Carbon Pricing Sticks Out as Senate Climate Bill's Main Obstacle

Senate advocates of comprehensive global warming and energy legislation are stuck on a fundamental question: How should they structure the first-ever price on greenhouse gas emissions?

"What's the mechanism for pricing carbon is the real key here," Sen. John Kerry (D-Mass.), a lead author of the nascent bill, said yesterday. "That's what we're trying to figure out, is how we do that in the most effective way."

The search includes a cap-and-trade system like the one in the House-passed climate bill, which divided up valuable emission credits among constituents representing more than three-quarters of the U.S. economy. They are also looking at how to mesh other popular approaches, including a cap-and-dividend system that auctions off pollution permits with the revenue sent back to the public to compensate for higher costs on energy bills and consumer goods.

Kerry and Sens. Lindsey Graham (R-S.C.) and Joe Lieberman (I-Conn.) are also weighing a plan to phase in emission limits for different industrial sectors, beginning with power plants and large stationary sources, and placing the nation's transportation fuels under a carbon tax that rises based on the compliance costs faced by the other major emitters.

"Yeah, it's complicated, but doable," Graham said. "You have to look at it anew. There are different ways to price carbon from different sectors of the economy."

Ultimately, the three senators want to come up with a "hybrid" system that meshes together a number of seemingly competing ideas. That means addressing the politics that come with many different constituent groups, from free allowances for senators who represent states with trade-sensitive industries to a tax rebate aimed at placating budget-hawk Republicans.

"It will be different from anything that's been put on the table in the House or Senate to date," Kerry said. "It'll be comprehensive. And I hope it'll change the debate."

The trio does not plan to release any details until next month at the earliest. Nonetheless, the senators said closed-door talks over the last four months have boiled down to some critical questions centering on how to help consumers and industry deal with the transition costs that would come during the early years of a new climate program.

"Starting it is difficult in terms of ratepayer impact, from the low-income consumers to heavy energy users who are in manufacturing competition with China and India," Graham said. "It's a delicate cocktail we're trying to create here."

"I'm sure it'll have its detractors right away, because that's the nature of politics, but really take a look at where we're going when we finally land," Kerry added.

President Obama's top climate and energy adviser, Carol Browner, said the administration won't be offering any specific preferences to the Senate as it weighs the different carbon pricing options.

"We'll leave that to the Senate to figure that out," Browner said. "The more ideas put out there, the better this debate is going to be."

Debating cap and dividend

One of the biggest questions facing the Senate trio involves whether to auction off most of the allowances or give them away to industry constituents.

Sen. Maria Cantwell (D-Wash.) said this week she is not sure what Kerry and company have in mind when they describe their "hybrid" approach. She would rather start with her "cap and dividend" idea, written with Sen. Susan Collins (R-Maine), and build out from there.

"I don't know what they're talking about," Cantwell said. "I'm just saying, this is such a simple idea. There's great simplicity in this."

Under the Cantwell-Collins bill, energy producers would bid in monthly auctions for "carbon shares." Consumers would get 75 percent of the resulting revenue as a refund to help compensate for increased energy costs; the remaining 25 percent would go toward clean energy research and development.

Kudos for the Cantwell-Collins approach have come from The Economist magazine and The Washington Post editorial page. Several small environmental groups also gave their backing, and the world's largest oil and gas company is on record praising pieces of the bill aimed at keeping costs down for industry.

"Senator Cantwell's bill includes many positives, such as the inclusion of a true price collar to reduce the inherent volatility of cap-and-trade schemes and the significant return of revenues to consumers," Exxon Mobil Corp. spokesman Alan Jeffers said last week. "We believe discussions of alternative, more transparent and sustainable approaches to climate change policy are positive, given the significant impact legislation will have on the U.S. economy."

But the bill also has its detractors, starting with the electric utility industry, which successfully lobbied the House to secure 35 percent of the cap-and-trade program's valuable emission allocations to the local distribution companies that service the power industry.

Tom Kuhn, the president of the Edison Electric Institute, said he did not think the cap-and-dividend approach would work if it were incorporated into the Kerry-Graham-Lieberman bill and warned that electricity rate increases would drive consumers to revolt against the legislation.

"There's a promise a check will come down the road from the federal government, but I don't think there's going to be any equation between the fact that your electricity bills are a lot higher and the fact you're getting some reduction in your tax rate or a refund from the government," Kuhn said yesterday during an event hosted by The New Republic.

"I think that'll cause a negative reaction on doing something on climate change," Kuhn added.

An industry lawyer and veteran of many past energy debates said the Cantwell-Collins approach leaves Kerry, Graham and Lieberman lacking in the very free allowances needed for other potential swing votes, including those representing agriculture and energy-intensive manufacturing states.

"It's political candy, and you dole it out to get the 60-vote margin," the source said.

Added Harvard University economist Robert Stavins: "It's not going to take the Republicans long to change it to cap and tax unless they decide for whatever reason they want to join in," he said. "And then it will no longer be cap and tax."

Cantwell dismissed the criticism of her proposal, saying she expected to pick up additional support. As for Kerry, Graham and Lieberman, she replied, "Do they have a bill?"

"I think when you talk to the American voter, the American consumer about this, 'Hey, do you want to be made whole on this by going to your utility, and they keep the money for you? Or do you want that money yourself?' I think they want the money themselves," Cantwell said.

The tax theory

Another option before Kerry, Graham and Lieberman entails gradually drawing in different industry sectors under the program's emission limits.

"There may be a way to phase it in more gently so we get our sea legs established with a smaller subset at the beginning," said Dirk Forrister, president of the NatSource consulting firm and former head of the Clinton-era White House Climate Change Task Force. "I think there's a long way between doing 85 percent of the economy and nothing that can be talked about."

One approach -- known as a "linked carbon fee" -- would involve putting power plants and other major stationary sources into a cap-and-trade system, while placing a fee on the carbon content of transportation fuels. Exxon Mobil proposed this idea in 2008 to Western governors as they worked on a regional climate program, with the fee linked periodically to the average allowance price in the cap-and-trade system.

"Given that there are few near-term technological fixes to reduce carbon emissions from the transportation system and the median age of a passenger vehicle in the U.S. is close to 10 years, the idea is that a fee on fuels would avoid shortfalls and price spikes in carbon markets while still sending a price signal to consumers," said Whitney Stanco and William Hederman, climate policy analysts who regularly publish memos on the issue for the Washington-based firm Concept Capital.

Exxon Mobil's Jeffers said that a revenue-neutral carbon tax is his company's preferred option. "Properly designed, a carbon tax is a more efficient means of reflecting the cost of carbon in all economic decisions and is therefore more transparent," he said.

But there is also sure to be a push back from industrial sectors.

Electric utilities want the climate limits to be economywide to keep costs down, and they also want the major oil companies like Exxon Mobil to be spenders in the carbon market. In contrast, domestic oil companies did not fare so well in the House-passed climate bill. They got 2 percent of the allocations, far short of the amount they say they will need to compete with companies in India, the Middle East and South America, which lack such strict emission restrictions.

Environmentalists also do not trust Exxon Mobil given its well-documented funding for climate skeptic groups. And they question whether a tax would be just as ripe for carve outs, while giving little in the way of certainty when it comes to emission reductions.

"If you let the petroleum sector out [of a cap], then your reductions go to hell," said one activist. "It's very difficult to solve that problem."

Kerry said he recently discussed the carbon tax issue with James Hansen, the director of NASA's Goddard Institute for Space Studies and one of the first scientists to testify before Congress on the threats posed by climate change. Hansen argued that a carbon tax, scaled up rapidly, would change behavior and reduce emissions.

"In theory, that's terrific," Kerry said. "But show me one Republican who's going to vote for a tax, let alone some Democrats. So the things you hear in theory just don't translate into legislation. Ideally, that'd be a great way to approach it."

'Cover in every corner'

Several hybrid approaches are already floating around in Washington.

The House-passed bill gives about 80 percent of allowances away to industries without charge in the early years, with a phase out over the next two decades that ends with an auction for 70 percent of the allowances by 2031.

Marty Spitzer, director of legislative affairs at the Center for Clean Air Policy, said senators should also take a second look at a House bill introduced in early 2009 that was sold at the time as a "training wheels" approach aimed at averting price volatility in the early years of a new carbon market.

Reps. Lloyd Doggett (D-Texas), Jim Cooper (D-Tenn.) and more than 20 other Democrats, including many members of the fiscally conservative Blue Dog Coalition, introduced the proposal with the support of Spitzer's organization, the National Venture Capital Association and Friends of the Earth.

Essentially, the Doggett-Cooper bill would set up an independent board tasked with determining the annual prices per ton for carbon dioxide allowances during the first eight years of emissions trading. During that time, the Treasury Department would conduct quarterly allowance auctions designed to maintain this price.

The board -- composed of six climate experts and the heads of U.S. EPA and the Energy and Treasury departments -- would be charged with reviewing and adjusting the carbon price annually, as needed, to make sure the program stays on track to meet the cap-and-trade program's emission targets.

Spitzer, who served as an aide to former House Science Chairman Sherwood Boehlert (R-N.Y.), said he has been shopping the bill in the Senate and among industries.

"I think if you start to ask, they say it might not be their first choice, they'd prefer a carbon tax, but they could probably live with this," Spitzer said. "And we're getting more and more impressions that this is something that people can live with."

No matter which way they go, supporters of the Senate climate effort are holding out hope that Kerry and allies can still reach agreement on some type of carbon pricing approach, no small feat during the politically charged midterm election campaign.

"It's a big challenge," said the Sierra Club's John Coequyt. "I just think people are starting to work through what it means politically and what it means environmentally. And whether there is actual Democratic and Republican support for something that is less comprehensive. I don't think we know that yet."

Gerry Waldron, a former House aide to Rep. Ed Markey (D-Mass.), one of the House bill's lead co-sponsors, urged senators to find common ground on the carbon pricing issue, rather than let the overall effort die. "That'd surprise me if this is, from a member perspective, a fall-on-the-sword problem," he said.

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