Question 2 - Allocation (Page 2)

Pew Center on Global Climate Change Response to:

"Design Elements of a Mandatory
Market-Based Greenhouse Gas Regulatory System"

Issued by Sen. Pete V. Domenici and Sen. Jeff Bingaman
February 2006

Question 2

Should the costs of regulation be mitigated for any sector of the economy, through the allocation of allowances without cost?  Or, should allowances be distributed by means of an auction?  If allowances are allocated, what is the criteria for and method of such allocation?

Pew Center Response (continued)

Company Perspectives on Design Considerations

Among the companies the Pew Center surveyed, there was little consensus on the method of allocation.  Opinions fell into a small number of distinct “camps” based on financial implications of various allocation methodologies.

The electric power utilities hold the strongest views, but these differ significantly, based largely on the relative carbon intensity of their generating fleets, which in turn corresponds to their fuel mix.   Power companies with a relatively low-carbon fuel mix prefer allocation based on electricity output.  Power companies with relatively high-carbon fuel mix prefer allocation based on historic emissions.  Some manufacturing companies agree with the latter approach, based in part on their interests as large power users and depending on the carbon intensity of the generators supplying their electricity.  Power companies in both camps indicate a willingness to consider compromise approaches depending on other aspects of a regulatory design package.  Some utilities note that a compromise approach might involve beginning with an input-focused allocation that transitions over a period of years toward a more output-based allocation.  Another utility points out the challenge and importance of reconciling differences between regions and economies fueled primarily by coal and regions with abundant natural gas.

Allocation is just one aspect of the larger picture in which all design elements will be considered. Some note that allowance distribution could serve as a means for awarding credit for early action. One utility holds that it is better to minimize the cost impacts on power customers in advance – i.e., at the allocation stage – rather than through the recycling of allowances. Another company suggests allocating allowances based on technology “benchmarking,” which would determine a reasonable baseline level that reflects a balance of technologies used across an industry.

Another company suggests that the allocation system can and should be used to encourage the power generation sector to transition from higher carbon-intensity fleet to a lower one. They believe that instead of viewing allocation as a “compensation” issue, it is important to use the allocation process both to create the bridge to a new energy future and to send a message to the power sector of the overall direction Congress wants the industry to take.

One utility makes the important point that allocation is not the driving force on new plant investment decisions – rather, choice of new plants is based on the overall price signal created by the cap and associated flexibility mechanisms. Finally, there were differing opinions among the surveyed companies as to whether the federal or state government should play the role of deciding how much to allocate to individual emitters.