On March 29, 2010 the U.S. Senate (specifically Senators Kerry, Graham, and Lieberman) sent a letter to the U.S. Energy Information Agency (EIA) requesting analysis to help them in their consideration of climate change legislation. Three goals were mentioned as the top priorities of this proposed legislation called the American Power Act of 2010 (APA): creating jobs, achieving energy independence, and reducing carbon pollution (in that order).
The EIA responded this month with their findings in a paper titled Energy Market and Economic Impacts of the American Power Act of 2010 (pdf). The EIA's report focuses on the impact that the policy proposals envisioned in the American Power Act of 2010 would have on the decisions of both consumers and producers and the implications of these decisions on the U.S. economy.
Based on the EIA's analysis, it certainly appears that the APA will likely fall short on its goals of achieving energy independence and reducing emissions. By the year 2035, imports will still account for nearly half of the nation's crude supply in the base case scenario. Of the 39 billion metric tons of carbon emissions reductions sought, most of the reductions expected are the result of creative accounting instead of reduced pollutants. Furthermore, the EIA's projections point to these climate change proposals retarding the growth of the U.S. economy over the next 25 years with fewer jobs resulting from the slow down, thereby completely failing on the first goal the Senators mentioned in their request letter. Careful consideration of the proposed legislation does point to a measured response to constrain pollution. However, the costs appear to far outweigh the benefits considering that the proposals main driver (i.e. artificially increasing the cost of energy) discourages economic growth.
KEY POINTS OF THE APA
Boiling it down, the key provisions of the APA proposals are as follows:
The EIA used its National Energy Modeling System (NEMS) to conduct its analysis with the year 2035 as the terminal point for its projections. A Base case scenario analysis and five other scenarios (i.e. Zero Bank that assumes ample technology in 2035, High Natural Gas Resource, High Cost, No International Offsets, and No International Offsets coupled with limited technology deployments by 2035) are compared against one another in the EIA's findings. All six are also compared against the EIA's Reference case, which is detailed in the EIA's 2010 Annual Energy Outlook (pdf).
The APA Base case assumes that low-emissions technologies are developed and deployed on a large scale without encountering obstacles. Additionally, the Base case assumes that offsets from both domestic and international sources are available without being constrained by cost or negotiations between key countries. Furthermore, the assumption that companies will amass excess allowances in reserve to mitigate anticipated rising costs of allowances and increasingly stringent caps manifests in an aggregate allowance bank of 10 billion metric tons by 2035.
ALL ABOUT OFFSETS
The main take-away from the EIA's findings is that over the next 25 years, the model's projections for all applicable cases point to Offsets as the primary mechanism for compliance to the APA (the No International Offsets case and the No Internation with Limited Technological Advances case are the exceptions). Or put another way, polluting behaviors continue for the most part unchecked with absolution purchased by emitters as the likely remedy that accounts for over half the reduction in carbon generation.
Consistent with this phenomenon, emitters will deplete a cost containment reserve quicker in scenarios where offsets are limited or do not exist. Also, costs for GHG allowances are dependent upon the availability and costs of offsets and new technologies that lower carbon emissions. So if new technologies are slow to develop and offsets are not readily available, then the allowance prices for GHG will be highest. These higher prices yield higher energy costs which then produce the desired behavior across the market of lowered consumption accompanied by less pollution.
The largest component of energy emissions reductions (78% to 86% depending on the scenario) would come from the replacement of coal-fired electricity generation with nuclear or renewable energy. Electricity generation from coal would drop from 48% of the U.S. grid down to a range of 3% to 13% by 2035, depending on the scenario. Furthermore, without a ramp-up in nuclear power generation by 2035, natural gas generation would grow to 39% or nearly double its share of the power generation market in 2008.
For citizens of the U.S., the proposals within the APA would not result in meaningful job creation. Furthermore, in the case of no offsets and limited technological advances (that also results in the highest costs for individuals $814 per household per year) employment is anticipated to fall "measurably" in later years and have an adverse impact on GDP (-$2.7 trillion present value of lost). All five other cases are also expected to generate GDP losses ranging from $381 billion to $1.1 trillion in total present value. Which actually means the losses for all would be much higher if not discounted back at 5% in the EIA's report.
We point out a highly questionable assumption in both the EIA's reference case and all projections related to GDP. The EIA is assuming the average GDP is 2.4% per annum between 2008 and 2035 based on their stated figures of $14.3 trillion in 2008 and $27.4 trillion in 2035. This fact is intriguing to us, considering that over the last 30 years, the average is 5.9%, and going back to 1930 the average is 6.0%. Does the EIA really believe that the U.S. economy will average growth of less than one-half the historical average over the next 25 years?
Looking specifically to the supply and demand of crude and natural gas we see something odd is occurring in the modeled projections. We draw your attention to the circle areas in the charts below. As you can see the EIA is projecting that both the supply and the demand of natural gas will drop through year 2013 before growth resumes and that natural gas will not return to 2008 levels until after year 2020. We believe these projections are particularly bearish in light of the fact that US Dry Natural Gas Production has been trending higher since July 2006. Similarly, YTD demand for natural gas is 3% higher than 2009 levels for the same time-frame.
According to the DOE, there were 104 nuclear reactors spanning 31 states producing approximately 20% of the U.S.'s net electricity generation. Both the number of reactors and the amount of electricity generation have been static since the mid 1980s. To replace 75% of the current coal-generated electricity by 2035, another 150 reactors would need to be built and come online between now and then. While not an impossible feat over the next 25 years, it certainly seems an unlikely route to reduce emissions given the burdensome challenges to siting new nuclear facilities. While the U.S. government could definitely provide the financial incentives necessary to promote the build-out of nuclear reactors, the lack of popular acceptance and water conservation issues are high hurdles that could delay or stall responses and thereby diminish the desired impact of incentives.
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