United States: Midwestern Greenhouse Gas Reduction Accord Update

In anticipation of drafting of the model rules that will implement the Midwestern Greenhouse Gas Reduction Accord (Accord) in participating states, the Midwestern Governors Association (MGA) Greenhouse Gas Reduction Accord Advisory Group (Advisory Group) continues to refine the Accord's design principles and the Midwest cap-and-trade program. The final decision on critical features of the proposed program is slated to occur in November 2008, just prior to an MGA joint press release in early December.

The governors will face many key decisions involving the scope of the program, the use of allowances, and offset approvals. All of these components raise significant legal and political issues as well as economic concerns for businesses in the region.

Scope

The scoping issue addresses which businesses will be included under a declining greenhouse-gas emission regional cap. In general, an expansive view of "scope" is advocated by the Advisory Group to include businesses such as electric generation facilities, industrial boilers, and larger industrial processes. In addition, providers of transportation fuels also may be subject to the cap-and-trade program.

Recognizing the regional nature of the program, the Advisory Group's "point of regulation" for businesses covered by the scope of the program is the facility (if it is located in a participating state) or the point of "first entry into the MGA." Thus, for transportation fuels, the point of first entry into the MGA and hence regulation would be at the terminal, while for electricity generated in a non-MGA state, it would be at the first distribution center.

Under the current Advisory Group approach, the scope of the MGA regulatory program includes many diverse business sectors, which makes the program much more complex than the Regional Greenhouse Gas Initiative (RGGI) of several Northeastern and Mid-Atlantic states. In addition, if the governors agree with the Advisory Group's recommendation, subjecting a large number of business facilities to the greenhouse gas cap-and-trade system may lead to further economic erosion and greenhouse gas "leakage" in the Midwest as businesses relocate to avoid the likely increase in energy prices.

Allowances

In a cap-and-trade system, allowances are the "emission currency" permitting the holder to emit greenhouse gas. Allowances can be allocated to businesses by auction, by the government, or by a combination of both.

At this time, the allowance provisions of the MGA program need to be refined, but the Advisory Group recommends several key concepts. For example, unlike the European Union approach, allowances would not be directly allocated by the MGA to facilities "under the cap." All allowances would be auctioned and money raised from the auction would be used to promote either emerging "green businesses" or directly aid existing industries coping with the competitive disadvantages associated with the cap-and-trade program. The mechanisms for redistributing the money between these competing goals (and potentially others) remain an open issue.

Offsets

A critical component for the success of the MGA greenhouse-gas program is the development of a robust offset program. With no commercially viable means of capturing and sequestering carbon dioxide, offsets will be the primary method for achieving significant greenhouse gas reductions (assuming no leakage due to plant closures), especially in the early years of the program.

The proposed MGA offset program attempts to streamline the approval process through the development of regional "protocols." Following these protocols should provide offset-project developers greater assurance that the proposal will be approved than if an individual case-by-case review process were used. At the same time, environmental non-government organizations (ENGOs) advocate strongly for strict adherence to real, permanent, verifiable, enforceable, and sustainable approval criteria. In order to ensure these criteria are met, ENGOs want independent verification and periodic third-party auditing of each offset project.

Legal Issues

Noticeably absent from the MGA Advisory Group process is any legal review or analysis of the recommended program. Without an understanding of the constitutional and sovereignty constraints of a regional program, many of the key concepts, especially in the proposed scope and offset program, may be legally suspect. While some members of the Advisory Group are requesting a legal review, the Advisory Group process currently lacks a defined mechanism for addressing these concerns, other than through the recently formed model rule committee.

Conclusion

Decisions made by the participating states over the next month are likely to be key to the success of the MGA greenhouse-gas program. Clear direction from the governors, as reflected in the anticipated December 2008 press release and the work product of the model rule committee, will determine whether a legally workable and politically acceptable regional cap-and-trade program will emerge from the process.

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