electricity generation, this means that additional
emissions reductions in California’s electricity sector are likely to be expensive for
instate generators.”43 Under these conditions, regulated entities are especially likely to
pursue cost-saving methods of compliance, which may include sourcing power from outof-state or engaging in some form of resource shuffling.
AB 32 delegates CARB significant discretion in developing a regulatory program.
However, it does require that CARB ensure that the reductions of GHG emissions “are
real, permanent, quantifiable, verifiable, and enforceable,”44 and further directs CARB to
promulgate rules designed to “minimize leakage.”45 The economic and environmental
policy threats associated with leakage were salient in MAC’s early deliberations, and
strategies for combating leakage featured prominently in MAC’s final recommendations
to CARB.46
ii. California’s Strategies for Combating Leakage
42
KAREN PALMER, DALLAS BURTRAW, & ANTHONY PAUL, ALLOWANCE ALLOCATION IN
A CO2 EMISSIONS CAP-AND-TRADE PROGRAM FOR THE ELECTRICITY SECTOR IN
CALIFORNIA, at iii (2009), available at http://www.rff.org/RFF/Documents/RFF-DP-0941.pdf (“If the state were to ignore emissions associated with imported power (an
approach that would not comply with AB32), emissions leakage would approach 100
percent.”).
43
Alcorn, supra note 6, at 15.
44
Cal Health & Saf Code § 38562(d)(1) (2013).
45
Id.
46
MARKET ADVISORY COMMITTEE RECOMMENDATIONS, supra note 10, at H-22 (“The
Committee’s recommended design of the cap-and-trade program helps limit the potential
for emissions leakage.”); id. at H-10 (“The Committee recommends that the state initially
retain flexibility to allocate some of the allowances free of charge as a means of managing
competitiveness and economic transition issues.”)
12
Several aspects of the California Cap and Trade model are designed to combat
leakage. This Article focuses on two of the most prominent and potentially impactful: 1)
the free allocation of emissions allowances to leakage-prone sector of industry and 2) the
prohibition of “resource shuffling.”
Free Allowances. As mentioned above, the California model treats the industrial
sources different from the electricity sector. While emissions allowances are auctioned
off to members of the electricity sector, industrial sources receive free emissions
allowances based on an “updating output-based, free allocation methodology, combined
with an emissions efficiency benchmark.”47 Under this approach the allowances given
freely to each industrial emitter derive from the sector’s “production activities in recent
years compared with a sector-specific benchmark.”48 According to CARB, the system is
designed to incentivize continued in-state production and to “level the playing field” with
competitors from out-of-state.49 In other words, by assisting industries that are the most
exposed to out-of-state to competition and whose operations depend upon a high rate of
emissions, the free allocation method aims to keep industrial emitters from shutting down
or leaving the state.50 Free allocation thus subsidizes firms’ carbon costs, allowing them
to limit the extent to which carbon costs are reflected in their prices and passed on to
customers, and keeping customers means maintaining market share.51
47
INITIAL STATEMENT OF REASONS, supra note 35, at II-30.
Id.
49
Id. AT II-30 to -31.
50
Alcorn, supra note 6, at 11.
51
Stéphanie Monjon & Felix Chr. Matthes, Free Allowance Allocation to Tackle
Leakage, in THE ROLE OF AUCTIONS FOR EMISSIONS TRADING 46 (2008), available at
http://www.eprg.group.cam.ac.uk/wpcontent/uploads/2008/11/role_of_auctions_180908_final-draft.pdf.
48
13
While this approach may do much to combat leakage, several commentators have
remarked that the free allocation method may do significant damage to the market itself.
Critics claim that freely allocating emissions allowances to some facilities and not others,
may “significantly . . . [mute] the carbon price.”52 This concern has been echoed by
scholars studying the European Union Emissions Trading System, who note that “the
consequence of implementing free allocation provisions could be a significant loss in
efficiency of the [trading system].”53 These scholars also doubt the extent to which free
allowances will succeed in lessening carbon leakage.54
Even if the free allowance scheme does not have the negative economic effects on
the market that some fear, still others bristle at the socio-economic unfairness of freely
allocating the right to emit carbon to industrial emitters:
Free allocation will mainly make high income households better off
compared to low income households, since higher incomes tend to benefit
more from higher share values. Auctioning of allowances creates public
funds - some of which can be used to compensate poor households for
short-term increases of energy and commodity prices associated with
climate policy.55
Certainly skepticism regarding the free allowance approach to minimizing
leakage from industrial flight is not the only, or even necessarily the majority
perspective.
However, serious doubts plainly exist as to whether the free
allocation method will effectively minimize leakage without compromising the
overall policy goals of California’s cap and trade system.
52
Alcorn, supra note 6, at 11.
Monjon & Mathes, supra note 47, at 46.
54
Id. at 47.
55
Regina Betz & Karsten Neuhoff, Equity Considerations, in THE ROLE OF AUCTIONS
FOR EMISSIONS TRADING 66 (2008), available at
http://www.academia.edu/265254/The_Role_of_Auctions_for_Emissions_Trading.
53
14
Prohibition of Resource Shuffling. As previously noted in the Introduction, one
way in which leakage of GHG emissions occurs is “resource shuffling.”
CARB
regulations define resource shuffling as “any plan, scheme, or artifice to receive credit
based on emissions reductions that have not occurred, involving the delivery of electricity
to the California grid.”56 CARB regulations explicitly prohibit resource shuffling57 and
further require regulated entities to submit “attestations,” stating that they have not
engaged in resource shuffling. The attestations read: “I certify under penalty of perjury
of the laws of the State of California that [facility or company name] for which I am an
agent has not engaged in the activity of resource shuffling . . . .58
The attestation requirement has been extremely controversial. Not only is the
definition of “resource shuffling” under CARB regulations plainly vague and susceptible
to varying interpretations, but violators of the provision would not only be subject to
administrative penalties but could also be prosecuted for perjury for failing to adhere to
their attestation.59 Industry representative pointed out in comments submitted to CARB
that in many instances, “an entity may change its electricity imports from a higher GHG
56
Cal. Code Regs. tit. 17, § 95802(a)(250) (2013).
Id. § 95852(b)(2).
58
Id.
59
See, e.g., Joshua T. Bledsoe, Tim B. Henderson & Jared W. Johnson, California Air
Resources Board Suspends Cap and Trade Program Electricity Importer Rule,
LEXOLOGY (Sept. 19, 2012), http://www.lexology.com/library/detail.aspx?g=6d0c9816e99d-40b9-aa6e-f2d14b12914d (“Despite the acknowledged need to avoid leakage, the
combination of the broad and vague definition plus potentially severe penalties for
perjury raised concerns that regulatory uncertainty could destabilize California’s energy
market.”); CP Energy Marketing (US) Inc., Comments of CP Energy Marketing (US) Inc.
pertaining to May 4, 2012 Cap-andTrade Program Electricity Workshop, at 3 (May, 10,
2012) (stating that “Absent reasonable clarity, some participants may elect to simply
withdraw from the market, or reduce their level of participation, out of fear of potential
regulatory liability”), available at http://www.arb.ca.gov/lists/5-4-electricity-ws/3comments_of_cp_energy_marketing__may_10_2012_.pdf [hereinafter CP Energy
Marketing Comments].
57
15
emitting resource to one that is zero- or low-emitting, with no plan, scheme, or artifice
involved.”60 Such instances of benign resource shuffling occur when firms must comply
with existing contractual obligations, address reliability concerns, comply with existing
regulations regarding California’s Renewable Portfolios Standards, address transmission
congestion, etc.61 Representatives of the Federal Energy Regulatory Commission
(“FERC”) also weighed in at CARB hearings, expressing concerns about threats to
California’s grid reliability on account of regulatory uncertainty surrounding the resource
shuffling prohibition.62
CARB quickly relented, suspending the attestation requirement for one year until
CARB could finalize clarifying rules.63 In the meantime, CARB has issued guidance
documents proposing clarifying changes to the resource shuffling definition in the form
of safe harbors and examples illustrating the types of behaviors that would constitute
resource shuffling. For example, the CARB guidance documents state that whereas
“[e]lectricity deliveries made for the purpose of compliance with requirements related to
maintaining reliable grid operations” would not constitute resource shuffling,
“[s]ubstituting relatively lower emission electricity to replace electricity generated at a
high emission power plant . . . in order to reduce a First Deliverer’s compliance
60
See e.g., CP Energy Marketing Comments, supra note 54, at 3 (stating that “[a]bsent
reasonable clarity, some participants may elect to simply withdraw from the market, or
reduce their level of participation, out of fear of potential regulatory liability”).
61
See, e.g., M-S-R Public Power Agency, Comments on May 4 Cap-and-Trade
Regulation Workshop, at 4 (May 11, 2012), available at http://www.arb.ca.gov/lists/5-4electricity-ws/4-m-s-r_comments_re_may_4_2012_carb_workshop__5-11-12_.pdf
62
Bledsoe, Henderson & Johnson, supra note 54.
63
See, e.g. Letter from Mary D. Nichols, Chairman, CARB, to Philip D. Moeller,
Comissioner, FERC, http://www.arb.ca.gov/newsrel/images/2012/response.pdf
16
obligation” would constitute resource shuffling.64 Though CARB’s proposed clarifying
regulations go further in illuminating circumstances under which an entity would be in
violation of the prohibition on resource shuffling, the examples CARB provides rely so
heavily on the intent of First Deliverers, that the resource shuffling prohibition, still
appears hopelessly ambiguous and impossible to enforce.
II.
THE NEED FOR BINDING MULTILATERAL AGREEMENTS AMONG STATES
While political stagnation at the national level may require that states take the
lead in developing carbon markets, the non-binding sub-national agreements that have
emerged thus far to address climate change are prone to collective action problems and
carbon leakage. As discussed above, the strategies that California has developed to
minimize leakage have apparent limitations. To minimize the leakage and collective
action problems that have plagued voluntary state-based initiatives, this Part argues that
states should pursue binding multilateral agreements that obligate participating states to
police leakage-causing practices.
A. Limits of Non-Binding Agreements
During the early days of planning for California’s cap and trade program,
regulators65 and scholars alike were cogently aware that the success of California’s cap
and trade program would be strengthened by interconnection with similar programs in the
western region.
Expanding the geographic footprint of California’s market through
regional interconnection would not only make the cap and trade market more vibrant and
64
CAL. AIR. RES. BD., CAL. ENVTL. PROT. AGENCY, APPENDIX A: WHAT IS RESOURCE
SHUFFLING 4 (Nov. 2012), available at
http://www.arb.ca.gov/cc/capandtrade/guidance/appendix_a.pdf (emphasis added).
65
See, e.g., MARKET ADVISORY COMMITTEE RECOMMENDATIONS, supra note 10, at H-51.
17
robust66 but regional interconnection would also effectively minimizing leakage.67 A
report published by Resources for the Future in 2009 stated that involving states
throughout the western region would “greatly enhance” the “effectiveness of the
[California] program” and would “substantially address[] the leakage concern.” 68 In
addition the MAC recommendations to CARB downplayed the leakage concern based in
part on an assumption that California’s involvement in the WCI:
Although the leakage issue deserves close consideration, it is worth noting
that if California links its cap-and-trade program with programs of other
states in the western electricity grid, much if not all of the leakage problem
would be eliminated. Six states, including California, have already joined
the Western Regional Climate Action Initiative, and discussions for
potential linkages are already underway.69
Yet the WCI as it was initially conceived did not pan out. In 2011, six states withdrew
from the effort.70
Initiatives in other regions of the United States have also stalled due to collective
action problems. In 2007 governors of Illinois, Iowa, Kansas, Michigan, Minnesota,
Wisconsin, as well as the Premier of Manitoba signed the Midwest Greenhouse Gas
Reduction Accord (MGGRA), with governors of Indiana, Ohio, and South Dakota, as
66
A larger geographic footprint would allow for increased liquidity of emissions
allowances and would have the effect of “lower[ing] both the marginal cost of CO2
emission reductions, as reflected in the allowance price, and the effect of the policy on
electricity price in California.” KAREN PALMER, DALLAS BURTRAW, & ANTHONY PAUL,
ALLOWANCE ALLOCATION IN A CO2 EMISSIONS CAP- AND-TRADE PROGRAM FOR THE
ELECTRICITY SECTOR IN CALIFORNIA 4 (2009), available at
http://www.rff.org/RFF/Documents/RFF-DP-09-41.pdf.
67
See id.
68
Id.
69
MARKET ADVISORY COMMITTEE RECOMMENDATIONS, supra note 10, at H-51.
70
6 States Pull Out of Western Climate Initiative, SUSTAINABLEBUSINESS.COM (Nov. 22,
2011, 5:29 PM)
http://www.sustainablebusiness.com/index.cfm/go/news.display/id/23178.
18
well as the Premier of Ontario signing on as observers.71 The signatories of the agreement
set out to develop a multi-state cap and trade system that would reduce GHG emissions in
the region by sixty to eighty percent.72 The agreement has been universally abandoned.73
As discussed above, RGGI lives on, but has proven to be of limited effectiveness due in
part to mistrust and lack of universal commitment amongst signatory states.
States have thus proven inconsistent in their ability to adhere to multilateral
agreements to address climate change. Yet the interest and willingness to pursue climate
policy goals collectively at the state level did not die with the WCI and the MGGRA.
Remaining political will to pursue sub-national collective action is evidenced by the
establishment of initiatives like North America 2050, a broad initiative bringing together
North American “state and provincial efforts to design, promote and implement costeffective policies that move . . . toward a low-carbon economy.”74 However, any hopes
for seeing real results from North America 2050 would be premature, as participants have
yet to agree on any concrete policy designed to achieve the program’s stated aims.
B. A Recommendation that States Pursue Binding Interstate Climate
Compacts
One feature that all of the agreements discussed in the previous section have in
common is that they are non-binding. This Article suggests that pursuing binding
71
Multi-State Climate Initiatives, CENTER FOR CLIMATE AND ENERGY SOLUTIONS,
http://www.c2es.org/us-states-regions/regional-climate-initiatives (last visited May 2,
2013).
72
Id.
73
Id.
74
One scholar has noted that “[c]ollective action may be desireable politically because it
may make certain programs either more or less politically salient.” Note, State Collective
Action, 119 HARV. L REV. 1855, 1857 (2006).
19
multilateral agreements at the state level would be a powerful step towards combating
carbon leakage.
Binding interstate compacts are far from unprecedented.
In fact, binding
interstate compacts are explicitly contemplated by the Constitution.
The Compact
Clause, which appears in Article I, Section 10, provides that “[n]o State shall, without the
Consent of the Congress . . . enter into any Agreement or Compact with another State.”75
MOUs such as the one governing the relationship between the RGGI signatory states
would seem to fall within the category of an “Agreement or Compact” between one state
and another state within the meaning of the Compact Clause. However, “although the
text of the Compact Clause might appear broad enough to require congressional consent
for all interstate cooperation, no court has ever invalidated an interstate agreement for
lack of such consent.”76
States have historically engaged in a whole range of interstate agreements from
formal agreements requiring congressional approval under the Compact Clause to more
informal agreements that do not. RGGI has been characterized by some scholars as a
“relatively informal” form of agreement among states that would be unlikely to require
congressional approval.77 Another example of an informal agreement that avoids
Compact Clause strictures is the Multistate Tax Commission (“MTC”), which various
states joined in the 1960s to determine multistate taxpayers’ tax liabilities while
75
U.S. Const., Art. I, § 10.
Note, The Compact Clause and the Regional Greenhouse Gas Initiative, 120 HARV. L.
REV. 1958, 1960 (2007).
77
State Collective Action, supra note 67, at 1863.
76
20
“avoiding
duplicative
taxation
and
promoting
uniformity,
convenience,
and
compliance.”78
States have also entered into formal compacts that have been recognized and
approved by Congress.
The Northeast Interstate Dairy Compact, for example, was
entered into by northeastern states to “protect small dairy farmers . . . by allowing those
states to regulate milk prices, which the dormant commerce clause would otherwise
prevent.”79 Congress also approved the Interstate Compact to Conserve Oil and Gas in
the 1930s which was essentially a price-fixing scheme allowing oil companies in
compacting states to control over half of U.S. oil reserves.80 Notably, these are examples
of congress ratifying state collective actions, which unlike state-based climate initiatives,
are transparently designed to “obtain localized benefits at the expense of the general
welfare.”81
Yet beyond these dubious instances of congressional approval of economic
protectionist measures, there also exists a strong history of interstate compacts being used
to address normative environmental concerns. Such compacts include the Appalachian
and Rocky Mountain Low-Level Radioactive Waste Agreements of 1985 and 1983 and
the Interstate Pest Control Compact of 1968.82
The test used by Supreme Court to determine whether an agreement among states
requires congressional approval was articulated in United States Steel Corporation v.
78
Id.
Id. at 1861.
80
Id.
81
Id. at 1862.
82
Matthew Pincus, When Should Interstate Compacts Require Congressional Consent?,
42 COLUM. J.L. & SOC. PROBS. 511, 519 (2009).
79
21
Multistate Tax Commission.83 Justice Powell, writing for the majority, explained that the
question of whether the Compact Clause was triggered hinged on “whether the Compact
enhances state power quoad the National Government.”84 The important factors to
consider when applying the U.S. Steel test have been described as follows: “1) whether a
third party organization was formed to oversee and enforce compliance between the
states, 2) whether the agreement expands upon the normal political powers enjoyed by
states, and 3) whether the state retains the ability to modify or repeal legislation enacting
the agreement's terms.”85
While RGGI and other sub-national climate initiatives would be unlikely to fall
within the ambit of the Compact Clause under the U.S Steel test—in RGGI, for example,
no third party has enforcement authority and states retain the ability to modify or repeal
implementing legislation—this does not mean that seeking congressional approval would
be unwise. When parties to an interstate compact receive congressional approval, their
agreement becomes binding on the parties and takes on force of federal law.86 Thus
seeking Congress’s approval would increase the strength and integrity of such
agreements. One scholar has discussed the ways in which Congressional ratification of
RGGI would strengthen the program:
Besides remedying RGGI’s various constitutional issues, congressional
consent has several additional benefits. Most obvious would be the
establishment of the RGGI agreement as federal law, which opens up
opportunities for federal enforcement in instances of a state’s noncompliance. Another added benefit would be the ability of RGGI states to
83
434 U.S. 452 (1978).
Id. at 472-473.
85
Maher, supra note 16, at 174 (citing at U.S. Steel Corp., 434 U.S. at 472-73).
86
See Id. at 176 (citing Cuyler v. Adams, 449 U.S. 433, 440 (1981) (finding federal
question jurisdiction due to congressional consent making the compact federal law).
84
22
use more binding language and grant broader powers to third party
organizations such as the RO.87
Pursuing binding compacts through congressional approval would prevent states
from opting out at their own discretion and would enhance the ability of sub-national
climate efforts to prevent leakage. As discussed above, scholars and regulators agree that
at least in the context of California’s cap and trade market, one of the best tools for
combating leakage is to expand the geographic footprint of the program in order to cover
as much of the western grid as possible and minimize the availability of unregulated
source of power beyond the regulatory reach of the program. This consensus suggests
that some form of interstate cooperation to achieve climate goals is desirable. However,
agreements among states have proven vulnerable to the fickleness of state legislatures
and economic pressures,88 which have led states to opt out or violate the agreement when
the going gets tough—the upshot being that such agreements are not worth the paper they
are written on.
Pursuing binding multilateral agreements would strengthen multi-state climate
initiatives, enhancing confidence among signatories that their cohorts would uphold their
end of the bargain. In addition, while this Article does not purport to comprehensively
assess the political feasibility of congressional approval of such agreements, it is worth
noting that conservative legislators who have voiced reticence at pursuing a federal cap
and trade program89 may find federal approval of state-based initiatives more palatable.
87
Maher, supra note 16, at 198.
Id. at 170 (noting how “despite these [provisions in states’] implementation statutes
and RGGI's general mandate to isolate 25% of the proceeds for consumer benefits and
energy efficiency, states have raided the RGGI funds to cover budget deficits”).
89
See Seth Jaffe, Not a Shining Moment For Congress: Two Leading Economists Note
the “Sordid History” of Cap-and-Trade Legislation, L. & ENVT. (Mar. 11, 2013),
88
23
CONCLUSION
To a certain extent, leakage will always be a problem for any sub-global climate
initiative.
There is always a risk that emissions reductions within the regulated
jurisdiction will be offset by increases outside of the regulated jurisdiction. Yet leakage
can be minimized by expanding the geographic footprint of the jurisdiction by entering
into binding interstate climate compacts. States are more likely to be successful in their
efforts to combat climate change if they are based on binding agreements ratified by
Congress.
http://www.lawandenvironment.com/2013/03/not-a-shining-moment-for-congress-twoleading-economists-note-the-sordid-history-of-cap-and-trade-legislation/ (noting “how
strange our politics has become, when cap-and-trade programs, previously touted by
conservatives and viewed skeptically by environmentalists as a ‘license to pollute,’
somehow become for conservatives the poster child of big government programs”).
24