Free carbon emissions permits could create added costs

Those free passes that the House climate bill gives to major greenhouse gas-emitting industries might not be so free for consumers.

Lawmakers crafting the House Energy and Commerce Committee's climate legislation added the passes, or free emissions permits, as a means of easing the transition to a greener energy economy. Utility companies and other polluting sectors receive the permits and avoid buying allowances for some carbon dioxide emissions, protecting customers from sharp price increases.

But that does not mean other energy prices won't rise. While the allowances likely will cushion increases in electricity bills, economists said, the allowances, combined with a carbon cap, could drive energy cost increases elsewhere, possibly in the gasoline, diesel and heating oil sector.

"As a general principle, it is likely that imposing these restrictions will lead to some price increase," said Larry Karp, chairman of the University of California, Berkeley's Department of Agricultural and Resource Economics. "To the extent you don't allow the price increase in one sector, you will have the price increase in another sector."

There are many unknowns about the costs of measures in the climate legislation, which passed out of the energy committee last week and now is headed to as many as eight other House committees. With many legislative steps still pending, the bill likely will change. As well, factors including a turnaround in the economy and international events could affect energy prices in the future.


But the free allowances have stirred controversy both about the equity of how they are to be distributed and the effect they could have on prices.

"The way Democrats chose to divide up allowances in the bill was a purely political move meant to buy votes," said Sean Brown, spokesman for Energy and Commerce Committee ranking member Joe Barton (R-Texas). "The allocation scheme is inequitable and favors certain regions and states over others. Those industries on the short end will suffer financially, and that will lead to higher prices being passed on to American families."

Democrats argue that the allowances are necessary to protect consumers, and reject the premise that the free permits could trigger price increases.

"The point of the program is to reduce carbon overall," said Eben Burnham-Snyder, spokesman for the House Select Committee on Energy Independence and Global Warming, whose chairman, Rep. Ed Markey (D-Mass.), helped write the energy bill. "The point of the program isn't to move around the cost. We're not going to have one sector that gets to emit everything."

At Barton's request, Energy and Commerce Chairman Henry Waxman (D-Calif.) has agreed to hold a hearing on the allowances before the bill goes to the House floor, Brown said.

Utilities win biggest portion

In the legislative version that passed the energy committee, lawmakers give away 85 percent of the emissions permits in the early years of the cap-and-trade program. The remaining 15 percent of permits will be auctioned.

The largest share of the free permits, 35 percent, goes to the electric utility industry in 2012 and 2013. More specifically, 30 percent is given to local companies that distribute power to residences and businesses. The sector's free permit portion shrinks every few years after. The allowances phase out completely between 2026 and 2030.

The next biggest share of free permits, 15 percent, goes to energy-intensive industries with international competition, including steel, paper and cement makers. Those free allowances start in 2014 and drop by about 2 percent per year, ending in 2025.

Another 10 percent of the free allowances goes to states for investments in renewable power sources and energy efficiency. That share decreases starting in 2016, dropping to 5 percent by 2022.

Natural gas distribution companies get 9 percent of the allowances in the early years, with allowances ending between 2026 and 2030.

The smallest and shortest-lived number of allowances goes to oil refiners, who get 2 percent starting in 2014. Their allowances end in 2016.

The rest of the free allowances are divided among the auto industry, efforts to capture and sequester carbon emissions, clean energy efforts, work to prevent deforestation, and adaptation programs.

Many economists criticize the allowance structure, saying the free permits block the price signal needed to make people use less energy.

"The whole point of a policy that's controlling carbon emissions is to get people to substitute other things," said Frank Ackerman, senior economist with the Stockholm Environment Institute at Tufts University. "If we then go and make sure no one feels any increased costs, we're just undermining it."

U.S. EPA, in its preliminary analysis of the Waxman-Markey bill, said that free allowances given to electric utilities "will lessen somewhat the incentive for consumers to conserve electricity," putting "slight" upward pressure on the cost of the emissions permits businesses will have to buy. EPA believes that price pressure could be lessened if businesses chose to buy green offsets instead of allowances to emit carbon.

However, it is not clear how many offsets will be available or whether Congress or EPA will restrict their use.

Power companies could chose to use the free allowances to give customers rebates and then let electricity prices rise to market levels, EPA said. That would encourage conservation. The legislation mandates that utilities use the allowances exclusively to benefit customers, but there is room for utilities and regulators to decide how.

Some energy prices expected to rise

If in the early years of the program utility emissions do not shrink, the combination of the cap and the free allowances to power companies could force other carbon emitting sectors to pick up the slack, economists said. The industry most likely to be adversely effected is the transportation sector, they said, because it is second only to utilities in total greenhouse gas emissions.

There is no way of knowing exactly how much fuel and other transportation sector costs could rise. The Heritage Foundation, a conservative think tank, projected earlier this month that the Waxman-Markey bill could cause a 74 percent increase in gasoline prices. It also estimated the bill would trigger a 55 percent increase in natural gas prices.

The transportation sector will receive 2 percent of the free allowances but is responsible for buying permits for about 44 percent of greenhouse gas emissions, said Lou Hayden, senior policy analyst with the American Petroleum Institute, the trade group for 400 oil and gas industry companies. That 44 percent total includes emissions from cars as well as stationary sources such as heating oil uses.

"Someone will have to bear the cost" of the carbon cap, Hayden said. "It will wind up being people who buy gasoline and diesel."

Burnham-Snyder, with the House Select Committee on Energy Independence and Global Warming, said competition between industries to reduce carbon will push prices down.

"It's up to the individual sectors to make sure they're succeeding the best they can and reducing costs as best they can," Burnham-Snyder said.

Even with the free allowances, prices could go up for electricity, according to economists, power companies and regulators. Any cost over what the allowances cover potentially could be passed on to customers.

"Under this bill, costs would go up, but not nearly at the same rate" as in a cap-and-trade system without allowances, said Tom Williams, spokesman for Duke Energy Corp.

If the program functions similarly to the one that caps sulfur dioxide emissions, utilities forced to buy emission allowances beyond what the free permits cover would be able to seek rate increases, said Dan Cearfoss, chief public utilities engineer with the Georgia Public Service Commission, a regulator in that state.

Some economists and green energy advocates argue that the free allowances give utilities less incentive to move away from carbon-emitting technologies. Cearfoss, however, said that because the number of free allowances decreases over time, utilities in their long-term planning will have to look at ways to reduce emissions.

The cap-and-trade policy will drive innovation, Burnham-Snyder said, as electric utilities make their long-term business plans.

"You're going to see the kind of investments that will significantly bring down the cost of the program overall," Burnham-Snyder said.

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