(December 13, 2010) Aldyen Donnelly looks at some of the stumbling blocks to a global climate change agreement.

US negotiators and state department officials have assured Congressional reps and industry leaders that “complete flexibility” will be built into any commitment that the US will make to transfer funds to the developing world from the developed world in the name of climate change.  They have specifically said that in that context, the US will “deliver” most if not all of the US commitment through private sector financing for developing-nation offset projects through a much-modified CDM-like mechanism.

David Strum, Obama administration strategic advisor, in an interview on CNBC, December 18, 2009 was asked if he really thought that the US Congress would approve the increase in foreign aid spending that is implied by the draft Copenhagen Accord.

“No”, he said, “this is not about foreign aid. Much of the US’s share of the $30 billion” adaptation and mitigation fund will be covered by the private sector offset credit purchases under the US cap and trade regulation.

This is still part of the US administration’s plan for fulfilling its international climate change funding commitment, which will be facilitated by emerging US EPA GHG regulations in the absence of US cap and trade legislation.

In other words, the US new “aid” commitment will largely come in the form of US private sector investment (and equity positions) in clean/emission reducing capital projects in the developing world.

Notwithstanding prohibitions under the Kyoto Protocol (KP), 100% of Japan’s funding/tax credits for corporate purchases of UN-issued Certified Emissions Reductions (CERs) under the KP comes directly from existing Official Development Assistance (“ODA” or aid) cutbacks and any new “aid” commitments sealed in Cancun will come directly from further reductions in other ODA/aid budgets, as is well reported in the Japanese media.

For a period of about five years I was a consultant on part-time retainer to the consulting subsidiary of the Sumitomo Bank.  I assisted in the development of agreements to transfer environmental technologies from the US and Canada to Japan.  Later, my Berkeley-educated Tokyo-based project manager became the senior climate change policy advisor to the President of Japan. My old project manager is a critical source of my intelligence about Japanese and Chinese negotiating positions.

Why is The Emission Measurement and Verification Debate So Important and Difficult for the US and China?

The existing UN and EU markets lack the discipline of double entry book-keeping. The UN approves and issues CERs to projects in the developing world.  To date, emissions have actually increased at over 77% of the projects (I stop analyzing the data after I hit 77%), so these CERs have no underlying environmental value.

More importantly if/when a nation approves CER exports—transferring real interest in, say 100,000 TCO2e of emission “reductions” to a developed nation—the CER importing nation nets the 100,000 TCO2e of its national GHG inventory report, but the exporting nation does not add a balancing 100,000 TCO2e to its national inventory report.

So even if the CERs represented real reductions in the host nation’s GHG inventory, which is not the case most of the time, each 1TCO2e of real reduction is double counted—once in the importing nation inventory and once in the exporting nation inventory.

We have to ask ourselves what goes for “competence” in the UN/Kyoto/Cancun world—as well as the big five accounting firms—that we have let a credits-only market with no double entry bookkeeping grow to its current size (and hype).  This is, of course, how we got the credit default swaps market and its inevitable crash.  But I would have thought the finance and accounting industries would have learned from the CDS experience.  Unfortunately, all they are doing right now is repeating it.

I have written that this global carbon market has to collapse due to the absence of double entry bookkeeping and strongly support the idea that before any developed nation delivers any funds to any developing nation, the developing nation:

• must publish and annually update a national GHG inventory, in which
• emission debits (increases) are added to physical emissions whenever that developing nation approves the export of CERs.

Think of this as much like securities markets.  No company has to publish its financial statements.  But any company that wishes to offer shares to the public has to publish and regularly update financials and properly account for share issues. If they issue more shares, the equity position of existing shareholders is diluted.

In a rational global carbon market, nations should have the option of not publishing their national GHG inventories or updating them on a timely basis.  But no nation should be permitted to offer CERs for sale unless they publish their national GHG inventory and properly account for sales of real interest in any reductions purportedly achieved in that inventory.

They should be de-listed (no longer able to sell CERs) if they do not update the national inventory once each year, or fail to fully account for CER sales by adding 1TCO2e to their national inventory every time they export real interest in 1 CER.

The US-China Conflict on Measurement and Verification: Part 1

With respect to the first part of the US-China conflict on “measurement and reporting”, Canada should side with the US position that would require developing nations to publish and maintain a verifiable national GHG inventory—or at least a verifiable inventory for any sectors that will generate CERs—as a “pre-listing” requirement if those nations wish to export CERs.

But please be forewarned, the US negotiators win this negotiation no matter how it turns out.  If China says “yes”, this more or less shuts down the existing Chinese CER supply and the whole UN/CDM market.  If China maintains its “no” position, the US negotiations create a solid foundation for WTO-proof tariffs on carbon-intensive Chinese imports as long as China fails to comply with the US GHG inventory publication and maintenance request.

US negotiators are demanding timely national GHG inventory reporting and accounting procedures that are only about half way to what I would describe as fully integrating the discipline of double-entry book-keeping in carbon credit markets.  China and the G77 are opposing this most basic measurement/accounting fix.

Under the Kyoto Protocol, the UN told the developing world that they can both export and keep real interest in CERs—and the UN has implemented a series of “emission reduction” creation protocols that generate, on average, 2 to 7 CERs per potentially reportable reduction from a reasonable national emission growth baseline, if they represent any reductions at all. It can be reasonably argued that 70% of UN/CDM protocols motivate developing nations to increase GHGs at a faster than baseline/no CDM programme rate.

China and the G77 are currently unwilling to give up this emission reduction-free cashflow.

Please note that this one issue—the Europeans’ approval of a CER-generating methodology that delivers useless CERs to the developing world—is what motivated the Clinton administration, in November 1998, to notify the other parties of its intent to withdraw from the Kyoto Protocol unless this issue was addressed before December 31, 2000.  It was not addressed and G.W. Bush executed the plan to withdraw from the KP that Clinton/Gore published in 1998.

EU and Japanese negotiators are willing to continue to compromise, somewhat, accounting procedures to enable China and other developing nations to generate and double count CERs with no underlying environmental value, because they see this as a low cost way to finance fake compliance with their GHG reduction commitments, and most of the CERs imported into the Japanese and EU national inventories originate in high-emitting developing nation plants that are partially owned and controlled by Japanese and European corporations (Ineos Fluor, Rhodia, LaFarge, Rio Tinto Alcan, Super Agricole, a series of Spanish power utilities, E.On, Enel, etc.)

The US-China Conflict: Part 2

With respect to the first part of the US-China conflict on “measurement and reporting”, Canada should side with China.

Domestically, US negotiators are also proposing a CER-project registration process that is comparable to the process with which Canadian biofuels exporters would have to comply to earn the authorization to generation and ship their product with RINs that is outlined in the existing US Renewable Fuel Standard (RFS).  In the CER/US offset credit market context, to get US authorization to supply CERs to US buyers, the foreign project/asset owner must:

• allow US EPA inspectors direct access to the CER-generating project/plant as if the plant was located in the US;
• disclose a wide range of potentially competitively sensitive plant operating data and information to any inspector the EPA elects to send into the plant;
• comply with US EPA regulations that would apply if that plant was located in the US, and waive sovereign immunity against prosecution in the US for failure to comply with those regulations;
• appoint a US agent to represent the plant owners in the US;
• directly report energy, other input, key operating and emissions data directly to the EPA, as if the plant/project was located on US soils.

Recently, the US negotiators have said that the US might be willing to let the UN play the monitoring inspection and oversight roles that are assigned to the US EPA, above.  But any final implementation of an agreement that puts the UN in that role will require the UN agency to which these tasks are assigned to comply with US laws and only use US-certified auditors, verifiers and inspectors.  And the US is still insisting on direct US EPA access to project/plant-level operating data, including commercially/competitively sensitive plant operating information.

It has been reported that China and India have rejected a “demand” that the UN play a monitoring role.  My Asian contacts tell me that this reporting is inaccurate.  As I understand it, China and India are rejecting the idea that the US EPA gets direct access to all of the project/facility-level operating data, whether that data is delivered directly to US EPA-appointed inspectors or to UN-appointed, US  EPA-approved inspectors who, in turn, will be obliged to deliver all of the raw plant-level data to the US EPA.

The US regulations will not accept CER/offset credit trade from any project that does not comply with these requirements.  This incursion into areas of our national sovereignty should be as unacceptable to Canada as it is to China and India.

But China faces a larger challenge.  US officials have been very clear in the US: the US commitment to “fund” climate change mitigation measures in developing nations is primarily a commitment:

• to promulgate domestic regulations that will create US private sector demand for a new class of EPA-verifiable CERs and
• deliver the lion’s share (but not 100%) of the US new climate change mitigation and adaptation “aid” commitment through US private sector demand for these CERs.

As I said before, these US incursions in areas of national sovereignty are already embedded in US law in the existing US Renewable Fuel Standard and Reformulated and Conventional Gasollne regulations, and the US negotiators do not see any reason not to carry these highly trade protectionist terms into any and every energy, carbon-intensive goods and carbon market strategy, or trade agreement that might be presented in the near future.

The President can authorize the EPA to impose these and a mirror image of the terms in the existing RFG and RFS regulations on all US imports unless/until those of us who trade with the US enact primarily defensive domestic regulations to pull the rug out from under this highly protectionist strategy.  The US does not intend to negotiate these details.  They only show up at the detailed regulation stage.

China knows this.  It is not clear that Canadian negotiators do.

How the US Regulations Will Mix Up the US International Funding Commitment and the CER Market

There are a number of ways for the US to deliver their new “aid” commitment through a US domestic offset market.

Assume American company A negotiates a CER deal with Chinese Company C.  The simplest administrative procedure is to compel CER-exporting nations to deliver CERs to an EPA-administered registry, on company C’s behalf.  Then Company A pays cash directly to the EPA.  The EPA then retires the CERs and issues a US GHG credit or allowance to US company A, which company A can apply toward compliance with their New Source GHG limits.  The EPA then transfers the cash supplied by the US company to whatever is the designated UN climate change fund, with the cash transfer stipulating that the cash must be used to fund projects in China.  It is up to the government of China and Chinese company C to make such arrangements as are necessary to get cash from the Chinese govt to the original CER supplier.

The EPA can regulate (without new law) that the US offset credits that the EPA issued in exchange for the imported CERs can be remitted by US regulated entities, with limitations, to offset the GHG limits embedded in US New Source GHG permits, or to increase emissions at existing US sources after the permitting regulation for existing sources becomes law (anticipate late 2011).

In other words, the EPA is well positioned to quickly create significant US demand for the new CER-backed US credits without getting Congress to pass any new law or going through the full process of getting a new US ‘cap and trade” regime up and running.

Note that the following has been the case in every climate change bill and/or regulation that accommodates offset credits and has been proposed federally or at the state level since 1999:

• The US never certifies a domestic or foreign offset credit or allowance as a US compliance unit.  In other words, foreign offset certificates and allowances are NEVER “fungible” with US government-issued allowances or offset credits.
• The US always does (as in the Los Angeles RECLAIM market) create a US allowance or credit “set-aside”, which is a supply of US certificates that the US market administrator may issue in exchange for a domestic or foreign offset credit.

This procedure liberates the US market administrators to discriminate against any set or class of domestic or foreign credits or allowances in a unique way, by setting up different exchange rates and conditions for each foreign certificate by country, sector and/or activity of origin.

The US Reformulated and Conventional Gasoline Standard (“RFG”): Most Elegant Trade Protectionism, Soon to Be Replayed in US Energy and Carbon Markets

You can read the “RFG” standard and its background in detail, here.

It’s complicated and I would advise you against trying to work through it.  I do, however,  encourage you to read the detail below, because it is a picture of what is to come in US energy and carbon-based commodity regulations that the EPA has already drafted, but not yet released to the public.

Summary History

In 1991, G.H.W. Bush signed significant amendments to the US Clean Air Act (CAA) into law.  Among the amendments were some that revised the pre-existing “Prevention of Significant Deterioration” (PSD) regulations so that:

• Every airshed in the US would get a rating for each of (1) risk of smog (measured in ambient NOx and VOC concentrations), (2) risk of acid rain (measured in ambient SO2 and NOx concentrations), and (3) other factors
• Each airshed would be deemed to be: in attainment—no to low risk of falling into non-attainment within the next 10 years, in attainment—but at risk of falling into non-attainment within the next 10 years, in non-attainment, in moderate non-attainment, in severe non-attainment.
• Starting in 1997, it would be illegal for any person to sell conventional gasoline in any airshed in non-attainment.  Depending on the level of non-attainment, this restriction might be year-round or might be just for the summer season.  The gasoline formulation that must be sold in US non-attainment airsheds must be deemed to be “Reformulated Gasoline” (RFG), i.e. it must contain a high oxygenate content by volume.  Gasoline with higher oxygenate content produces lower tailpipe NOx emissions.  The trade-off for the lower tailpipe NOx is lower fuel efficiency and higher GHGs per mile of vehicle use.

At the time the regulations were being drafted, it was already the case that some US distributors were already supplying relatively high-oxygenate/low NOx-but-still-conventional-gasoline into many US airsheds, including airsheds that were in attainment.  The EPA did not want these distributors to simply cut the oxygenate content in the fuel they delivered to airsheds in attainment to redirect existing oxygenate supplies to gasoline sales to non-attainment areas, at very low cost to the fuel supplier.

Among other things, this would simply accelerate the rate at which air quality diminished in  airsheds currently “in attainment”.

Pursuant the authority vested in the EPA under the 1991 CAA amendments, the first formal US RFG regulation was promulgated in 1993 and came into full effect in 1995.  In addition to regulating RFG-only gasoline sales in airsheds in non-attainment, the regulation stipulated that after 1995 no distributor could sell a US-wide portfolio of any combination of reformulated and conventional gasoline that would have a NOx/US gallon average rating that was above the NOx/US gallon rating of their 1990 US sales portfolio.

To calculate their sales portfolio average rating, the US distributors of gasoline insert data prescribed by the EPA into a NOx emission estimation model that was produced and is maintained by the EPA.  The model generates global full fuel cycle—not just tailpipe but including refinery—NOx and other pollution estimates, given estimates of the feedstocks and equipment the refineries use, their operating parameters and the actual formulations of the fuels they produce.

This is a very and apparently unnecessarily convoluted method to ensure that US distributors did not just shift oxygenate supplies from attainment to non-attainment areas.  If the EPA’s only goal was to stop that market response, all it had to do is regulate that no distributor could lower oxygenate levels in attainment areas below their 1995 sales levels.

But the Clinton administration was intent on using the RFG regulation to introduce a permanent and unfair barrier to gasoline imports—and they were successful.

The regulation made it necessary for the EPA to set a NOx and other pollutant 1990 BASELINE for each refinery that sells gasoline into the US.  The final RFG regulation effectively stipulates that if foreign refineries that supplied US markets in 1990 did not document, report and verify refinery-level feedstocks, equipment operating statistics and emissions to their domestic regulators in exactly the same manner that those factors were reported and verified by US refineries under US law, then the EPA had no obligation to accept any foreign supplier 1990 NOx rating claim for ” baseline setting” purposes.

Same for new foreign suppliers of gasoline to the US (who did not have sales in 1990).

The regulation establishes a default or “benchmark” 1990 baseline NOx/US gallon of gasoline sales factor for fuel that originates outside the US at refineries that were not subject to US-equivalent fuel input, feedstock and emissions reporting standards in 1990, or are new suppliers that are not subject to US-comparable refinery-level emission regulations today.  The BASELINE factor (micrograms of NOx/US gallon of gasoline) effectively establishes a physical limit to the suppliers’ share of the US gasoline market.  The higher the BASELINE factor that is assigned to a refinery, the lower its effective US gasoline market share limit.

The procedures for establishing NOx and other pollutant baselines to determine maximum foreign suppliers’ share of the US gasoline market are outlined in Subpart E of the RFG regulation entitled “Anti-Dumping”.  So I would not call the regulatory agenda subtle.

My understanding is that the technical team guiding the Chinese negotiators at Cancun are—quite rightly in my view—opposing the US “measurement, verification and reporting” proposals because they  (also rightly) understand that the US implementation of any agreement in respect to carbon-based commodities will follow the model of the US implementation of the RFG standard, which, in turn, was the original model for the highly discriminatory and protectionist nature of the US Renewable Fuels Standard law in 2007.

So the Chinese negotiators are simply forecasting that the US will act in the future in exactly the same way it has acted in the very recent past.

Canada and a number of other nations participated in a Brazil and Venezuela-led WTO challenge of the original US RFG regulation.  In June 1996, the WTO produced a preliminary decision saying, in effect, that the US:

• did not have the option of arbitrarily setting a less generous BENCHMARK BASELINE NOx factors for foreign refineries than they set for 1990 non-reporting US refineries, but
• did have the option of introducing a conservative BENCHMARK BASELINE NOx factor for any foreign that was not complying with the most stringent US 1990 facility-level reporting obligations.

Some of the actual wording in the 1993 RFG regulation (as modified in 1997 to reflect the WTO decision) follows.  The regulation invites foreign suppliers to make a “baseline petition”, which is an application to the EPA to recognize estimates of actual foreign refinery 1990 emissions, which is called INDIVIDUAL BASELINE or “IB”. The main message here is that the EPA pulls a complete end-run on the foreign national authorities for any refinery operators that petition for an IB, and obliges the foreign refinery to report directly to the EPA as if it was located in the US.

It is not surprising that the Chinese negotiators are opposed to any such procedure.  What is surprising is that the government of Canada at least appears to be willing to accept this treatment.

From the existing US RFG regulation:

“Baseline petitions must be submitted in the same manner as is required of domestic refiners under section 80.93. Baseline petitions must be submitted before January 1, 2002. EPA is requiring the same type and quality of information and level of accuracy in establishing a baseline no matter when a foreign refiner applies for a baseline.

EPA is requiring that in order for a refinery to receive an approved baseline, the refinery must commit to give EPA’s auditors full access to the foreign refinery to conduct announced and unannounced inspections and audits related to the baseline development and submission. EPA baseline audits could occur at any time after a baseline petition has been submitted, either before or after EPA approves a refinery baseline.

Under section 80.93(b)(1)(i) foreign refiners are required to provide any additional information requested by EPA to support a baseline submittal or petition, as is required for domestic refiners.

Under section 80.93(c) a separate baseline will be established for each foreign refinery. However, as is the case of U.S. refiners a foreign refiner could petition EPA for a single refinery baseline for two closely integrated facilities under section 80.91(e)(1).

In addition, as is the case for U.S. refiners, a foreign refiner who operates more than one refinery with individual baselines would be able to aggregate the baselines of some or all of its refineries under section 80.101(h). All documentation included in a baseline submission or petition must be in the English language or include an English language translation.

ii. EPA Action on Baseline Submissions: As for the domestic refiner baseline approval process, EPA will subject foreign refinery baseline submissions to an in-depth analysis and review. EPA also reserves the right to inspect, audit and review all records or facilities used to generate data submitted to the Agency prior to acting on a baseline submission or petition.

…Further guidance on EPA’s expectations for the petition submission and approval process is provided in the proposed rule at 62 FR 24781 (May 6, 1997)… The information foreign refineries petitioning for baseline have to submit, annually and directly to the US EPA includes but is not limited to:

“(10) Refinery information. The following information, on a summer or winter basis, shall be provided:

(i) Refinery block flow diagram, showing principal refining units;
(ii) Principal refining unit charge rates and capacities;
(iii) Crude types utilized (names, gravities, and sulfur content) and crude charge rates; and
(iv) Information on the following units, if utilized in the refinery:
(A) Catalytic Cracking Unit: conversion, unit yields, gasoline fuel parameter values (per § 80.91(a)(2));
(B) Hydrocracking Unit: unit yields, gasoline fuel parameter values (per § 80.91(a)(2));
(C) Catalytic Reformer: unit yields, severities;
(D) Bottoms Processing Units (including, but not limited to, coking, extraction and hydrogen processing): gasoline stream yields;

“In addition, foreign refiners with an individual refinery baseline will be required to meet all requirements used to demonstrate compliance with the [US] Conventional Gasoline emissions requirements. Certain adjustments to these provisions are specified in the regulations to apply them to foreign refiners. These are the same requirements that apply to domestic refiners, and include the following:

To register with EPA, section 80.103…

To determine the volume and properties of each certified [reformulated gasoline] FRGAS batch through sampling and testing, section 80.101(i).

To determine the volume of each batch of non-certified FRGAS in order to complete the compliance baseline calculation in section 80.101(f).

To submit reports to EPA on each batch of FRGAS, on the volume of non-certified FRGAS, and on the annual average quality of certified FRGAS, sections 80.75 and 80.105.

To comply with an annual cap on the volume of specified blendstocks that are transferred to others and used to produce gasoline for the U.S., section 80.102.

To have an independent audit performed of refinery operations each year to review certain activities related to the FRGAS requirements, sections 80.125 through 80.130…“U.S. importers are required to report to EPA on each batch of FRGAS imported, identifying the foreign refinery, whether the FRGAS is certified or non-certified, the volume and properties of certified FRGAS, and the volume of non-certified FRGAS.”

“(j) Sovereign immunity. By submitting a petition for an individual foreign refinery baseline…or by producing and exporting gasoline to the United States under an individual refinery baseline…the foreign refiner, its agents, officers, and employees, without exception, become subject to the full operation of the administrative and judicial enforcement powers and provisions of the United States without limitation based on sovereign immunity, with respect to actions instituted against the foreign refiner, its agents, officers, and employees in any court or other tribunal in the United States for conduct that violates the requirements applicable to the foreign refiner…including such conduct that violates Title 18 U.S.C. section 1001, Clean Air Act section 113(c)(2), or other applicable provisions of the Clean Air Act.”

In other words, it is not jut sufficient that the fuel formulation for gasoline exported into the US meets the US gasoline quality standard, it is also required that the foreign refinery complies with the refinery emissions and operating standards that apply to US refineries under the CAA, and the foreign refinery operator has to waive sovereign immunity to facilitate prosecution of its owners under US law as if the refinery and its owners were located in the US.  And…

“k) Bond posting…(1) The foreign refiner shall post a bond of the amount calculated using the following equation:

Bond = G × $0.01

where:
Bond = amount of the bond in U.S. dollars G = the largest volume of conventional gasoline produced at the foreign refinery and exported to the United States, in gallons [over the last 5 calendar years].”

While some foreign suppliers might be able to produce data for their 1990 production year that meets EPS’s requirements, and successfully “petition for a baseline”, most find this obligation to report directly to the EPA as if the plant is located in the USA and comply with CAA regulations for US refineries a very intimidating venture with great risk of further direct US intervention in their day to day operations.  Many elect not to petition for a baseline because they, reasonably, do not want to share commercially sensitive information and plant access to the extent that the EPA demands.

The original regulation also introduces a default “1990″ or BENCHMARK BASELINE NOx standard for long-standing US suppliers, new market entrants or small US refineries that did not have to comply with stringent US facility level reporting standards in 1990, and who do not wish to petition for an IB.

Ideally, EPA would use the volume weighted average of the quality of gasoline sent to the U.S. by foreign refineries in 1990. EPA does not have this information, but does have information on the volume weighted average baselines for domestic refineries..

Now, before I go on, I ask you to remember that under this regulation, it is the foreign suppliers’ BASELINE NOx factor that determines the effective limit on their combined reformulated and conventional gasoline sales to the US.  The higher the BASELINE NOx factor (in micrograms per mile) for the combined sales, the lower the limit on their total sales into the US.

Reportedly due to the lack of good data on foreign suppliers’ 1990 emissions, the existing regulation stipulates that the BENCHMARK BASELINE (US gasoline sales cap-determining) for foreign refineries that do not succeed in their petition to have the US EPA recognize their actual Nox baseline or IB), will be 1,465 mg/mile:

The body of the regulation says:

“There is no available data indicating that gasoline imported from foreign refineries was not consistent with [the US refinery] average, and absent evidence to the contrary it is not unreasonable to assume that average foreign gasoline quality in 1990 was generally equivalent to domestic gasoline quality…[therefore the] EPA is setting this benchmark for NOX at the volume weighted baseline average for domestic refiners: 1465 mg/mile for NOX… This value is based on the [US EPA-administered] Phase 2 Complex Model…

Then the regulation requires all foreign and domestic refineries to recalculate the actual NOx factor for all US sales, starting in 2000, where each year the recalculation reflect the average NOx/US gallon of US sales factor for the prior three years (1998 and 1999 only for the 2000 calculation).  Then the regulation stipulates that:

“(2)(i) If the volume-weighted average NOX emissions (MYANOx), calculated in paragraph (p)(1) of this section, is greater than 1,465 mg/mile , the Administrator
shall calculate an adjusted baseline for NOX.”

But the regulation does not provide for adjustments in the Benchmark Baseline for foreign refineries if/when the actual data submitted starting in 2000 demonstrates that the imported gasoline originates in foreign refineries actually has a lower NOx rating than the baseline..

In other words, foreign suppliers’ share of the US gasoline market is established using a global full fuel cycle NOx/mile factor that reflects US refinery-average production factors unless 2000 and later actual data reporting demonstrates that the foreign refinery generates higher global supply chain NOx emissions than the US average.

If the actual data reported in 2000 and thereafter proves the foreign refinery has a higher actual global supply chain NOx/mile factor than the US refinery average, the BENCHMARK BASELINE factor for that refinery’s exports to the US will be adjusted up to reflect the refinery’s inferior performance (thereby reducing the effective cap on that refinery’s share of the US gasoline market).

But if the actual data reported in 2000 and thereafter proves the foreign refinery has a lower global supply chain NOx/mile than the US average, the BENCHMARK BASELINE factor for that refinery’s exports to the US will remain equal to the US refinery average, preventing the foreign refineries to increase US gasoline market share by reducing their global fuel cycle NOx emissions.

Of course, it would be simpler and fairer to regulate that a supplier’s baseline is the LESSER of the 1990 or 2000 and subsequent reported NOx factors.  But this would not protect higher-emitting US refineries from increased competition from lower emitting foreign suppliers.

In the preamble to the 1997 final regulation, right after saying that it is justified in applying the US refinery average 1465 mg/mile NOx factor to all foreign suppliers that have not successfully petitioned for an “Individual Baseline” (IB)—which petition means the foreign refinery waives sovereign immunity and, if successful, would make the foreign refinery subject to the US Clean Air Act regulations that apply to US refineries (as distinct from the US quality standards that apply to all gasoline sold in the US), the EPA says:

“In 1995 the volume weighted average for NOX for imported gasoline was 1415.9 mg/mile…and the volume weighted average for domestic baselines was 1465 mg/mile.”

In other words, the US EPA BENCHMARK BASELINE-setting process assigns an artificially high Nox factor to all gasoline imports, which could not be justified if the US EPA had elected to use 1995 sales as the basis for establishing foreign suppliers’ baselines instead of 1990.  The only reason the US EPA selected the 1990 baseline—when 1995 there is no difference between the 1990 and 1995 US refinerird actual average NOx factor—is that electing to use 1990 as the base year enabled the EPA to apply an artificially high NOx factor to imported gasoline based on the “no credible data is available” argument.

And, a WTO Tribunal upheld the US government’s right to do this.

Note that, in 2000, the EPA reported:

” EPA has completed an analysis of the emissions data reported to us by importers and foreign refiners, for CG imported during this [1998 and 1999] time period. The analysis indicates that the volume weighted average NOx emissions value for the imported CG is 1374.44 mg/mile . Since this value does not exceed the benchmark value of 1465 mg/mile, no adjustment to the baseline for importers of CG is appropriate under 40 CFR 80.94(p)(2).”

So the WTO-upheld Nox factor limiting foreign suppliers’ US gasoline market share remains, today, at 1465 mg/mile when even the US EPA admits that as far back as 2000 the actual, verifiable average NOx factor for foreign refineries supplying gasoline to the US was 1374.44 mg/mile—much lower than the US refineries’ average (which was still 1465 mg/mile in 2000).    Since the higher the NOx factor the lower the maximum allowable sales of foreign gasoline into the US, this procedure significantly—and perversely—discriminates against US gasoline imports, including but not limited to gasoline imported from Canada.

Adapting the RFG Protectionist Mechanism In Broader Carbon-based Commodity and Carbon Markets

In November 2007, the US Senate passed the Bingamen-Spector (B-S) climate change bill at 2nd reading by a large majority.  The bill went into committee but did not make it to 3rd reading largely because the democratic House majority that formed in 2008 decided to push a competing climate change bill that was more about generating new tax revenues than emission reductions.  Even the new, more Republican 2010 Senate–which would never find majority support the more tax-revenue-oriented Waxman-Markey bill–would still, today, likely find a majority vote in favour of a US climate change bill modelled more closely to the original B-S bill.

For this reason, the GHG regulations under development by the US EPA are closely modelled after the B-S bill.

The B-S bill (and fully drafted but only partially public EPA GHG regulations) obliges US importers of carbon-intensive goods and energy services to report foreign upstream emissions associated with their carbon-intensive commodity (energy, cement, iron & steel, aluminum, chemicals, glass, pulp paper and paperboard, beef and grain) imports into the US.  When US imports originate at power plants, refineries, aluminum smelters, etc. that do not–under Canadian regulations–report fuel and feedstock inputs, emissions, operating hours and energy consumption by process, stack and/or combustion unit, and which reports are not subject to EPA-equivalent verification and enforcement provisions, the EPA-proposed GHG regulations establish “conservative” default foreign upstream emission factors “to encourage the foreign suppliers to adopt credible US-comparable reporting standards.”

The US administration’s and EPA’s position continues to be that the US regulators cannot trust any national, sectoral or facility-level emission claim in the absence of US-style facility level fuel, feedstock, process and emissions reporting regulations.  So the US position is that Canada’s nation-level emission inventory is not credible because of the deficiency in our facility-level reporting rules.

Back to the B-S bill…that bill stipulated that the emission factors that will be applied to 2016 US imports of regulated carbon intensive products will reflect 2011-2013 actual production emissions (if they are reported directly to the EPA and subject to US law) or a conservative (discriminatory) EPA-dictated default factor for products originating in Canadian and other outside-US plants.  For 2017 US imports, the US assigned carbon charge will reflect 2012-2014 actual production emissions under EPA regulation, or a conservative (discriminatory) EPA-dictated default factor for products originating in Canadian and other outside-US plants.  For 2018 US imports, the US assigned carbon charge will reflect 2013-2015 actual production emissions under EPA regulation, or a conservative (discriminatory) EPA-dictated default factor for products originating in Canadian and other outside-US plants.  Etc.

Therefore:

Urgent and first priority in any Canadian Economic and Energy strategy is the relatively simple but still unscheduled activity on revising Canadian facility-level fuel use, feedstock input and emission (not just GHG) reporting regulations to ensure Canadian reporting regulations are:

• Less costly to administer and less invasive than existing laws, but
• “Comparable” to US law under a WTO—not a US EPA, Commerce or State department—definition of “Comparable”, so that
• When highly protectionist US GHG regulations are tabled it is clear that they will not be upheld by a WTO Tribunal.

If we get the new Canadian reporting rules right, it becomes likely that Canadian interests with US operations could also successfully challenge the US regulations in US courts.  If/when we think we have the foundation for such a successful action in place we may be able to get the US regulators to back down under the real threat of US court challenge.  It would always be best to try to wind the negotiation without having to go to any court.

Aldyen Donnelly, December 13, 2010