[Senate Hearing 110-9]
[From the U.S. Government Publishing Office]



                                                          S. Hrg. 110-9
 
            EIA ANALYSIS OF DRAFT CLIMATE CHANGE LEGISLATION

=======================================================================

                                HEARING

                               before the

                              COMMITTEE ON
                      ENERGY AND NATURAL RESOURCES
                          UNITED STATES SENATE

                       ONE HUNDRED TENTH CONGRESS

                             FIRST SESSION

                                   on

 ANALYSIS RECENTLY COMPLETED BY THE ENERGY INFORMATION ADMINISTRATION, 
``ENERGY MARKET AND ECONOMIC IMPACTS OF A PROPOSAL TO REDUCE GREENHOUSE 
              GAS INTENSITY WITH A CAP AND TRADE SYSTEM''

                               __________

                            JANUARY 24, 2007


                       Printed for the use of the
               Committee on Energy and Natural Resources



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               COMMITTEE ON ENERGY AND NATURAL RESOURCES

                  JEFF BINGAMAN, New Mexico, Chairman
DANIEL K. AKAKA, Hawaii              PETE V. DOMENICI, New Mexico
BYRON L. DORGAN, North Dakota        LARRY E. CRAIG, Idaho
RON WYDEN, Oregon                    CRAIG THOMAS, Wyoming
TIM JOHNSON, South Dakota            LISA MURKOWSKI, Alaska
MARY L. LANDRIEU, Louisiana          RICHARD BURR, North Carolina
MARIA CANTWELL, Washington           JIM DeMINT, South Carolina
KEN SALAZAR, Colorado                BOB CORKER, Tennessee
ROBERT MENENDEZ, New Jersey          JEFF SESSIONS, Alabama
BLANCHE L. LINCOLN, Arkansas         GORDON H. SMITH, Oregon
BERNARD SANDERS, Vermont             JIM BUNNING, Kentucky
JON TESTER, Montana                  MEL MARTINEZ, Florida
                    Robert M. Simon, Staff Director
                      Sam E. Fowler, Chief Counsel
            Frank J. Macchiarola, Republican Staff Director
             Judith K. Pensabene, Republican Chief Counsel
               Jonathan Black, Professional Staff Member
           Kathryn Clay, Republican Professional Staff Member

                            C O N T E N T S

                              ----------                              

                               STATEMENTS

                                                                   Page

Bingaman, Hon. Jeff, U.S. Senator from New Mexico................     1
Domenici, Hon. Pete V., U.S. Senator from New Mexico.............     2
Gruenspecht, Howard, Deputy Administrator, Energy Information 
  Administration, Department of Energy...........................     3
Grumet, Jason S., Executive Director, National Commission on 
  Energy Policy..................................................    28
Lashof, Daniel A., Ph.D., Climate Center Science Director, 
  Natural Resources Defense Council..............................    14
Smith, Anne E., Ph.D., Vice President, CRA International.........    21
Sterba, Jeffry E., Chairman, President and CEO, PNM Resources....    10

                                APPENDIX

Responses to additional questions................................    53


            EIA ANALYSIS OF DRAFT CLIMATE CHANGE LEGISLATION

                              ----------                              


                      WEDNESDAY, JANUARY 24, 2007

                                       U.S. Senate,
                 Committee on Energy and Natural Resources,
                                                    Washington, DC.
    The committee met, pursuant to notice, at 9:45 a.m., in 
room SD-366, Dirksen Senate Office Building, Hon. Jeff 
Bingaman, chairman, presiding.

OPENING STATEMENT OF HON. JEFF BINGAMAN, U.S. SENATOR FROM NEW 
                             MEXICO

    The Chairman. Alright, why don't we go ahead and get the 
committee hearing started. Let me indicate that today we are 
going to have testimony on the Energy Information 
Administration's report on Draft Climate Change Legislation. 
Also, we are going to take action on three routine business 
matters.
    In the interest of time, rather than waiting to get a 
reporting quorum, I think we need to just start with our 
hearing and advise everybody that if we get 12 Senators in the 
room we are going to interrupt everyone at that point and do 
these three business items which need to be done with the 12 
Senators, but that may be a while. So, let me just welcome all 
the witnesses and make a short statement here and then ask 
Senator Domenici for the statement that he has and then 
introduce the witnesses.
    Thank you all for being here. This hearing will focus on 
this Energy Information Administration Analysis of the Draft 
Global Warming Legislation and the economic impact that that 
would have on our country. Last year several of us, Senators 
Specter and Lugar as well as Senators Landrieu, Salazar, and 
Murkowski here on this committee, submitted draft legislation 
to the EIA asking them to look at it and I appreciate those 
members joining in that request. The draft was the culmination 
of over a years worth of work. It began with an EIA analysis of 
the Climate Proposal by the National Commission on Energy 
Policy which was 18 months or more ago.
    Over the past Congress we visited the issue on the floor; 
we had, under Senator Domenici's leadership, a day-long 
workshop here in this committee with 29 participants to explore 
the design features of a cap and trade proposal. We received 
this EIA analysis as a next step. We asked for it as a next 
step in trying to craft legislation that would be appropriate 
to deal with this issue. We circulated this draft. Senator 
Specter and I have initiated the process of trying to improve 
on the draft and having this hearing, which I think gets us 
started in that process. We also hope to have more hearings on 
the issue of climate change. Sir Nicholas Stern is scheduled to 
testify before our committee next month. I hope that will give 
the committee another chance to review the impacts of global 
warming and the impacts of delaying action on global warming.
    There are obviously a lot of different parts to this issue. 
It is a complex issue. I hope that as many members as are 
willing to, will engage themselves and take the time to try to 
understand and settle on their views on the various issues that 
are raised, so I appreciate very much the time and the effort 
that Senator Domenici and his staff have committed to this very 
difficult set of issues, as well as other members of the 
committee. I call on Senator Domenici for his statement before 
we hear from the witnesses.

       STATEMENT OF HON. PETE V. DOMENICI, U.S. SENATOR 
                        FROM NEW MEXICO

    Senator Domenici. Thank you very much, Senator Bingaman. I 
note that we might let it be known to the staff that if we get 
a couple of more Senators, we have 12, and that whenever 
there's 12, we will stop and turn it back over to you so you 
can have the business meeting and pass the three business items 
that are sitting around and I think that would be good.
    I want to add my thanks to yours regarding the witnesses 
for taking time out of their busy schedules for participation 
in this hearing today. I thank each one of you. I did not get a 
chance here this morning yet, but I do now.
    In his State of the Union address last night, the President 
laid out an ambitious, but worthy, goal to reduce the 
consumption of gasoline by 20 percent in 10 years. I applaud 
the President's leadership in emphasizing the importance of 
alternative fuels and vehicle fuel efficiency. The efforts will 
enhance our National Energy Security, as well as decrease 
emissions from greenhouse gases. However, I was disappointed 
that the President gave little attention to the tremendous 
promise that nuclear energy holds for this Nation. Expanding 
our use of nuclear power is the single most significant thing 
we can do to confront climate change. In the last Congress, 
Senator Bingaman and I started a bipartisan discussion in this 
committee to consider the climate change issues. I am pleased 
that we are continuing the discussion into the 110th Congress. 
Another Senator has arrived. Senator Bingaman and I released a 
white paper on climate change which laid out the key questions 
and the design challenges for a mandatory program for limiting 
greenhouse gas emissions. At our Climate Conference last April, 
we received more than 150 submissions at our Climate 
Conference, excuse me, that contained more than 500 individual 
documents. Imagine that, people truly are interested and go a 
long way and give a lot of their time and energy to help us 
understand what is happening. We have had a very productive 
discussion on climate, and we have learned a lot so far.
    I am aware that many in the scientific community are 
warning us that something needs to be done. We still have a lot 
of questions before us, though. With this hearing we are 
continuing a search for answers that are meaningful, 
economically feasible and that will produce real reductions in 
greenhouse gas emissions. It is clear to me that developing a 
system of mandatory controls on carbon emissions could be a 
daunting task. Controls must be effective. They must produce 
significant emission reductions to be meaningful. The cost of 
such controls should have the least possible overall negative 
effect on our economy and any burdens must be quite as 
equitable as they have been, as they can possibly be. And we 
must be sure that we do not impose costs on our industry that 
will drive them to impose costs that will drive them to 
relocate in countries such as India and China that do not have 
similar controls on carbons. I believe an essential part of any 
response to climate change is to double, maybe triple, our 
commitment to developing new technologies. Research and 
development funding, both public and private, is vital to 
addressing any of our Nation's energy challenges, and the 
climate change issue is no exception. I look forward to 
learning more from today's hearings.
    Thank you Mr. Chairman and thank the Senators who are here 
and the others who will be coming that are interested in this 
issue.
    The Chairman. Thank you very much. Why don't we just start? 
Let me introduce the panel of witnesses here and then we will 
start from the left and just go across and hear the testimony 
of each. Our first witness is Howard Gruenspecht, who is the 
Deputy Administrator with the Energy Information Administration 
in the Department of Energy and he is the person who has been 
the lead on this analysis that we have asked for. In addition, 
of course, Jeff Sterba is chairman and president and CEO of the 
PNM Resources in New Mexico, a company we are very proud of in 
our State. We appreciate Jeff's leadership and willingness to 
testify today. Daniel Lashof who is the climate center deputy 
director for the Natural Resources Defense Council, we very 
much appreciate you being here. Anne Smith who is the vice 
president for CRA International here in Washington, thank you 
for being here and Jason Grumet who is the executive director 
for this National Commission on Energy Policy that the Hewlett 
Foundation established a couple of years ago and has been the 
moving force behind getting the draft legislation that is being 
analyzed by the Energy Information Administration prepared.
    Why don't we do this, Howard, would you go ahead and take 
whatever time you need to give us the analysis you went through 
and then your conclusions and then I will ask each of the other 
witnesses to take 5 minutes or so and summarize their comments, 
either about the analysis or any other point they want to make 
and then we will take questions. Howard, go ahead.

 STATEMENT OF HOWARD GRUENSPECHT, DEPUTY ADMINISTRATOR, ENERGY 
        INFORMATION ADMINISTRATION, DEPARTMENT OF ENERGY

    Dr. Gruenspecht. Thank you Mr. Chairman, Senator Domenici 
and members of the committee. I appreciate the opportunity to 
appear before you today.
    The Energy Information Administration is the independent 
statistical and analytical agency in the Department of Energy. 
We do not promote, formulate or take positions on policy issues 
and our views should not be construed as representing those of 
the Department or the administration. As requested, my 
testimony focuses on EIA's recent analysis of the energy and 
economic impacts of a cap-and-trade program for greenhouse gas 
emissions. Our report compares energy and economic outcomes 
incorporating the proposal provided to us by the chairman and 
five colleagues to those of the reference case of the Annual 
Energy Outlook 2006. As noted in my written testimony there are 
many uncertainties inherent in any long term projection, 
particularly over a 25-year period, but the examination of 
differences across cases can provide some robust insights. 
Also, while EIA has recently updated its reference case in the 
Annual Energy Outlook 2007, an analysis starting from the new 
outlook would likely produce results that are very similar to 
those in our report, given the relatively modest changes 
between the 2006 and 2007 outlooks. My discussion of key 
findings will focus on the Phased Auction case, which was one 
of the cases we were asked to look at, which provides for the 
direct allocation of some emissions allowances and the 
auctioning of others with the share that would be auctioned 
rising over time as specified in the proposal.
    Starting with energy price impacts, the cap-and-trade 
proposal requires fossil fuel suppliers to submit emissions 
allowances that reflect the carbon dioxide emitted when the 
fuel is burned. The cost of the allowances raises the energy 
prices paid by the end users. Figures 1 and 2 of my written 
testimony summarize the price impacts, which are all expressed 
in real 2004 dollars and include the value of allowances. The 
average retail gasoline price under the program is 3 percent 
higher in 2020 and 5 percent or 0.11 cents higher in 2030 
compared to the reference case. The price impact in 2030 
reflects the operation of the safety valve feature of the 
program. In terms of natural gas, the program is projected to 
increase the average delivered natural gas price by about 6 
percent in 2020 and by 11 percent in 2030.
    The projected percentage increase in delivered coal prices 
to electric generators, 48 percent in 2020 and 81 percent in 
2030, is significantly larger than those expected for oil 
products and natural gas. This result reflects coal's higher 
carbon content per unit of energy and its lower price in the 
reference case compared to both oil and natural gas.
    In the Phased Auction case, where significant quantities of 
allowances are given free of charge to electricity generators, 
electricity prices are estimated to be 4 percent higher than in 
the reference case in 2020 and 11 percent higher in 2030. 
Projected electricity price impacts--another sensitivity we 
were asked to look at--in the Full Auction case, where all 
allowances are auctioned, are somewhat greater. The difference 
in impacts reflects the assumed pass-through to ratepayers of 
the value of allowances given to electric generators who are 
subject to State-level, cost-of-service regulation in the 
Phased Auction case. So this is an example where State and 
Federal policies interact. It is also the case that electricity 
price impacts vary across States and regions, so I am giving a 
national number, but there is definitely a different impact 
across different parts of the country that we can talk about.
    Projected effects on oil and natural gas use are limited by 
the modest changes in their delivered prices and the limited 
availability of economical substitute fuels in the transport 
sector and other applications where these fuels are used. 
However, projected coal consumption is reduced relative to the 
reference case by 4 percent in 2020 and by 20 percent in 2030, 
due mainly to the shift in the generation fuel mix that is 
driven by higher delivered coal prices. The displaced coal 
generation is largely replaced by generation from nuclear and 
renewable energy. So, Senator Domenici would be happy to hear 
that given his remarks.
    Figure 4 of my written testimony shows the projected 
impacts on electric generation capacity additions of this 
program and if you look at the Figure you can see that the 
amount of projected coal capacity additions falls rather 
dramatically, but the projected nuclear capacity additions and 
renewable capacity additions increase rather dramatically. The 
proposal also significantly reduces the economic attractiveness 
of coal-to-liquids conversions, so again it is the coal prices 
that are mostly affected and it is the new builds of coal 
plants and coal-to-liquids that are affected. However, despite 
the reduction in coal power generation and CTL conversion 
relative to baseline growth estimates, coal use is still 
projected to remain above its 2004 level through 2030.
    Figure 5 of the written testimony shows projected emissions 
reductions and they consist of a mix of non-energy related 
reductions which play an important, but declining role over 
time. They account for 57 percent of the reductions that are 
projected to occur in 2020 and 35 percent of the reductions 
that are expected to occur in 2030. So over time, the share 
that energy-related reductions contributes increases. Because 
the Safety Valve in the proposal is projected to be triggered 
in 2026 the specified greenhouse gas intensity targets are not 
fully attained beyond that date. Emissions rise slowly during 
the first phase of the program, but decline thereafter.
    Turning finally to economic impacts, Figure 6 shows 
projected effects on the level of real Gross Domestic Product 
and personal consumption. By 2030, real GDP in the Phased 
Auction case is projected to be 0.26 percent lower than the 
reference case level; 0.26 percent is $59 billion in year-2000 
dollars. The economy is very big so even small percentage 
changes are a lot of money. The total reduction in discounted 
real GDP over the 2009-2030 period is 0.10 percent, which is 
$232 billion, relative to the reference case. Should I stop?
    The Chairman. Howard, could I just ask you to interrupt 
your testimony for a minute. We have our 12 Senators to do this 
business meeting. Let me just get that out of the way.
    [RECESS]
    The Chairman. Howard, why don't you continue with your 
excellent testimony? Now the exit of a few of these members 
should not be seen as any lack of confidence in your testimony.
    Dr. Gruenspecht. I have a thick skin, but in any event, I 
was saying that real total reduction in discounted real GDP 
over the 2009 to 2030 period is 0.10 percent, relative to the 
reference case. Impacts on projected real consumption--I know 
there is a lot of focus on GDP but consumption is probably a 
different way to look at well-being--shown in figure 6 are 
somewhat larger. GDP and consumption impacts for the Full 
Auction case are larger than those for the Phased Auction case, 
due to the assumption that the much higher auction revenues in 
the Full Auction case--when all of the permits, all the 
allowances, are auctioned, rather than some of them being given 
away--are not re-circulated into the economy beyond the $50 
billion in expenditures from the proposed Climate Change Trust 
Fund that is part of the proposal. This result could change 
under a different revenue recycling assumption and does not 
imply a general conclusion that a Full Auction will necessarily 
have larger impacts than a Phased Auction. Mr. Chairman, that 
concludes my testimony and I would be happy to answer any 
questions you might have.
    [The prepared statement of Dr. Gruenspecht follows:]
Prepared Statement of Howard Gruenspecht, Deputy Administrator, Energy 
            Information Administration, Department of Energy
    Mr. Chairman, and members of the Committee, I appreciate the 
opportunity to appear before you today. As requested in your 
invitation, my testimony focuses on the Energy Information 
Administration's (EIA's) recent analysis of the energy and economic 
impacts of a cap-and-trade program for greenhouse gas (GHG) emissions. 
The proposal we evaluated, sent to us by Chairman Bingaman and Senators 
Landrieu, Lugar, Murkowski, Salazar, and Specter in September 2006, 
would set specific targets for the reduction of GHG emissions intensity 
of the U.S. economy and incorporate a safety valve to assure that 
allowance prices remain at or below a ceiling that rises over time.
    EIA is the independent statistical and analytical agency within the 
Department of Energy. We are charged with providing objective, timely, 
and relevant data, analyses, and projections for the use of the 
Congress, the Administration, and the public. Although we do not take 
positions on policy issues, we do produce data and analyses to help 
inform energy policy deliberations. Because we have an element of 
statutory independence with respect to this work, our views are 
strictly those of EIA and should not be construed as representing those 
of the Department of Energy, the Administration, or any other 
organization.
    EIA's analysis (Energy Market and Economic Impacts of a Proposal to 
Reduce Greenhouse Gas Intensity with a Cap and Trade System (SR/OIAF/
2007-1)), released earlier this month, compares cases incorporating the 
cap-and-trade proposal to those in the reference case of the Annual 
Energy Outlook 2006 (AEO2006). AEO2006 is based on Federal and State 
laws and regulations in effect as of October 2005. It has recently been 
superseded by AEO2007, which updates the projections to current laws 
and regulations and our current analysis of market conditions. However, 
given the relatively modest changes between AEO2006 and AEO2007, an 
analysis starting from the new Outlook would likely produce results 
that are very similar to those I will review today.
    The projections included in EIA's reference and policy cases, which 
extend through 2030, are not meant to be exact predictions of the 
future but represent likely energy futures, given technological and 
demographic trends, fixed laws and regulations, and consumer behavior 
as derived from available data. EIA recognizes that projections of 
energy markets over a 25-year period are highly uncertain and subject 
to many events that cannot be foreseen such as supply disruptions, 
policy changes, and technological breakthroughs. In addition to these 
phenomena, long-term trends in technology development, demographics, 
economic growth, and energy resources may evolve along a different path 
than expected in the projections. For this reason, the AEO includes 
many alternative cases intended to examine these uncertainties. 
Generally, projected differences between cases, which are the focus of 
our report, are likely to be more robust than the specific projections 
for any one case.
    EIA's complete report, which includes a description of the proposal 
(and its full text as an Appendix), our modeling approach and our 
results, as well as a discussion of uncertainties and caveats, has been 
provided to the Committee and is publicly available on our web site. My 
testimony summarizes key findings, focusing on the Phased Auction case, 
which provides for the direct allocation of some emissions allowances 
and the auctioning of others, with the share to be auctioned rising 
over time as specified in the proposal. It outlines projected impacts 
on energy prices, energy use, GHG emissions, and economic activity, as 
well as the sensitivity of the results to technology and other 
uncertainties. It also provides some comparisons to results from other 
EIA analyses of policies to limit GHG emissions.
                             energy prices
    The cap-and-trade proposal requires that fossil fuel suppliers 
submit emission allowances that reflect the carbon dioxide emitted when 
the fuel is burned. Fuel suppliers would presumably pass on the cost of 
the allowances to consumers, leading to increases in fuel prices. As a 
secondary effect, however, reduced demand for fossil fuels could lower 
their supply cost at the wellhead or the minemouth, offsetting some of 
the price increase due to allowances. When these effects are taken 
together, however, the cost of allowances tends to dominate, so the 
energy prices paid by end users generally rise.
    Figures 1 and 2 * summarize the program's impacts on energy prices, 
which are all expressed in real 2004 dollars and include the value of 
allowances. The average retail gasoline price is 6 cents per gallon (3 
percent) higher in 2020 and 11 cents per gallon (5 percent) higher in 
2030 than in the reference case. Because the safety valve caps the 
price of GHG allowances at $5.89 per metric ton of carbon dioxide 
(CO2) in 2012, rising to $14.18 per metric ton in 2030, the 
maximum direct effect of the cap-and-trade policy on the delivered 
price of gasoline in 2030 is roughly 11 cents per gallon (2004 
dollars).
---------------------------------------------------------------------------
    * Figures 1-6 have been retained in committee files.
---------------------------------------------------------------------------
    The average delivered natural gas price is $0.41 per thousand cubic 
feet (6 percent) higher in 2020 and $0.88 per thousand cubic feet (11 
percent) higher in 2030, largely because of the allowance price which 
is added to the delivered fuel costs.
    The average delivered coal price to electric generators, including 
the cost of emissions allowances, is $0.67 per million British thermal 
units (Btu) (48 percent) higher in 2020 and $1.22 per million Btu (81 
percent) higher in 2030 than in the reference case. The much higher 
percentage change in delivered coal prices compared to the other fossil 
fuels reflects both coal's high carbon content per unit of energy and 
its relatively low price in the reference case.
    Because electricity consumers capture the economic benefits of the 
allocation of GHG allowances to regulated utilities in areas of the 
country where electricity rates are set under cost-of-service 
regulation at the state level, projected impacts on the average 
delivered price of electricity are sensitive to decisions made 
regarding the allocation or auctioning of allowances. In the Phased 
Auction case, where significant quantities of allowances are given free 
of charge to electricity generators, electricity prices are estimated 
to be 4 percent higher than in the reference case in 2020 and 11 
percent higher in 2030. In the Full Auction case, where all allowances 
are auctioned, electricity prices are estimated to be 6 percent higher 
than in the reference case in 2020 and 13 percent higher in 2030. The 
difference between the Phased and Full Auction cases reflects the 
assumed passthrough to ratepayers of the value of allowances given to 
electric generators who are subject to state-level cost-of-service 
regulation in the Phased Auction case. Electricity price impacts also 
vary across states and regions.
                               energy use
    Impacts on energy use generally reflect both the size of the change 
in energy prices and the availability of substitutes and alternatives 
for each type of affected energy. Figure 3 summarizes projected impacts 
on energy use. Projected primary energy use is 1.7 quadrillion Btu (1 
percent) lower in 2020 and 2.4 quadrillion Btu (2 percent) lower in 
2030 as the cost of GHG allowances is passed through to consumers, 
providing an incentive to lower energy use and shift away from fossil 
fuels, particularly in the electric power sector. Relative to the 
reference case, fossil fuel energy consumption is 1.9 quadrillion Btu 
(2 percent) lower in 2020 and 8.1 quadrillion Btu (7 percent) lower in 
2030, with almost all of the change accounted for by a reduction in the 
otherwise expected growth in coal use.
    The reduction in petroleum use relative to the reference case 
projection is less than 1 percent in 2020 and about 3 percent in 2030. 
Over 70 percent of oil is used in the transportation sector, where 
alternatives are limited. With impacts on retail gasoline prices 
starting at 6 cents per gallon in 2012 and growing to only 11 cents per 
gallon by 2030, only modest changes in vehicle purchase and travel 
decisions are expected, and there is no significant impetus to fuel 
switching.
    Impacts on projected natural gas use are also small. Natural gas 
consumption is 0.3 quadrillion Btu (1 percent) lower in 2020 and 0.3 
quadrillion Btu (1 percent) higher in 2030. The electric power sector 
reduces its use of natural gas in 2020, but increases its gas use in 
2030, reflecting the impact of the proposal in substantially reducing 
the switch away from gas generation over the 2020 to 2030 period, when 
the reference case, by comparison, projects a substantial increase in 
new coal-fired capacity and coal generation.
    Projected coal consumption is significantly affected by the 
program. Relative to reference case projections, coal use is reduced by 
1.2 quadrillion Btu, or 4 percent, in 2020 and more significantly 
reduced by 6.8 quadrillion Btu (20 percent) in 2030, due mainly to the 
shift in the generation fuel mix that is driven by higher delivered 
coal prices. In contrast to the situation in the transportation sector, 
a program that places even a modest value on GHG emissions encourages a 
significant shift towards alternative technologies such as nuclear and 
renewables in the electric generation sector. The proposal also 
significantly impacts the economic attractiveness of coal-to-liquids 
(CTL) conversion. Almost all of the CTL capacity that is projected to 
be built and operated in the reference case is not expected to be built 
if the cap-and-trade proposal is implemented.
    Figure 4 shows how the cap-and-trade proposal affects projected 
electric generation capacity additions over the 2004 to 2030 period. 
The projected capacity additions of conventional coal-fired technology 
decline to less than a third of the reference case level. 
Notwithstanding the decline in coal generation relative to the 
reference case, overall use of coal is expected to increase from its 
2004 level, mainly due to increased utilization of existing coal 
plants. Thus, although allowance prices under the proposal are high 
enough to dissuade much of the construction of new coal plants that 
would otherwise occur in the 2015 to 2030 period, they are low enough 
that it is still attractive to use available coal capacity through 
2030. As the program continues beyond 2030, allowance prices would 
likely continue to rise as the GHG emissions cap tightens and the price 
trigger for the safety valve increases, eventually resulting in the 
retirement of significant amounts of existing coal plants for economic 
reasons. Under such a scenario, the level of coal use beyond 2030 would 
likely be sensitive to the future competitiveness of coal with carbon 
capture and sequestration relative to other very-low-carbon or carbon-
free generating technologies.
                               emissions
    As shown in Figure 5, reductions in emissions of non-CO2 
GHG emissions in the proposed program, which are not represented in a 
detailed fashion in the EIA National Energy Modeling System, are 
projected to account for 57 percent of the covered GHG emissions 
reductions in 2020 and 35 percent of the covered GHG emissions 
reductions in 2030. Estimates for non-CO2 GHG emissions were 
developed using emissions baselines and abatement cost curves based on 
engineering cost estimates that were supplied by the U.S. Environmental 
Protection Agency. Real-world factors affecting the behavior of 
decisionmakers and the use of incomplete cost information may result in 
an overstatement of the actual level of non-CO2 abatement 
achieved at each level of the allowance price. However, due to the 
safety-valve feature of the proposed cap-and-trade program, the 
projected energy sector and economic impacts would not change 
significantly even if the assumptions used regarding the supply of GHG 
abatement opportunities were too optimistic. Rather, such a situation 
would tend to drive the allowance price up to the safety-valve level 
earlier than projected in our analysis.
    Because the safety-valve in the cap-and-trade program is projected 
to be triggered in 2026, the specified GHG intensity targets in the 
proposal are not fully attained beyond that date. Total emission 
reductions in 2030 are estimated to be 654 million metric tons 
CO2 equivalent short of the level that would satisfy the GHG 
intensity reduction goal.
                            economic impacts
    Figure 6 shows the projected effect of the cap-and-trade policy on 
the projected level of real gross domestic product (GDP) and personal 
consumption for both the Phased Auction and Full Auction cases. By 
2030, real GDP in the Phased Auction case is projected to be 0.26 
percent ($59 billion in year-2000 dollars) below the reference case 
levels. The total reduction in discounted real GDP over the 2009 to 
2030 period is 0.10 percent ($232 billion) relative to the reference 
case. Impacts on projected real consumption, also shown in Figure 6, 
are somewhat larger, reaching 0.36 percent ($55 billion) in 2030. The 
reduction in discounted real consumption over the 2009 to 2030 period 
is 0.14 percent ($236 billion).
    As requested, EIA's analysis also included a Full Auction case in 
which 100 percent of emissions allowances are auctioned beginning from 
the start of the cap-and-trade program in 2012. GDP and consumption 
impacts for this case are larger than those for the Phased Auction 
case, due to the assumption that the much higher auction revenues are 
not re-circulated into the economy beyond the $50 billion in 
expenditures from the proposed Climate Change Trust Fund. This result 
could change under a different revenue recycling assumption, and does 
not imply a general conclusion that a Full Auction will necessarily 
have larger GDP impacts than a Phased Auction.
                        technology sensitivities
    While the AEO2006 reference case used as the baseline in our 
analysis incorporates significant improvements in technology cost and 
performance over time, it may either overstate or understate the actual 
future pace of improvement, since the rate at which the characteristics 
of energy-using and producing technologies will change is highly 
uncertain.
    Although the cap-and-trade program includes provisions that 
allocate a portion of the allowance auction revenues for increased 
federal funding for research, development and deployment, EIA, 
consistent with its established practice in other recent studies, did 
not attempt to estimate how increased government spending might 
specifically impact technology development. In previous analyses, EIA 
has illustrated how the use of more optimistic assumptions about the 
timing and cost of advanced energy technologies tends to reduce 
projected energy use in both baseline and policy cases. Under more 
optimistic technology assumptions, specified emissions reduction 
targets can generally be reached at lower cost, and the safety-valve is 
less likely to be triggered.
          relationship to previous eia greenhouse gas analyses
    In recent years, EIA has completed several other reports on policy 
proposals to limit or reduce GHG emissions. Our new report builds on 
these prior analyses (all of which are available on our web site), 
which taken together suggest that the economic impacts are largely 
determined by the size of the energy market change required to satisfy 
the policy and the speed with which the change must occur. From an 
energy and economic perspective, one key factor is the extent to which 
a proposed policy causes the economic obsolescence of existing energy 
system capital.
    In April 2005, EIA analyzed of the original policy proposal made by 
the National Commission on Energy Policy (NCEP), a nongovernmental, 
privately-funded entity. That proposal included a cap-and-trade program 
along with other recommendations. The emission reduction targets for 
the cap-and-trade program in the original NCEP proposal were less 
stringent than those evaluated in our new report, but the proposed 
program began in 2010 rather than 2012. In February 2006, EIA reported 
on the energy and economic impacts of several alternative cap-and-trade 
options, ranging from less stringent to more stringent than the one 
considered in our new report.
    Two EIA studies issued in 2003 and 2004 considered the original 
version of the Climate Stewardship Act (S. 139), which would cap GHG 
emissions at the 2000 level in 2010 and the 1990 level from 2016 on, 
and an amended version of that bill (S.A. 2028) that removed a 
provision for a tightening of the emissions cap beginning in 2016. 
These proposals have the same 2010 start date as the original NCEP 
proposal but they do not have a safety valve, and emissions are capped 
at a lower level than in the proposal analyzed in our new study. The 
reference cases for all studies completed before 2006, including EIA's 
analyses of the Kyoto Protocol, differ significantly from the reference 
case for the present study, which incorporates significantly higher 
long-term real prices for oil and natural gas.
    Finally, while all reference and policy case projections are 
inherently uncertain, policy design differences can significantly 
affect the nature of uncertainty surrounding the projected energy and 
economic impacts of alternative policies to limit GHG emissions. 
Inclusion of a safety-valve feature in a cap-and-trade program would 
allow GHG emissions to rise above the level projected in our report in 
the event that emissions reduction inside or outside the energy sector 
proves to be more costly than we expect, while protecting against the 
prospect of larger energy system and economic impacts in these 
circumstances. In contrast, policies that impose a ``hard'' cap on 
emissions without a safety-valve price for GHG credits would force the 
fixed GHG emissions target to be met regardless of cost, reducing 
uncertainty surrounding the GHG emissions outcome but increasing 
uncertainty regarding energy and economic impacts. Policy design 
differences can also influence the behavior of stakeholders after a 
policy is implemented. For example, interests primarily focused on the 
achievement of GHG emissions reduction targets are more likely to 
support the broad availability of low-cost options to reduce emissions, 
rather than insist on the use of particular technologies and the 
avoidance of others if a safety-valve provision is included in a 
policy.
    This concludes my testimony, Mr. Chairman and members of the 
Committee. I would be pleased to answer any questions you may have.

    The Chairman. Thank you very much. Before we present any 
questions to you why don't we hear from each of the other 
witnesses on any points they think we need to understand either 
about this study or otherwise on the subject. Jeff Sterba, why 
don't we start with you?

STATEMENT OF JEFFRY E. STERBA, CHAIRMAN, PRESIDENT AND CEO, PNM 
                           RESOURCES

    Mr. Sterba. Good morning Chairman Bingaman, Senator 
Domenici and members of the committee. Thank you for inviting 
me here today. I am Jeff Sterba, chairman of the board, 
president and CEO of PNM Resources an energy holding company 
headquartered in New Mexico with subsidiaries in New Mexico and 
Texas. We operate in both competitive and regulated markets in 
both the wholesale and the retail arenas. I appreciate this 
opportunity to discuss what I believe is the single greatest 
long term environmental and economic challenge facing my 
industry, climate change. I would like to thank Chairman 
Bingaman and Senator Domenici for the bipartisan leadership 
that you have demonstrated on this issue. Previously, I have 
testified before this committee on key architectural details 
necessary for a comprehensive climate bill and I provided 
additional details in my testimony.
    This morning I would like to use my comment time to focus 
particularly on technology and certain economic elements 
associated with this issue. I believe the most significant risk 
facing my industry when it comes to addressing climate change 
is the duel challenge of meeting the growing electricity demand 
in an increasing cost environment and the state of low and zero 
emitting technologies and their costs. We need to address 
climate change in a three phase cost effective approach, 
partially to allow technology to catch up that is to slow it, 
stop it and then reduce the rate of growth, or reduce the 
actual level. The technologies needed to achieve the maximum 
goals in each of these phases have serious impediments to full 
deployment. We need to remove the barriers and provide gap 
funding to allow full deployment of technology that is 
available today such as nuclear and in the near future, such as 
carbon capture and sequestration that can slow greenhouse gas 
emissions and this must include renewables, nuclear energy 
efficiency, advanced coal and also cross over technologies, 
like plug-in hybrids. We must more rapidly advance the capacity 
to and the policy for capturing and storing CO at a much larger 
scale than is currently planned. This is integral to enabling 
coal to remain a viable fuel source for both economic and 
energy security reasons.
    Senator Domenici. Can we go back again in your testimony 
and talk again about the concept of slow it, stop it and then 
what else
    Mr. Sterba. And reduce. This is a concept that we have 
spoken of before in the last hearing and one that I strongly 
support. We must first work on slowing the rate of growth of 
carbon dioxide emissions and the key to that is increases in 
efficiency. For example, there are technologies where we can 
take existing coal fired powerplants and make them more 
efficient by for example, re-blading the turbines which will 
effectively allow us to produce more energy for the same amount 
of fuel input. So the amount of carbon dioxide being emitted 
related to the amount of energy we are producing goes down. 
Alternatively, energy efficiency, the use of renewables, so we 
can slow the rate of growth then bring the rate of growth to 
zero and then decline so we reduce the emissions, that, the 
actual declination, must occur. But the question is, when must 
it occur and what are the technologies and their cost that we 
can use to get it to reduce and this slow, stop and reverse 
strategy which has been put forward by this piece of 
legislation that has been evaluated by EIA is a critical 
component to it Senator.
    Senator Domenici. Alright, thank you. Thank you for your 
time.
    Mr. Sterba. We also need a long term price signal to 
promote investment in cutting edge major capital projects such 
as clean coal and advanced nuclear so we can stop emissions 
growth while fueling our nation's economic growth. I believe 
this is consistent with the application of a safety valve to 
mitigate economic impacts while low and zero carbon 
alternatives are limited and expensive. We need sufficient 
financial support for basic research but more importantly 
development, demonstration and deployment. The biggest gap we 
must address is from promising technology in the lab to the 
ability to purchase commercialized technology. Funding for near 
and mid-term technology initiatives, needs to begin occurring 
well in advance of mandated reductions so that cost effective 
means to achieve reductions are available when they are 
required.
    Let me recommend four specific actions that Congress and 
this committee can begin to take action on. First is the 
authorization and full funding of research, but particularly 
development, demonstration and deployment of more climate 
friendly technologies and applications; second, the development 
of large scale carbon capture and storage demonstration 
projects and addressing the licensing and liability issues of 
such facilities so we can maintain the viability of coal for 
the future. The current projects that we have are at best 
25,000 metric tons. The deployment of the regional partnerships 
that are underway are in the range of 100,000 tons. A 500 mega 
watt single coal unit will produce about 4 million metric tons 
a year. There is a huge gap between what we are exploring and 
what we have got to be ready to implement. Third, promote and 
facilitate aggressive deployment of renewable energy and energy 
efficiency programs of which the simplest and most important 
steps can be authorizing the production tax credit for a 7 to 
10 year period instead of the 2 year extensions that we have 
had to live with. And second, to encourage the decoupling and 
other incentive mechanisms to fully use and develop energy 
efficiency alternatives at the State level. Last, moving toward 
a rational climate legislation that is capable of gaining 
essential bipartisan support for most the development of 
climate friendly technologies that could be achieved with 
existing and affordable technology in the short term and 
emerging and new technologies as they become available and 
economically viable and it also mitigates adverse economic 
impacts that may occur in the interim. I do believe that there 
is adequate information to move forward on all three, on all 
four of these points. I believe that we must have a long term 
market price signal but that does not impair the ability or is 
not impede the ability in effectiveness of short term 
mitigation that can come in the form of a safety valve or 
something of that nature.
    I believe the committee draft to address climate change is 
a very good start to this process. It provides many of the 
elements that I think are integral to being able to address 
this issue and that it can be the focal point for climate 
debate in the Senate. Thank you for your time and 
consideration.
    [The prepared statement of Mr. Sterba follows:]
 Prepared Statement of Jeffry E. Sterba, Chairman, President and CEO, 
                             PNM Resources
                              introduction
    Good morning Chairman Bingaman, Senator Domenici, and distinguished 
Members of the Committee on Energy and Natural Resources. Thank you for 
inviting me here today. I am Jeffry Sterba, Chairman of the Board, 
President, and Chief Executive Officer of the PNM Resources.
    I appreciate this opportunity to discuss what I believe is the 
single greatest long-term environmental and economic challenge facing 
the utility industry: climate change. Rather than critiquing what I 
expect is a thorough economic analysis by EIA, I will share with you my 
views on what legislative design elements are required to forge a 
political consensus on climate change legislation during the 110th 
Congress.
                             pnm resources
    But first, let me be clear that I am here today representing PNM 
Resources. PNM Resources is an energy holding company based in 
Albuquerque, N.M., with consolidated operating revenues of $2.3 
billion. Our electric generation is primarily a mix of coal, nuclear, 
wind and natural gas. Through its utility and energy service 
subsidiaries, PNM Resources supplies electricity to 738,000 homes and 
businesses in New Mexico and Texas, natural gas to 470,000 customers in 
New Mexico, and electricity to numerous wholesale customers throughout 
the southwest. Its utility subsidiaries are PNM, Texas-New Mexico Power 
and First Choice Power, a deregulated competitive retail electric 
provider in Texas. In November 2006, we announced a Joint Venture with 
Cascade Investments for the purpose of long-term investment in both in 
wholesale and retail electricity sales, electricity generation and 
energy trading.
    As the CEO of an electric and gas utility holding company, I 
believe that prudent risk management dictates that deliberate steps be 
taken to position PNM Resources and its subsidiaries to operate in a 
carbon-constrained world. For example, in 2003 our Board of Directors 
adopted the goal of reducing the intensity of greenhouse gas emissions 
from our utility operations in New Mexico by 7 percent by 2009. Other 
actions we have voluntarily undertaken to manage and reduce emissions 
of greenhouse gases at PNM and our other utility subsidiaries include:

   Greenhouse Gas Emissions Inventory: We have completed an 
        inventory of GHG emissions for our New Mexico operations and in 
        2007 will complete a similar company-wide inventory for all of 
        our operations.
   Pricing Carbon in Resource Planning: We are internalizing 
        the costs of carbon dioxide emissions into our electric supply 
        planning processes to account for potential future greenhouse 
        gas regulations. This will enable us to make more informed 
        resource decisions and allocate capital based on expected 
        future costs of compliance with greenhouse gas regulation.
   Diversifying Our Generation: We have created a diverse 
        portfolio of generation assets that include pulverized coal, 
        pressurized fluidized-bed technology, natural gas combined-
        cycle, nuclear, wind, distributed solar, and demand-side 
        resources to provide our customers with a cleaner, less carbon-
        intensive portfolio of resources.
   Renewable Energy: We have a 25-year power purchase agreement 
        for all of the output from the New Mexico Wind Energy Center. 
        The 204 MW of capacity from this facility represents over 8% of 
        our generation capacity. In 2005, we issued an RFP for non-wind 
        renewable energy and a deal for independent developers to 
        supply power to PNM Resources from a 32 MW biomass project, 
        which has been signed. We have also launched a program that 
        pays customers $.21 per kWh in incentives payments and credits 
        for power produced from customer-owned solar PV systems.
   Biodiesel: We have switched to using biodiesel fuel in 57 
        percent of our diesel-powered vehicle fleet in New Mexico.
   Carbon Sequestration: We have participated in a number of 
        programs aimed at reducing or sequestering greenhouse gasses, 
        and
   Energy Efficiency: We have made significant investments in 
        energy efficiency to offset 10% of annual energy demand growth 
        in our Texas service territory. In 2006, we introduced natural 
        gas efficiency programs to our New Mexico customers and will be 
        filing a suite of electric energy efficiency programs in 
        January 2007.
       senate energy and natural resources committee workshop on 
                             climate change
    Nine months ago, I appeared before this Committee and testified on 
the Committee's thought-provoking white paper, Design Elements of a 
mandatory Market-Based Greenhouse Gas Regulatory System. Today, I want 
to thank both Chairman Bingaman and Senator Domenici for that hearing 
and for your bipartisan leadership on this vital national issue. You 
demonstrate the kind of political leadership needed to steer our 
country during this important debate towards an environmentally sound, 
economically viable and equitable legislative solution to climate 
change.
    In addition to your leadership, the workshop was also timely as it 
created a public dialogue around what politicians, utilities, 
environmental organizations, energy producers and manufacturers and 
industry believed were very polarizing issues. But it also became clear 
there were potential areas of agreement among these diverse 
stakeholders.
                     the electric utility industry
    As I am sure you are aware, there are varying opinions within the 
electric utility industry on mandating reductions and genuine concerns 
about cost impacts on consumers and the availability of low and non-
greenhouse gas emitting technologies that can deliver electricity at 
affordable prices and provide reliable service. Yet, I think there is 
agreement that significant greenhouse gas emission reductions are 
attainable only with a full suite of technology options, including 
continued development of renewable resources, advanced clean-coal 
technologies including but not limited to IGCC, carbon capture and 
storage, advanced nuclear and increased energy efficiency and the 
potential of plug-in hybrid vehicles. While a few of these options 
currently are commercially available--though at a higher cost--many are 
not. Making all of these technologies commercially available at a 
reasonable cost is critical to addressing climate change in both the 
short and long term.
                               next steps
    Our legislative process is famously characterized as 
``deliberative'' and there are many excellent reasons for that, but 
deliberative can also mean terribly slow. I urge this Committee and 
Congress to begin taking immediate action, including:

          1. We need authorization and full funding of research, 
        development, demonstration, and deployment of more climate 
        friendly technologies and applications;
          2. We must develop large-scale carbon capture and storage 
        demonstration projects and address the licensing and liability 
        issues of such facilities, as it is essential we maintain the 
        viability of coal to meet our country's energy needs;
          3. We need to promote aggressive deployment of renewable 
        energy and energy efficiency programs, including smart metering 
        and plug-in hybrids; and
          4. We need to move toward rational climate legislation that 
        is capable of gaining essential bipartisan support and promotes 
        the development of climate friendly technologies that can be 
        achieved with existing and affordable technology in the short 
        term, and emerging and new technologies as they become 
        available and economically viable.

    In the past, we have seen numerous climate bills that--based on the 
state of current technologies--are unrealistic approaches to addressing 
climate change on a national level. We will not make real progress in 
addressing this critical issue if we continue to spend valuable time on 
legislation that only works in one region or state, only addresses one 
sector or only promotes one or a few technologies.
    Chairman Bingaman, the Committee has devoted significant time and 
careful thought in the development of a comprehensive proposal to 
address climate change. More than any other proposal, the Committee 
draft recognizes the limits of today's commercial technology and the 
economic risks currently associated with addressing climate change for 
my industry and our ratepayers. It begins with modest reductions but 
through the five-year review has the flexibility to implement more 
aggressive emission reductions made possible by technology advancement. 
The draft creates and allocates funds for critical technology 
advancement, though we need to find means to advance the availability 
of such funding. And, it utilizes a cost control mechanism that avoids 
adverse economic impact while enabling a long-term price signal for 
major capital projects. For all of these reasons, I believe the 
Committee draft to address climate change should be the focal point of 
the climate debate in the Senate.
                               conclusion
    Thank you for your time and consideration. I would be pleased to 
answer any questions you might have and I look forward to being of 
service in any way I can to this Committee.

    The Chairman. Thank you very much.
    Mr. Lashof, thank you for being here.

 STATEMENT OF DANIEL A. LASHOF, Ph.D., CLIMATE CENTER SCIENCE 
          DIRECTOR, NATURAL RESOURCES DEFENSE COUNCIL

    Dr. Lashof. Thank you. Thank you, Mr. Chairman. I 
appreciate the opportunity to be here, Senator Domenici and 
members of the committee. I am Daniel Lashof. I am the science 
director and deputy director of the Climate Center at NRDC and 
I want to start by just underlining what has been said before 
appreciating your leadership and working on the critical 
details of global warming legislation that are going to be 
needed to move the legislative process forward.
    I believe that with Monday's call to action from the U.S. 
Climate Action Partnership that Mr. Sterba is part of along 
with NRDC and many other leading organizations and companies 
that that really changes the political landscape on global 
warming and I think we have a real opportunity to enact 
effective climate legislation this year so I look forward to 
working with you and members of this committee to seize that 
opportunity.
    In summarizing my testimony I would like to make three 
points about the EIA analysis and then three more general 
points about emission allowance allocation. First, EIA's 
analysis clearly shows that the discussion draft proposal would 
have minimal macro-economic impacts on the U.S. economy. EIA 
projects that GDP would grow from $10.8 trillion in 2004 to 
$17.5 trillion in 2020 and over $23 trillion in 2030 with or 
without the emission caps and the discussion draft and 
regardless of how the emission allowance is allocated so robust 
economic growth, very small deltas which get magnified in some 
of the charts, but we need to keep it in mind. This is a 
growing economy under all of these cases. The analysis also 
indicates however, that the proposal would not reduce 
greenhouse gas emissions below current levels even through 
2030, and there are two reasons for this, one is the intensity 
targets themselves don't decline fast enough to get emissions 
down below current levels over that time frame and second, the 
safety valve part of the proposal means the actual emissions 
that are projected by EIA would be higher than the nominal caps 
in the proposal. While in my view the discussion draft contains 
many valuable proposals regarding emission allowance 
allocation, faster and deeper emission reductions, such as 
those proposed in the U.S. Climate Action Partnership, are 
essential to prevent dangerous global warming.
    My second point is that the small differences in GDP that 
EIA projects under the Phased Auction verses the Full Auction 
approach as I think, Mr. Gruenspecht indicated are primarily 
related to the assumptions the EIA made about deficit reduction 
verses tax cuts. They assume that under the Full Auction the 
extra revenues would be dedicated to deficit reduction. In 
their model that tends to dampen current consumption over this 
time frame. If they had made a different assumption holding say 
the deficit constant, and using the extra revenue for tax cuts, 
I think they would have found the opposite, that the Full 
Auction would actually have a slightly higher GDP than under 
the Phased Auction approach.
    My third point and this is probably the most important one 
on the EIA analysis is that it does not reflect important 
provisions of the discussion draft designed to promote energy 
efficiency and deployment of advanced technology. Appropriate 
analysis of these provisions would show that I think much 
deeper emission reductions could be achieved with minimal 
macro-economic impacts or possibly with an economic benefit. 
The two primary ways in which the proposal would achieve this, 
first, their provisions promote increases in energy efficiency 
by overcoming barriers in the marketplace to energy efficiency 
and provisions to advance the deployment of low and zero 
emission carbon technologies. For example, the proposal 
includes a Climate Change Trust Fund, funded through the 
allowance allocation system as well as proposing dedicating 
allocating allowances to States or the President to use the 
revenues for similar purposes. I particularly favor the idea of 
allocating a substantial portion of the allowances to States. 
We are in a very good position to particularly promote energy 
efficiency. EIA's analysis does not incorporate the benefits of 
those critical parts of this proposal and I think it is 
important that as this committee looks at this and other 
proposals that include deeper emission reductions those 
benefits need to really be fully taken into account.
    Now let me turn to a couple more general points. First, the 
emission allowances created under any Greenhouse Gas Cap and 
Trade program are a valuable public asset. Deciding how to use 
that asset and how to allocate it is a critical public policy 
decision that Congress has to wrestle with. The stakes are very 
high. If you look at EIA's projection for this proposal in 2020 
the value of emission allowances allocated just in that year 
would be over $50 billion. That is a lot of money by anybody's 
calculation. That is not the cost of the program. That is the 
value of the allowances. So it is a distributional question how 
those are used. I think the allocation of these resources 
should start from the principle that no one has an entitlement 
to put carbon dioxide emissions into the atmosphere. Economists 
widely recognize that most efficient and fair way to allocate 
emission allowances is through a public auction and I believe 
the revenues from that auction should be dedicated to the 
purposes of the program in protecting climate change and to 
other public purposes and this is precisely the approach that 
New York and Massachusetts have announced that they are 
planning to take in implementing the Regional Greenhouse Gas 
Initiative in their States.
    Second, I think that most allowances should be allocated in 
a way that lowers the cost of implementing the program both to 
consumers and to businesses by strategically promoting 
increases in energy efficiency and widespread use of the new 
technology as this discussion draft indeed does, I think that 
it can go further in that direction, more of the allowances 
could be allocated to those programs. As you know Mr. Chairman, 
these benefits are not just theoretical, we have realized in 
practice where energy efficiency is effectively promoted major 
benefits. For example, in California where there have been 
robust programs for many years, the per capita electricity 
consumption has been stabilized over the last 30 years while in 
the rest of the Nation it is increased by 50 percent. So these 
types of programs make a real difference and it would make it 
much less expensive to achieve emission caps at any level.
    Third, I would suggest a slightly different approach to 
allocating allowances in the electricity industry. Allocating 
allowances to generating companies is likely to provide some 
inequitable outcomes that depend on whether a particular 
jurisdiction is under cost of service regulation or in a 
competitive market and we know about 40 percent of the country 
has competitive wholesale markets, the rest under more 
traditional cost of service regulation and this problem has 
already surfaced in European markets where the United Kingdom 
authorities have concluded that their allocation system which 
was to generators on a grandfathered basis has produced a 
significant windfall profits and they are looking to change 
that. Electricity distribution companies on the other hand, are 
under continuous cost of service regulation in all 
jurisdictions. This would give regulators a way to ensure that 
the value of the allowances is used to benefit customers 
through both energy efficiency and adjustments in rates. Now 
for some companies like Mr. Sterba's at least in New Mexico 
there is no difference between the two, it is the same thing 
but in other jurisdictions where there is wholesale competitive 
markets it would make a difference and so I urge you to 
consider that. Exelon proposed something similar in the 
workshop that you held earlier last year.
    So in conclusion, let me just finish by saying I think 
EIA's analysis provides an upper bound on the cost of 
implementing the discussion draft but it fails to account for 
important provisions designed to promote increases in 
efficiency and deployment of low carbon technologies. Congress 
should allocate emission allowances strategically to reduce 
compliance costs and account for the benefits of this approach 
in the analysis that it considers of proposals. This will be 
particularly important for proposals that would require 
emissions to be reduced substantially below current levels 
which I believe is necessary to prevent dangerous global 
warming. Thank you, Mr. Chairman.
    [The prepared statement of Dr. Lashof follows:]
 Prepared Statement of Daniel A. Lashof, Ph.D., Climate Center Science 
              Director, Natural Resources Defense Council
                              introduction
    Thank you for the opportunity to share my views regarding the 
Energy Information Administration's analysis of Chairman Bingaman's 
greenhouse gas cap-and-trade discussion draft proposal.\1\ My name is 
Daniel A. Lashof, and I am the science director of the Climate Center 
at the Natural Resources Defense Council (NRDC). NRDC is a national, 
nonprofit organization of scientists, lawyers and environmental 
specialists dedicated to protecting public health and the environment. 
Founded in 1970, NRDC has more than 1.2 million members and online 
activists nationwide, served from offices in New York, Washington, Los 
Angeles and San Francisco.
---------------------------------------------------------------------------
    \1\ Energy Information Administration, 2007. Energy Market and 
Economic Impacts of a Proposal to Reduce Greenhouse Gas Intensity with 
a Cap and Trade System. U.S. Department of Energy, Washington, DC. SR/
OIAF/2007-01 (January).
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    My testimony will discuss EIA's key findings and shortcomings of 
EIA's analysis, particularly with respect to the treatment of energy 
efficiency and technology deployment programs. I will then turn to more 
general comments on the emission allowance allocation system proposed 
in the discussion draft.
                     emissions rise instead of fall
    The Energy Information Administration (EIA) analysis of Chairman 
Bingaman's greenhouse gas cap and trade discussion draft demonstrates 
that the proposal would have minimal macroeconomic impacts on the U.S. 
economy regardless of how emission allowances are allocated. The 
analysis also indicates, however, that the proposal would not reduce 
greenhouse gas emissions below current levels through at least 2030, 
although it would slow the rate of emission growth. Emissions grow 
under the proposal for two reasons: First, the specified reductions in 
emissions intensity are not rapid enough to reduce emissions below 
current levels by 2030, and second the ``safety valve'' provision of 
the proposal allows emissions to substantially exceed the nominal cap.
    While the discussion draft contains many valuable proposals 
regarding the allocation of emission allowances, faster and deeper 
emission reductions, such as those proposed by the U.S. Climate Action 
Partnership in its January 22nd Call for Action,\2\ are essential to 
prevent dangerous global warming.
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    \2\ www.us-cap.org.
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                   macroeconomic impacts are minimal
    EIA's conclusion that there would be minimal macroeconomic impacts 
from a greenhouse gas emissions cap and trade program such as the 
Bingaman discussion draft is robust. Regardless of how emission 
allowances are allocated EIA finds that the impact on the present value 
of Gross Domestic Product (GDP) would be less than 0.2 percent, not 
accounting for the health and environmental benefits the program would 
produce.
    EIA's analysis suggests that macroeconomic costs would be somewhat 
higher if all the emission allowances issued under the program are 
auctioned than under the ``Phased Auction'' approach outlined in the 
discussion draft. This conclusion appears to be primarily related to 
the way EIA analyzed the ``Full Auction'' case, rather than the 
inherent merits of this approach relative to the Phased Auction 
alternative. In particular, EIA assumes that all of the additional 
revenue generated under the Full Auction would be devoted to deficit 
reduction, which has a dampening effect on consumption in EIA's model 
over the analysis time horizon. This result is not primarily related to 
the cap-and-trade program, however. Any deficit reduction policy 
considered in this model would likely yield similar results. 
Conversely, had EIA assumed that the additional revenue from the Full 
Auction was used to cut taxes, holding the deficit constant, the model 
would likely project slightly more economic output under the Full 
Auction compared with the Phased Auction.
    This does not imply that allowance allocation is unimportant. To 
the contrary, emission allowances created under any greenhouse gas cap 
and trade program will be a valuable public asset and deciding how to 
use this asset fairly and effectively is a critical part of 
Congressional deliberation on global warming legislation.
                 allowances are a valuable public asset
    Policy decisions about how allowances will be allocated should 
start from the principle that no one has an entitlement to pollute the 
atmosphere with heat-trapping gases. An emission allowance represents a 
limited permission to release one ton of carbon dioxide into the 
atmosphere. This is not a property right and there is no inherent 
policy rationale for allocating allowances based on historic emissions. 
Rather, the atmosphere's limited capacity to accommodate emissions is a 
public asset, much like the radio frequency spectrum. Economists widely 
recognize that the most efficient and fair way to allocate this asset 
is through a public auction. Revenues from such an auction should be 
used to further the goal of solving global warming and for other public 
purposes. This is precisely the approach that New York and 
Massachusetts are adopting to allocate emission allowances under the 
Regional Greenhouse Gas Initiative. While there may be a number of 
policy and practical reasons to deviate from this principle by 
allocating some emission allowances without charge, any free 
allocations to the private sector should be limited and phased out over 
time, and the burden should be on those proposing free allocations to 
justify this approach.
    The stakes are considerable. EIA projects that covered greenhouse 
gas emissions under the discussion draft proposal would be 7.1 billion 
tons in 2020. For each ton emitted covered entities will have to retire 
one emission allowance, which EIA projects will have a market value of 
$7.15 in that year. Thus the total value of emission allowances used in 
2020 would be over $50 billion. Analysis by Dallas Burtraw and others 
at Resources For the Future,\3\ as well as experience with the pilot 
phase of the European Union Emissions Trading Scheme, shows that the 
value of emission allowances greatly exceeds the impact of the 
emissions cap on the profitability of firms covered by the program. 
Hence, there would be substantial windfall profits were all of the 
emission allowances to be distributed for free to the private sector, 
particularly for firms operating in competitive markets in which 
increased marginal costs will be passed through to consumers.
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    \3\ http://www.rff.org/Documents/RFF-DP-05-55.pdf.
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              allowances should be allocated strategically
    In addition to being fair, the allowance allocation approach should 
strategically promote increases in energy efficiency and widespread use 
of available low carbon technologies. NRDC recommends devoting most of 
the value of emission allowances to these purposes in order to reduce 
costs for both. consumers and businesses. While the discussion draft 
proposal stops short of this, it does appropriately devote a 
substantial portion of the value of allowances to promoting increased 
energy efficiency and deployment of advanced zero- and low-carbon 
technologies. This includes not only the $50 billion Climate Change 
Trust Fund, but also the value of the portion of allowances allocated 
to States or the President. Unfortunately, EIA did not analyze the 
impact of these important provisions of the proposal. While analyzing 
these provisions is challenging, ignoring them is misleading.
    Appropriate analysis of the energy efficiency and technology 
deployment provisions of the proposal would show that much deeper 
emission reductions could be achieved with minimal macroeconomic 
impacts or even with net economic benefits. There are two primary ways 
in which these provisions would promote low cost emission reductions: 
First, by overcoming market failures that prevent cost-effective 
increases in energy productivity, and second by accelerating technology 
innovations that reduce costs and improve performance as a function of 
learning-by-doing. Neither of these effects is appropriately reflected 
in the EIA analysis.
    eia neglects energy productivity gains from allowance allocation
    The proposed incentives for energy efficiency would overcome 
barriers to cost-effective energy productivity improvements. Satisfying 
energy service demands with less primary energy is the fastest, 
cheapest, and cleanest way to reduce global warming pollution, and will 
make it much less expensive to achieve any greenhouse gas emission cap. 
This opportunity is large and consequential, as documented recently at 
the global level in the Stem Review of the Economics of Climate Change 
\4\ and the McKinsey Global Institute report on energy productivity.\5\ 
Numerous reports have reached similar conclusions for the United States 
at both the state and federal level. For example, last week NRDC 
released a report prepared by Optimal Energy which shows that cost-
effective energy efficiency, demand response, and combined heat and 
power investments in Texas could eliminate projected electricity demand 
growth and obviate the claimed need for more than a dozen new high-
emitting coal fired power plants in the state, avoiding 400 million 
tons of CO2 emissions over the life of the efficiency 
measures.\6\ I have attached a copy of this report to my testimony and 
ask that it be included in the record of this hearing.
---------------------------------------------------------------------------
    \4\ www.hmtreasury.gov.uk/independent_reviews/
stern_review_economics_climate_change/stern_review_report.cfm.
    \5\ http://www.mckinsey.com/mgi/publications/Global_Energy_Demand/
index.asp.
    \6\ http://docs.nrdc.org/globalwarming/glo_07011701A.pdf.
---------------------------------------------------------------------------
    The benefits of robust energy efficiency policies are not just 
theoretical. They have been demonstrated in practice. In California per 
capita electricity consumption has been held constant over the last 30 
years while the rest of the nation's per capita consumption increased 
by more than 50 percent.\7\ This is no accident: over the period 
California has had the nation's strongest building and appliance 
efficiency standards and most aggressive utility efficiency programs. 
Nonetheless, EIA only considered energy demand changes related to their 
projections of small changes in retail prices associated with the 
discussion draft proposal, and made no attempt to analyze the effects 
of federal or state incentives provided through the Climate Change 
Trust Fund or through the allowances allocated to States. As a result 
EIA projects that residential energy consumption in 2020 under the 
discussion draft proposal (Phased Auction case) would be only 0.4 
percent lower than in the Reference case. Similarly, EIA projects just 
1 percent less transportation sector energy consumption in 2020 due to 
the proposal.
---------------------------------------------------------------------------
    \7\ http://www.nrdc.org/air/energy/fcagoals.asp.
---------------------------------------------------------------------------
   eia neglects technology deployment driven by allowance allocation
    EIA's analysis also fails to account for the deployment of zero- 
and low-emission energy technologies induced by the Climate Change 
Trust Fund and State efforts. There are two important mechanisms that 
should be considered. First, the low-emission facilities that would be 
built as a direct result of the proposed deployment incentives. Second, 
early deployment will result in technological learning that would 
improve the performance and reduce the cost of next generation 
facilities, making these technologies more competitive with higher-
emitting competitors regardless of the availability of additional 
incentives. Because EIA did not consider these effects, and because 
allowance prices are relatively low under the discussion draft 
proposal, EIA does not project any use of carbon capture and geologic 
disposal technology for power plants during the timeframe of their 
analysis. (It also appears that EIA did not consider the opportunity to 
use industrial CO2 for enhanced oil recovery in conjunction 
with geologic disposal, or they likely would have found that at least 
some carbon capture and disposal would be cost effective at the 
allowance prices they forecast).
               allocate a portion of allowances to states
    NRDC supports the idea of allocating at least 30 percent of the 
available allowances to States as proposed in the discussion draft. 
States are in the best position to address specific equity concerns and 
promote energy efficiency and infrastructure investments that will help 
achieve the cap at the lowest possible cost. For example, States are 
primarily responsible for enforcing building codes and planning 
transportation infrastructure, both of which can have a substantial 
impact on carbon dioxide emissions.
             effectively addresses competitiveness concerns
    Special consideration is needed to ensure that energy-intensive 
industries facing international competition are not put at a 
significant disadvantage by the program. A grandfathered allocation to 
these firms will not necessarily achieve this goal, however, because 
their most profitable course may still be to shut down domestic 
production and sell their allowances. To prevent this without creating 
a perverse incentive to keep operating the least efficient, highest 
polluting plants, the allocation to energy intensive firms could be 
reduced in proportion to any reductions in their regional employment. 
(From a broader perspective, the most efficient policy for addressing 
this concern is border tax adjustments for energy intensive products 
traded with countries that don't have equivalent emission reduction 
programs).
 allocate to electricity distribution companies rather than generators
    The discussion draft proposes to initially allocate 30 percent of 
the total allowance pool to electricity generators based on their share 
of emissions during 2004-2006. Although this free allocation begins to 
decline in 2017, nearly 15 percent of allowances would still be 
allocated on this basis in 2030. This appears to be substantially in 
excess of the amount that can be justified on the basis of mitigating 
economic transition costs to relatively more adversely affected firms. 
As a result, allocating allowances in this manner would likely result 
in substantial inequities. This is because about 40 percent of ITS 
generation sells its output at market prices into various largely 
unregulated wholesale markets, while the rest remains subject to 
diverse forms of cost-of-service price regulation.\8\ Impacts of 
allocations on consumers and shareholders will vary widely and state 
regulators will not be able to respond to real or perceived inequities. 
In many cases, generators can be expected to pass through the increased 
price of carbon regulation in their wholesale prices, and also to keep 
the proceeds from the sale of allowances allocated to them initially. 
Consumers obviously will see the price signal, but not the benefits 
from the allowance allocation. The problem has already surfaced in 
European markets, leading United Kingdom authorities to conclude that 
initial allocation to electric generators serving competitive markets 
resulted in large windfall profits.\9\
---------------------------------------------------------------------------
    \8\ This is the estimate of the Electric Power Supply Association, 
which represents competitive power suppliers.
    \9\ House of Commons, Environmental-Audit Committee, ``The 
International Problem of Climate Change: UK Leadership in the G8 and 
EU,'' p. 17 (Mar. 16, 2005).
---------------------------------------------------------------------------
    Electricity distribution companies, by contrast, provide service 
under continuous price regulation from either state commissions (for 
investor-owned utilities, accounting for about three-fourths of retail 
sales) or local boards (for publicly owned utilities and cooperatives, 
which serve the rest of the nation). Regulators can therefore ensure 
that consumers benefit from any allowances allocated to distribution 
companies by directing funds to energy efficiency investments and long-
term emissions reductions, and by adjusting rates. Many in the utility 
industry and its regulators are likely to prefer distribution company 
allocation to a generator-based system (e.g., see Exelon's comments on 
the Energy Committee White Paper).
    Congress would have a wide range of options in making allocations 
to distribution utilities, ranging from the carbon content of 
electricity delivered by distribution companies to the volumes of 
electricity delivered (with numerous intermediate compromise 
possibilities). Utilities that distribute mostly coal-fired electricity 
are likely to advocate an emissions-based formula on the grounds that 
they will see the largest increase in electricity costs as a result of 
the CO2 emissions cap. Utilities that distribute mostly low-
emission resources are likely to advocate a formula based on 
electricity sales on the grounds that their customers are already 
paying higher prices for a cleaner generation portfolio.
    Whether or not the allocations should be updated over time is an 
independent question. The proposed phase-out of free allocations to the 
private sector diminishes the case for updating in general (the more 
rapid the phase-out the less need to update the free allocation). Any 
allocation based on carbon content should definitely not be updated 
because that would create a perverse incentive to increase emissions in 
order to obtain a larger allocation, raising the overall cost of 
achieving the emission cap (or increasing actual emissions if the 
safety valve is open). There is a stronger argument for updating a 
sales-based formula as a matter of equity between high-growth and low-
growth areas.
    Such an approach would need to include an adjustment for 
independently verified energy efficiency to ensure that updating does 
not create a disincentive for additional energy efficiency 
improvements.
    The simplest approach would be to allocate based on electricity 
sales during the same historical period used for allocating to other 
sectors. If Congress decides to allocate (in part or in whole) based on 
historical emissions, however, calculating the carbon content of those 
electricity sales is certainly feasible and should not be seen as an 
obstacle to allocating to distribution companies. As long as the 
allocation is to distribution companies (to avoid windfall profits) and 
is not updated in a way that creates perverse incentives (to avoid 
raising costs or emissions), then the specific allocation formula is a 
matter of regional equity and an appropriate subject for negotiations 
during the legislative process.
    To prevent state regulators from masking price signals to consumers 
through their regulation of distribution companies, it would be 
appropriate for Congress to condition the grant of free allowances on a 
requirement that a portion be used to promote energy efficiency and 
that they not be used to mask the cost of carbon emissions in the form 
of directly offsetting subsidies for retail electricity costs.
    Of course state regulators cannot change or hide a very potent 
price signal, which is the added cost of carbon-intensive generation to 
its utility purchasers (and to other entities that buy power in 
wholesale markets to serve retail customers). This is the most 
important economic element of any cap-and-trade system for the 
generation sector, because it shapes the long-term investment and 
operational decisions that drive the sector's total emissions. Carbon-
intensive generation will increase in price to these decision-makers as 
the cap takes effect and tightens, regardless of how retail-price 
regulators decide to deal with proceeds from the sales of allowances 
allocated initially to their distribution companies.
                               conclusion
    EIA's analysis provides an upper bound on the costs of implementing 
Chairman Bingaman's discussion draft proposal, but it fails to account 
for important provisions designed to promote increases in energy 
efficiency and deployment of zero- and low-carbon technologies. 
Congress should allocate emission allowances strategically to reduce 
compliance costs and account for the benefits of this approach as it 
considers a range of legislative proposals. This will be particularly 
important for proposals that would require emissions to be reduced 
substantially below current levels, which is essential to prevent 
dangerous global warming.

    The Chairman. Thank you very much.
    Anne Smith, we are very glad to have you today. Go right 
ahead.

      STATEMENT OF ANNE E. SMITH, Ph.D., VICE PRESIDENT, 
                       CRA INTERNATIONAL

    Dr. Smith. Thank you Mr. Chairman and members of the 
committee. Thank you for inviting me to participate in today's 
hearing. My name is Anne Smith. I am an economist and vice 
president at CRA International. The opinions I present are my 
own and not those of CRA.
    EIA's analysis of the draft bill finds a small but not cost 
lest impact on the U.S. economy. The 0.1 percent reduction in 
GDP that we have heard about implies a present value cost per 
person to every person in the United States of $800. The bill 
also finds, the analysis also finds, significant shifts in 
certain parts in the economy. EIA reports that coal demand 
remains stable under the bill but this also says that the bill 
would almost entirely eradicate this sectors prospects for 
growth. For a business plan, that is a devastating outcome. 
Nevertheless, the draft bill probably would not have 
devastating impacts to the economy as a whole. This is directly 
attributable to its safety valve feature and to the specific 
price level associated in this bill with the safety valve. In 
earlier EIA analysis showed that carbon prices would be two to 
four times higher if the safety valve were to be removed and we 
have every reason to expect that the current draft bill's costs 
would balloon upwards in the same way if the safety valve were 
to be removed from it. So if Congress wants to keep the costs 
of this policy low it must keep the safety valve price low.
    EIA's analysis also tells us that the emission reductions 
achieved on the proposed safety valve are small. In fact, 
emissions continue to rise even through 2030 in the 
projections. If this is all that the draft bill would 
accomplish does it make sense to pay even the small amount for 
it. The emissions reductions needed to stabilize climate change 
are huge. Many, many times more than this draft bill is 
projected to accomplish and they have to accomplished on a 
global scale. EIA's analyses shows that this simply cannot be 
done at a low cost with all of our current technological 
options. An affordable reduction in climate change risks will 
require revolutionary transformation of energy technology 
through intensive and reformed R&D policy. The current draft 
bill misses this need all together and for that reason I do not 
feel it is a good first step in developing a reasonable climate 
policy. Some people will argue back that the draft bill's 
Climate Change Trust Fund is an R&D provision including someone 
sitting directly to my right who has just made that point. It 
is not an R&D provision. It only provides deployment incentives 
which are subsidies to technologies that are already, almost 
ready, to enter the market. These trust fund subsidies also are 
redundant. The carbon price serves as the deployment incentive 
in this bill and by offering a second subsidy for technologies 
that are going to enter the market anyway, the draft bill 
creates free rider-ship at its worse. It makes the subsidies a 
waste of the valuable allowance auction revenues.
    The Trust Fund also reflects bad R&D policy practice as 
evidenced in the past. It attempts to pick winners by rigidly 
allocating funding across types of technologies rather than 
letting all these types of technologies to compete for those 
resources based on their successes. Also, the subsidy rules 
determining which companies will win the subsidies do not pick 
the projects that would provide the lowest dollar per ton 
removed reductions and that should be the goal. But most 
importantly of all, the subsidies fail to address the kind of 
R&D that is needed to start the world down the path towards 
huge, a huge emissions reduction goal without going bankrupt 
along the way. The kind of R&D that I believe is needed is 
basic research and basic research that seeks breakthroughs in 
science and applications of science's technologies. The 
challenges for us is to design effective incentives to guide 
basic science researchers towards those successful outcomes in 
new energy systems solutions and the draft bill never considers 
these needs. What we need is a bill with provisions for 
dramatically reforming basic R&D institutions, incentives and 
funding. Carbon pricing provisions should support this core 
role not supplant it. The low safety valve price needs to be 
paired with a vision and a plan for how we will create the 
astounding degree of technological change necessary to reduce 
emissions at such low prices and without this businesses facing 
this cap will continue to face planning uncertainty, 
uncertainty that costly caps might be imposed at some point 
within their investment planning horizon. So this kind of R&D 
policy must be initiated immediately. The hope for any new 
solutions by a time frame such as 2030 yet the policy community 
is transfixed by overly complex cap and trade schemes. They 
cannot have meaningful impact on emissions until decades after 
such an R&D policy has been established. The draft bill has the 
cart but not the horse.
    Thank you for this opportunity to share my views on this 
important topic. My written statement makes additional comments 
that I hope will be inserted into the record.
    [The prepared statement of Dr. Smith follows:]
      Prepared Statement of Anne E. Smith, Ph.D., Vice President, 
                           CRA International
    Mr. Chairman and members of the committee, thank you for your 
invitation to participate in today's hearing. I am Anne Smith, and I am 
a Vice President of CRA International. Starting with my Ph.D. thesis in 
economics at Stanford University, I have spent the past twenty-five 
years assessing the most cost-effective ways to design policies for 
managing environmental risks. For the past fifteen years I have focused 
my attention on the design of policies to address climate change risks, 
with a particular interest in the implications of different ways of 
implementing greenhouse (GHG) gas emissions trading programs. I thank 
you for the opportunity to share my findings and climate policy design 
insights with you. My written and oral testimony reflect my own 
research and opinions, and do not represent any positions of my 
company, CRA International.
    The topic of today's hearing is a proposal to reduce greenhouse gas 
intensity with a cap and trade system that Senator Bingaman's office 
has prepared. (I will call this the ``Proposed Policy'' in my 
testimony). At Senator Bingaman's request, the Energy Information 
Administration (EIA) has prepared estimates of the energy market 
impacts and economic impacts of this proposal using its NEMS model 
combined with a macroeconomic model from Global Insight, Inc.\1\ (I 
will refer to this as the ``EIA report'' in my testimony.) EIA's 
results are widely reported to find only small economic impacts, with 
one of the most frequently cited results being that GDP would be 
reduced by only 0.1% through 2030.
---------------------------------------------------------------------------
    \1\ EIA, Energy Market and Economic Impacts of a Proposal to Reduce 
Greenhouse Gas Intensity with a Cap and Trade System, SR/OIAF/2007-01, 
January 2007.
---------------------------------------------------------------------------
    While a 0.1% reduction is small relative to total GDP, it is 
important to keep in mind that GDP is a very large number. A small 
fraction of GDP can still be a quite significant cost in absolute 
terms. For example, this small loss of GDP is equal to a present value 
cost of $800 per person in the U.S. Also, it is possible to affect the 
apparent size of an impact estimate by changing the benchmark that it 
is compared to. For example, one could choose to compare the estimated 
reduction in GDP to the total growth in GDP that would be expected in 
the absence of the proposed policy. The same absolute GDP loss would 
eliminate about 0.7% of the future anticipated growth in GDP.
    None of these alternative ways of stating the estimated costs 
indicate that the Proposed Policy's impacts are severe, or that one 
should characterize the Proposed Policy as ``unaffordable.'' Clearly, 
the Proposed Policy is far less costly than some of the other climate 
policy proposals that are currently in play. However, the primary 
reason its costs are lower is because the emissions reductions that it 
offers are so much smaller. This unavoidable trade-off between 
emissions reduction and policy cost was made quite clear in the earlier 
analysis that EIA performed at the request of Senator Salazar for a 
range of different safety valve prices.\2\ It is also apparent in the 
two safety valve sensitivity cases in the current EIA report. As the 
cost of the policy rises or falls, so too do the emissions reductions 
achieved. In short, ``you get what you pay for.''
---------------------------------------------------------------------------
    \2\ EIA, Energy Market Impacts of Alternative Greenhouse Intensity 
Reduction Goals, SR/OIAF/2006-01, March 2006.
---------------------------------------------------------------------------
    Thus, the EIA report offers no epiphany that we have finally found 
a greenhouse gas policy approach that achieves meaningful emissions 
reductions at an affordable cost. The EIA report only shows that the 
degree of emissions reduction required can be reduced to the point 
where the expected costs of the policy are small. The key question, 
then, is whether this is a good climate policy proposal that is worth 
the cost that it does impose on us. In my judgment, the Proposed Policy 
can be viewed as one of the more efficient ways of imposing a cap on 
emissions, but this does not make it an effective first step to a 
national policy to manage and mitigate risks of climate change.
       is the proposed policy an efficient way to cap emissions?
    I will first address why the Proposed Policy is one of the more 
efficient ways of imposing a cap on U.S. greenhouse gas emissions:

   The Proposed Policy uses an ``upstream'' approach, which 
        offers the most comprehensive coverage of national greenhouse 
        gas emissions subject to the policy mechanism known as cap-and-
        trade. Greater coverage of emissions translates into greater 
        economic efficiency for each incremental degree of emissions 
        reduction. The policy merits of the upstream approach for 
        greenhouse gas emissions have been known for a long 
        time,3,4 but unfortunately have rarely been included 
        in proposed policies.
---------------------------------------------------------------------------
    \3\ Anne E. Smith, Anders Gjerde, et al., CO2 Trading 
Issues, Volume 2: Choosing the Market Level for Trading, Final report 
of Decision Focus Incorporated to Office of Policy, Planning and 
Evaluation, U.S. Environmental Protection Agency, EPA Contract No. 68-
CO-0021, May 1992.
    \4\ E.J. Balistreri, P.M. Bernstein et al., ``Analysis of the 
Reduction of Carbon Emissions Through Tradable Permits or Technology 
Standards in a CGE Framework,'' AERE/Harvard Workshop on Market-Based 
Instruments for Environmental Protection, Cambridge, MA, July 18-20, 
1999.
---------------------------------------------------------------------------
   An additional advantage of the Proposed Policy is that it 
        relies solely on the market-based measures, eschewing costly 
        technology standards such as automobile fuel economy standards 
        (e.g., CAFE). An earlier EIA report found that the CAFE 
        standard that was in the 2005-era ``Bingaman Amendment'' was a 
        very costly way of increasing emissions reductions that could 
        be achieved.\5\ Fortunately, it has been omitted in Senator 
        Bingaman's current proposal.
---------------------------------------------------------------------------
    \5\ EIA, Impacts of Modeled Recommendations of the National 
Commission on Energy Policy, SR/OIAF/2005-02, April 2005.
---------------------------------------------------------------------------
   The Proposed Policy uses a ``safety valve'' to establish a 
        firm limit on the costs of the policy. Hard caps on emissions 
        (whether for greenhouse gases or any other emission) inevitably 
        produce high price volatility as well as risks of imposing an 
        unintentionally and unnecessarily costly emissions reduction 
        target. The experience with the EU ETS is a prime example. In 
        the case of a stock pollutant such as greenhouse gases, there 
        is no need to absorb high costs in return for great specificity 
        in achieving each year's emissions cap.\6\ Economists widely 
        agree that the cost to businesses of managing the price 
        uncertainty of a hard cap is not worth the greater certainty on 
        what greenhouse gas emissions will be from year to year.
---------------------------------------------------------------------------
    \6\ Richard G. Newell and William A. Pizer 2003, ``Regulating Stock 
Externalities Under Uncertainty,'' Journal of Environmental Economics 
and Management, Vol. 45, pp. 416-432.
---------------------------------------------------------------------------
          It is important that people understand that the analysis 
        method used by EIA does not capture the important benefit of 
        price certainty that is associated with the safety valve. If it 
        could do so then EIA reports on costs of various greenhouse gas 
        caps proposals would find much greater cost-effectiveness for 
        policies with a safety-valve than for policies of a comparable 
        cap stringency but with hard caps. It is unfortunate that the 
        analysis method being used by the U.S. Government to assess the 
        merits of greenhouse gas cap proposals is unable to demonstrate 
        the important efficiency improvements that a safety valve 
        provision provides.

    Thus, the Proposed Policy has three important attributes for 
ensuring that the emissions caps are imposed in an efficient manner. It 
would be more efficient than any cap policies that do not embody these 
attributes.
  is the proposed policy a good first step for reducing climate risks?
    Although the Proposed Policy would achieve domestic emissions 
reductions in a manner that is generally cost-effective, I do not feel 
that this makes it an effective first step towards a national policy to 
reduce the risks of climate change. Three key features that are 
critical elements of a cost-effective policy to mitigate global climate 
risks are:

   Provisions to address a pressing need for research and 
        development (R&D) to transform global energy systems
   Consideration of developing country emissions
   Long-run business planning certainty

    Although the Proposed Policy has provisions that some might argue 
address each of these, I feel that it fails at all three, for the 
reasons I explain below.
                               r&d needs
    The Proposed Policy would create a ``Climate Change Trust Fund'' 
that is supposed to provide for R&D. However, this Trust Fund only 
provides subsidies to technologies that are far enough along in the 
development process to have clear constituencies, yet not far enough 
along to be cost-effective in the market without a subsidy. This is a 
``deployment subsidy'' and should not be confused with the need for 
fundamental R&D that is the central challenge for climate policy.
    Further, the carbon price imposed by the cap in the Proposed Policy 
provides exactly the type of subsidy that these technologies need; 
additional subsidies for deployment do not need to be handed out by 
Congress in the form of the Trust Fund provisions. The Trust Fund thus 
creates a ``double-subsidy'' that is unneeded and wasteful.
    The specific provisions for disbursement of funds under the Trust 
Fund also reflect some of the worst features of bad R&D policy. A good 
R&D policy for climate policy would establish incentives that align the 
motivations of researchers with finding the most cost-effective carbon 
emissions reductions. Once well-aligned incentives are established, the 
incentives would determine the direction of R&D. In contrast, the 
subsidy provisions of the Proposed Policy's Trust Fund pre-ordain the 
distribution of funding among technologies. It attempts to ``pick 
winners,'' an approach to publicly-funded R&D has a long history of 
waste and failure. The specific allocation of subsidies among 
technology categories appears to have no rationale or basis in 
analysis, and even worse, the award of subsidies is not even nominally 
aligned with achieving the lowest dollar per ton of carbon 
reduction.\7\
---------------------------------------------------------------------------
    \7\ For example, Section 1627(C)(3) calls for awards based on bids 
into a reverse auction for subsidies stated in terms of dollars per 
megawatt-hour of electricity generated, rather than based on dollars 
per ton of emissions reduced.
---------------------------------------------------------------------------
    More importantly, however, the Proposed Policy's subsidy 
provisions--whether well or poorly constructed--fail to address the 
kind of R&D needs that are requisite to begin to actually reduce 
greenhouse gas emissions in meaningful amounts.
    It is known, but not widely appreciated, that stabilization of 
atmospheric concentrations of greenhouse gases will require the world 
(not just the U.S.) to reduce greenhouse gas emissions intensity to 
near-zero levels. While small greenhouse gas reductions may be cost-
beneficial, they cannot halt or even dramatically slow climate change. 
Halting climate change is possible only if the large-scale greenhouse 
gas emission reductions can be implemented at costs that are both 
politically and economically acceptable. Incremental cost improvements 
in currently developed technologies, and more rapid deployment of 
technologies just now becoming affordable will not meet this need. The 
magnitude of possible reductions in the next decade or two achievable 
with today's technology is dwarfed by the magnitude of reductions that 
successful innovation would supply through these routes.\8\
---------------------------------------------------------------------------
    \8\ For example, if all of the existing U.S. natural gas-fired 
combined cycle generating capacity were to suddenly be fully utilized, 
we estimate based on our models of the U.S. power sector that current 
annual U.S. CO2 emissions would be reduced by about 80 
MMTC--about a 4% reduction in total US GHG emissions--and it would come 
at a cost of about $80/tonne C, even if gas prices would not be 
inflated by the sudden surge in natural gas demand.
---------------------------------------------------------------------------
    Hoffert et al. report that ``the most effective way to reduce 
CO2 emissions with economic growth and equity is to develop 
revolutionary changes in the technology of energy production, 
distribution, storage and conversion.'' \9\ They identify an entire 
portfolio of technologies requiring intensive R&D, suggesting that the 
solution will lie in achieving advances in many categories of research. 
They conclude that developing a sufficient supply of technologies to 
enable near-zero carbon intensity on a global scale will require basic 
science and fundamental breakthroughs in multiple disciplines.
---------------------------------------------------------------------------
    \9\ M.I. Hoffert et al., ``Advanced Technology Paths to Global 
Climate Stability: Energy for a Greenhouse Planet'' Science, Vol. 298, 
Nov. 1, 2002, p. 981.
---------------------------------------------------------------------------
    Therefore, Herculean technological improvements beyond those that 
are already projected and accounted for in cost models appear to be the 
only way to hope to achieve meaningful reduction of climate change 
risks. As a result, no cap and trade scheme should be placed into law 
that does not simultaneously incorporate specific provisions that 
directly support a substantially enhanced focus on energy technology 
R&D. I use the term R&D as a distinctly different concept from 
providing subsidies for the initial uptake of existing but yet-to-be 
deployed technologies. By R&D, I mean investment to create technologies 
that do not exist today, and which would require major new scientific 
breakthroughs before they could become an option that any private 
entity might consider proposing in a competition for actual 
implementation under a subsidy program. The R&D may entail basic 
science as well as work that is identifiably on an energy technology 
with low or zero carbon emissions. Subsidies aimed at bringing existing 
technologies into the market, and achieving incremental improvements in 
their costs, do not fit my definition of the term R&D.
    Placing a price on carbon emissions, as a cap and trade program 
would do, would affect the pattern of private sector R&D. However, this 
so-called ``induced-innovation effect'' would be small. Economic 
analysis shows that market forces produce a less than socially optimal 
quantity of R&D. Once a private sector innovator demonstrates the 
feasibility and profitability of a new technology, competitors are 
likely to imitate it. Copycats can escape the high fixed costs required 
to make the original discovery. Therefore, they may gain market share 
by undercutting the innovator's prices. In that case, the initial 
developer may fail to realize much financial gain. Foreseeing this 
competitive outcome, firms avoid investment in many R&D projects that, 
at the level of society as a whole, would yield net benefits.\10\
---------------------------------------------------------------------------
    \10\ These points are developed in a more rigorous fashion in W.D. 
Montgomery and Anne E. Smith ``Price, Quantity and Technology 
Strategies for Climate Change Policy,'' in M. Schlesinger et al (eds.) 
Human-Induced Climate Change: An Interdisciplinary Assessment, 
Cambridge University Press, forthcoming 2007.
---------------------------------------------------------------------------
    The task of developing new carbon-free energy sources is likely to 
be especially incompatible with the private sector's incentives. With 
no large emissions-free energy sources lying just over the 
technological horizon, successful innovation in this area will require 
unusually high risks and long lead times. As Hoffert et al. pointed 
out, developing the needed technologies will entail breakthroughs in 
basic science, placing much of the most essential R&D results beyond 
the boundaries of patent protection. These are precisely the conditions 
under which for-profit firms are least likely to rely on R&D as an 
approach to problem-solving. Thus, greenhouse gas caps on their own 
would insufficiently increase private sector R&D directed toward 
technological solutions to abatement.\11\
---------------------------------------------------------------------------
    \11\ Further, the ``safety valve'' in the Proposed Policy is 
designed to provide assurance that the price of emission allowances 
will not reach economically unsustainable levels. But that causes the 
carbon prices to be set at a level far too low to provide an adequate 
incentive for private investors to develop radically new technologies. 
Removal of the safety valve provision also is not an option, as a hard 
cap would impose a degree of market risk that would be unsustainable 
politically.
---------------------------------------------------------------------------
    Realistically, then, government must play an important role in 
creating the correct private sector incentives for climate-related R&D, 
as well as in providing funding to support such incentives. This role 
must be built into any cap and trade policy, in order to avoid 
establishing an emissions policy that cannot fulfill expectations, and 
to avoid wasteful diversion of key resources for the requisite forms of 
R&D. The Proposed Policy does not appear to recognize the need for 
enhanced emphasis on basic research rather than additional subsidies 
for specific technologies that are already far along in the development 
process. It also does not clearly define government's role or an 
appropriate division of labor or risk between the public and private 
sectors in the development of new technologies, whether as 
commercialization and incremental improvement of existing low-carbon 
technologies, or R&D for new, breakthrough technologies. Creating an 
effective R&D program will not be easy, but it ultimately has to happen 
if climate risks are to be reduced. The difficult decisions are how 
much to spend now, and how to design programs to stimulate R&D that 
avoid mistakes of the past.
                      developing country emissions
    As discussed above, the most important feature of any policy 
initiative is the impact it will have on investment in effective forms 
of R&D and the successful development of radically new technologies to 
provide large quantities of carbon-free energy at an affordable cost. 
However, that critical attribute of a sound climate policy only 
addresses emissions in the long-term. Near-term emissions reductions 
are also an interest (although they should not be the primary interest, 
as in most current policy proposals).
    For near-term emission reductions, developing countries offer far 
larger and more cost-effective opportunity for emission reduction that 
mandatory emission limits on U.S. businesses and consumers. Thus, a 
sound national policy for managing climate risk would place a high 
priority of its near-term control policies to bring about changes in 
how energy is used in developing countries. The Proposed Policy fails 
to make clear linkage of its near-term reduction requirements with the 
critical need to reduce emissions growth in developing country 
emissions.
    There are a number of ways in which the U.S. Congress could act to 
increase technology transfer and encourage foreign investment in 
developing countries, and these actions could lead to near-term 
reductions in emissions larger than any of the mandatory limits on U.S. 
emissions under considerations. A great deal of the difference in 
greenhouse gas intensity between developing countries and industrial 
countries can be explained by fundamental failures of markets and 
institutions in developing countries. Although the most cost-effective 
near-term emission reductions can be found in developing countries, 
fundamental institutional and market reforms are prerequisites to 
create the property rights and investment climate required for private 
foreign direct investment and technology transfer.\12\ These important 
needs are already a focus of the Climate Change Title (Title XVI) of 
the Energy Policy Act of 2005; the Proposed Policy would be improved if 
it were contain provisions to further the goals of Title XVI.
---------------------------------------------------------------------------
    \12\ Such policies are discussed at greater length in W. David 
Montgomery & Sugandha D. Tuladhar, ``Impact of Economic Liberalization 
on GHG Emission Trends In India,'' Climate Policy Center, May, 2005.
---------------------------------------------------------------------------
                      long-run planning certainty
    The Proposed Policy attempts to address the need for business 
planning certainty. However, the certainty it offers covers only what 
Federally-imposed carbon prices will be. The Proposed Policy contains 
no provision to preempt state greenhouse gas caps that are starting to 
proliferate. This omission undermines any ability for its stable 
Federal carbon price expectations to offer U.S. businesses any true 
planning certainty.
    Even if preemption of state cap policies were included, another 
attribute of the Proposed Policy undermines the effectiveness of the 
long-run planning certainty that its safety valve provides. The 
proposal itself does not expect--even by 2030--emissions reductions 
that begin to match the large reductions that are viewed as necessary 
by mid-century for greenhouse gas stabilization by the end of the 
century. As noted at the outset, the Proposed Policy does not promise 
large reductions in emissions so that it can keep its costs ``low.'' 
Unfortunately, as noted in my section on R&D, the Proposed Policy also 
fails to include any measures to address the central challenge of 
reducing the cost of large reductions, which would at least provide a 
vision of eventual long-run emissions reductions. Thus, supporters of 
the Proposed Policy will be hard pressed to characterize this specific 
policy as a first step towards a meaningful policy to manage climate 
change risks. Because of this, if enacted, there would probably be 
little relief in pressures to impose yet more stringent emissions 
limits within the U.S. These continued pressures would leave businesses 
with much less long-run planning certainty than the Proposed Policy 
wishes to provide.
                                summary
    In summary, the Proposed Policy does not offer any of the critical 
attributes of an effective policy to reduce climate change risks. It 
does not impose much cost on the economy, but that does not make it 
worth that small cost. To nudge the Proposal towards being a low cost 
policy that is worth its cost, I would recommend at least the following 
steps:

          1. Replace the current provisions for subsidies for nearly-
        commercialized technologies with provisions to initiate of a 
        research program focused on expanded basic scientific inquiry 
        with relevance to energy system applications. Such provisions 
        should also call for a careful evaluation of the best ways to 
        establish effective R&D incentives for both public and private 
        sector spending.
          2. Provide support for further efforts to promote technology 
        transfer to developing countries.
          3. Add a provision that would cause the Federal policy to 
        preempt all present and future greenhouse gas caps in the U.S.
          4. Maintain the provision for a carbon price ceiling, and an 
        upstream imposition of that carbon price to offer the widest 
        possible regulatory coverage within reasonable administrative 
        bounds.

    Even if the proposal were to be substantially revised to focus on 
true R&D needs, one might still reasonably question the need for 
imposing a cap and trade form of policy. A modest carbon tax could 
provide the same stable carbon price expectations and a source of 
funding for enhanced R&D. A carbon tax would provide identical 
emissions reduction incentives at identical costs to those of the 
safety valve proposal without the political, institutional, and 
analytical complications apparent in today's safety valve proposals. 
The inherent complexity of a safety valve approach does not appear to 
me to be justified compared to a simpler carbon tax.
       does the proposed policy distribute allowances ``fairly''?
    The complexity of setting up a cap and trade scheme is evident in 
the detailed provisions of the Proposed Policy for how carbon permits 
would be allocated. The language of the Proposed Policy does not 
suggest that these allocation rules are ``fair'' or that they offer any 
particular degree of compensation to those bearing the cost of the 
policy. However, Appendix C of the EIA report contains a ``Discussion 
Draft'' by Senator Bingaman's staff that explains the rationale for the 
various provisions in the Proposed Policy. It describes the 
distribution of allowances as ``an approach that fairly compensates 
sectors for past investments in carbon-intensive technologies.'' \13\ 
The following pages then discuss the specific numerical allocations 
proposed for each sector as if they were a computed estimate of the 
relative needs for compensatory values of each sector.
---------------------------------------------------------------------------
    \13\ EIA Report, p. 85.
---------------------------------------------------------------------------
    Although the staff Discussion Draft makes several allusions to 
estimates ``provided by EIA'' as a basis for the allocation shares 
selected, there appears not to have been any true analysis of 
compensation needs by sector. In fact, EIA states in the EIA report 
itself: ``NEMS is not designed to evaluate the distributional impacts 
of whether industries are better or worse off under a given allocation 
scheme.'' \14\
---------------------------------------------------------------------------
    \14\ EIA Report, p. 17.
---------------------------------------------------------------------------
    As someone who has performed quantitative analyses of compensation 
needs under different greenhouse gas policies,15,16 I do not 
think that the allocation formulas in the Proposed Policy appear to 
even roughly approximate the relative needs for compensation of the 
various sectors. As an example, the EIA report establishes that 
railroads will suffer the most concentrated impacts to demand of all 
the transportation activities because of the linkage of its business 
outcomes to the delivery of coal, yet the Proposed Policy does not 
appear to offer any allocation at all to the transportation sector. At 
the same time, the Proposed Policy would give 2/55 of the allowance 
pool to natural gas processors (a value of about $1.5 billion per year 
in 2012 alone), even though there is no clear reason why natural gas 
processors would suffer any financial impact under a greenhouse gas 
cap.
---------------------------------------------------------------------------
    \15\ Smith, Anne E., Martin T. Ross, and W. David Montgomery, 
Implications of Trading Implementation Design for Equity-Efficiency 
Trade-Offs in Carbon Permit Allocations (Charles River Associates, 
December 2002).
    \16\ Smith, Anne E. and Martin T. Ross, Allowance Allocation: Who 
Wins and Loses Under a Carbon Dioxide Control Program? Prepared for the 
Center for Clean Air Policy (Charles River Associates), February 2002.
---------------------------------------------------------------------------
    I could continue the list of inconsistencies between the allocation 
formulas in the Proposed Policy with likely requirements for ``fair 
compensation,'' but the more important point is that people should not 
be misled into thinking that the allocation formulas in the Proposed 
Policy are ``fair'' in light of any specific objective. Their 
specificity does not reflect precision in, or indeed any formal 
estimation of, the relative compensation claims of various sectors, or 
of businesses within sectors.

    The Chairman. Thank you very much.
    Jason Grumet, we are glad to have you here and thank you 
for all your good work in getting this proposal to where it is 
at this point.

  STATEMENT OF JASON S. GRUMET, EXECUTIVE DIRECTOR, NATIONAL 
                  COMMISSION ON ENERGY POLICY

    Mr. Grumet. Thank you Chairman Bingaman. This new 
technology, I guess I am just not quite up to it. Chairman 
Bingaman, I thank you and also Senator Domenici for the 
opportunity to be here on behalf of the Energy Commission. 
Chairman Bingaman, I think what I would like to do is just 
speak for a moment upon the world in which we find ourselves in 
which means the opportunities to advance this discussion and 
then focus on the EIA analysis and on some of the comments that 
we have just heard to inform the discussion on how to move 
ahead.
    This committee, Chairman Bingaman, has done a great service 
by advancing the discussion on the specific aspects of what it 
will take to move legislation forward in a bipartisan fashion 
that could generate the kind of support necessary to act. The 
sense of the Senate resolution passed in the summer of 2005 did 
two very important things. First of all, it asserted that we 
have an imperative to act that as long as the price of venting 
a ton of carbon into the atmosphere is zero there will not be 
incentives for the very kind of logical things that Mr. Sterba 
was suggesting should take effect. At the same time that 
resolution identified some obvious parameters that would be 
necessary in order for this country, I think, to move forward 
in a mandatory way and those are that we have to have a 
mandatory economy wide market based program that does not harm 
the economy and that is linked to actions in developing 
countries. Most significant, I believe what we hear today is 
that the EIA analysis confirms that while certainly imperfect, 
I think Dr. Smith and Dr. Lashof have both made very good 
points about opportunities to improve the legislation that the 
basic structure of the bill fulfills that mandate in the sense 
of the Senate resolution and I think just pausing for a moment, 
that is a very important realization. We are now at the point 
of trying to figure out very important details, but the basic 
framework has been established.
    Also important to recognize is there are very different 
approaches being put forward in the U.S. Congress for dealing 
with climate change and they all are supported by good science. 
There are those supported by good atmospheric science which 
indicate as the Commission believes, that we must achieve a 60 
to 80 percent reduction in global emissions and then we must do 
so with urgency and those bills therefore assert that we have 
to have absolute hard caps that achieve those reductions. Those 
are consistent with good atmospheric science. There are bills 
that have good economic science behind them. Those are bills 
that understand the uncertainties inherent in technological 
progress and the inability to know exactly what those costs 
will be and they also recognize the uncertainty and actions of 
other nations and recognize the competitive issues that Senator 
Domenici mentioned early on. So when, when our Commission sat 
back and kind of reflected on good political science we came to 
the conclusion that what was necessary was a first step that 
was designed to address those very real and serious economic 
uncertainties while providing an architecture on a robust basis 
for moving a country forward and I think that is really what 
the EIA results suggest is possible. Now sadly, this approach 
wins enthusiasm from very few. It is neither absolutely 
protective enough to satisfy those who rightly recognize the 
urgency of the environmental challenge nor is it absolutely 
clear that it will have no costs or will have no negative 
impacts on industries that many of us care deeply about. But, 
we believe it is ultimately the only way to move the Nation 
forward, not only to reduce our own emissions but to bring us 
back into a posture where we can act effectively to get China 
and India and the rest of the world to join us in an effective 
approach.
    So let me comment for a moment on the specifics of the EIA 
analysis. There was a certain intent to make sure that this 
proposal would not harm the economy and some of our mutual 
friends, Senator, I think that we outdid ourselves. It is clear 
that these costs are extremely low. Dr. Lashof indicates that 
EIA also has not incorporated certain aspects of the 
technological benefits that could bring prices lower and for 
that reason I think we share the sense that there are 
opportunities to strengthen aspects of the legislation while 
still abiding by the requisite requirement, not to harm the 
economy.
    Our Commission is meeting on Friday actually. We are going 
to be evaluating options and looking at questions whether we 
could suggest strengthening the reduction targets, 
strengthening the cost cap or I think most significantly trying 
to speed the transition from the slow to the stop phase. We 
very much believe there has to be a slow phase. We have a lot 
of momentum in the system and if we try to throw it in reverse 
right away there could be some disruption. We initially had 
proposed a 10 year slowing of emissions but I think now we are 
believing that something shorter than that, possibly a 5 year 
transition from slow to stop may be more appropriate. We hope 
to come back to you with suggestions, but Mr. Chairman, no 
matter how we move forward we think there are three 
fundamentals that have to be sustained if we are going to have 
real progress.
    The first is that this has to be a gradual approach 
initially and it has to be supported by real technological 
support, both to bring commercialization forward more quickly 
and I think as Dr. Smith suggests for that longer term goal. It 
is that combination of a modest reduction target and real 
support for technology that brought unusual organizations like 
the United Mine Workers, the United Steel Workers, the United 
Auto Workers to support our proposal and the legislation you 
were considering because they recognize that there was an 
opportunity if things were done thoughtfully to provide new 
technology that would allow those industries to move forward 
and succeed before the costs of the emission reductions became 
really damaging to their future.
    Second Mr. Chairman, we believe that this has to be an 
iterative approach. The collective action nature of the problem 
is this me, Mr. Chairman or is this the vote? I have this 
effect on people. Well, maybe that did it. We believe that this 
has to be an iterative approach. The collective action nature 
of the problem, the fact that we can not solve the problem 
unless we have action by all developed and developing countries 
leads us to believe that no matter how much we desire a 50 year 
certainty, it is just not realistic. I think it is more 
political cosmetics than reality whether you are articulating a 
10 or 15 year path saying that you are going to iterate or 
whether you are asserting a 50 year path and asserting that it 
is locked in. The truth is that this is an issue that Congress 
is going to have to revisit on a regular basis and we believe 
that that should be understood and explicit from the outset.
    And finally, we believe that the program has to be cost 
certain. This is still a rather polarized debate going from one 
camp to the other and saying trust me, it is going to be cheap, 
does not tend to have a lot of beneficial impact.
    I think we heard from all of the folks speaking today that 
there are differences of opinion about how quickly technology 
will advance. Those are the differences that lead you to 
believe that the program will either be expensive or cheap. I 
personally tend to be more of a technology optimist. I do not 
think that a safety valve is going to in fact reduce the 
ultimate impact of the programs significantly but I also 
recognize that the person I am trying to convince is not myself 
and we have found that when we have tried to move this 
discussion forward and broaden the coalition, the ability to 
say that absolutely under no circumstances can the cost of the 
program be higher than a set, you know, predetermined price has 
been incredibly important to bring this discussion, I think, 
closer to a central point from which you can actually now try 
to come up with some details.
    So let me close by simply saying that we continue to 
greatly appreciate the opportunity for this discussion. We 
think this committee is having the kind of discussion that is 
necessary to really advance the debate and in particular, the 
decision to submit the draft proposal for the rigorous analysis 
EIA has done allows us to have a public discussion where you 
have equal attentions of the costs and benefits on the table at 
the same time and we think that is the kind of discussion that 
is going to, that will ultimately allow us to build the 
coalition necessary for action. Thank you.
    [The prepared statement of Mr. Jason Grumet follows:]
  Prepared Statement of Jason S. Grumet, Executive Director, National 
                      Commission on Energy Policy
    Good morning Chairman Bingaman and Members of the Committee. I 
speak to you today on behalf of the bipartisan National Commission on 
Energy Policy. The Commission is gratified that our recommendations on 
climate change continue to inform this Committee's deliberations and I 
appreciate the opportunity to speak with you today regarding the Energy 
Information Administration's analysis of Chairman Bingaman's draft 
legislation. In the summer of 2005, this Committee played a critical 
role in moving the Congressional debate on climate change forward by 
winning Senate adoption of a landmark resolution recognizing the 
importance of the climate problem and, for the first time, putting this 
body on record in support of the need for mandatory efforts to reduce 
greenhouse gas emissions. I continue to believe that in years to come, 
passage of this resolution will come to be seen as a pivotal moment in 
the evolution of our collective response to the risks posed by climate 
change. I commend Chairman Bingaman, Senator Domenici and many others 
on this Committee for their leadership on this issue.
    The Sense of the Senate resolution represents a critical milestone 
because it recognizes the urgency of taking mandatory action on climate 
while also establishing conditions that must be met to craft an 
effective, responsible, and politically viable path forward. The 
resolution calls for an approach that will slow, stop, and reverse the 
growth of greenhouse gas emissions. But it also emphasizes the need to 
adopt an approach that is market-based, will not significantly harm the 
U.S. economy, and encourages comparable action by other nations that 
are major trading partners and key contributors to global emissions.
    We are now moving to the next phase of the legislative process, in 
which the laudable goals of the Senate resolution must be translated 
into specific language that can win the support of Congress. The 
Commission is very supportive of the process this Committee is pursuing 
to reduce the polarization that has dominated past climate-change 
debates and build the bipartisan consensus necessary to enact 
legislation. It is clear that the draft bill analyzed by EIA benefited 
greatly from detailed input received as a result of the program design 
workshop this Committee conducted last year. New provisions that 
address key issues such as permit allocation and emissions offsets with 
greater specificity than ever before will add much to the continuing 
discussion. It should also be noted that the bill under discussion 
proposes somewhat stronger emission reduction targets than the similar 
legislation EIA analyzed in 2005. The Commission believes that further 
opportunities exist to strengthen this legislation while still abiding 
by the requirements of the Sense of the Senate Resolution and we hope 
to share more specific suggestions--as well as our current thinking on 
other key design issues such as allocation, point-of-regulation, and 
emission offsets--with the Committee in the coming weeks.
    Chairman Bingaman, the Commission is very encouraged by your and 
Senator Specter's decision to circulate a discussion draft and initiate 
an ongoing series of staff working sessions to hammer out the tough 
questions that remain. Submitting your legislation for detailed 
economic analysis prior to entertaining a larger public discussion 
reflects a continued commitment to serious engagement with the concerns 
that must be overcome to advance this debate. We hope that advocates of 
other climate proposals will also see the value of subjecting their 
ideas to a similar degree of scrutiny.
    For the remainder of my testimony, I would like to focus first on 
the substance of EIA's findings and then on the implications of these 
findings as Congress goes forward to design an effective legislative 
approach, on climate change.
                           summary of impacts
    The EIA analysis of Senator Bingaman's proposal allows us to 
directly address one of the questions at the heart of the debate over 
climate legislation: Is it possible to take a meaningful first step to 
limit greenhouse gas emissions without harming the economy? EIA's most 
recent analysis again demonstrates that the answer is yes. This 
conclusion is in line with EIA's assessment of a similar proposal from 
NCEP that was analyzed at the request of Senator Bingaman in 2005. EIA 
said of that proposal that the overall growth rate of the economy 
during the period of analysis was ``not materially altered.'' For 
Senator Bingaman's current proposal, EIA found similarly minor impacts: 
according to its analysis, U.S. GDP in 2030 is reduced by only one 
quarter of 1 percent compared to the baseline case. This is equal to 
slowing the rate of economic growth by roughly one month over the next 
20+ years.
    It is also important to emphasize that EIA's analysis does not 
include positive benefits from the $50 billion the current proposal 
would generate over the next 20 years for technology incentive 
programs. These funds would accelerate the development and deployment 
of the breakthrough technologies--such as advanced coal gasification 
with carbon sequestration, cellulosic ethanol, and renewable energy--
that will be necessary to achieve significantly deeper emissions 
reductions in the future. In other words, if EIA had used more 
optimistic technology assumptions to reflect the bill's significant 
technology incentives, the analysis would likely have shown larger 
emission reductions at even lower cost.
    EIA's analysis also shows modest impacts on energy use and prices. 
While growth in coal use is projected to slow by more than 50 percent 
compared to the business-as-usual (BAU) baseline case, EIA predicts 
that overall coal use will continue increase under the proposed policy 
even without accounting for the new markets that will be created by 
IGCC and sequestration. When crafting its recommendations, the 
Commission worked closely with the United Mine Workers to develop a 
strategy that would initiate the transition toward a low-carbon future 
while providing an opportunity for carbon sequestration and other 
carbon management approaches to mature before rising carbon prices 
would render coal-based energy uneconomic. By pairing initially modest 
emission reduction targets with a robust package of technology 
incentives, this legislative draft aims to effectively address the 
legitimate concerns of the coal sector.
    Another important concern addressed in the EIA analysis is the 
impact of carbon constraints on already tight U.S. natural gas markets. 
Here again, the new results are reassuring: natural gas consumption 
remains essentially unchanged despite somewhat more stringent program 
targets. Throughout the forecast period, natural gas use ranges from 2 
percent below the BAU level to 1 percent above the BAU level.
    Of course, a very small fraction of a very large economy can still 
look like a lot of money if taken out of context. You will undoubtedly 
hear from critics that the proposal will cost $232 billion in lost GDP 
between 2009 and 2030. What the critics are less likely to mention is 
that this is just a tiny fraction (one-tenth of 1 percent) of the more 
than $240 trillion of cumulative growth in GDP the economy is expected 
to generate over the same time period.
    To say that greenhouse gas limits can be imposed without harming 
the economy is not to claim that the program is costless. Any honest 
debate will need to acknowledge that there are costs and that--as with 
any public policy intervention--there will be winners and losers. We do 
not doubt that innovative and efficient companies can prosper under a 
carbon mitigation regime. Moreover we believe that the technological 
innovation sparked by a carbon price signal could well produce net 
benefits for our entire economy in the long run. In the near term, 
however, the same price signal will impose new costs on fossil fuel 
consumption and reduce the value of carbon-intensive capital stock. So 
yes, there will be costs. But as always, the real choice is not between 
some cost and no cost. Rather the relevant question is whether the 
costs of action are reasonable and justified when compared to the 
liabilities of inaction. Two years after the Senate adopted its 
landmark resolution we think the answer to that question is clearer 
than ever. We also remain convinced that the quite modest economic 
impacts of the approach we have proposed can be effectively mitigated 
by thoughtful program design and through the equitable allocation of 
emission permits.
                    implications of the eia analysis
    The trade-off for the modest costs found by EIA is that the program 
being analyzed also achieves relatively modest emission reduction 
benefits, at least in its early stages. In light of recent scientific 
developments and the time that has passed since NCEP's 2004 
recommendations, the Commission has begun evaluating opportunities to 
strengthen its original proposal and still meet the criteria of the 
Sense of the Senate resolution. In particular, we are analyzing 
modifications that would strengthen program targets as well as possibly 
increase the starting price of the safety valve and/or the rate at 
which that price rises over time. We are also evaluating options for 
speeding the transition between the slow and stop phases of the 
program's target emissions trajectory. Our original report recommended 
a ten-year period aimed at slowing emissions growth, followed by a ten-
year period designed to stop further growth. We are presently examining 
approaches that would stop emissions growth within five years and 
reduce overall emissions no later than ten years after program 
implementation. It is important to stress that any changes in our 
recommendations will be predicated on the conclusion that a moderate 
strengthening of the program can be achieved while still meeting the 
test of no significant harm to the economy.
    Even as we examine opportunities to strengthen our original 
recommendations, the Commission remains firmly convinced that certain 
elements are essential to the economic and political viability of any 
climate proposal. We start with an acknowledgment that trade-offs 
between the timeliness and stringency of action are unavoidable. It's 
clear that significant reductions in absolute emissions will eventually 
be necessary to stabilize atmospheric greenhouse gas concentrations. 
But faced with a disconnect between what is required and what is 
politically feasible in the near-term, we conclude that timely adoption 
of a policy that sets initially modest targets while establishing a 
robust basis for long-term progress is more ecologically protective 
than continued delay in pursuit of more aggressive targets. Simply put, 
there is no time to lose, especially when one considers that mandatory 
action by the United States remains the necessary predicate for action 
by other major emitting nations such as China and India.
    The Commission's emphasis on the necessity of a major technology 
program to spur the development and deployment of lower-carbon 
technologies follows directly from our judgment that near-term progress 
demands a policy with modest initial costs. The $50 billion package of 
technology incentives created and funded by the draft legislation 
provides a critical complement to the long-term market signal created 
by the emissions trading program. We strongly believe that a combined 
strategy of market signals and robust technology incentives is the most 
effective and least costly way to achieve a meaningful shift from 
business-as-usual trends, while equitably sharing the burden of 
emissions mitigation among shareholders and taxpayers.
    We also continue to believe that cost certainty is critical to 
forging the political consensus needed to move forward without further 
delay. The Commission recognizes that the decision to include a 
``safety-valve'' to cap costs under an emissions trading program is 
highly controversial. Nevertheless, we remain convinced that this 
approach provides a uniquely effective response to the economic and 
competitiveness concerns that continue to motivate opposition to 
mandatory action. At some point in the future, we anticipate that the 
need for environmental certainty is likely to outweigh the need for 
cost certainty. Indeed, once there is greater international consensus 
about the ultimate goal of emission reduction efforts and about the 
means necessary to achieve that goal it will likely be appropriate to 
transition away from the safety valve toward firm emission caps. Again, 
our hope is that near-term action by the United States will hasten 
progress toward a truly effective and equitable global response to the 
climate problem. Meanwhile, we recognize that other legislative 
proposals propose alternative approaches to containing program costs 
and welcome further analysis and debate on which mechanisms best 
address the cost and competitiveness concerns that have been raised by 
labor unions, energy-intensive industries, consumer groups, and others.
    Finally, although it is not specifically the subject of this 
hearing, we continue to believe that any successful national policy 
must place considerable emphasis on promoting wider international 
cooperation. By some accounts, China is now adding new coal capacity at 
the rate of one large power plant every week to ten days and is set to 
surpass the United States in total carbon emissions as early as 
2009.\1\ Though some will argue that this sobering development weakens 
the case for unilateral action by the United States, the Commission 
draws the opposite conclusion. In our view, the current trajectory of 
global emissions instead underscores the liabilities of continued 
paralysis. If one accepts that rapidly industrializing countries like 
China and India are likely to accept emissions limits only after the 
United States and other wealthy nations have demonstrated a willingness 
to take the lead, it follows that postponing action will come at a high 
price--not just in terms of U.S. emissions but in terms of prolonging 
business-as-usual trends in other countries. At the same time, we 
continue to believe that once the United States takes action, it is 
imperative that our major trade partners and other large emitters 
follow suit. We therefore support the five-year review provision in the 
Bingaman proposal, which would link continued tightening of the 
emissions target and further increases in the safety valve price to 
significant action by these countries.
---------------------------------------------------------------------------
    \1\ See http://select.nytimes.com/search/restricted/
article?res=F50B 12F83A5B0C748CDDA 80994DE404482.
---------------------------------------------------------------------------
    In closing, the Commission believes that the discussion draft you 
have circulated presents a sound framework for legislative action. The 
results of the EIA analysis are very helpful and give grounds for 
optimism that a viable policy consensus is in reach. Indeed, as we have 
indicated in this testimony, the EIA results suggest to us that there 
is room to further improve the bill consistent with the requirements of 
the Sense of the Senate Resolution. We look forward to exploring those 
opportunities and addressing other key details of program design with 
the Committee and other stakeholders as this process moves forward.

    The Chairman. Thank you very much.
    Let me ask a few questions, then we will have 5 minute 
rounds and Senator Domenici will follow me.
    Howard, let me ask you first. One issue that I believe Ms. 
Smith raised is whether or not it is really worth doing this 
considering the modest benefit that would be achieved. You, EIA 
did an analysis this last year I believe of the impact of 
EPAct, the 2005 energy bill on carbon dioxide emissions and I 
have that in front of me. It says in sum, EIA's analyses 
suggest that roughly 30 EPAct 2005 provisions that were 
explicitly modeled are projected to reduce energy related CO 
emissions by approximately 90 million metric tons in both 2020 
and 2030. That is your conclusion?
    Dr. Gruenspecht. Yes, that is correct.
    The Chairman. Now, as I understand this analysis you 
testified on today, you say that this draft proposal instead of 
reducing the 90 million metric tons, would reduce greenhouse 
gases during that same period well in 2020. I think the figure 
you got is that it would reduce it to 562 million metric tons 
and in 2030 it would be 1,259 metric tons. Am I right about 
that?
    Dr. Gruenspecht. That is correct, 1,259 million metric 
tons.
    The Chairman. Yes, 1,259 million. So that by 2030 if this 
provision were adopted your best guess is that we would be 
reducing greenhouse gas emissions by somewhere in the range of 
12 to----
    Dr. Gruenspecht. 15.
    The Chairman. 12 to 15 times as much reduction as would be 
the case in absence of some kind of cap and trade system. Is 
that a fair statement or not?
    Dr. Gruenspecht. That is a very fair statement, sir.
    The Chairman. Okay. Maybe you would want to respond and 
give your thoughts on Dr. Lashof's comments about how you did 
not take into account some of the energy efficiency benefits as 
I understood what he said that there are energy efficiency 
benefits to be realized from the investment of research dollars 
in this fund. I think that was the point that he was making and 
maybe other benefits as well. Maybe you could respond to that.
    Dr. Gruenspecht. I could do that, sir, thank you. I guess 
the easiest and cheapest response would be a Goldilocks answer. 
I know there was a press release I saw yesterday that some 
other group criticized us for low-balling the cost and I guess 
with Dan saying we are high-balling the cost I could say gee, 
we must be just right if we are being criticized from both 
sides, but that is not a substantive answer. I do not want to 
say that. I actually think Dan's comments raised some 
interesting issues, but I really do disagree with their 
implication that EIA's study is biased. Our analysis is very 
clear about what is included and what we do not include and 
why. Without doubt, there are many cross-cutting forces and 
additional complexities we do not address, and we state that 
clearly in the study, but these do not all cut in one direction 
as I think Dan's testimony suggests. Starting first with 
technology, our report prominently
    The Chairman. Give us the short version here because I 
wanted to ask another question.
    Dr. Gruenspecht. I will give you the pretty short version.
    The Chairman. Good.
    Dr. Gruenspecht. Basically we have done a lot of work on 
technology in our previous reports--both the one done in 
response to your original request and Senator Salazar had a 
request last year.
    Clearly, more advanced technology lowers the cost of 
achieving emissions reductions but we really cannot see any 
correct way to link increased Federal expenditures to the state 
of energy technology. So we have looked at the effect of better 
technology and it is to reduce the cost of reductions. We also 
agree on energy efficiency, but I would say that some of the 
policies that NRDC suggests have a decidedly mixed historical 
experience. For example, some demand-side management programs 
and some, I guess what is called, strategic promotion of 
technology programs, I am sure many of you in this committee 
are familiar with something called PURPA, which I think you 
repealed last year. There was a lot of strategic technology 
promotion in that statute. Some of that strategic technology 
promotion ended up being quite expensive, and I recall that 
some of the States that took the strongest efforts under PURPA 
actually were some of the States that had the highest, that 
ended up with the highest electricity prices and because of 
that got led into restructuring in the late 1990's. That had 
problems of its own, frankly, but the notion that all this 
strategic promotion and targeting is going to make things work 
better is not necessarily the case. Again, their testimony 
talks about allocating allowances based on moving off the 
historical allocation to some kind of incentive or strategic 
allocation, to the extent that allocations are used to buy down 
consumer costs. You are going to attenuate the consumption 
response to the extent that you tie allowances to specific 
technologies; you may not get the lowest-cost responses. So 
there are a lot of issues here. The bottom line--in my world, 
when you want to make an omelet you break some eggs, although 
you try to do as careful a job as you can to hold down the 
number. Dan's sort of suggesting that when he makes an omelet 
he finds more eggs in his refrigerator than he started with. 
Again it is a nice thought, but there is a lot going on here. 
It is difficult to see how reducing use of technologies and 
processes that the market finds economically attractive, like 
burning coal, and replacing them with more expensive options is 
likely to raise overall economic performance. That does not say 
we should not do it.
    Even if limiting emissions engenders some cost, it can 
still be very desirable public policy if the environmental 
benefits are such that the limitations serve to increase 
overall social welfare. You guys all have a hard task in front 
of you. EIA does not look at benefits. We have a very limited 
role in this. We try to do that role well. We think we have 
done it well. It is not easy.
    The Chairman. Thank you very much. Let me stop with that 
and call on Senator Domenici for his questions.
    Senator Domenici. Well, with all of that I don't know 
whether I have any but, let me go with you, Doctor, a little 
bit more if you can stand it. The EIA analysis projects a small 
decrease in the Gross Domestic Product under the proposal and 
the EIA model tell us more about the impacts, specific 
industries, for example which U.S. industries would see job 
loses. Can the EIA model tell us anything about regional 
impacts? I don't want you to give us the whole, the result 
today; I want you to just tell us, can you?
    Dr. Gruenspecht. Yes, we can do some of that.
    [The following was received for the record:]

    The National Energy Modeling System (NEMS) used in this analysis 
does produce energy market results at various regional levels \1\ and 
industrial sector economic results at the national level. With respect 
to the energy sector, significant variations in regional results are 
seen in the electricity and coal markets. In the industrial sector, the 
most significant impacts occur in the energy-intensive industries.
---------------------------------------------------------------------------
    \1\ For example, electricity markets are represented for 13 regions 
based on the regions and subregions of the North American Reliability 
Council (NERC).
---------------------------------------------------------------------------
                      electricity and coal markets
    All regions of the country are projected to face higher electricity 
prices in the Phased Auction case of the September 2006 proposal that 
EIA was asked to analyze (Figures 1 and 2).* The largest price 
increases are projected in regions where electricity prices are set 
competitively and where coal generation accounts for a large share of 
total generation. In these regions, the costs of holding all the needed 
emission allowances will be fully reflected in consumer prices. For 
example, electricity prices in the MAAC and ECAR regions are projected 
to be 17 percent and 14 percent higher, respectively, in the Phased 
Auction case in 2030. Conversely, the electricity price impacts are 
projected to be smaller in regions that still have an average cost 
pricing regime and do not depend as heavily on coal. For example, 2030 
electricity prices in the California and NWP regions are projected to 
only be 4 percent and 5 percent higher, respectively, in the Phased 
Auction case.
---------------------------------------------------------------------------
    * Figures 1-4 have been retained in committee files.
---------------------------------------------------------------------------
    The reduced use of coal in the power and liquid fuels (i.e., coal-
to-liquids diesel production) sectors affects coal production in all 
areas of the country (Figure 3). In absolute terms, western coal 
production is projected to be most impacted, falling 253 million tons 
(24 percent) below the reference case in the Phased Auction case in 
2030. This occurs because, in the reference case, western coal regions, 
particularly the Powder River Basin in Wyoming and Montana, were 
expected to be the dominate growth areas for coal production. In the 
Phased Auction case, power companies turn to new nuclear, natural gas, 
and renewable plants to meet growth in the demand for electricity, 
reducing the need for greater coal production. Even with this change, 
western coal production in 2030 in the Phased Auction case is 30 
percent higher than 2004 production. Eastern coal production in 2030 is 
projected to be 142 million tons (22 percent) below the reference case 
level in the Phased Auction case, about the same level that was 
produced in 2004.
                       impacts on industry output
    In the Phased Auction case, the price of allowances directly 
increases the costs in emitting sectors and leads to increases in 
energy prices that raise the factor input costs for all industries. 
This leads to changes in the demand for goods and services, as 
reflected in the final demand categories of consumer spending, 
investment, government spending and trade, and causes industries to 
adjust their production accordingly. Figure 4 shows the average annual 
loss in gross output relative to the reference case for the period 2009 
to 2030 for the Phased Auction case. The energy-intensive manufacturing 
industries \2\ are impacted the most, with output projected to be 
reduced by an average of 0.82 percent. Non-energy-intensive 
manufacturing is reduced by an average of 0.57 percent, non-
manufacturing industries by 0.32 percent and services by 0.10 percent.
---------------------------------------------------------------------------
    \2\ Energy-intensive manufacturing industries in NEMS include food, 
paper, inorganic and organic chemicals, resins, agricultural chemicals, 
petroleum refining, glass, cement, iron and steel, and aluminum.
---------------------------------------------------------------------------
    Among the detailed energy-intensive industries, aluminum 
production, which is a heavy user of electricity, is expected to fall 
by 5.0 percent on average. Production of glass, iron and steel, cement, 
agricultural chemicals and basic inorganic chemicals are also expected 
to fall by more than 1 percent. Among the non-manufacturing industries, 
coal mining is projected to fall by 8.9 percent, with oil and natural 
gas extraction falling by 0.4 percent.

    Senator Domenici. Okay, has it been done, or would it have 
to get done, or going on?
    Dr. Gruenspecht. Some of the work on electricity has been 
done, the different regional price impacts.
    Senator Domenici. We would like you to do that and submit 
it to the record through the chairman.
    Dr. Gruenspecht. Be glad to do that, sir.
    Senator Domenici. Higher energy prices under the proposal 
drive energy intensive industries to relocate to countries like 
China and India where there are no restrictions on greenhouse 
gases. Is that a true statement?
    Dr. Gruenspecht. What we looked at was a U.S. model, not a 
global one, so there is logic in what you say, but we have not 
evaluated it in the context of this study.
    Senator Domenici. Alright, you mean you didn't study it. 
You just kept an American one.
    Dr. Gruenspecht. The focus is on United States, yes.
    Senator Domenici. Right, thank you. Why do you believe that 
nations like China and India will act to limit greenhouse gas 
emissions if the United States does it first? Would these large 
developing countries have an advantage if they kept their 
energy price as low as possible? This is a question for Jason 
Grumet. Jason?
    Mr. Grumet. Thanks, Senator Domenici. I guess I would have 
to flip the question around and say that I think that action by 
the United States is certainly necessary to imagine that we can 
have action from other countries, but it is not sufficient. 
There are absolutely no guarantees that the United States once 
we re-enter the discussion in the postural leadership are 
capable of moving the world, but if you look to history when it 
comes to our foreign policy we are not great followers. We are 
pretty good at getting other people to follow us and we have 
had a lot of success with the CFC treaty. We have a tremendous 
opportunity to, I think, to encourage other countries to join 
us in that approach and the last thing that I would say is that 
they see the risks of climate change too. I think that they are 
suffering the same kinds of anxieties about, you know, they 
have a billion people to feed and a billion people who need 
clean drinking water. They are already having a lot of stresses 
there. So my hope and this goes back to I think where the first 
President Bush entered the discussions that we would seek to 
have differentiated commitments. We would not sit back and say 
we are going to wait for China to lead us, nor would we go off 
willy-nilly and say we are going to commit to an 80 percent 
reduction absent assurance that they are coming with us, but as 
this bill does, we would basically trust and verify. We would 
take a step; we would do everything we can to make that then 
bring about an effective global program. If that happens we 
would take second and third steps. If that does not happen, I 
think that we would stand down.
    Senator Domenici. Okay. This last question is of Dr. Anne 
Smith. Dr. Smith, you made an important point that the United 
States industry needs certainty if we are going to put a price 
on carbon. Would a carbon tax give industry more certainty than 
a cap and trade system?
    Dr. Smith. The safety valve feature, if it goes in as said, 
is almost the same amount of certainty however it is far more 
complex as you have probably started to realize in setting up a 
cap and trade system with all of the allocations and the issues 
of the rules for the trading and it imposes a lot of costs on 
businesses to manage that trading and the management, the 
accounting for the emissions etcetera that could be much more 
simple under a simple carbon tax. Essentially with a safety 
valve, if it is stable, you get almost the same outcome but at 
much greater administrative cost and complexity and it might 
even, I think, hold up the passage of the bill, that 
complexity.
    I would also like to point out, Jason mentioned that we 
need to not deal, not even think that we can get certainty with 
any bill that obviously we will have to revisit what the caps 
are over time and I agree with that. There is no way either a 
tax that would be imposed or a cap and trade program with the 
safety valve would really provide true certainty over all time, 
but what we do need is a policy that will eliminate the cause 
for dramatic new shifts towards a different philosophical 
approach to dealing with the climate policy into the future, 
into the next 20 years and that is why I am saying pairing the 
safety valve feature or carbon tax with a true R&D plan 
envisioned for getting technology down is how you can get a 
stable expectations within that general philosophical approach 
and that is the essential piece that is missing right now, I 
think.
    Senator Domenici. I wanted to thank Jeff Sterba in 
particular for coming up here today and testifying and being a 
leader among some industry people who would seek to move us to 
get started. I am not, we normally agree, Sterba, you and I, 
that isn't necessary, but we normally do for some strange 
reason. At this point we are not in agreement on this bill, but 
we are moving so I guess as long as that is there you can be 
somewhat satisfied that the number of trips you will make to 
Washington can be minimized in some way pretty soon. Thank you.
    Mr. Sterba. Thank you, Senator.
    Senator Domenici. Thank you, Senator Bingaman.
    The Chairman. Thank you very much.
    Senator Akaka.
    Senator Akaka. Thank you very much, Mr. Chairman. Mr. 
Gruenspecht, thank you for your analysis and hard work on this 
report. In general, I support a cap and trade system to reduce 
carbon emissions in the United States. However, as you know, 
Hawaii has the highest gasoline and electricity costs in the 
Nation. Your analysis shows increases in gasoline costs over 
time up 0.11 cents by 2030 and also in electricity costs. Can 
you expand a little bit more on the economic effects on the 
State of Hawaii due to its unique circumstances?
    Dr. Gruenspecht. Well, thank you, sir. First I should give, 
it is not my hard work it is the work of all the people at EIA 
because it took a lot of people to do this and I want to say 
that first. We do not have really detail into the individual 
State-level impacts in this type of framework. I do not know 
what to say. What I would do if I was thinking about this is 
draw some analogies to some of the recent events. Gasoline 
prices have changed a lot for other reasons, as we all know. 
More recently, in a direction that I think a lot of us like but 
over the past couple of years in a direction that a lot of us 
do not like and those changes were a lot bigger than 0.11 
cents. Maybe by comparing how those changes have effected 
things would be a context for thinking about the question that 
you pose. That is not a real formal answer, but I think that is 
probably the best I can do.
    Senator Akaka. Well, with the new proposals of this 
committee with Jeff Bingaman there may be some other changes 
that may come sooner than we think. Mr. Lashof, I fully agree 
with your point that allowances are a public asset and I am 
encouraged by your suggestion that a significant portion that 
is 30 percent be allocated to States. As you know my State of 
Hawaii could probably use some of the allowances to address 
concerns in particular sectors that hopefully could benefit 
families and consumers in Hawaii. Is this something that, the 
State use, can use to help with the impact on gas and 
electricity prices?
    Dr. Lashof. Ah, thank you, Senator and first of all I want 
to say that this idea of allocating some, 30 percent of the 
allowances, is not my idea, it is Senator Bingaman's idea and I 
think it is a good one so I want to endorse it and I think that 
it is there precisely because each State has some different 
circumstances and the way Hawaii would use those resources will 
be different then the way New Mexico will use those resources 
so I think it makes a lot of sense to go down that road and 
Hawaii could, for example, has enormous renewable energy 
potential that could actually allow your State to produce all 
the electricity it needs without burning fossil fuels. I think 
in the long run that would lower costs to consumers and those 
resources could be used for that as an example. It could be 
used to help in the transportation. I think you do want to be 
careful not to have States use the resources in a way that 
would subsidize activities that would cause emissions to go up 
because that would defeat the purpose of the program, and I 
think the provisions here are intended to ensure that States 
use the resources in ways that further the program. In general 
I think this is a good approach to include in any cap and trade 
program.
    Senator Akaka. I look forward to working with Senator 
Bingaman to explore the possibility. Mr. Grumet, thank you for 
your work with the National Commission on Energy Policy. It has 
launched us in the right direction. I want to follow on Senator 
Domenici's question. I agree with your point that we must place 
a renewed emphasis on promoting wider international cooperation 
in reducing carbon emissions. Are there signs that China and 
India will take action if the United States self regulates 
carbon emissions and if there are what are the next steps for 
the United States?
    Mr. Grumet. Well, Senator I have to admit that domestic 
policies are more my expertise than foreign policy but I can 
suggest a couple of things happening and maybe you can reflect 
on what you think the possibilities are. China, in particular, 
is actually reducing the carbon intensity of its economy at a 
much faster pace then the United States or any developing, of 
any developed country. What they aspire to, of course, is 
advanced technology and at a very simple level and I think Mr. 
Sterba has spoken to this in the past and moving from very 
inefficient, largely uncontrolled, small utility coal 
combustion to a modern facility in and of itself has a 
tremendously beneficial impact on reducing the carbon per 
kilowatt.
    It is also the case that the Chinese government has a very 
serious appreciation of the perils that can befall China if in 
fact we have the kind of drought and the strong cyclical 
changes in which we have snow melt much faster and all the 
different varieties of anxiety that I think that everyone who 
looks at these should seriously just starts to feel. So again I 
think I have to flip the question back around and recognize 
that the United States is responsible for about 80 percent in 
the developed world of the emissions in the atmosphere. We now 
have China struggling to move from a developing Nation to a 
country that has some of the amenities that we have come to 
take for granted and we have to find a way to meet them in some 
kind of iterative approach. I think they look at us in kind of 
aghast to think that we would come to them and say please, you, 
China have to take the exact same steps as we do when you 
compare our GDP's and relative quality of life, so it is going 
to be an iterative relationship.
    Senator Akaka. Briefly, what about India?
    Mr. Grumet. I think that the dynamics are somewhat similar 
in India. India is in fact has the greater ability of making 
existing kind of technological base. They are moving forward 
with a number of rather significant low carbon activities both 
India and China are of course moving as strongly as they can 
towards nuclear power, which they both hold some significant 
hope and but again, this is a question about the United States 
and our, you know, great international might rejoining this 
discussion and trying to develop global process that in fact 
would be equitable and ultimately effective.
    Senator Akaka. Thank you. Thank you, Mr. Chairman.
    The Chairman. Senator Craig.
    Senator Craig. Well, Mr. Chairman, thank you very much. Let 
me first thank you for the hearing and the effort put forth and 
I must also say your thoughtful approach toward the cap and 
trade concept. I think that is reflected in the testimony we 
have heard today. I must also tell you that I continue to 
oppose what I think is an obsolete approach that is a post 
Kyoto holdover of a command and control type that creates 
imbalances or disincentives and certain other kinds of abnormal 
incentives to a market that all of us are and should be 
concerned about.
    As you know I helped co-author the Hagel-Pryor Climate 
Title, title 17 in EPAct that you and Senator Domenici are 
certainly receiving accolades for as you should and frankly 
that opposed the cap and trade amendment approach. Having said 
that I think your latest draft demonstrates a lot of work on 
your part and I am encouraged by it. You have included 
greenhouse gas intensity as a measurement of emissions in the 
terms of the GDP. I guess my frustration beyond that because I 
see a phenomenal opportunity for our country to do a good 
number of things. First and foremost for us to lead and help 
the world, I do not dispute that. I think that is in part what 
Jason is referencing and we can do that not through existing 
technology, but new technologies. We gain very little to focus 
on ourselves and ourselves alone and let China and India wander 
off into the future continuing to be the large emitters they 
are. It is just simply counterproductive. We are investing 
more, we should invest more, I think Anne has it right. This 
may be the cart but there is no horse and I must tell you I am 
extremely frustrated with an administration that is talking the 
talk right now but they are not administratively, by rule and 
regulation, walking it and by that I mean we are still lagging 
dramatically with the implementation of all of the new 
technology ideas and the guaranteed loans and all of that that 
in part, many of you have included in your discussion today on 
this piece of legislation. That does not mean it is all 
inclusive for the work we have done and there should not be 
more work done and I am certainly willing to be part of that, 
but I am going to jab this administration a little bit for the 
very counterproductive discussion between DOE and OMB about who 
is on first and who is on second.
    Now I will take another step forward. The unwillingness of 
the current Senate and House to move forward on an 
Appropriations bill approach to fund these new efforts that we 
are now going to deny ourselves, steps us back another year, in 
many of the new technologies in the advancement of something 
that we all now generally agree with, nuclear. Here we are 
attempting to look into the future and we are not handling the 
present very well as it relates to the work we have already 
done and it is not untypical of a Congress to always look at 
what may be publicly pleasing tomorrow but failing to carry 
through on the very work we have done that is phenomenally 
substantive today. Am I frustrated, yes, I am. Am I going to 
change an attitude that I have grown to be comfortable with 
because I spend a lot of time on this issue with scientists and 
others? I am not surprised with Daniel's testimony. It is okay, 
but it is not enough we need to do a lot more. We probably do, 
but I am not going to shut down this economy to accomplish it 
and I am not going to create an artificial market in which 
there are winners and losers in a way that distorts it. We 
ought to be all about incentivizing. We ought to be all about 
new technologies and as I have traveled the world to the 
Climate Change Conferences. I am very proud of the fact that 
what we do is open, transferable as it relates to the rest of 
the world and that is what we ought to be about. It is a 
technology we develop for the coal industry of this country 
that is immediately applied to the coal industry and the 
generating capacity of China. That is a quantum leap for, by 
all measurable amounts. So, I get it.
    I thank you for the work done. I am not sure that I am 
willing to accept a nose under the tent approach to cap and 
trade when in fact it gets us so short a distance, that I think 
as Anne said, we are picking winners and we are picking losers 
and somebody's going to pay for it and I am not sure it is 
productive at that point. Whereas, coal gasification a whole 
combination of new things clearly to get this administration 
off its back and moving on nuclear and other areas of new 
technologies make, to me, a whole lot of sense. I guess that is 
more of a statement than a question. I have used up my time, 
but I think it also demonstrates at least for me, that this 
committee is moving generally in the right direction and I 
thank you very much for that, Mr. Chairman.
    The Chairman. Thank you very much.
    Senator Sanders.
    Senator Sanders. Well, thank you very much, Mr. Chairman 
and I want to thank all of our distinguished guests for being 
with us. Let me start off with Dr. Gruenspecht and I know you 
are not here representing the administration per say, but be 
very brief. Does the administration today in the year 2007 
recognize global warming as a man-made phenomenon? Do they 
still consider it a hoax? Where is the administration, I mean, 
are they on board in saying it is a man-made phenomenon or not?
    Dr. Gruenspecht. As you said I am really not here 
representing the administration.
    Senator Sanders. Give me your best guess on it.
    Dr. Gruenspecht. You probably know better than I do. I do 
not get the impression that they think it is a hoax.
    Senator Sanders. OK, OK. Do they see it as a man-made 
phenomenon?
    Dr. Gruenspecht. I think they see both man-made and other 
causes.
    Senator Sanders. Let me ask Dr. Lashof a question. 
Obviously all of us, I do not think there is any debate up here 
that we all want a strong economy, nobody wants to do anything 
that is going to create more unemployment or lower wages. That 
goes without saying, but on the other hand, I am sure I speak 
for everybody up here that they do not want to see a planetary 
catastrophe. Nobody here wants to see that as well. How much 
time do we have, I mean, there are some people who are saying 
that if we do not act in a very dramatic fashion in terms of 
reducing greenhouse gas emissions that we are going to reach 
irreversible situations which will permanently damage the 
entire planet and will result in increased drought, flooding, 
the severity of hurricanes, the loss of agricultural land, the 
rising of the seas, which obviously nobody here wants to see. 
How severe, very briefly, is the problem? How quickly do we 
have to act if we are going to reverse it?
    Dr. Lashof. Well, very briefly, it is a very severe problem 
and we need to act very quickly. I mean, I am persuaded by Dr. 
Hanson's analysis which says that unless emissions are headed 
sharply downwards within the decade, we start to lose our 
window of opportunity to prevent the most dangerous 
consequences.
    Senator Sanders. Now maybe I was a little opportunistic 
asking you that question because along with Senator Boxer and 
nine other of my Senate colleagues, I have introduced S. 309 
which is the strongest global warming bill introduced in the 
Senate and this bill would reduce U.S. emissions to 1990 levels 
by the year 2020 and by 2050 the level of emissions would be 
reduced to a level below 1990 levels. Is that the kind of 
program that we need, do you think?
    Dr. Lashof. Well, Senator, I think it is. I think that the 
level of reductions that you have in your bill are exactly the 
kind of leadership that the United States needs to take. That, 
that is, as Jason Grumet said, that the good atmospheric 
science in this process and that is the direction. What I am 
encouraged by is the fact that we now have a growing 
recognition including in major businesses.
    Senator Sanders. Right.
    Dr. Lashof. In the U.S. Climate Action Partnership calling 
for reductions that are consistent with your proposal.
    Senator Sanders. OK, and I agree with that. Let me ask Mr. 
Grumet a question which, I think ordinary citizens would have a 
hard time understanding, given the severity of the crisis that 
we face, in your judgment, why as a Nation do we still have a 
situation where today we are driving vehicles that get worse 
mileage per gallon than 20 years ago? How is this 
comprehensible? How do we have a mass rail system, which is far 
inferior to what exists in Japan, exists throughout Europe and 
in fact, China is in some ways moving ahead of us in terms of 
mass transportation? How is it that we continue to provide 
substantially more funding for fossil fuels and nuclear energy 
than for all of the potential breakthroughs that are sitting 
there with solar, with wind, with geothermal and so forth and 
so on?
    Mr. Grumet. Senator, let me say, I appreciate being able to 
talk about something other than cap and trade for a moment.
    Senator Sanders. Me, too.
    Mr. Grumet. Our Commission in another significant 
recommendation argue that we have to significantly reform and 
significantly strengthen vehicle fuel economy standards. There 
is no question that the most significant single thing we can do 
to improve our energy security and address greenhouse gas 
emissions is to increase fuel economy.
    Senator Sanders. Do you support raising the CAFE standards?
    Mr. Grumet. Very much, sir and I think that you are 
absolutely right that we have had stagnant standards since 1985 
that the Nation of China now actually, Senator Akaka, has fuel 
economy standards stricter than those here in the United States 
and while the fuel economy standards have stagnated, technology 
sir, has not. Vehicles are now 50 percent more powerful, 25 
percent larger than they were 20 years ago.
    So, the last thing I will note though, and I think this is 
what Senator Domenici referred to early on, despite the fact 
that the President did not make a major announcement on climate 
change or nuclear power. He did make, I think, a very 
significant statement on fuel economy. Last night the President 
of the United States called upon Congress to both reform and 
significantly strengthen fuel economy standards, asking for 
direction that the fuel economy standards be strengthened by 4 
percent a year which is a mile per gallon a year. That is a 
very aggressive increase in fuel economy standards. That is 
equal to the increase that Senator Inouye and others are asking 
for on the Commerce Committee, so this is gone a little bit 
beneath the radar, but I would hope that this Congress, in a 
bipartisan way would send him a bill in the next 3 weeks that 
provide that very authority and that obligation.
    Senator Sanders. OK, let me ask both Dr. Lashof and you, 
Mr. Grumet. There has been talk obviously about nuclear power 
and we all know the positive and negatives of that but I think 
there is no debate that nuclear, investing in new nuclear 
powerplants is a very, very expensive proposition, not to 
mention the issue of what we do with the radioactive waste. In 
your judgment, let us start off with Dr. Lashof, if we invested 
similar amounts of money in sustainable energy and in an energy 
efficiency, would that be in fact a better investment and a 
safer investment?
    Dr. Lashof. In my----
    The Chairman. Why do not you give us short versions of 
answers to those so we can get the other members to ask some 
questions?
    Dr. Lashof. Very briefly our analysis shows that 
investments in energy efficiency is the cheapest, fastest and 
cleanest way to make progress on global warming so I put the 
most emphasis on that.
    Mr. Grumet. I would agree that energy efficiencies are more 
cost effective than almost any new generation, but our views, 
we have no option. We have to go after every possible 
opportunity for low carbon energy and so if nuclear can be made 
cost effective and we can deal with the proliferation of waste 
issues, our group believes we have to advance those as well.
    Senator Sanders. OK, thank you. Mr. Chairman, thank you 
very much.
    The Chairman. Thank you very much.
    Senator Sessions.
    Senator Sessions. Thank you, Mr. Chairman. This is a very 
interesting hearing and I appreciate your thoughtful approach 
to the issue and it is something that we needed to discuss in 
these kind of open forum. With regard to nuclear power, 
Tennessee Valley Authority is, has assured me that their 
nuclear production of electricity comes in, considering 
lifetime capital costs, well below coal and far, far below 
natural gas and that it is economical and it is got to be a 
major part of the mix to me. It just cannot be otherwise or it 
is breathtaking that it is not the number one matter that we 
discuss, but we do have and will have carbon emission problems, 
I guess we say carbon, carbon dioxide, which is not a 
pollutant, but it is a global warming gas. This is what I am 
thinking and I would like to ask each of you if you would 
comment on it and I will leave my questioning at this subject.
    I have come to be a believer, and a bipartisan Congress 
believes that we have unhealthy dependence on foreign energy, 
particularly oil and therefore we have a national security 
interest in reducing that dependency which includes, then we 
are able to use all sorts of things, like, ethanol and bio-
fuels and cellulosic ethanol. I think we have a national 
consensus that pollutants are bad, the NO and SO and 
particulates and all of those issues are unhealthy for our 
economy and we want to maintain that, maintain our progress in 
improving the quality of our air and water. We also have a 
strong interest in keeping the cost of energy low. I do not 
think we need to have a national policy to see how high we can 
make energy be. One of the things that makes life healthy in 
America is low cost energy and as I am informed, the life span 
of countries that have readily available power is twice that of 
the life span of countries that do not, so that is important. 
So, why would not we want to develop policies that focus on 
those goals and if we do so, can't we at the same time 
positively impact and reduce CO2 emissions and get 
more birds with one stone, so to speak, and not create a system 
that focuses solely on carbon dioxide emissions?
    Dr. Gruenspecht, can you start?
    Dr. Gruenspecht. Sure; a very thought provoking question 
and I think there are ways to go about it. Put it this way, 
energy security, I think, is primarily about oil. Reducing 
greenhouse gases at the lowest cost within the United States, 
our study suggests, is primarily about coal. Greenhouse gas 
reduction and energy security goals--there are some synergies 
and I think that is what your question is pointing to, but 
probably if we are honest about it, there are also some 
conflicts and I think that is where you guys have a much 
tougher job that I have. Improved vehicle efficiency is one of 
the things that was mentioned; that one seems to have some 
synergies. It lowers greenhouse gas emissions and it lowers oil 
demand and imports of oil, whether that increases energy 
security is itself a real complex question.
    Coal-to-liquids conflict--clearly coal to liquids reduces 
oil imports. You can produce some very high quality diesel by 
converting coal to liquids like they do in South Africa right 
now. Not very helpful on greenhouse gases, so that is a 
scenario where there is conflict. There are some where it is 
even trickier, there are sort of synergies and conflicts, such 
as biomass. Using biomass to back out oil in transport fuels: 
reduces oil imports and it reduces greenhouse gases; however 
you could take the same biomass and get a larger greenhouse gas 
reduction by using biomass to back out coal in electricity 
generation. I do not want to go on, but, you know, life is 
complicated and it is good to look for a way of killing all the 
birds with one stone and ending up with more eggs in your 
refrigerator at the same time, but it is hard. That is why you 
guys, you Senators, are here.
    Senator Sessions. Any others like to comment on that?
    Mr. Sterba. Senator, if I may, a couple of comments. I 
generally agree with what Howard said, but I would add two 
other pieces. One of the areas where there is a cross-over 
between the electricity generation sector and then 
transportation is the potential development of plug-in hybrids 
and we are seeing a significant move in the technology front 
from the regular hybrid to the potential for a plug-in hybrid. 
If we looked at the same kind of penetration of plug-in hybrids 
as we have seen in regular hybrids and we assume that plug-in 
hybrids are available in 2010, we could have a million of those 
on the roads in 2020. That is an enormous amount of two things, 
No. 1, vehicles that have reduced their use of petroleum 
product and No. 2, they also are creating the potential for a 
distributed energy storage device and the electric grid. So 
that is one cross-over technology where I think the two can go 
together.
    The second one is just, I agree with Howard that coal is 
one of the main issues, not the only issue, but one of the main 
issues associated with greenhouse gas emissions, but natural 
gas is also a fundamental fuel that today we do not import that 
much from other countries other than Canada, but that is 
increasing as we move more to having LNG be the natural gas on 
the margin we can be, we can get in a similar position with 
natural gas on importation and the issues on where is that fuel 
coming from, so and natural gas is a fuel used in generation of 
electricity and in fact got to the point that over 90 percent 
of all of the generators billed through the 1990's were natural 
gas fire generation. We have to be very careful that we do not 
do something as we address climate change that triggers 
significant increases in natural gas usage because that will 
drive us even more to having to import natural gas and drive 
prices up for natural gas which in addition to heating is a 
fundamental input for a lot of feed stock opportunities, 
whether it is fertilizers and plastics and all of that. So, 
there are points where these things come together and when we 
think about the natural gas application across and the plug-in 
hybrid application across that is where, I believe you see 
strong justification for renewables and energy efficiency and 
those kinds of things that while they focus on the electricity 
sector they have the indirect benefit of addressing petroleum 
use because of the transportation sector and then also on the 
natural gas sector.
    Senator Sessions. My time is up but if nuclear would fit 
that role of a multiple benefit energy source, would it not?
    Mr. Sterba. It, absolutely.
    Senator Sessions. And it would work; help with the plug-in 
hybrids and things of that nature?
    Mr. Sterba. Absolutely and one of the things that makes me 
very concerned about the ability to achieve these goals, I 
personally do not see how we get there without nuclear. It is a 
low cost source. The challenge even in this EIA analysis, we 
have five times the amount of nuclear, and that is one of the 
things that helps hold costs down, five times the amount of 
nuclear then we currently have, by 2030. That is a significant, 
well maybe not quite that much.
    Dr. Gruenspecht. The increase in nuclear is five times as 
much as----
    Mr. Sterba. As the base case----
    Dr. Gruenspecht [continuing]. We have a small increase in 
the base case of----
    Mr. Sterba. Right.
    Dr. Gruenspecht [continuing]. About nine gigawatts and 
capacity----
    Mr. Sterba. Right.
    Dr. Gruenspecht [continued]. Compared to a hundred 
gigawatts that we have now that increases by nine in the base 
case and by a little bit under 50. So going from a hundred to a 
hundred and ten in the base case, going from a hundred to a 
hundred and fifty in this analysis.
    Mr. Sterba. So, we are having about a 50 percent increase, 
I apologize, but a 50 percent increase in the amount of nuclear 
and frankly we are not moving very far on that.
    Senator Sessions. I would agree, thank you.
    The Chairman. Thank you.
    Senator Lincoln.
    Senator Lincoln. Thank you, Mr. Chairman and thank you so 
much for your leadership on this issue. I think we have all, 
certainly, I have, in the last several years, have felt a 
heightened awareness as well as a heightened sense of 
responsibility that we need to do something and to do it sooner 
than later, so we appreciate your leadership and I am delighted 
to be back on the committee.
    The Chairman. Welcome back.
    Senator Lincoln. Absolutely, thank you. On that last point 
that Senator Sessions, you all were just discussing, if the 
assumption then in this study or in analysis is that there is a 
50 percent increase and we have not had a new nuclear facility 
in 30 years, is that about, 30 or more, 30 more years and then 
we are also seeing that the re-licensing of nuclear facilities 
is becoming more difficult. That is over a 10 year period, I 
believe, isn't it, the re-licensing? Is that a safe assumption?
    Dr. Gruenspecht. As I tried to say in the testimony, there 
is a lot of uncertainty about all projections over a 25-year 
period, but I think it is important to note that the proposal 
we were asked to evaluate has a safety valve so, as discussed 
in my written testimony, the economic effects would not really 
be much different even if that nuclear could not be built.
    Senator Lincoln. But does not, would with what you have 
just said that with the safety valve and the economic effects 
not, does that mean that, quite frankly, that it is going to be 
a lot easier to just, for companies to trade credit as opposed 
to invest in technologies and in less expensive or more 
reasonable forms of energy production. I mean, I know Ms. Smith 
has somewhat eluded to a little bit of that in your testimony 
and I, you, at least have stated that you feel the emissions 
reductions that are achieved in the bill are short of other 
proposals being really not an effective first step I guess is 
kind of the words that you used in your testimony. Maybe you 
want to elaborate on that a little bit, I mean, what are the 
long term costs, I guess, kind, my question to you is, the long 
term cost of doing nothing or doing too little verses what we 
have really talked about here today, which are the short term 
cost.
    Dr. Smith. The long term costs of doing too little could 
become large if there are significant impacts associated with 
climate change, so there is a risk to be managed. What I was 
trying to explain in my testimony is that it will be very 
costly if we try to push beyond that safety valve price with 
the technologies we have today. So the first step towards a 
long run solution is to create new technologies that are simply 
not in the tool kit, they are not in the list, they are not in 
the models, they are not in anything that has been talked about 
in this room today.
    Senator Lincoln. Right.
    Dr. Smith. Those need to be created and those take 20, 30 
year lead times to get created so we could create a plan to 
have significant emissions reductions by mid-century at low 
cost but only if we start with a true basic R&D policy 
reformation of our R&D policy for energy.
    Senator Lincoln. So is it your opinion that the cap is at a 
level that is going to encourage that investment or incentivize 
the need for newer technology sooner?
    Dr. Smith. A low safety valve price will not provide the 
appropriate incentives for that kind of R&D and that is the 
kind of R&D that we need. That low safety valve price is very 
useful for bringing new technologies that do exist into the 
marketplace to reduce carbon emissions where they are cost 
effective to do so, now, as well as on into the future and for 
establishing some expectations for long term investments.
    Senator Lincoln. So existing technologies as opposed to 
newer technologies.
    Dr. Smith. It is useful for picking up the low cost 
reductions that are existing today which are meaningful to 
undertake if they are in that cost range.
    Senator Lincoln. Mr. Grumet, did you have a comment?
    Mr. Grumet. Yes, thank you, Senator Lincoln. You know we 
tend to have this discussion a lot about whether the answer is 
technology or a price signal. People tend to feel more 
comfortable in one of those two places and our----
    Senator Lincoln. Kind of got to be both though.
    Mr. Grumet. Well, exactly, Senator.
    Senator Lincoln. Yes.
    Mr. Grumet. And I think that to Senator Craig's discussion 
about the liabilities of government and the frustration we are 
having about the inability of government to move forward on 
these specific technology programs. Most people look at that as 
one of the liabilities of a program that just depends upon 
government competence to pick the right technologies. So the 
technology only approach assumes the taxpayer comes up with the 
money and government is smart enough to give it to the right 
people and those are incentives that we do not talk about the 
taxes, we talk about the incentives and those feel great. On 
the other hand, people who just talk about strict, strict caps, 
you know, we are having economic impacts far higher than 
anything that we would be willing to tolerate and if you have 
just a low cap, you do not get the kind of technologies. So the 
messy mill, which I think you either love or you hate, is that 
you have a modest carbon price, as Dr. Smith says, this brings 
forward the low hanging good stuff. You get reductions, you get 
energy efficiency, you get people to pay more attention to 
their operations, you get coal mine methane, you get reductions 
and you generate a bunch of cash because one of the real 
problems with our R&D program is we do not have any kind of 
dedicated revenues from it so you have a market signal, you get 
into the game, you start learning your way through the system, 
you cap the costs so that you have some confidence and 
hopefully you get a bill to become law and you generate a bunch 
of cash.
    Senator Lincoln. But you know with what you have said there 
and then that superimposed on top the idea that we do not have 
a whole lot of time. I mean, I think there is an anxiousness 
that becoming more prevalent among many people in terms of this 
issue and with all of that considered maybe you could help by 
telling me a little bit more or going a little more in depth 
and maybe you have and I have missed it and I apologize for 
running late this morning. The methods that you used to come up 
with that safety valve price mean, maybe, I think there were 
probably political considerations, cost considerations, but 
were the time considerations in terms of the time that we have 
or that we are coming to know that we have of where there is a 
break even point of what we do as doctors will tell you that if 
you smoked all your life and you do not quit before you are 45 
or 50, then, you know, you have pretty much lost your shot at 
it or supposedly, I don't know, I do not smoke, but it is the 
same thing here that we are beginning to hear that there is a 
judgment day.
    Mr. Grumet. It is the right question and I am glad that 
Senator Bingaman, I think in the discussion draft that you have 
circulated has indicated the desire to re-engage this question. 
I tell you that it was some art and some science in our 
Commission. There was a real question about what people think 
the market could bear, look at the price increases that would 
result, about a 10 percent electricity price. When we worked 
very closely with the mine workers we came to believe and I 
believe that their support at some point will be critical, that 
they were willing to have the growth in coal decrease 
significantly by the price as long as there was a view that 
there would be resources for things like IGCC and sequestration 
that could come in and save the industry before the cost got so 
high that they would actually start to really lose in absolute 
terms. A $7 a ton safety valve would basically reduce the 
growth in coal by about half. That is what I think, EIA says, 
that coal growth would be about 20 percent instead of about 50 
percent, now when you look 2 years later at the urgency of the 
science, I believe our Commission's going to come back and 
think well, maybe we should try and do something better than 
that, but if you go too much farther, I think, and I should not 
be here telling you about politics, but you know, I think we, 
everyone goes back to their Kyoto corners and we keep yelling 
at each other for another decade and that clearly is not going 
to solve.
    Senator Lincoln. Yes, that is unacceptable.
    Mr. Grumet. I think a messy middle that is heroically 
inadequate is the kind of action that is going to bring, 
hopefully, the Congress together, but that is not the kind of 
political science you like to hear. Go take on every industry 
in the country and have them and the environmental community 
angry at you, and we will clap, but we are very small, little 
people.
    Senator Lincoln. Thank you, Mr. Chairman.
    The Chairman. Thank you very much. Let me just ask a couple 
more questions. First, let me just say that when you are in 
public office, it is hard to run for office on a platform that 
I have championed and messy middle that is heroically 
inadequate, that is not exactly a winning platform.
    Let me ask, Jeff Sterba, you were a part of this U.S. 
Climate Action Partnership and I believe I heard Dr. Lashof 
characterize your position, the Partnership's position, as 
essentially endorsing the cuts that were in the Jeffords bill, 
and now the Boxer and Sanders bill, that level of reduction in 
it, or that intensity targets or level of reduction of 
emissions. I guess I would ask you first of all if you think 
that is an accurate characterization of what the Partnership 
did and second, how much more can we do to get these targets to 
decline, these intensity targets to decline more quickly 
without doing significant damage to the economy?
    Mr. Sterba. Thank you, Senator. First, the U.S. cap is not 
formed to take a position or advocate on any bill, that is not 
its purpose and it is, as far as I am concerned, that group 
will never do that. So I do not believe it is appropriate to 
apply the U.S. cap principles at this stage to any specific 
bill. I think the principles stand on their own and they stand 
as a collective package. In my judgment, there are many pieces 
of legislation and approaches to legislation that can be 
encompassed within the principles of that bill and so I would 
not agree that that legislation is anyway representative of the 
U.S. cap.
    Second thing relative to the second piece of your question, 
Senator, I think there are a number of things that can be done 
to bring, to more rapidly accelerate the action and that, you 
have hit the nail on the head. The first one goes to what 
Senator Lincoln raised. There is a challenge about the raising 
of money to invest in both R&D and only tied to when caps get 
put in place and we start to generate revenues off the 
auctioning of allowances. That money needs to be made available 
now. We need to find a way to fund the technology in advance of 
the imposition of significant reductions in the emissions, in 
the allowance of emissions. So that would be the first thing is 
there is more rapid funding associated with the technology both 
on basic research for the next breakthroughs.
    I would take a slightly different view than Dr. Smith did 
about the deployment demonstration and development funding, the 
need for that. I agree basic research is a significant piece, 
but frankly there are funding mechanisms within the DOE for 
that. We need to advance those, but it is really getting from 
the concept out of the lab to its commercially available. That 
is the gap that we do not do very well. Part of it is because 
we have utilities that are regulated who are not incentivized 
to take an action to take a nascent technology and deploy it. 
It is because by nature, already the notion of having a 
technology that may have a 60 or 70 percent hit rate is not 
something that regulators want to pay for. So, there is a 
challenge institutionally to making that happen.
    Dr. Lashof. Senator, may I?
    The Chairman. Ah yes, Dr. Lashof, why do not you give us 
the final answer here and then if there is still time we will 
have Senator Craig ask any questions he has, but we do have a 
vote that has started, a cloture vote.
    Dr. Lashof. So, just quickly, I just wanted to clarify what 
I was trying to say about U.S. cap and Senator Sanders bill 
because I do not want to leave the wrong impression. Jeff's 
absolutely right; U.S. cap did not review any specific pieces 
of legislation. We laid out some principles and 
recommendations. What I was trying to do and what I think I 
said is that in my views Senator Sanders targets are consistent 
with the recommendations of U.S. cap, not that the group has 
endorsed it because we did in this U.S. cap group recommend 
some specific emission reductions that go along with this slow, 
stop and reverse, first phase within 5 years of enactment, low 
emissions limit them to within 100 percent to 105 percent of 
current levels, 10 years after enactment, 10 percent below to 
current levels and then 15 years after enactment at 10 to 30 
percent reduction and then looking to a 60 to 80 percent 
reduction by mid-century. So there is an envelope there and we 
can look at any bill that is introduced and see if it falls 
within that envelope. The Sanders bill is one bill that falls 
within that envelope. That is what I was trying to say. Thank 
you.
    The Chairman. Very good.
    Senator Craig, did you have a final question?
    Senator Craig. I will be very brief because I am always a 
little frustrated by a sense of urgency that causes us to react 
in a way that maybe is not consistent where we ought to be. I 
would suggest to Senator Lincoln that the sense of urgency is 
the 2008 election for a good many people as it relates to how 
they express their public policy intent and then once we are 
past that, then it will be another 2 years and another sense of 
urgency. I think what has to come out of this committee is a 
pattern of consistency and predictability for industries to 
make the kind of investment we are expecting they should make 
and we should make with them to incentivize this process. For 
example I am very pleased to see Howard, who in 2005, 
incrementally hardly recognized nuclear as a growth industry. 
Today has jumped substantially into the forefront with his 
figures and that is positive.
    The Chairman. That is only if we pass my bill.
    [Laughter]
    Senator Craig. I think that is in part consistent with you 
know, not only your bill.
    Dr. Gruenspecht. You also get something out of the 2005 
Energy Policy Act.
    Senator Craig. Thank you, I thought we would and we did, 
but now
    The Chairman. Bottom line; let us be clear, we go 99,000 
mega watts----
    Dr. Gruenspecht. Yes.
    The Chairman [continuing]. Under the 2005 bill. If this 
draft legislation we just analyzed----
    Dr. Gruenspecht. You get a lot for----
    The Chairman [continuing]. 48,000 mega watts.
    Dr. Gruenspecht. Right, the coal and the nuclear are 
alternative technologies for base load.
    The Chairman. Right.
    Senator Craig. Right and having said that, Mr. Chairman, 
you have now found yourself in Jason's murky middle, whether 
you like it or not.
    [Laughter]
    The Chairman. Heroically inadequate.
    Mr. Grumet. Yes.
    The Chairman. Alright, thank you all very much. It is a 
very useful hearing.
    [Whereupon, at 11:38 a.m., the hearing was adjourned.]
                                APPENDIX

                   Responses to Additional Questions

                              ----------                              

                              Department of Energy,
               Congressional and Intergovernmental Affairs,
                                 Washington, DC, February 21, 2007.
Hon. Jeff Bingaman,
Chairman, Committee on Energy and Natural Resources, U.S. Senate, 
        Washington, DC.
    Dear Mr. Chairman: On January 24, 2007, Howard Gruenspecht, Deputy 
Administrator, Energy Information Administration, testified regarding 
the Energy Market and Economic Impacts of a Proposal to Reduce 
Greenhouse Gas Intensity with a Cap and Trade System.
    Enclosed are the answers to nine questions that were submitted by 
Senators Menendez, Thomas, and you for the hearing record.
    If we can be of further assistance, please have your staff contact 
our Congressional Hearing Coordinator, Lillian Owen, at (202) 586-2031.
            Sincerely,
                                             Jill L. Sigal,
                                               Assistant Secretary.
[Enclosures.]
   Responses of Howard Gruenspecht to Questions From Senator Bingaman
    Question 1. Two years ago we passed an energy bill, EPAct 2005. I 
understand that my staff has asked you to model the impacts of the 
Energy Bill on greenhouse gas emissions. I have a document here that I 
would like to enter to the Record. Can you very quickly tell us how the 
proposed draft's impacts on GHG emissions compares to the Energy Bill?
    Answer. In April 2006, EIA prepared a brief summary of the impacts 
of the provisions of the Energy Policy Act of 2005 (EPAct 2005) that we 
were able to model (see below). The key finding was that the modeled 
provisions of EPAct 2005 reduced CO2 emissions by about 90 
million metric tons, roughly 1 percent of total emissions, in 2020 and 
2030. In comparison, the impacts of the September 2006 draft proposal 
that you and 5 other senators asked EIA to analyze are found to be 
larger, reducing CO2 emissions by 193 million tons in 2020 
and 727 million tons in 2030. Furthermore, the proposed draft also 
reduces the emissions of other greenhouse gases by 369 million tons and 
532 million tons in 2020 and 2030, respectively, and establishes a 
pilot program to stimulate biological carbon sequestration.
    The text of the April 2006 paper outlining EIA's views on the 
projected impact of EPAct 2005 on energy-related carbon dioxide 
emissions follows:
    projected impact of epact 2005 on energy-related carbon dioxide 
                          emissions april 2006
    The Energy Information Administration (EIA) has some capability to 
assess the effects of the Energy Policy Act of 2005 (EPAct 2005) on 
energy-related carbon dioxide (CO2) emissions. However, the 
extent to which studies or programs authorized by EPAct 2005, but not 
directly implemented by that legislation, might advance the timing and/
or lower the cost of advanced energy technology represent a key 
uncertainty in such an assessment.
    The Annual Energy Outlook 2006 (AE02006) Reference case \1\ 
includes roughly 30 specific provisions implemented by EPAct 2005. Many 
of these provisions, which are outlined in the Legislation and 
Regulations section of the AEO2006, are intended to increase energy 
efficiency and encourage use of nuclear power and renewable fuels, 
which have the ancillary benefit of reducing CO2 emissions. 
Removal of these provisions in a No-EPAct 2005 case resulted in 
projected CO2 emissions that are 90 million metric tons (1.3 
percent) higher than in the Reference case in 2020, and 92 million 
metric tons (1.1 percent) higher in 2030. About 90 percent of the 
CO2 emission reductions directly attributed to EPAct 2005 in 
2030 are associated with electricity, some of which result from reduced 
electricity demand due to efficiency standards and some from incentives 
for new nuclear power and renewable generation.
---------------------------------------------------------------------------
    \1\ Energy Information Administration, Annual Energy Outlook 2006, 
DOE/EIA-0383(2006) (Washington, DC, February 2006), web site 
www.eia.doe.gov/oiaf/aeo/index.html.
---------------------------------------------------------------------------
    It is important to recognize that many other EPAct 2005 provisions 
were not explicitly considered in the AEO2006 Reference case. EIA did 
not try to anticipate policy responses to the many studies required by 
EPAct 2005, nor did it try to predict the impact of research, 
development, and deployment (RD&D) authorizations and loan guarantee 
programs in the bill that require future appropriations. However, 
recent EIA technology sensitivity analyses not directly tied to EPAct 
2005 show that assumptions about the availability and cost of advanced 
technologies can significantly impact future energy use and 
emissions.\2\ For example, the Integrated High Technology Case in 
AEO2006, which assumes reduced costs and accelerated timing of advanced 
technologies, projects CO2 emissions that are 385 million 
metric tons (5.4 percent) lower than in the Reference case in 2020, and 
694 million metric tons lower (8.5 percent) in 2030. What part, if any, 
of the accelerated timing and lower costs assumed in this case might be 
realized specifically due to the enactment of the research, development 
and deployment provisions of EPAct 2005 is highly uncertain.
---------------------------------------------------------------------------
    \2\ A further discussion of this issue in another context is 
provided in EIA's April 2005 analysis of the recommendations of the 
National Commission on Energy Policy, web site www.eia.doe.gov/oiaf/
servicerpy/bingaman/pdf/sroiaf(2005)02.pdf.
---------------------------------------------------------------------------
    In sum, EIA's analyses suggest that the roughly 30 EPAct 2005 
provisions that were explicitly modeled are projected to reduce energy-
related CO2 emissions by approximately 90 million metric 
tons in both 2020 and 2030. Any impact resulting from the non-modeled 
authorizations, loan guarantees, studies and other miscellaneous 
provisions that served to advance the availability and cost of advanced 
energy technologies would add to projected reductions in energy-related 
CO2 emissions.
    Table 1 compares results of the AEO2006 Reference case, the No-
EPAct 2005 case, and the AEO2006 Integrated High Technology Case.

Table 1.--COMPARISON OF ENERGY CONSUMPTION AND ENERGY-RELATED CARBON DIOXIDE EMISSIONS IN THE AEO2006 REFERENCE,
                         NO-EPACT 2005, AND HIGH TECHNOLOGY CASES (2004, 2020, and 2030)
----------------------------------------------------------------------------------------------------------------
                                                              2020                             2030
                                               -----------------------------------------------------------------
               Indicator                 2004                  No                               No
                                                 Reference   EPAct      High      Reference   EPAct      High
                                                              2005   technology                2005   technology
----------------------------------------------------------------------------------------------------------------
Consumption (quadrillion Btu)
  Petroleum Products..................   40.08       48.14    48.16       45.49       53.58    53.59       49.70
  Natural Gas.........................   23.07       27.70    27.88       26.43       27.66    27.95       28.72
  Coal................................   22.53       27.65    28.49       25.95       34.49    35.28       30.17
  Nuclear Power.......................    8.23        9.09     8.59        8.93        9.09     8.59        9.47
  Renewable Energy....................    5.74        8.00     8.00        8.34        9.02     9.14        9.59
  Other...............................    0.04        0.05     0.05        0.04        0.05     0.05        0.05
                                       -------------------------------------------------------------------------
    Total.............................   99.68      120.63   121.16      115.19      133.88   134.61      125.70
Carbon Dioxide Emissions by Fuel
 (million metric tons)
  Petroleum Products..................   2,595       3,061    3,063       2,899       3,421    3,424       3,178
  Natural Gas.........................   1,203       1,455    1,464       1,388       1,452    1,468       1,403
  Coal................................   2,090       2,589    2,668       2,432       3,226    3,300       2,825
  Other...............................      11          14       14          14          15       15          15
                                       -------------------------------------------------------------------------
    Total.............................   5,900       7,119    7,209       6,734       8,114    8,207       7,421
Carbon Dioxide Emissions by Sector
 (million metric tons)
  Electric Power......................   2,299       2,835    2,914       2,677       3,318    3,402       2,957
  Residential.........................   1,208       1,434    1,477       1,366       1,576    1,631       1,432
    Direct Fuel.......................     375         398      398         384         398      397         372
    Electricity.......................     833       1,036    1,079         982       1,178    1,234       1,060
  Commercial..........................   1,020       1,339    1,367       1,293       1,620    1,645       1,502
    Direct Fuel.......................     229         260      263         260         284      287         283
    Electricity.......................     792       1,079    1,104       1,033       1,336    1,357       1,220
  Industrial..........................   1,727       1,924    1,941       1,778       2,184    2,195       1,946
    Direct Fuel.......................   1,069       1,222    1,229       1,132       1,400    1,405       1,284
    Electricity.......................     658         703      712         646         784      790         662
  Transportation......................   1,945       2,422    2,424       2,297       2,734    2,736       2,541
    Direct Fuel.......................   1,929       2,404    2,406       2,281       2,715    2,716       2,525
    Electricity.......................      16          18       18          16          20       20          16
                                       -------------------------------------------------------------------------
      Total...........................   6,900       7,119    7,209       6,734       8,114    8,207       7,421
----------------------------------------------------------------------------------------------------------------
Source: National Energy Modeling System runs AEO2006.D111905A, NRGBILL0.D041006A, and HTRKITEN.D121905A

    Question 2. Also, I understand that my staff asked you to create 
this chart on the impacts of this proposal on GDP. I have that chart 
here. Did you make this chart? Can you quickly explain it?
    Answer. The figure below * was prepared by EIA at the request of 
your staff to put the projected impact of the September 2006 proposal 
(represented by the Phased Auction case on U.S. gross domestic product 
(GDP) in the context of the overall level of real U.S. GDP. U.S. real 
GDP (measured in 2000 dollars) currently exceeds $11 trillion, and is 
expected to grow over time, reaching over $22.5 trillion in 2030. Under 
the proposal, real GDP is estimated to be reduced by $59 billion, or 
0.26 percent of its projected level, in 2030.
---------------------------------------------------------------------------
    * The graph has been retained in committee files.
---------------------------------------------------------------------------
    Question 3. Dr. Gruenspecht, I recently read a statement from a 
trade association that criticized EIA's analysis of the Bingaman 
proposal for underestimating the costs of the climate proposal. 
Specifically, the analysis claimed that natural gas prices would rise 
dramatically due to fuel switching from coal to natural gas caused by 
the mandatory climate constraint. Could you react to that claim? I'm 
attaching the statement and will put it in the Record. Could you please 
respond to claims made about the EIA modeling?
    Answer. EIA stands behind the results of its analysis, and 
disagrees with the position of the Industrial Energy Consumers of 
America (IECA) stated in their January 22, 2007, press release that 
EIA's analysis ``misinforms the Congress.''
    We do not take issue with IECA's view that projections of natural 
gas production, increased LNG imports, and increased nuclear capacity 
over a 25-year period are inherently uncertain--in fact, EIA's report 
and its January 24th testimony explicitly and repeatedly note this.
    The IECA review of EIA's analysis, however, fails to take account 
of a key provision of the proposal EIA was asked to evaluate--the 
safety valve. As discussed in the EIA testimony and analysis, inclusion 
of a safety-valve feature in a cap-and-trade program would implicitly 
relax the emissions cap in the event that emissions reduction inside or 
outside the energy sector proves to be more costly than expected, while 
protecting against the prospect of larger energy system and economic 
impacts in these circumstances.
    The delivered price for coal under the proposal EIA reviewed is the 
``no policy'' delivered price plus the cost of allowances. Under the 
proposal, the price of allowances will never exceed the safety valve 
level, regardless of future developments in nuclear, renewable energy, 
or energy efficiency technologies; natural gas production; or the rate 
of economic growth. Therefore, a calculation made using the assumption 
that the cost of allowances is always at the safety valve level sets an 
upper bound on the delivered coal price under the proposal. To the 
extent that expanded use of existing or new coal plants at such a 
delivered coal price is cheaper than using natural gas, IECA's concern 
about ``diversion'' of natural gas away from their constituents towards 
the electric power sector, would appear to be unfounded.
    Other considerations also mitigate strongly against the position 
outlined in the IECA press release. For example, IECA legitimately 
notes the significant uncertainty surrounding EIA's reference case 
projections of future domestic natural gas production, future LNG 
imports, and future industrial natural gas demand. EIA certainly 
recognizes these uncertainties and routinely seeks to address their 
impact in numerous sensitivity cases in our yearly Annual Energy 
Outlook (AEO) and in the service reports we prepare at the request of 
the Congress, even though the energy price, energy availability, and 
economic impact results for the proposal we analyzed are not sensitive 
to them given the availability of the safety value. EIA, however, does 
not routinely consider uncertainty regarding future policy actions in 
its AEO projections. Ironically, uncertainty regarding future actions 
to limit greenhouse gas emissions, which IECA does not address in its 
review of the EIA analysis, could have exactly the effects on natural 
gas use for electric power generation that IECA states that it is 
concerned about. For example, to the extent that potential investors in 
long-lived power generation capital are sensitive to uncertainty over 
future policies that could significantly affect the market value of 
their projects, they may be reluctant to make such investments, which 
would tend to promote the use of existing capacity and the cheapest 
possible capacity expansions where new investment is unavoidable, until 
such time as the direction of policy becomes more clear.
    In sum, while EIA takes no position on the desirability of the 
specific policy proposal we were asked to analyze or on any other 
policy matter, we strongly believe that our analysis of the proposal is 
both reasonable and informative.
    Question 4. Dr. Gruenspecht, does the EIA modeling account for 
advances in technology that would result from additional government R&D 
funded through auctions of allowances?
    a. If not, would you expect the impact on electricity prices and 
GDP to be lower if those advances were factored into the model?
    Answer. EIA's analysis of the proposal does not explicitly 
represent the potential impacts of government expenditures associated 
with revenue collected in the Climate Change Trust Fund. As stated in 
this analysis, ``All of the analysis cases incorporate the economic and 
technology assumptions used in the AEO2006 reference case. While 
increased expenditures for research and development (R&D) resulting 
from the creation of the Climate Change Trust Fund are expected to lead 
to some technology improvements, a statistically reliable relationship 
between the level of R&D spending for specific technologies and the 
impacts of those expenditures has not been developed. Furthermore, the 
impact of Federal R&D is also difficult to assess, because the levels 
of private sector R&D expenditures usually are unknown and often far 
exceed R&D spending by the Federal Government.'' (page vi) It is 
certainly possible that the Climate Change Trust Fund expenditures 
could lead to technological advances that lower the costs of complying 
with the proposal.
    Question 5. Dr. Gruenspecht, Some of my colleagues have introduced 
legislation that calls for percentage reductions by specific dates in 
the future, but leaves the implementation details to be determined 
through regulation. Can you discuss how draft legislation that has no 
specific mechanisms for constraining greenhouse gas emissions 
complicates efforts to model economic impacts?
    Answer. Due to the ubiquitous nature of greenhouse gas (GHG) 
emissions in the US energy-economy, assessing the potential impacts of 
any proposal to reduce them is extremely complex. Details about the 
emissions target level, the policy instrument(s) to be used, what GHGs 
are covered, what sectors or entities are covered, whether domestic or 
international offsets are allowed, whether carbon capture and 
sequestration is allowed or limited, whether biological sequestration 
is allowed or limited, and whether the potential costs are limited by a 
safety-valve mechanism are all important in the assessment of any 
policy proposal. Assessing the potential economic impacts of a proposal 
without these details would be very challenging.
    Question 6. Dr. Gruenspecht, please discuss the limitations, both 
at EIA and in the academic community, of economic modeling scenarios 
more than 30 years in the future.
    Answer. There is enormous uncertainty in any projections that look 
25 years or more into the future. As stated in EIA's analysis of the 
September 2006 proposal, ``NEMS, like all models, is a simplified 
representation of reality. Projections are dependent on the data, 
methodologies, model structure, and assumptions used to develop them. 
Since many of the events that shape energy markets are random and 
cannot be anticipated (including severe weather, technological 
breakthroughs, and geopolitical developments), energy markets are 
subject to uncertainty. Moreover, future developments in technologies, 
demographics, and resources cannot be foreseen with certainty. 
Nevertheless, well-formulated models are useful in analyzing complex 
policies, because they ensure consistency in accounting and represent 
key interrelationships, albeit imperfectly, to provide insights.''
    Furthermore, all long-term projections engender considerable 
uncertainty. It is particularly difficult to foresee how existing 
technologies might evolve or what new technologies might emerge as 
market conditions change, particularly when those changes are fairly 
dramatic. As a result, to comply with the GHG emissions growth limits 
necessary to meet the intensity reduction targets, all energy 
providers, particularly electricity producers, likely will increasingly 
rely on technologies that play a relatively small role today or have 
not been built in the United States in many years. Sensitivity analyses 
included in previous EIA studies of cap-and-trade systems for GHG show 
that estimates of both energy and economic impacts of such programs can 
change significantly under alternative assumptions regarding the cost 
and availability of new technologies.
    Finally, as noted in my testimony, policy design differences can 
significantly affect the nature of uncertainty surrounding the 
projected energy and economic impacts of alternative policies to limit 
GHG emissions. Inclusion of a safety-valve feature in a cap-and-trade 
program would allow GHG emissions to rise above the level projected in 
our analysis in the event that emissions reduction inside or outside 
the energy sector proves to be more costly than we expect, while 
protecting against the prospect of larger energy system and economic 
impacts in these circumstances. In contrast, policies that impose a 
``hard'' cap on emissions without a safety-valve price for GHG credits, 
would force the fixed GHG emissions target to be met regardless of 
cost, reducing uncertainty surrounding the GHG emissions outcome but 
increasing uncertainty regarding energy and economic impacts.
   Responses of Howard Gruenspecht to Questions From Senator Menendez
    Question 1. Mr. Gruenspecht, the Intergovernmental Panel on Climate 
Change has warned us of the potentially devastating effect that global 
warming may have on our and the world's economy if we do not act 
quickly and decisively. In fact, Sir Nicolas Stern, head of the British 
Government's Economics Service, found that globally the costs of 
dealing with these effects may amount to 5 percent of global GDP. What 
assumptions, if any, does the EIA report make of these potential costs?
    Answer. The EIA analysis only assesses the impacts on the U.S. 
energy-economy of the specific proposal that EIA was asked to examine. 
EIA has not examined the analysis prepared by Sir Nicolas Stern, nor 
made an assessment of the global costs of dealing with global warming. 
Furthermore, as stated in the report, ``This report, like other EIA 
analyses of energy and environmental policy proposals, focuses on the 
impacts of those proposals on energy choices made by consumers in all 
sectors and the implications of those decisions for the economy. This 
focus is consistent with ETA's statutory mission and expertise. The 
study does not account for any possible health or environmental 
benefits that might be associated with curtailing GHG emissions.''
    Question 2. Mr. Gruenspecht, I realize that these costs are 
difficult to predict with certainty. Some have and continue to argue 
that these costs are exaggerated. Others, as mentioned in the previous 
question, have a less optimistic outlook. Regardless, could you provide 
us with a middle ground for what the mitigation costs are likely to be?
    Answer. The EIA analysis only assesses the impacts on the US 
energy-economy of the specific proposal that EIA was asked to examine. 
This focus is consistent with ETA's statutory mission and expertise. As 
mentioned in the previous answer, EIA has not examined the analysis 
prepared by Sir Nicolas Stern, nor made an assessment of the global 
costs of dealing with global warming.
    Responses of Howard Gruenspecht to Questions From Senator Thomas
    Question 1. Please provide an economic analysis, comparable in 
detail to that which was prepared from a national perspective, of the 
impact that the proposed legislation would have, for each of the 50 
states.
    Answer. EIA is not able to provide an analysis at the level of each 
of the 50 States as requested. However, the National Energy Modeling 
System (NEMS) used in this analysis does produce energy market results 
at various regional levels \3\ and industrial sector economic results 
at the national level. With respect to the energy sector, significant 
variations in regional results are seen in the electricity and coal 
markets. In the industrial sector, the most significant impacts occur 
in the energy intensive industries.
---------------------------------------------------------------------------
    \3\ For example, electricity markets are represented for 13 regions 
based on the regions and subregions of the North American Reliability 
Council (NERC).
---------------------------------------------------------------------------
                      electricity and coal markets
    All regions of the country are projected to face higher electricity 
prices in the Phased Auction case of the September 2006 proposal that 
EIA was asked to analyze (Figures 1 and 2).* The largest price 
increases are projected in regions where electricity prices are set 
competitively and where coal generation accounts for a large share of 
total generation. In these regions, the costs of holding all the needed 
emission allowances will be fully reflected in consumer prices. For 
example, electricity prices in the MAAC and ECAR regions are projected 
to be 17 percent and 14 percent higher, respectively, in the Phased 
Auction case in 2030. Conversely, the electricity price impacts are 
projected to be smaller in regions that still have an average cost 
pricing regime and do not depend as heavily on coal. For example, 2030 
electricity prices in the California and NWP regions are projected to 
only be 4 percent and 5 percent higher, respectively, in the Phased 
Auction case.
---------------------------------------------------------------------------
    * Figures 1-4 have been retained in committee files.
---------------------------------------------------------------------------
    The reduced use of coal in the power and liquid fuels (i.e., coal-
to-liquids diesel production) sectors affects coal production in all 
areas of the country (Figure 3). In absolute terms, western coal 
production is projected to be most impacted, falling 253 million tons 
(24 percent) below the reference case in the Phased Auction case in 
2030. This occurs because, in the reference case, western coal regions, 
particularly the Powder River Basin in Wyoming and Montana, were 
expected to be the dominate growth areas for coal production. In the 
Phased Auction case, power companies turn to new nuclear, natural gas, 
and renewable plants to meet growth in the demand for electricity, 
reducing the need for greater coal production. Even with this change, 
western coal production in 2030 in the Phased Auction case is 30 
percent higher than 2004 production. Eastern coal production in 2030 is 
projected to be 142 million tons (22 percent) below the reference case 
level in the Phased Auction case, about the same level that was 
produced in 2004.
                       impacts on industry output
    In the Phased Auction case, the price of allowances directly 
increases the costs in emitting sectors and leads to increases in 
energy prices that raise the factor input costs for all industries. 
This leads to changes in the demand for goods and services, as 
reflected in the final demand categories of consumer spending, 
investment, government spending and trade, and causes industries to 
adjust their production accordingly. Figure 4 shows the average annual 
loss in gross output relative to the reference ease for the period 2009 
to 2030 for the Phased Auction case. The energy-intensive manufacturing 
industries \4\ are impacted the most, with output projected to be 
reduced by an average of 0.82 percent. Non-energy-intensive 
manufacturing is reduced by an average of 0.57 percent, non-
manufacturing industries by 0.32 percent and services by 0.10 percent.
---------------------------------------------------------------------------
    \4\ Energy-intensive manufacturing industries in NEMS include food, 
paper, inorganic and organic chemicals, resins, agricultural chemicals, 
petroleum refining, glass, cement, iron and steel, and aluminum.
---------------------------------------------------------------------------
    Among the detailed energy-intensive industries, aluminum 
production, which is a heavy user of electricity, is expected to fall 
by 5.0 percent on average. Production of glass, iron and steel, cement, 
agricultural chemicals and basic inorganic chemicals are also expected 
to fall by more than 1 percent. Among the non-manufacturing industries, 
coal mining is projected to fall by 8.9 percent, with oil and natural 
gas extraction falling by 0.4 percent.
                                 ______
                                 
    [Responses to the following questions were not received at 
the time this hearing went to press:]

            Questions for Jason Grumet From Senator Bingaman
    Question 1. Mr. Grumet, in your testimony, you noted that cost 
control measures other than the safety valve have been proposed. Could 
you elaborate on that? How should we evaluate the pluses and minuses of 
these different measures?
    Question 2. Mr.Grumet, in your testimony you note that the 
Commission believes that the Safety Valve is instrumental at the outset 
of a program but may not be appropriate in the longer term. Can you 
please explain?
    Question 3. Mr. Grumet, competitiveness concerns--in particular 
with regard to China--are often raised by those opposing mandatory 
action to address climate change. What are the best ways to address 
these concerns?
    Question 4. Mr. Grumet, do you have any views on how the 
President's announcement last night to promote alternative fuels and 
CAFE increases bears upon economy-wide approaches to GHG reductions.
                                 ______
                                 
            Questions for Jason Grumet From Senator Menendez
    Question 1. Mr. Grumet, you stated that if the EIA had used a more 
optimistic technology assumption to reflect the hill's significant 
technology incentives, the analysis would likely have shown larger 
emission reductions at even lower costs. What is your best guess as to 
the difference in emission reductions and costs that would result from 
a more optimistic view?
    Question 2. Mr. Grumet, you indicated that the Commission has begun 
evaluating opportunities to strengthen its original proposal while 
still meeting the test of no significant harm to the economy. Could you 
elaborate on any preliminary findings?
    Question 3. Mr. Grumet, the European Union's Emissions Trading 
Scheme (ETS) is set to enter into its second phase next year. As I'm 
sure you know, the ETS reduction targets are much more stringent than 
those found in the proposal that the FIA recently analyzed. 
Additionally, there is no safety-valve price mechanism in the EU 
system. Are you familiar with any statistical analysis that may have 
been conducted of the ETS that have measured or predicted the costs to 
the EU economy? If so are there any valuable lessons that we can take 
from the EU's experience thus far?
                                 ______
                                 
             Questions for Dan Lashof From Senator Bingaman
    Question 1. Dr. Lashof you have mentioned target levels that you 
believe would be necessary to reach ecologically necessary levels of 
greenhouse gas concentrations. Have you or your colleagues looked at 
the costs of those targets and could you compare them to the proposal 
that we are discussing today?
    Question 2. Dr. Lashof, what would be the impacts on coal use under 
the low-end and high-end reduction ranges. you are supporting?
    Question 3. Dr. Lashof, how do you believe the U.S. can most 
effectively encourage developing countries to join in reducing GHG 
emissions?
                                 ______
                                 
             Questions for Anne Smith From Senator Bingaman
    Question 1. Dr. Smith, your testimony implies that some level of 
mandatory price signal, either through a safety valve or a carbon tax 
could be justified as part of climate change policy. Could you 
elaborate?
    Question 2. Dr. Smith, the safety valve is often talked about in 
largely political terms. You make the point that you believe it 
increases the economic efficiency of the program. Can you please 
explain?
    Question 3. Dr. Smith, in your testimony, you say that the 
allocation scheme in the proposal does not reach the goal of ``fair 
compensation'' for the impacts of the program. I would like to hear 
more about that, but could you first tell us whether you think this 
type of compensation approach is a valid way to allocate allowances? In 
your view, is it better or worse that an approach based on historic 
emissions or fuel use?
                                 ______
                                 
            Questions for Jeff Sterba From Senator Bingaman
    Question 1. Mr. Sterba, you lead a company that gets a significant 
percentage of its generation from coal, Clearly, new coal technologies 
will be important to your company. In your view, how will this proposal 
help speed the deployment of these technologies? Are there ways to 
improve the bill in this area?
    Question 2. Mr. Sterba, in addition to heading up one of the 
nation's leading energy companies, you have a prominent role in the 
Edison Electric institute which represents the majority of investor 
owned utilities. Do you believe that it is possible to design 
legislation that could win the support of a majority of the utility 
industry this Congress?
    Question 3. Mr. Sterba, your company was one of the signatories to 
the US Climate Action Partnership announced yesterday. I congratulate 
you on your leadership role in this important initiative. The report 
appears to endorse a safety provision similar to the one in the 
Bingaman proposal. Also, if I've understood you correctly, I believe 
you have just endorsed such a provision in your testimony. On the other 
hand, I have heard statements by some of the organizations involved in 
US CAP that the principles do not allow such a provision. Could you 
clear this up for us?

                                    

      
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