1. Background and Scope of the Analysis

This service report was prepared by the Energy Information Administration (EIA) in response to a February 5, 2007, request from Senators Lieberman and McCain for an estimate of the economic impacts of S. 280, the Climate Stewardship and Innovation act of 2007 (Appendix A). In a follow-up letter the Senator’s staff provided additional guidance on the analysis request, describing the key scenarios they wished examined and specifying that the Annual Energy Outlook 2007⁶ (AEO2007) reference case serve as a starting point (Appendix B).

Overview of the Climate Stewardship and Innovation Act of 2007

S. 280 establishes a long-term program to reduce greenhouse gas emissions (GHG) through an emissions cap-and-trade system and various supporting policies, including:

• a mandatory emissions reporting system for covered entities,
• a national greenhouse gas database and registry of emissions reductions,
• a program to encourage innovative emissions reduction technologies,
• a program to facilitate financing for climate technology projects, and
• provisions to mitigate adverse economic impacts of the bill on consumers and communities and to fund climate change adaptation programs.

• Covered Sectors are the commercial, industrial, electric power, and transportation sectors.
• Covered Entities are those owning or controlling a source of emissions in the commercial, industrial, and electricity sectors that emit, from any single facility,⁷ greenhouse gas emissions from stationary sources greater than 10,000 metric tons carbon dioxide (CO2) equivalent.
• Transportation emissions from petroleum are regulated upstream through the refiners and importers that supply petroleum products for transportation use.
• Fluorinated Gases: Producers and importers of hydrofluorocarbons, perfluorocarbons, and sulfur hexafluoride would be required to submit allowances for  emissions associated with their products, subject to the 10,000-metric-ton minimum.
• Exemptions: The Environmental Protection Agency (EPA) may exempt emission sources where their measurement or estimation is impractical, such as many sources of nitrous oxide and methane emissions.

To cap greenhouse gas emissions, a fixed number of tradable emission allowances would be issued each year, with an unspecified share auctioned and the rest distributed for free. Each emission allowance provides the right to emit one ton of greenhouse gases, measured in CO2 equivalent units based on the 100-year global warming potential. The bill requires individual covered entities to submit allowances equal to their emissions but does not otherwise limit their emissions. Entities could buy and sell allowances and bank allowances for future use. Under limited conditions, covered entities could borrow allowance credits against future emissions reductions.⁸

The emission caps begin in 2012 and are reduced in 2020, 2030, and 2050. The caps apply to the emissions in the covered sectors, excluding emissions from the residential sector, the agriculture sector, and U.S. territories. ⁹ The specified caps are to be reduced to adjust for emissions by any exempted sources in those sectors in the first year of each interval. The specified caps, before the adjustments, in million metric tons of CO2 equivalent, are:

2012 to 2019. . . . . 6,130 (equal to 2004 emissions)
2020 to 2029. . . . . 5,239 (equal to 1990 emissions)
2030 to 2049. . . . . 4,100 (about 22 percent below 1990 emissions)
2050 and beyond . .2,096 (about 60 percent below 1990 emissions)

With future emissions of the exempted sources not known precisely, the adjusted caps are somewhat uncertain. Another source of uncertainty stems from the bill’s requirement for a biennial review of the caps, given the latest science, data, and environmental and health impacts of greenhouse gas concentrations.

Covered entities can also satisfy up to 30 percent of their annual allowance obligation through various alternative compliance options, or offsets.¹⁰ Offset sources include: 1) registered reductions in emissions by non-covered entities, 2) registered increases in carbon sequestration, 3) greenhouse gas emission allowances from other countries with comparable cap and trade programs, and 4) certified credits for project-specific emission reductions in other countries. Entities that wish to satisfy more than 15 percent of their allowance obligation through offsets would be required to submit 1.5 percent of their obligation with carbon sequestration credits from agricultural soils.

The percentage of free allowances allocated to covered entities is not specified in the bill, although various criteria are identified on which to base the distribution. Among the allocation criteria is a program to reward covered entities for emission reductions made from 1990 through 2011. Entities with creditable reductions are granted a corresponding increase in their future allocation of allowances in the compliance period beginning in 2012. These credits for early action by covered entities do not affect the overall compliance cap; they only affect the allocation of free allowances to covered entities. Non-covered entities, however, can register emission reductions undertaken between 1990 and 2011 and obtain allowance offset credits that can be sold to covered entities. Therefore, early-reduction credits by non-covered entities effectively ease the caps on emissions, while those by covered entities do not.

The bill establishes a nonprofit Climate Change Credit Corporation (CCCC) to manage the emission allowance market and distribute auction proceeds for the following programs, with minimum spending percentages as indicated:

• Offset increased costs borne by consumers through such methods as cash rebates,
  discounts, and subsidies
• Provide transition assistance to dislocated workers and communities (20 percent initially,
  declining 2 percentage points per year)
• Fund climate change adaptation and mitigation programs to aid low-income populations
  (10 percent)
• Fund programs to promote fish and wildlife habitation to climate change (10 percent), and
• Establish a program to support technology deployment and innovation (50 percent).

Methodology and Assumptions

This section describes the methodology used in this analysis and identifies key assumptions made to address uncertainties in the interpretation of the bill and its impacts. Key assumptions regarding the interpretation of the bill were provided in a follow-up letter to the original request for this analysis (Appendix B).

Emission Cap and Coverage Assumptions

S. 280 exempts entities in covered sectors having no facilities with emissions over a threshold of 10,000 metric tons of CO2 equivalent. In each year that a new emission cap is established (2012, 2020, 2030, and 2050), the stated caps are to be reduced to adjust for the future emissions of these uncovered entities in the first year the cap is imposed. As a result, deriving an estimate of the actual caps depends on emissions projections of exempted sources in the covered sectors. Table 1 presents the derivation of the adjusted S. 280 emissions caps. Table 1 reflects the following assumptions made to estimate the
adjusted caps:

• Baseline energy-related CO2 emissions are from the reference case of the Annual Energy Outlook 2007 and are consistent with EIA emissions accounting assumptions.
• Baseline growth rates in non-CO2 energy-related greenhouse gases are based on EPA’s projections in their no-measures case as published in a 2006 report,¹¹ as applied to EIA’s 2005 greenhouse gas emissions data.
• Direct energy-related CO2 emissions in the commercial sector are assumed to be exempt, as emissions in individual buildings would rarely exceed the 10,000-metric ton threshold. While emissions of multi-building facilities could exceed the threshold and entities controlling or owning such facilities would be covered, data sources to ascertain such situations and the extent of coverage are inadequate. Since the share of direct commercial energy emissions subject to regulation is expected to be small, the entire sector is treated as exempt in this analysis.
• All sources of energy-related CO2 emissions in the industrial sector are assumed to be covered, except emissions in the agriculture sector, which is an uncovered sector, and the construction industry, where the emission threshold exemption would likely apply. While some additional industrial entities would be exempted based on the emissions threshold, data to distinguish such entities and disaggregate their emissions are unavailable.
• All sources of energy-related CO2 emissions in the electricity sector are assumed to be covered. Emissions of virtually all fossil-fueled plants would exceed the emissions exemption threshold.
• Energy-related CO2 emissions from petroleum in the transportation sector are assumed to be covered. Natural gas use for vehicles in the transportation sector is assumed to be uncovered, while natural gas used for pipelines is assumed to be covered.
• Emissions of methane from coal mining are assumed to be covered. All other potential methane sources, including emissions from landfills, mobile sources, agriculture, oil and natural gas systems, are assumed to be uncovered or exempt due to measurability considerations or the 10,000-metric-ton threshold provision.
• Emissions of nitrous oxide from nitric and adipic acid production are assumed to be covered. Nitrous oxide emissions from agriculture are uncovered, and mobile sources are assumed to be exempt based on the bill’s measurability provisions.
• All emissions of fluorinated gases are assumed to be covered. However, emission caps and allowance requirements for fluorinated gases are assumed to be based on the year the emissions ultimately occur, as opposed to the year in which the gases are produced or imported, as specified in S. 280.
• Non-energy process emissions of CO2 in the industrial sector associated with the production of cement and lime are assumed to be covered. The National Energy Modeling System (NEMS) was modified to estimate emissions from these sources endogenously, with adjustments to exclude process emissions of imported cement. Other non-energy-related
  CO2 emissions are assumed to be uncovered and grow at 1 percent per year.

Figure Data

Figure Data

Figure 1 presents the adjusted emissions caps, or targets, compared with projections of covered emissions in the reference case. The gap between the reference case emissions and the cap represents the combined amount of emissions reductions and emissions offsets that must take place to comply with the bill. Since covered entities can meet up to 30 percent of their allowance requirements with emission offsets, their direct emissions can be substantially higher than indicated by the emission target. To illustrate this flexibility, the figure also presents the emissions target with a 30-percent offset adjustment. As shown, if all entities were to take full advantage of the offset provisions in all years, the covered emissions could remain above the 2005 level through 2029, even without the emissions banking.

Note that Figure 1 only reflects the emissions of covered entities, not total GHG emissions, and that S. 280 also specifies emissions caps through 2050. Figure 2 presents S. 280 emissions targets in the context of total GHG emissions and extrapolates the reference case emissions projection through 2060 at a 1-percent growth rate. This shows that the gap between the emissions cap before exemptions and the emissions cap after exemptions widens over time, as emissions of exempted sources continue to grow. As a result, the adjusted emissions cap in 2050 is roughly half the unadjusted cap and less than 10 percent of the unregulated emissions projection in 2050.

Modeling Approach

The analysis of energy sector and energy-related economic impacts of the various GHG emission reduction proposals in this report is based on results from EIA’s NEMS. NEMS projects emissions of energy-related CO2 emissions resulting from the combustion of fossil fuels, representing about 84 percent of total GHG emissions today. For this analysis, an updated reference case12 based on the AEO2007 reference case was developed. Among the updates was the addition of a methodology to estimate non energy process emissions of CO2 associated with cement production and lime (discussed further below). Other process CO2 emissions were assumed to grow at 1 percent per year.

NEMS endogenously calculates changes in energy-related CO2 emissions in the analysis cases. The cost of using each fossil fuel includes the costs associated with the GHG allowances needed to cover the emissions produced when they are used. These adjustments influence energy demand and energy-related CO2 emissions. The GHG allowance price also determines the reductions in the emissions of other GHGs and from international offsets based on abatement cost relationships discussed in the next section. With emission allowance banking, NEMS solves for the time path of permit prices such that cumulative emissions match the cumulative emissions target without requiring allowance borrowing and with price escalation consistent with the average cost of capital to the electric power sector.

The NEMS Macroeconomic Activity Module (MAM), which is based on the Global Insight U.S. model, interacts with the energy supply, demand, and conversion modules of NEMS to solve for an energy-economy equilibrium. In an iterative process within
NEMS, MAM reacts to changes in energy prices, energy consumption, and allowance revenue, solving for the effect on macroeconomic and industry level variables such as real gross domestic product (GDP), the unemployment rate, inflation, and real industrial output. These economic impacts, in turn, feed back into the energy sectors of NEMS. The cycle is repeated until an integrated solution is obtained. The economic impacts of the legislation stem partly from its impact on energy prices and its effects on production, imports, and exports of energy goods and services. In addition, the auction and distribution of the GHG allowances generate revenue streams to the government and private sectors. The MAM represents the revenue streams accruing to these sectors based on the allowance allocations specified in the bill or guidance provided by Senate staff. Together, these energy-related price, quantity, and revenue allocation effects impact the aggregate level of prices, output, and employment within the economy.

Representation of Non-CO2 GHG Abatement and International Offset Opportunities

Assessing S. 280 requires an analysis of energy-related CO2 emissions and non-CO2 GHG emissions. NEMS represents U.S. energy markets and the associated CO2 emissions and abatement opportunities endogenously. Non-CO2 greenhouse gas emissions and international offsets are represented using exogenous baseline emissions projections and schedules of abatement opportunities.

The availability and price of international offsets from energy- and non-energy-related greenhouse gas emission reductions will depend on the supply of and demand for emissions reductions throughout the world. U.S. entities’ demand for offshore offsets will compete with the demand for emissions abatement outside the United States, which, in turn, will depend on the emissions reduction commitments undertaken by other countries. Covered entities will be able to directly submit allowances purchased from countries that have established enforceable cap-and-trade systems. Covered entities can also submit verified offsets from countries without enforceable cap-and-trade systems, but there may be substantial costs involved to certify that the offsets will represent true emissions reductions.

Without EPA’s assistance in this area, it would have been very difficult to complete this study in a timely fashion. EIA carefully reviewed the emissions baselines and MACs provided by EPA. The general approach was to rely on the information provided by EPA unless there were significant differences in areas addressed by EIA’s own projections and prior analyses. EIA’s use of the EPA-supplied information also reflected its own understanding of factors affecting the demand and supply of offsets based on its modeling experience and review of existing international emissions mitigation commitments and recent experience with project-based emission reduction programs in developing countries. Following this approach, EIA made adjustments in the following areas:

Foreign Energy Demand Growth

EIA’s projections of foreign energy demand growth from the International Energy Outlook 2007, are the basis for the foreign CO2 emissions baseline. EIA has somewhat higher projected growth than EPA in energy use and baseline CO2 emissions growth in the developing countries and somewhat lower growth in developed countries. Relative to EPA’s assumptions, EIA’s baseline reduces demand for mitigation in developed countries and increases demand for mitigation in the developing countries.

Foreign Emission Mitigation Commitments

The actual commitments undertaken by foreign countries will affect their demand for abatement and, potentially, their abatement supply curves. For developed countries (Group 1), more stringent commitments generally imply greater internal abatement demand and lower offset supply to other countries.

For developing countries (Group 2), mitigation commitments have a mixed effect. More stringent and/or earlier commitments increase their demand for mitigation, but they also increase the potential supply of offsets to external markets, since mitigation commitments likely reduce transactions costs associated with the “export” of credible offsets.

Any schedule of mitigation commitments is necessarily speculative. EPA’s spreadsheets presented a schedule of mitigation commitments used in a recent academic study. However, the European Union, (EU) which constitutes the bulk of developed country energy-related emissions outside the United States, has recently committed to reduce its GHG emissions 20 percent below the 1990 level by 2020, a timeline of emissions reduction commitments that is significantly more stringent than the schedule of commitments assumed by EPA (7 percent below 1990 by 2020, growing to 10.3 percent and 15.1 percent below 1990 in 2025 and 2030 respectively). Furthermore, the EU has committed to further emissions reductions if other Annex 1 countries also undertake emissions mitigation. For purposes of this analysis, EIA believes that the publiclyannounced EU commitment by the EU heads of government provides the most appropriate basis for an assumption about future EU mitigation commitments. Consequently, emissions mitigation commitments for developed countries were adjusted to reflect the stated EU commitment of 20 percent below the 1990 level beginning in 2020. The commitment was assumed to change to 30 percent below the 1990 level in 2030. In addition, the commitment of the remainder of Group 1 countries, accounting for about 36 percent of the Group 1 emissions, was adjusted to reflect a commitment of 10 percent below the 1990 level beginning in 2020 and 20 percent below in 2030.

Assumptions made regarding commitments for developing countries are even more critical, since those assumptions will significantly impact both abatement demand and mitigation supply. EPA’s analysis of international abatement demand assumes that developing countries adopt a binding commitment to return emissions to the 2015 level by 2025, followed by a return of emissions to the 2000 level by 2035. Given the primacy of developing countries’ interest in economic development, their projected rapid growth in energy use and emissions over the next 20 years, and disparities in historical per-capita emissions, the commitment assumption proposed by EPA may be optimistic. For purposes of this analysis, EIA maintained the 2025 date for developing country commitments, but assumed that the initial commitment would involve stabilization of emissions at the 2020 level rather than the 2015 level. Table 2 presents the resulting emissions baseline, abatement commitments, and abatement demand assumed for this study.

Relationship of Marginal Abatement Curves to the Supply of Non-Energy-Related Offsets

The relationship of MACs to the supply of offsets is also a critical issue. In a major published report on global mitigation of non-carbon dioxide GHGs, 13 EPA included the following statement:

While the results presented in this report can inform economic models, caution should be taken not to apply the MAC data directly as offset curves. Offset curves are a supply curve of emissions permits that could potentially be available in the market at a given carbon-price environment. However, a price signal alone is not likely to bring about all of the mitigation opportunities available along the MACs presented in this report. Other nonprice factors, such as social acceptance, tend to inhibit mitigation option installation in many sectors. .. . Thus, the MACs in
our analyses do not represent a supply curve of emissions permits that would be available for purchase, but rather the technical mitigation potential at a given carbon price.

EIA shares the concerns expressed above and does not believe that MACs for non-energy emissions can be used directly as offset supply curves. A number of specific issues that enter into the relationship between MACs and offset supply functions are likely to vary in importance from sector to sector and country to country.

First, the identification of specific technical opportunities in MACs may not reflect all costs that are relevant to decision makers. The identification of a significant set of “negative cost” opportunities to abate emissions reflects some combination of unidentified costs and/or other barriers, including the availability of relevant information to decision makers, which impede implementation. Information and other non-cost barriers can likely be overcome more easily than actual unidentified costs of abatement, but the respective roles of the different factors in driving observed behavior is not clear.

Second, even in the case where MACs fully characterize abatement costs, experience suggests that the diffusion of information and technology necessary to implement abatement will occur over time. Diffusion rates will likely be affected by both the profitability of the economic opportunity and institutional factors. For example, a new agricultural practice providing abatement benefits would likely diffuse more rapidly among large farms and well-educated farmers than among small traditional farmers. A third factor affecting supply relates to perceptions regarding the marketability of particular offsets. For example, while forestry projects in developing countries show significant potential according to the MACs, experience with the current Clean Development Mechanism (CDM) shows minimal activity in this abatement category. As discussed below, concerns about baselines, leakage, and the difficulty of applying counterfactual (“but for”) tests to forestry projects pose a significant barrier.

Forest Sequestration Activities in Developing Countries

Based on our review of the present programs and institutions and discussions with outside experts, EIA believes that forest sequestration activities in developing countries are unlikely to provide a major source of offset credits over the analysis horizon of 2030 for several reasons.

First, the EPA analysis measures sequestration relative to a business-as-usual forest carbon storage baseline that is sharply declining in South America, Africa, and Southeast Asia, three developing regions that supply most of the identified low-cost forest sequestration opportunities. As a practical matter, offsets would not provide an increase in observed forest carbon but rather a slowing of the rate of forest carbon decline. Implementation of such a program is inherently difficult and at a minimum would engender transactions costs that are not incorporated in the EPA analysis.

Second, forest sequestration projects are particularly subject to leakage concerns, since modification of forestry practices or forest preservation to generate offsets at particular sites can be offset by increased exploitation of non-participating forests. It will be exceedingly difficult to assure that claimed offsets from forest sequestration are actually valid on a “net” basis absent participation by all major forest areas, even if appropriate local baselines for all areas can actually be identified and agreed upon.

Third, forest sequestration does not appear to be a preferred source of CDM credits, despite the identification of significant potential for low-cost reductions. The latest “State of the Carbon Markets” report indicates that less than 1 percent of all CDM activities currently involve forest carbon or agricultural soils. As of May 22, 2007, only 1 of the 674 registered CDM projects is classified in the category of afforestation and reforestation (Figure 3). CDM activity is heavily concentrated in “industrial” activities that offer opportunities for clear project-level baselines. Section 145 (b) (1) of S.280 requires that the EPA Administrator ensure tradability of emission reductions earned under this program with reductions earned under other similar international programs. This provision may itself present a hurdle to inclusion of developing countries’ forest carbon sequestration on a project basis.

These concerns lead EIA to exclude consideration of forestry offsets in developing countries from the international offset supply.

Summary of Non-CO2 Emission Reductions and Offset Assumptions

Tables 3 to 11 quantify the emission reduction assumptions from domestic non-CO2 gases, carbon sequestration in U.S. forestry and agriculture, and surplus international emissions offsets. Each table is a schedule of emission reductions or offsets over a range of allowance prices. The tables reflect materials from EPA regarding marginal abatement costs after discounting to reflect the market penetration assumptions discussed in the previous section. Assumptions for intervening years and prices are obtained by linear interpolation.

Tables 3 to 5 present non-CO2 abatement supply from assumed covered sources: coalrelated methane, nitrous oxide from adipic and nitric acid production, and fluorinated gases. The abatement schedule for fluorinated gases does not include some additional reductions for voluntary technology adoption programs that are reflected in the policy cases. These additional reductions are represented implicitly by using EPA’s no measures baseline for non-CO2 gases in the reference case, while using their technologyadoption baseline in the policy cases.

Other Offset Assumptions

As directed in the letter from Senate staff outlining key assumptions for this analysis (Appendix B), the aggregate use of emissions offsets by covered entities is limited to 30 percent, the limit on each individual entity. Under S. 280, a 15-percent limit on offsets is available to all covered entities on an unrestricted basis, while a 30-percent limit is available to entities that supply at least 1.5 percent of their allowance commitment from carbon sequestration offsets associated with agricultural soil management practices. Also by request, a sensitivity case is included that relaxes the 30-percent limit and allows unlimited use of offsets.

An additional source of S. 280 offsets not quantified in this analysis is associated with past emission reductions of non-covered entities. Non-covered entities can register emission reductions associated with voluntary activities from 1990 through 2011. These registered reductions can be then be sold as offsets beginning in 2012. Because the provision applies only to non-covered entities, the potential size of this offset pool is relatively small and unlikely to affect the outcome of this analysis. S. 280 also allows covered entities to obtain credit for early emission reductions, but the credits only influence the share of free allowances allocated to the entities and do not affect the supply of offsets.

Allowance Banking Assumptions

S. 280 allows unused allowances to be banked for future use. Banking of allowances is assumed to occur in anticipation of future allowance price increases and increasingly stringent caps on emissions. This analysis assumes that allowance prices under banking will escalate no higher than 8 percent per year, a rate equal to the average cost of capital in the electric power sector, where a significant share of emissions reduction investments would take place.¹⁴ Borrowing allowances for future submission is allowed under S. 280, but repayment penalties essentially reflect a 10-percent real rate of interest that would presumably limit such borrowing. As a result, allowance prices are estimated such that allowance borrowing does not occur while also equilibrating the long-term supply and demand for allowances.

Since the timeline of this analysis of S. 280 only extends through 2030, assumptions had to be made regarding the post-2029 reductions in the emissions caps. Because of the reductions in the emissions cap in 2030 and 2050, entities would be expected to build up a bank of allowances in the early phases and hold a positive bank balance in 2030. EIA estimated a required allowance balance for 2030 to reflect the likely accumulation of allowances sufficient to meet the more stringent, post-2030 emission caps. The 2030 bank balance was set by solving for the 2030 bank withdrawal and setting the 2030 target bank balance so that it would be drawn down to zero over the subsequent 10 years assuming that the annual withdrawal would decline exponentially from the 2030 level at a rate of 25 percent a year. In the core policy case, the target allowance balance at the end of 2030 was set at 3,116 million metric tons carbon dioxide equivalent, based on 2030 withdrawals in test runs of about 1,100 million metric tons CO2 equivalent. At best this is a rough approximation of the market behavior that might occur and larger or smaller bank balances might be realized.

Auction Share and Revenue Allocation

Under S. 280, a portion of the emission allowances is to be distributed for free to covered entities and the rest sold at auction. The letter providing guidance for this analysis specified an assumed share of allowances to be auctioned by the CCCC of 30 percent initially, increasing at constant rate to reach 90 percent in 2030. As a sensitivity case, the auction share is 70 percent initially, rising to 90 percent in 2030. The letter also specified assumed shares for the allocation of funds by the CCCC for its various programs, as well as the split between consumers and businesses for energy technology deployment programs, and rebates for the purchase of energy-efficient appliances. These assumptions have a bearing on the macroeconomic analysis and implications for consumer incentives to promote energy efficiency, as discussed in the next section.

Residential and Commercial Rebates and Technology Assumptions

Under S. 280, the CCCC is to use proceeds of the allowance auction to fund deployment of emissions reduction technologies. In addition, a share of the proceeds is to be used to mitigate economic impacts of the policy on energy consumers through rebates and subsidies for energy-efficient appliances. To simulate these programs, EIA was asked to assume that more efficient technologies would be available for appliances in the residential and commercial sectors as a result of the technology deployment initiative, similar to methodologies used in previous studies. The technologies assumed to be available are the same as those assumed in the AEO2007 integrated high technology case. EIA also assumed that the incremental cost of those technologies is reduced by one-half due to the rebate initiative.

Changes to NEMS to Represent Industrial Process Emissions of CO2

The industrial module in NEMS was modified to calculate process emissions of CO2 from cement kiln operations. This change was undertaken because the cement industry is the largest contributor of process-related CO2 emissions in the United States. The cement industry produces cement by heating limestone in kilns. The resulting chemical reactions produce CO2 as a by-product. Since the industrial module explicitly represents cement kiln production, the process emissions can be calculated by applying the methodology used in the EIA Greenhouse Gas Inventory 2005.¹⁵ In 2005, U.S. cement kiln CO2 emissions were 46 million metrics tons, or 40 percent of total U.S. process-related CO2 emissions.

In addition, the cement industry model was revised to reduce U.S. cement clinker production if energy prices, including the cost of allowances, increase sharply compared with the reference case. In effect, this change increases the import share of U.S. cement consumption. As a result, some of the emissions reduction in the United States is offset by increased CO2 emissions abroad.

The industrial model was also revised to calculate process-related CO2 emissions from the lime manufacturing industry, which was the second largest source of process-related CO2 emissions in 2005 (15.7 million metric tons). The NEMS industrial module does not have an explicit representation of the lime manufacturing industry. Consequently, these emission projections are based on the output of the miscellaneous stone, clay, and glass industry. While no explicit abatement technologies are represented, changes in industrial output as a result of the policy influence the lime industry’s CO2 emissions.

Non-Modeled Provisions

EIA was unable to model some programs specified under S. 280. These programs include those described under Title III that establish incentives for innovation in climaterelated technologies and promote development of advanced technologies and practices. EIA is also unable to address the impacts of climate-change adaptation programs, nor are the potential benefits of S. 280 in mitigating climate change assessed.

Analysis Cases

Because of uncertainty about the availability and cost of offsets, particularly international offsets, three main policy cases were prepared. The S. 280 Core case incorporates the offset supply curves described previously. The No International case assumes that international offsets are unavailable or available at such high cost that they are economically unattractive. This might occur if the rest of the world were to increase their demand for emissions reductions by adopting aggressive emission reduction goals. On the other hand, the Fixed 30 Percent Offsets case assumes that sufficient economicallyattractive international offsets are available in all years so that covered entities can take full advantage of the 30-percent offset limit in S. 280. These three cases are meant to illustrate the importance of the supply of offsets.

The alternative cases were prepared to explore the impacts of additional areas of uncertainty:

• The Unlimited Offsets case examines the impact of removing the 30 percent offset limit in S. 280. This limit is particularly important in the later phases of the proposal when the emissions caps, and the offset limit tied to them, are lowered sharply.
• The Low Discount case assumes that investors will only require a 4-percent return on allowances rather than the higher rate of return investors generally require for large plant investments such as power plants. Recent analysis at the Massachusetts Institute of Technology examined the returns on sulfur dioxide emission allowances (SO2) and found
  that they were generally not correlated with market returns, suggesting that financial investors would treat them as relatively low risk assets.16 It is unclear whether a similar relationship might be seen in GHG allowance markets since GHG emissions are so ubiquitously linked to economic activity.
• The High Auction case was prepared in response to a request from Senate staff to examine the impact of assuming that a larger share of the allowances distributed each year are auctioned rather than given out for free.
• The No Nuclear case examines the impacts of limiting the penetration of new nuclear capacity to the level seen in the reference case. Earlier EIA analyses have suggested that nuclear power could be an important option for reducing power sector GHG emissions. However, while interest in new nuclear plants appears to be growing, uncertainty about the costs of new plants and public concerns about safety and longterm waste disposal could limit their penetration.
• The Commercial Covered case examines the impacts of assuming that all entities in the commercial sector were covered. As explained, while detailed data are not available, very few buildings are expected to meet the 10,000-metric-ton facility emission threshold in S. 280, but this case examines the potential impact if a larger than expected number did.
• The S. 280 High Technology case examines the impact of the provisions of S. 280  using more optimistic assumptions about improvements in technology. This case should be seen as a “what if” case, rather than predictive of the impacts of S. 280 from innovation incentives and technology deployment programs.

Background and Scope of the Analysis Tables

Notes