The California Air Resources Board (ARB) voted last Friday to adopt amendments to the existing cap-and-trade program and the Mine Methane Capture (MMC) offset protocol. The vote was the final step in a nearly year-long process at the ARB.
Changes to the existing cap-and-trade program were originally in front of the Board last October, at which time the Board directed staff to make additional changes and gather additional comment from stakeholders. A process called a 15-day change ensued which yielded the proposed amendment package adopted last week by the Board. Next, ARB will produce the First Statement of Reasons (FSoR) and send it to the Office of Administrative Law (OAL) so the package can formally become part of the regulation. Adopted amendments are expected to become effective July 1, 2014.
The adopted amendments to the regulation were broad-reaching, impacting most market participants. Below, we provide a brief overview of the major changes.
Compliance Surrender – order specification requires removal of offsets first, then reserve allowances from compliance accounts. The rationale, according to ARB, is that these instruments can’t be auctioned in the event an account is closed. In response to concerns an entity may surrender offsets greater than their allotment, ARB modified the amendments so ARB can surrender no more than 8% offsets of an entity’s annual obligation [from an entity’s compliance account] at the annual surrender.
Resource Shuffling – the ARB officially adopted “Safe Harbor” provisions which define a list of activities energy market participants can engage in that do not constitute a violation of the resource shuffling rules. The adopted amendments were based on the guidance issued by ARB in November 2012. While shuffling is still prohibited, a legal attestation from a person in the regulated entity is no longer a requirement in the regulation. This was a hotly debated part of the cap-and-trade program that had associated legal risks. The adopted provisions reflect broad consensus from stakeholders.
Industry Assistance and Allocations – amendments designed to reduce leakage risk add modifications to existing benchmarks and move the food sector (and others) to product-based benchmarks. Overall, the changes yield greater levels of free allowances for industry. In addition, ARB has adjusted assistance factors for several sectors meaning greater levels of free allocations in the second and third compliance periods. Sectors with a product-based benchmark will receive “true-up allowances” and will be granted limited borrowing, i.e. these sectors will receive 2015 vintage CCAs in connection with their 2013 allocation true-ups. Those future vintage CCAs are useable against first compliance period obligations [for those entities only] resulting in greater compliance flexibility.
The refinery sector will transition to a complexity-weighted barrel (CWB) method of allocation to address emissions associated with refined products. Natural gas utilities will receive free allocations based on their 2011 emissions. In 2015, they will receive roughly 98% declining to around 85% by 2020. In addition, the sector will be required to consign a portion to the auction – 25% in 2015 increasing by 5% annually. Currently there is an Order Instituting Rulemaking (OIR) at the Public Utility Commission to determine gas utility carbon market participation rules.
Based on the new regulatory amendments, entities in legacy contracts (executed prior to September 1, 2006) that do not have an industrial counterparty must apply to receive free allocations from 2013-2017. Legacy contract generators with industrial counterparties whom have allocation assistance will receive a distribution of industry allocations [from ARB] for the term of the contract. Legacy contract generators must submit a letter to ARB by September 2nd each year for free allocations. These entities will be allowed to use true-up allowances.
Electric Distribution Utilities (EDUs) and Natural Gas Utilities (NGUs) must submit their allowance distribution preference to ARB by the September 1st deadline or ARB will automatically place all allocated CCAs into the entity’s limited use holding account.
For budget years 2015-2020, annual allocations for industrial assistance will be placed in the entity’s annual allocation holding account on or before October 24th or the first business day thereafter starting in 2014.
Trading and Market Oversight – amendments add additional disclosure on allowance and offset transfers for more complex bilateral contracts, i.e. index deals, multiple deliveries, etc., once CITSS can accept such information starting January 1, 2015. The ARB strengthened market monitoring in the latest round of amendments, generally, by requiring additional disclosure on transactions and relationships between market participants. For example, ARB is now requiring contractors and advisors disclose additional information about their access to client information as well as a notarized letter to ARB from their employer if they are registering as a voluntary associated entity. Finally, ARB made modifications allowing quarterly updates of information related to corporate associations for entities not registered in CITSS.
ARB has made slight modifications to the limited exemption from the holding limit. The limited exemption is the amount an entity can shield from the holding limit by placing instruments in the compliance account. The amount is a function of historical emissions. The dates have changed for the calculation – the exemption amount increases each year on Nov 2nd. ARB has a provision if an entity expects emissions to increase substantially whereby they petition to have the exemption limit increased. Holding limit on future vintage is calculated for each vintage year – approx 11 million for each year.
Offsets – the fifth compliance offset protocol was adopted – the Mine Methane Capture (MMC) protocol. The protocol will provide offset credit for the capture and destruction of methane for coal mining operations in the United States. The captured methane can be destroyed through a variety of methods including flare, beneficial use such as methane-to-energy, or oxidation – also known as ventilation air methane (VAM). The MMC protocol has been estimated to generate 30-60 million offsets starting in early 2015. In addition to the new protocol, the ARB adopted amendments to streamline the project review process and harmonized the invalidation risk provisions across offset types.
If you have any questions on the package of amendments adopted today, or the market’s response, please contact our US Carbon team at: +1 415.963.9137 or +1 914.323.0265.