[Senate Hearing 111-253]
[From the U.S. Government Publishing Office]



                                                        S. Hrg. 111-253
 
                       CLIMATE CHANGE LEGISLATION

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


                                HEARING

                               before the

                              COMMITTEE ON
                      ENERGY AND NATURAL RESOURCES
                          UNITED STATES SENATE

                     ONE HUNDRED ELEVENTH CONGRESS

                             FIRST SESSION

                                   TO

  RECEIVE TESTIMONY ON ENERGY AND RELATED ECONOMIC EFFECTS OF GLOBAL 
                       CLIMATE CHANGE LEGISLATION

                               __________

                            OCTOBER 14, 2009


                       Printed for the use of the
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20402-0001


               COMMITTEE ON ENERGY AND NATURAL RESOURCES

                  JEFF BINGAMAN, New Mexico, Chairman

BYRON L. DORGAN, North Dakota        LISA MURKOWSKI, Alaska
RON WYDEN, Oregon                    RICHARD BURR, North Carolina
TIM JOHNSON, South Dakota            JOHN BARRASSO, Wyoming
MARY L. LANDRIEU, Louisiana          SAM BROWNBACK, Kansas
MARIA CANTWELL, Washington           JAMES E. RISCH, Idaho
ROBERT MENENDEZ, New Jersey          JOHN McCAIN, Arizona
BLANCHE L. LINCOLN, Arkansas         ROBERT F. BENNETT, Utah
BERNARD SANDERS, Vermont             JIM BUNNING, Kentucky
EVAN BAYH, Indiana                   JEFF SESSIONS, Alabama
DEBBIE STABENOW, Michigan            BOB CORKER, Tennessee
MARK UDALL, Colorado
JEANNE SHAHEEN, New Hampshire

                    Robert M. Simon, Staff Director
                      Sam E. Fowler, Chief Counsel
               McKie Campbell, Republican Staff Director
               Karen K. Billups, Republican Chief Counsel


                            C O N T E N T S

                              ----------                              

                               STATEMENTS

                                                                   Page

Bingaman, Hon. Jeff, U.S. Senator From New Mexico................     1
Elmendorf, Douglas W., Director, Congressional Budget Office.....     4
Harvey, Reid P., Chief, Climate Economics Branch, Office of Air 
  and Radiation, Environmental Protection Agency, Accompanied by 
  Allen Fawcett..................................................    28
Murkowski, Hon. Lisa, U.S. Senator From Alaska...................     2
Newell, Richard, Administrator, Energy Information 
  Administration, Department of Energy...........................    22
Parker, Larry, Specialist in Energy and Environmental Policy, 
  Congressional Research Service.................................    31

                                APPENDIX

Responses to additional questions................................    61


                       CLIMATE CHANGE LEGISLATION

                              ----------                              


                      WEDNESDAY, OCTOBER 14, 2009

                                       U.S. Senate,
                 Committee on Energy and Natural Resources,
                                                    Washington, DC.
    The committee met, pursuant to notice, at 10:03 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. Why don't we go ahead. I'm informed that 
Senator Murkowski is on her way and will be here shortly, but 
we should proceed.
    As the Senate continues to consider ways to deal with the 
global environmental problem of climate change, much of the 
discussion centers around overall costs and benefits of such a 
program; how the costs and benefits will be distributed 
throughout our economy. Addressing the issue of climate change 
will require major transformation of our energy sectors. So, 
this committee will continue to take a interest in the topic in 
the months ahead.
    Our last hearing on climate change examined different 
policy options to contain both the long-term costs and the 
short-term price volatility of an economywide program to reduce 
greenhouse gas emissions. As a follow-on to that discussion, in 
today's hearing we will receive testimony on the various 
economic models and analyses of the American Clean Energy 
Security Act, or ACES, which was passed by the House of 
Representatives this June.
    While no one can say for certain what the future holds, 
scientific and economic models can be used as tools to 
approximate reality and to help us understand how the 
environment or the economy may react to policies that we adopt. 
Models can be very useful tools for estimating what a 
particular program may cost, showing how particular goals may 
be best achieved and revealing where the economy may be most 
sensitive to the choices that we make. We understand they are 
imperfect tools, however, and models have often been used or 
manipulated to make a predetermined point or to show favorable 
or unfavorable results for any given policy.
    Over the course of our discussions on climate change 
legislations, this has been particularly true. Interest groups 
and stakeholders have circled Capitol Hill with various 
analyses, some showing that cap-and-trade legislation will 
wreck the economy and provide nothing but costs, others showing 
only the benefits of job creation and new industry.
    In the case of cap-and-trade programs and climate 
legislation, we can use real-world experiences alongside model 
analyses to keep us grounded in reality. For example, the cap-
and-trade system for sulfur dioxide that was put in place by 
the 1990 Clean Air Act amendments was an unprecedented 
environmental success in combating acid rain and turned out to 
cost only about a quarter of the price that economic models at 
the time were projecting.
    My impression is that the greenhouse gas emissions trading 
program in Europe has shown that emissions trading can be 
successful at reducing emissions without having a disastrous 
effect on the economy. While it's true that the European 
emissions trading program experienced significant volatility in 
its initial experimental phase, they have learned from their 
trial period, and they've made important improvements to that 
system. We need to learn from the experience that they've had.
    Today, the witnesses will explain the strengths and 
weaknesses of the different models that have been used to 
analyze the House-passed legislation and what they, 
collectively, may tell us about the proper design of climate 
legislation.
    Let me call on Senator Murkowski for any opening statements 
she'd like to make.
    [The prepared statement of Senator Bunning follows:]
 Prepared Statement of of Hon. Jim Bunning, U.S. Senator From Kentucky
    Thank you Mr. Chairman. I look forward to the hearing today to 
discuss the economic effects of enacting a cap and trade program.
    Efforts to reduce carbon emissions through the imposition of strict 
federal mandates as outlined in a cap and trade system are nothing more 
than a national energy tax.
    It will bankrupt our industries, cost Americans jobs and cause 
energy prices to skyrocket. It is wrong for Kentucky and wrong for 
America.
    Estimates show that if enacted a cap and trade system will only 
reduce global greenhouse gas emissions by four percent, while imposing 
one of largest tax increases in American history.
    In these tough economic times it is irresponsible and reckless to 
enact legislation that would have such a small effect on global warming 
while imposing substantial costs on all American households.
    It will affect the prices we pay to fill up our gas tanks, heat and 
cool our homes and use electricity as well as the costs of practically 
all goods and services.
    And the costs will be disproportionally shouldered by the states 
that have more carbon based resources than other states.
    In my home state of Kentucky over 95% of electricity is generated 
by coal. Estimates show that if passed Kentucky will be one of the 
highest impacted states by cap and trade legislation.
    Make no mistake. Cap and trade is an anti-growth proposal that will 
hurt American industries and American families more than it will help 
them.
    I thank the witnesses for appearing before the committee today and 
appreciate their comments. I look forward to continuing the 
conversation on this issue and discussing the entire scope of the cost 
of enacting climate change legislation.
    Thank you Mr. Chairman.

        STATEMENT OF HON. LISA MURKOWSKI, U.S. SENATOR 
                          FROM ALASKA

    Senator Murkowski. Thank you, Mr. Chairman.
    Welcome, to those of you who have joined us this morning.
    The cost estimates that we are here to discuss are clearly 
very important, and will significantly impact the Senate's 
ability to pass climate legislation.
    Last May, at about the same point in the climate debate, we 
learned that every major analysis of cap-and-trade projected 
higher energy prices and lower economic growth. These costs 
were exceeded by one factor, and that factor was uncertainty. 
When it became clear that we could expect minimal environmental 
benefit unless other nations made similar cuts, the outcome of 
the eventual floor debate was predictable.
    For the bills introduced this year, the story hasn't been 
much different. Each analysis projects significant costs and, 
among assessments, there's great uncertainty.
    The EPA analysis of the House bill includes 7 different 
scenarios. EIA's contain a total of 11. Yet, neither accounts 
for the cumulative impact of every provision. Limitations and 
caveats and constraints are routinely noted.
    I don't mean to criticize these reports instead, the 
underlying legislation. The House bill's cap-and-trade 
provisions draw most of the attention, but in reality take up 
only about 200 of its 1400 pages. The rest creates an 
unprecedented web of command-and-control regulations that would 
be layered on top of cap-and-trade, each other, as well as 
existing law, which makes estimating costs difficult, to say 
the least.
    With the Senate now headed down the same road, many of the 
same difficulties will be encountered when the bill from 
Senators Kerry and Boxer is complete enough to be analyzed. 
That measure is already 821 pages, and counting, even though 
many blanks remain and the work of 5 other committees has not 
yet been added.
    I appreciate the work the agencies and understand the need 
for sensitive analysis, but I also recognize that these are 
sweeping proposals that will affect every facet of our economy 
for decades to come. It is incredibly difficult, but incredibly 
important to know how they might work and what they may cost.
    We all know we're in the midst of a recession that is 
costing us millions of jobs, trillions of dollars. Even as it 
begins to ease, we continue to face high unemployment and 
massive Federal deficits. We must ensure that climate 
legislation does not endanger our recovery. We must seek to 
reduce energy prices, not drive them up. Americans are hoping 
that when the economy turns around, it will stay strong. 
They're hoping, in the meantime, at a minimum, that Congress 
won't make life any harder than it already is.
    I do believe that climate change must be addressed, but 
only after considering all of our options. Before we ask our 
constituents to do more, we need to make absolutely sure that 
we can't ask less, perhaps much less, and still achieve the 
same results.
    Estimates of the House bill's price tag are high and 
varied, as were the estimates for last year's bills. When 
Alaskans ask me how much cap-and-trade legislation is going to 
cost them and my best answer still is, ``A lot, I think,'' that 
tells me that we're not yet on the right track.
    I suspect that I'm not alone in this thinking. Just this 
past weekend, Senator Kerry and Senator Graham joined together 
and they laid out a framework for climate policy that would 
mark a significant departure from where we are today. Now, to 
be sure, they wrote a column; they didn't write a bill. Their 
outline could be improved, and there's no guarantee legislation 
along those lines would pass the Senate, but, in my opinion, 
the framework that they laid out in 1,000 words is already 
better than the policies it took the House 1,400 pages to 
impose.
    I'm hopeful that their column will mark a shift in the 
climate debate. Instead of cutting emissions at any cost, we 
should be working on a policy that incorporates the best ideas 
of both parties, a policy that accounts for our near-term 
energy needs, limits costs, and is flexible enough to work 
under different economic circumstances.
    With that, Mr. Chairman, I thank you for the time this 
morning, and I look forward to the comments from the witnesses, 
and good discussion on this very important topic.
    The Chairman. Thank you very much.
    Before I introduce the witnesses, let me just advise all 
Senators we're--there's a cloture vote, I'm told, at 11:15. Our 
hope was that members would go and vote, once that vote is 
called, and then return here, and we--if we get--can get 12 
members, about 11:30, when we return, we would then vote out a 
couple nominations at that point, and then proceed with 
additional questions. I'm sure we won't be through with our 
questions by then. But, that's the hope, if we can pursue it.
    Let me introduce our witnesses today. We have a very 
distinguished group of witnesses. Dr. Doug Elmendorf, who's the 
director of the Congressional Budget Office. Thank you very 
much, for being here. He'll begin with an overview of the 
economic impacts of different climate policy choices made in 
the House-passed legislation. Dr. Richard Newell, from the 
Energy Information Agency. Mr. Reid Harvey, from the 
Environmental Protection Agency. They will discuss the results 
of their analyses. Mr. Harvey is accompanied by Dr. Allen 
Fawcett, and we appreciate him being here, as well. Then, Dr. 
Larry Parker, from the Congressional Research Service, will 
conclude with a description of their new report that provides a 
comparison--a fairly exhaustive comparison of seven different 
analyses of the House-passed bill, from a wide range of groups.
    So, Dr. Elmendorf, we promise not to keep you here as long 
as the Finance Committee kept you yesterday. So, we're glad to 
have you here.

  STATEMENT OF DOUGLAS W. ELMENDORF, DIRECTOR, CONGRESSIONAL 
                         BUDGET OFFICE

    Mr. Elmendorf. Thank you, Mr. Chairman. You have my eternal 
gratitude for that.
    Thanks, to you and Senator Murkowski and the other members 
of the committee, for inviting us to be here today. I 
appreciate the invitation to testify on the economic effects of 
legislation to reduce greenhouse gas emissions.
    As you know, global climate change poses one of the 
Nation's most significant long-term policy challenges. Human 
activities are producing increasingly large quantities of 
greenhouse gases, especially carbon dioxide. A strong consensus 
has developed in the expert community that, if allowed to 
continue unabated, the accumulation of greenhouse gases in the 
atmosphere will have extensive, highly uncertain, but 
potentially serious and costly impacts on regional climates 
throughout the world. Moreover, the risk of abrupt and even 
catastrophic changes in climate cannot be ruled out.
    Those expected and possible harms may motivate policy 
actions to reduce the extent of climate change. However, the 
cost of doing so could be significant, because it would entail 
substantial reductions in U.S. emissions and to the emissions 
from other countries over the coming decade.
    Achieving such reductions in this country would probably 
involve some combination of three broad changes: transforming 
the U.S. economy from one that runs on carbon-dioxide-emitting 
fossil fuels to one that increasingly relies on nuclear and 
renewable energy; accomplishing substantial improvements in 
energy efficiency; and implementing a large-scale capture and 
storage of carbon dioxide emissions.
    As you consider policies to reduce the dangers of climate 
change, my testimony makes five points regarding the economic 
implications of the policies you choose:
    First, the economic impact would depend, importantly, on 
the design of the policy. Decisions about whether to reduce 
greenhouse gases, primarily through market-based systems, such 
as taxes or a cap-and-trade system, or primarily through 
traditional regulatory approaches that specify performance and 
technology standards, would influence the total costs of 
reducing emissions and the distribution of those costs. The 
costs would also depend, of course, on the stringency of the 
policy, whether other countries impose similar policies, the 
amount of flexibility about when, where, and how emissions will 
be reduced, and the allocation of allowances if a cap-and-trade 
system was used.
    My second point is that reducing the risk of climate change 
would come at some cost to the economy. A cap-and-trade system, 
for example, would lead to higher prices for energy from fossil 
fuels and for energy-intensive goods, which would, in turn, 
provide incentives for households and businesses to develop 
energy sources that emit smaller amounts of carbon dioxide.
    Changes in the relative prices for energy and energy-
intensive goods would also shift income among households at 
different points in the income distribution and across 
industries and regions of the country.
    Policymakers could counteract some of those income losses 
and shifts by having the government sell emission allowances 
and use the proceeds to compensate certain households or 
businesses, or by having the government give allowances away to 
certain households and businesses. But, even so, some income 
losses--and certainly shifts--would occur. For example, CBO 
concludes that the cap-and-trade provisions of H.R. 2454--the 
American Clean Energy and Security Act of 2009--would reduce 
GDP below what it would otherwise have been by roughly one-
quarter to three-quarter percent in 2020 and by between 1 and 3 
and a half percent in 2050. By way of comparison, CBO projects 
that real--that is, inflation-adjusted--GDP will be roughly two 
and a half times as large in 2050 as it is today. So, these 
changes would be comparatively modest.
    In the models that CBO has reviewed, the long-run cost to 
households would be somewhat smaller than the changes in GDP 
because consumption falls by less than GDP and because 
households benefit from more time spent in nonmarket 
activities. Moreover, these measures of potential costs do not 
include any benefits from averting climate change.
    A third point is that climate legislation would cause 
permanent shifts in production and employment away from 
industries that produce carbon-based energy and energ-intensive 
goods and services and toward industries that produce 
alternative energy sources and less energy-intensive goods and 
services. While those shifts were occurring, total employment 
would probably be reduced a little, compared with what it would 
have been without such a policy, because labor markets would 
most likely not adjust as quickly as would the composition of 
demand for final outputs.
    Fourth, CBO has estimated the loss in purchasing power that 
would result from the primary cap-and-trade program in H.R. 
2454. CBO's measure reflects the higher prices that the 
households would face and the compensation they would receive 
primarily through the allocation of allowances or the proceeds 
from their sale. However, our measure omits some channels of 
influence on households' well-being that cannot be readily 
quantified. It appears that CBO's measure probably understates 
the true burden, to a small degree. As estimated, the loss in 
purchasing power would be modest and would rise over time as 
the cap became more stringent, accounting for two-tenths of a 
percent of after-tax income in 2020 and 1.2 percent in 2050.
    Fifth, the distribution of the loss in purchasing power 
across households depends, importantly, on policymakers' 
decisions about how to allocate the allowances. According to 
CBO's calculations, households in the lowest fifth of 
households, when arrayed by income, would see gains in 
purchasing power, in both 2020 and 2050, because the 
compensation they would receive would exceed the costs they 
would bear. However, households in the middle fifth would see 
net losses in purchasing power amounting to six-tenths of a 
percent of after-tax income in 2020 and 1.1 percent in 2050.
    Thank you. That concludes my prepared remarks.
    [The prepared statement of Mr. Elmendorf follows:]
  Prepared Statement of Douglas W. Elmendorf, Director, Congressional 
                             Budget Office
    Chairman Bingaman, Senator Murkowski, and Members of the Committee, 
thank you for the invitation to testify on the economic effects of 
legislation to reduce emissions of carbon dioxide (CO2) and 
other greenhouse gases.
    Global climate change poses one of the nation's most significant 
long-term policy challenges. Human activities are producing 
increasingly large quantities of greenhouse gases, especially 
CO2. A strong consensus has developed in the expert 
community that, if allowed to continue unabated, the accumulation of 
greenhouse gases in the atmosphere will have extensive, highly 
uncertain, but potentially serious and costly impacts on regional 
climates throughout the world. Those impacts are expected to include 
widespread changes in the physical environment, changes in biological 
systems (including agriculture), and changes in the viability of some 
economic sectors. Moreover, the risk of abrupt and even catastrophic 
changes in climate cannot be ruled out.\1\
---------------------------------------------------------------------------
    \1\ For additional information, see Congressional Budget Office, 
Uncertainty in Analyzing Climate Change: Policy Implications (January 
2005).
---------------------------------------------------------------------------
    Those expected and possible harms may motivate policy actions to 
reduce the extent of climate change. However, the cost of doing so may 
be significant because it would entail substantial reductions in global 
emissions over the coming decades. U.S. emissions currently account for 
roughly 20 percent of global emissions. As a result, substantially 
reducing global emissions would probably entail large reductions in 
U.S. emissions as well as emissions in other countries. Achieving such 
reductions would probably involve transforming the U.S. economy from 
one that runs on CO2-emitting fossil fuels to one that 
increasingly relies on nuclear and renewable fuels, accomplishing 
substantial improvements in energy efficiency, or implementing the 
large-scale capture and storage of CO2 emissions.
    One option for reducing emissions in a cost-effective manner is to 
establish a carefully designed cap-and-trade program. Under such a 
program, the government would set gradually tightening limits on 
emissions, issue rights (or allowances) consistent with those limits, 
and then let firms trade the allowances among themselves. Such a 
capand-trade program would lead to higher prices for energy from fossil 
fuels and for energy-intensive goods, which would in turn provide 
incentives for households and businesses to use less carbon-based 
energy and to develop energy sources that emit smaller amounts of 
CO2.
    Changes in the relative prices for energy and energy-intensive 
goods would also shift income among households at different points in 
the income distribution and across industries and regions of the 
country. Policymakers could counteract some but not all of those income 
shifts by authorizing the government to sell CO2 emission 
allowances and using the revenues to compensate certain households or 
businesses, or to give allowances away to some households or 
businesses.
    My testimony makes the following key points:

   Climate change is an international problem. The economic 
        impacts of climate change are extremely uncertain and will vary 
        globally. Impacts in the United States over the next 100 years 
        are most likely to be modestly negative in the absence of 
        policies to reduce greenhouse gases, but there is a risk that 
        they could be severe. Impacts are almost certain to be serious 
        in at least some parts of the world.
   The economic impact of a policy to ameliorate that risk 
        would depend importantly on the design of the policy. Decisions 
        about whether to reduce greenhouse gases primarily through 
        market-based systems (such as taxes or a cap-and-trade program) 
        or primarily through traditional regulatory approaches that 
        specify performance or technology standards would influence the 
        total cost of reducing those emissions and the distribution of 
        those costs in the economy. The cost of a policy to reduce 
        greenhouse gases would also depend on the stringency of the 
        policy; whether other countries also imposed similar policies; 
        the amount of flexibility about when, where, and how emissions 
        would be reduced; and the allocation of allowances if a cap-
        and-trade system was used.
   Reducing the risk of climate change would come at some cost 
        to the economy. For example, the Congressional Budget Office 
        (CBO) concludes that the cap-andtrade provisions of H.R. 2454, 
        the American Clean Energy and Security Act of 2009 (ACESA), if 
        implemented, would reduce gross domestic product (GDP) below 
        what it would otherwise have been--by roughly \1/4\ percent to 
        \3/4\ percent in 2020 and by between 1 percent and 3 \1/2\ 
        percent in 2050. By way of comparison, CBO projects that real 
        (inflation-adjusted) GDP will be roughly two and a half times 
        as large in 2050 as it is today, so those changes would be 
        comparatively modest. In the models that CBO reviewed, the 
        long-run cost to households would be smaller than the changes 
        in GDP. Projected GDP impacts include declines in investment, 
        which only gradually translate into reduced household 
        consumption. Also, the effect on households' well-being of the 
        reduction in output as measured by GDP (which reflects the 
        market value of goods and services) would be offset in part by 
        the effect of more time spent in nonmarket activities, such as 
        childrearing, caring for the home, and leisure. Moreover, these 
        measures of potential costs imposed by the policy do not 
        include any benefits of averting climate change.
   Climate legislation would cause permanent shifts in 
        production and employment away from industries focused on the 
        production of carbon-based energy and energy-intensive goods 
        and services and toward the production of alternative energy 
        sources and less-energy-intensive goods and services. While 
        those shifts were occurring, total employment would probably be 
        reduced a little compared with what it would have been without 
        a comparably stringent policy to reduce carbon emissions 
        because labor markets would most likely not adjust as quickly 
        as would the composition of demand for different outputs.
   CBO has estimated the loss in purchasing power that would 
        result from the primary cap-and-trade program that would be 
        established by the ACESA. CBO's measure reflects the higher 
        prices that households would face as a result of the policy and 
        the compensation that households would receive, primarily 
        through the allocation of allowances or the proceeds from their 
        sale. The loss in purchasing power would be modest and would 
        rise over time as the cap became more stringent and larger 
        amounts of resources were dedicated to cutting emissions, 
        accounting for 0.2 percent of after-tax income in 2020 and 1.2 
        percent in 2050.
   The expected distribution of the loss in purchasing power 
        across households depends importantly on policymakers' 
        decisions about how to allocate the allowances. The allocation 
        of allowances specified in H.R. 2454 would impose the largest 
        loss in purchasing power on households near the middle of the 
        income distribution. Which categories of households would 
        ultimately benefit from the allocation of allowances is more 
        uncertain in 2020 than in 2050. A large fraction of the 
        allowances in 2020 would be distributed to households via 
        private entities, and the distribution of the allowance value 
        would depend on whether those entities passed the value on to 
        customers, workers, or shareholders. In contrast, most of the 
        value of allowances in 2050 would flow to households directly.
              aggregate economic impacts of climate change
    Many of the natural changes that are likely to result from climate 
change (such as more frequent storms, hurricanes, and floods) will 
affect agriculture, forestry, and fishing; the demand for energy; and 
the nation's infrastructure. Despite the wide variety of projected 
impacts of climate change over the course of the 21st century, 
published estimates of the economic costs of direct impacts in the 
United States tend to be small.\2\ Most of the economy involves 
activities that are not likely to be directly affected by changes in 
climate. Moreover, researchers generally expect the growth in the U.S. 
economy over the coming century to be concentrated in sectors--such as 
information technology and medical care--that are relatively insulated 
from climate effects. Damages are therefore likely to be a smaller 
share of the future economy than they would be if they occurred today.
---------------------------------------------------------------------------
    \2\ For additional information, see Congressional Budget Office, 
Potential Impacts of Climate Change in the United States (May 2009).
---------------------------------------------------------------------------
    As a consequence, a relatively pessimistic estimate for the loss in 
projected real gross domestic product is about 3 percent for warming of 
about 7 Fahrenheit (F) by 2100.\3\ However, even for the levels of 
warming that have been examined, most of the estimates cover only a 
portion of the potential costs. Other costs in the United States could 
come from nonmarket impacts (which are not measured in GDP) and from 
the potential for abrupt changes:
---------------------------------------------------------------------------
    \3\ See Dale W. Jorgenson and others, U.S. Market Consequences of 
Global Climate Change (Arlington, Va.: Pew Center on Global Climate 
Change, 2004), p. 36.

   Nonmarket impacts.--Some types of impacts are very difficult 
        to evaluate in monetary terms because they do not directly 
        involve products that are traded in markets. Although such 
        difficulties apply to effects on human health and quality of 
        life, they are particularly significant for biological impacts, 
        such as loss of species' habitat, biodiversity, and the various 
        resources and processes that are supplied by natural 
        ecosystems. Experts in such issues generally believe that those 
        nonmarket impacts are much more likely to be negative than 
        positive and could be large.
   The potential for abrupt changes.--Experts believe that 
        there is a small possibility that even relatively modest 
        warming could trigger abrupt and unforeseen effects during the 
        21st century that could result in large economic costs in the 
        United States. Two examples of such possible effects are shifts 
        in ocean currents that could change weather patterns and affect 
        agriculture over large areas, and rapid disintegration of ice 
        sheets, which could dramatically raise sea levels around the 
        world. The sources and nature of such abrupt changes, their 
        likelihood, and their potential impacts remain very poorly 
        understood.

    The most comprehensive published study includes estimates of 
nonmarket damages as well as costs arising from the risk of 
catastrophic outcomes associated with about 11F of warming by 2100.\4\ 
That study projects a loss equivalent to about 5 percent of U.S. output 
and, because of substantially larger losses in a number of other 
countries, a loss of about 10 percent of global output.
---------------------------------------------------------------------------
    \4\ William D. Nordhaus and Joseph Boyer, Warming the World: 
Economic Models of Global Warming (Cambridge, Mass.: MIT Press, 2000), 
pp. 95-96.
---------------------------------------------------------------------------
                  the effects of policy design choices
    The economic impact of any policy to reduce greenhouse-gas 
emissions would depend on a variety of policy and program design 
decisions that would be made by the Congress or the regulatory agencies 
that implemented such a policy. Most importantly, the economic impact 
would depend on whether the policy worked primarily through taxes on 
emissions, a cap-and-trade program for emissions, regulatory standards 
to reduce emissions, or a combination of those approaches. The economic 
impact would also depend on the stringency of the cap, whether other 
countries also adopted programs to reduce emissions, and other factors 
that would be specific to the approach chosen.
Approaches to Reducing Emissions
    The most fundamental choice facing policymakers is whether to adopt 
conventional regulatory approaches, such as standards for energy-using 
machinery and equipment, or to employ market-based approaches, such as 
taxes on emissions or cap-and-trade programs. Market-based approaches, 
most experts conclude, would generally limit emissions at a lower cost 
than command-and-control regulations would. Whereas conventional 
regulatory approaches would impose specific requirements that might not 
be the least costly means of reducing emissions, market-based 
approaches would provide more latitude for firms and households to 
determine the most cost-effective means of accomplishing that goal.
    A tax per unit of emissions would effectively fix the incremental 
cost of reducing emissions in any given period. Proposals for such 
taxes would generally specify rates that gradually increased year by 
year, with the aim of making activities that produced emissions 
increasingly expensive. A cap-and-trade system, by contrast, would 
explicitly restrict the annual quantity of emissions. Under such 
programs, allowances would be allocated or sold, and the trading of 
allowances would permit emissions reductions to be achieved in the 
lowest-cost manner. If caps increased in stringency over time, then the 
incremental costs of reducing emissions would rise as well.
    If policymakers had full and accurate information about the cost of 
reducing emissions, taxes and caps could be equivalent: Policymakers 
could set a cap, and they would know what allowance price it would 
yield, or they could set a tax at that same allowance price and achieve 
the same reduction in emissions as under the cap. However, because 
policymakers face uncertainty, there is a crucial difference between 
the two approaches: A tax would leave the resulting amount of emissions 
uncertain, whereas a fixed cap would leave the resulting allowance 
price uncertain.
    Most economists conclude that in the face of uncertainty about the 
cost of reducing emissions, a policy that set a year-by-year price path 
for greenhouse-gas emissions (such as a gradually increasing tax) would 
probably cost less overall than a policy that specified year-by-year 
emissions targets.\5\ That conclusion is based on three observations:
---------------------------------------------------------------------------
    \5\ For additional information on the difference between taxes and 
cap-and-trade programs, see Congressional Budget Office, Policy Options 
for Reducing CO2 Emissions (February 2008).

   Climate change results from the accumulation of greenhouse 
        gases in the atmosphere over many decades and centuries. As a 
        result, reducing the potential risk of climate change would 
        entail reducing cumulative emissions of greenhouse gases over 
        multiple decades, but year-to-year fluctuations in emissions 
        have little effect on the climate. By contrast, the economic 
        cost of reducing emissions can vary a lot from year to year--
        depending on the weather, economic activity, and the prices of 
        fossil fuels. A tax would motivate firms to cut their emissions 
        more when the cost of doing so was relatively low and allow 
        them to emit more when the cost of cutting emissions was high. 
        A cap-and-trade program would offer firms less flexibility 
        (although such a program could incorporate features, such as 
        banking and borrowing of allowances, that would allow a degree 
        of flexibility, as described below).
   There is such great uncertainty about how a given quantity 
        of emissions would ultimately affect global temperatures that 
        there is very little additional certainty to be gained from 
        choosing a fixed emissions goal (even one that is set over 
        multiple decades) rather than a price path that is expected to 
        achieve the same emissions goal--but that may exceed or may 
        fall short of it depending on actual cost conditions. In 
        essence, the additional certainty that a cap-and-trade program 
        could provide about the amount of cumulative emissions would be 
        bought at a relatively high cost without yielding corresponding 
        certainty about the amount of climate change that would occur.
   The greater certainty about the price of emissions in the 
        future that a tax would offer would provide affected firms and 
        households with greater certainty about the conditions they 
        would face in adjusting to restrictions than a cap would 
        provide. That greater certainty would ease planning for capital 
        investments and could lower the risk associated with developing 
        new technologies.

    Many proposals would augment basic cap-and-trade or tax provisions 
with subsidies for activities that reduced emissions or with 
regulations (such as standards for energyusing machinery and 
equipment). Some such approaches--subsidies for basic energy research, 
for example--would probably be useful and effective supplements to 
market-based approaches. Standards might also be the most effective 
regulatory approach in cases where market forces are unable to convey 
appropriate incentives, such as when a tax on energy would not provide 
an incentive for building owners to make efficiency improvements when 
renters are responsible for their electricity bills. Moreover, 
subsidies could help protect certain people or industries from the 
adverse economic effects of reducing emissions. However, to the extent 
that such additional elements supplanted the effective reliance on 
market forces to determine the lowestcost means of reducing emissions, 
they might increase the overall economic costs of the program even 
though they might result in a lower allowance price in a cap-andtrade 
program.\6\
---------------------------------------------------------------------------
    \6\ Congressional Budget Office, How Regulatory Standards Can 
Affect a Cap-and-Trade Program for Greenhouse Gases, Issue Brief 
(September 16, 2009).
---------------------------------------------------------------------------
    Government policy beyond research and standards directly tied to 
climate change would also indirectly affect the cost of restricting 
emissions. The tax treatment of investment could influence the cost and 
availability of particular technologies. Many experts believe that 
nuclear power could easily displace a significant amount of fossil fuel 
use, but only if the regulatory framework was adjusted to allow it. 
Similarly, existing land-use regulations and highway building might 
limit efforts to increase urban density and to foster the development 
of public transportation networks.
Cap-and-Trade Design Features
    Many proposals for reducing emissions would include cap-and-trade 
systems to limit emissions of carbon dioxide and other greenhouse 
gases. Such systems raise numerous design issues. Four issues are 
especially important in considering the economic effects of a cap-and-
trade system: the coverage and stringency of the cap, the degree of 
international coordination, flexibility in the timing of emissions 
reductions, and the allocation of emission allowances.
    Coverage and Stringency.--Under a cap-and-trade system, 
policymakers would face decisions about which emissions to control and 
when and how much to reduce them. Coverage could sharply affect costs: 
A given quantity of reductions in greenhouse-gas emissions could be 
achieved at a lower cost if the cap covered more types of gases and 
more sources of emissions. For example, although carbon dioxide 
emissions account for roughly 80 percent of greenhouse-gas emissions, 
some cuts in emissions of other greenhouse gases, such as methane or 
nitrous oxide, could be achieved at a relatively low cost. Likewise, 
even though research suggests that the bulk of reductions in 
CO2 emissions would probably come from the electricity-
generating sector, cost-effective reductions could also be found in 
other sectors, such as the transportation and residential sectors. 
Thus, a cap-and-trade program that covered as many types of greenhouse 
gases and sources of emissions as possible would be most likely to 
yield the most cost-effective reductions.
    Most recent policy proposals would control nearly all 
CO2 emissions from the burning of fossil fuels and would 
cover at least some emissions of non-CO2 gases. In 
recognition of the difficulties in monitoring and measuring emissions, 
no proposal would include all types of emissions from all sources. 
Nevertheless, many proposals would provide incentives for sources of 
emissions that are not covered under the program to voluntarily 
participate. For example, landowners could earn credits by planting 
trees that absorb CO2 from the atmosphere--credits that 
might then be sold to covered entities who would submit them in lieu of 
emission allowances. Some proposals would limit the use of such 
``offsets'' to a fixed annual amount or a fixed fraction of total 
emissions. Greater latitude for such activities by uncovered sources 
could help moderate the costs of achieving a given emissions target 
because cheap reductions by uncovered sources could substitute for 
expensive reductions by covered ones. However, difficulties in ensuring 
the credibility and permanence of offsets could at least partially 
undermine their effectiveness in reducing overall costs.\7\
---------------------------------------------------------------------------
    \7\ For additional information, see Congressional Budget Office, 
The Use of Offsets to Reduce Greenhouse Gases, Issue Brief (August 3, 
2009).
---------------------------------------------------------------------------
    Cumulative U.S. greenhouse-gas emissions through 2050 are projected 
to total more than 300 billion metric tons of CO2 equivalent 
(CO2e). Recent legislative proposals vary in the magnitude 
of the reduction in cumulative emissions that they would require. 
Because requiring larger cuts in emissions would typically require 
deploying increasingly costly technologies, doubling the magnitude of 
the cuts required would be expected to more than double the cost of 
achieving them.
    International Coordination.--Climate change is an international 
problem that cannot be resolved without significant international 
cooperation and coordination. Emissions from anywhere in the world 
contribute to the global change in climate, so reducing emissions in 
any single country--even the United States--will do relatively little 
to avert climate change. Moreover, the stringency of foreign efforts to 
reduce emissions could strongly influence the cost of limiting them 
domestically. As long as a significant fraction of the world did not 
adopt similar policies, some of the reductions in the United States 
would probably be offset by increases in emissions elsewhere. For 
example, foreign consumption of oil would rise as declining domestic 
consumption pushed down international oil prices, and energy-intensive 
production overseas (and exports of such products to the United States) 
would most likely grow as domestic manufacturing costs rose relative to 
foreign costs. Such emissions ``leakage'' would lead countries that 
were controlling emissions to incur greater costs while achieving 
smaller reductions in global emissions.
    Leakage could be avoided if most or all countries restricted 
emissions at the same time. Moreover, if a domestic cap-and-trade 
system was linked to similar systems in other countries, the United 
States might benefit from being able to buy low-cost foreign 
allowances--or it could find that prices for domestic allowances were 
driven up by foreign demand.
    Flexibility in the Timing of Emissions Reductions.--Offering firms 
subject to the cap flexibility as to when they made cuts in greenhouse 
gases--by including provisions that would require them to meet the 
annual caps only on average--could result in substantial cost savings 
while producing the same effect on the climate.\8\ The ability to shift 
efforts to cut emissions over time could lower costs while achieving an 
equivalent reduction in warming because of the long-run nature of 
climate change.
---------------------------------------------------------------------------
    \8\ For additional information, see the statement of Douglas W. 
Elmendorf, Director, Congressional Budget Office, before the House 
Committee on Ways and Means, Flexibility in the Timing of Emission 
Reductions Under a Cap-and-Trade Program (March 26, 2009).
---------------------------------------------------------------------------
    Options for granting flexibility in the timing of emissions 
reductions fall into two categories. The first category would permit 
firms to transfer allowances across time. One important such provision 
would allow regulated entities to ``bank'' allowances in any given year 
for use many years after they were initially allocated. If, for 
example, reducing emissions this year proved less costly than expected, 
a firm might choose to do so and save some allowances for use in future 
years. A similar ``borrowing'' provision would allow firms to use 
allowances from future years (to be repaid with interest) during 
earlier periods when particularly high demand led to spikes in the cost 
of reducing emissions. A variant would create a ``reserve pool'' of 
allowances from future years that could be used in earlier years only 
under certain circumstances, such as when allowance prices rose above a 
threshold.
    The second category of provisions would allow regulators to manage 
the price or quantity of allowances in a manner that induced a cost-
effective time pattern of emissions reductions by specifying a path for 
allowance prices over time. For example, one such provision would allow 
annual caps to be exceeded if the market price for allowances rose 
above some specified value (referred to as a ``safety valve''). That 
value--typically specified to rise over time--would determine the 
maximum incremental cost in any given period. An alternative provision 
would set a ceiling and a floor--sometimes called a ``price collar''--
for the price of allowances.\9\
---------------------------------------------------------------------------
    \9\ Ibid.; also see the statement of Douglas W. Elmendorf, 
Director, Congressional Budget Office, before the Senate Committee on 
Finance, The Distribution of Revenues from a Cap-and-Trade Program for 
CO2 Emissions (May 7, 2009).
---------------------------------------------------------------------------
    Allocation of Allowances.--A key decision is how to distribute the 
value of the allowances. One option would be to have the government 
capture the value of the allowances by selling them, as it does with 
licenses to use the electromagnetic spectrum. Another possibility would 
be to give the allowances to energy producers, some energy users, or 
other entities at no charge. The European Union has used that approach 
in its cap-and-trade program for CO2 emissions, and nearly 
all of the allowances issued under the 14-year-old U.S. cap-and-trade 
program for sulfur dioxide emissions are distributed in that way. 
Giving the allowances away to specific entities is equivalent to 
selling the allowances and giving the entities cash because those 
allowances could be sold in a liquid secondary market and thus could be 
easily converted into cash.
    How policymakers decided to use the value of the allowances would 
affect the overall cost of a policy. For instance, the government could 
use the revenues from auctioning allowances to reduce existing taxes 
that tend to dampen economic activity. Some of the effects of a 
CO2 cap would be similar to those of raising such taxes: The 
higher prices caused by the cap would reduce real wages and real 
returns on capital, which would be like raising marginal tax rates on 
those sources of income. Using the value of the allowances to reduce 
taxes could help mitigate the overall economic impact of a cap. 
Alternatively, policymakers could increase the cost of meeting the 
desired cap on emissions if they gave the allowances away in a manner 
that undermined the market incentives that the cap-and-trade program 
was intended to provide. For example, if electricity generators were 
given allowances on the basis of the amount of electricity that they 
produced with no further restrictions, they would be less likely to 
pass on the cost of meeting the cap to their customers in the form of 
higher prices. As a result, their customers would lack an incentive to 
find cost-effective ways to reduce their use of electricity. Moreover, 
as discussed below, decisions about how to allocate the allowances 
would have significant implications for the distribution of gains and 
losses among U.S. households.
           the american clean energy and security act of 2009
    H.R. 2454, the American Clean Energy and Security Act of 2009, as 
passed by the House of Representatives on June 26, 2009, would create 
two cap-and-trade programs for greenhouse-gas emissions--one applying 
to CO2 and most other greenhouse gases, and a much smaller 
one for hydrofluorocarbons--and make a number of other significant 
changes in climate and energy policy. The cap-and-trade program would 
restrict greenhouse-gas emissions from covered entities to 17 percent 
below 2005 levels by 2020 and 83 percent below 2005 levels by 2050.
    In the main cap-and-trade program, covered entities would be phased 
into the program between 2012 and 2016. When the phase-in was complete, 
the cap would apply to entities that account for roughly 85 percent of 
total U.S. greenhouse-gas emissions. H.R. 2454 would not restrict the 
types of entities or individuals that could purchase, hold, exchange, 
or retire emission allowances in the main cap-and-trade program. An 
unlimited number of allowances could be banked for future use or sale, 
and a limited number of allowances could be borrowed from future 
allocations. A portion of each entity's compliance obligation could be 
met by purchasing offset credits from either domestic or international 
providers; in the aggregate, entities could use offset credits in lieu 
of reducing up to 2 billion tons of greenhouse-gas emissions annually, 
or more than half the emissions reductions projected around the middle 
of the policy period (roughly in 2030).
    CBO estimates that the price of the allowances under H.R. 2454 
would be $15 in 2012, the initial year that the cap took effect, and 
would rise at an annual real rate of 5.6 percent over the course of the 
policy, reaching $23 in 2020 and $118 by 2050 (all in 2007 
dollars).\10\ As a result of the price on emissions, the prices of 
goods and services throughout the economy would increase in rough 
proportion to the emissions associated with their production and 
consumption. At the same time, the allowances would become a source of 
income for the government or others. The government could capture the 
value of the allowances by selling them, or it could allow others to 
capture the value by giving them the allowances for free.
---------------------------------------------------------------------------
    \10\ For additional information, see Congressional Budget Office, 
cost estimate for H.R. 2454, the American Clean Energy and Security Act 
of 2009, as ordered reported by the House Committee on Energy and 
Commerce on May 21, 2009 (June 5, 2009). The costs in that estimate 
refer to federal budgetary costs and not the effects on the U.S. 
economy described in this testimony. The cost estimate reports 
allowance prices in nominal dollars. CBO estimates that the price of 
allowances in nominal dollars will rise from $16 in 2012 to $26 in 
2019.
---------------------------------------------------------------------------
    Key design features of H.R. 2454's cap-and-trade policy that 
influenced CBO's price estimate included:

   Coverage and stringency.--CBO found that allowing firms to 
        comply by purchasing offset credits (from both domestic and 
        international providers) would reduce the allowance price by 70 
        percent.
   Timing flexibility.--If covered entities were required to 
        use all of their allowances in the designated year, then the 
        price of the allowances would rise at a rate that was dictated 
        by the speed at which the cap became more stringent. Banking 
        helps to smooth out the price path--and compliance costs--over 
        time. In CBO's projections, firms would bank allowances in the 
        early years of the program, when the cap was relatively 
        lenient, leading them to make more emissions reductions than 
        necessary under the cap and pushing up the price of allowances. 
        The accumulated supply of banked allowances would enable firms 
        to meet their requirements under the cap in succeeding periods, 
        helping to moderate allowance prices in later years. Firms 
        would continue to bank allowances up to the point at which the 
        rate of increase in the price of allowances was 5.6 percent, 
        CBO's projection of the rate of return that they would make on 
        alternative investments.
   Allocation.--In general, the allocation of allowances in a 
        cap-and-trade program would not affect the allowance price. An 
        exception to that conclusion would occur if the allowances were 
        allocated in a manner that would tend to undo the higher prices 
        for energy-intensive goods and services that would result from 
        the cap-andtrade program. CBO estimated that the allowance 
        allocation in H.R. 2454 would have a small effect on the 
        allowance price.
   Standards and subsidies.--In general, the imposition of some 
        regulatory standards and the provision of subsidies to develop 
        new technologies would reduce the price of allowances to the 
        extent that those standards or subsidies would change the 
        source of emissions reductions from those that would have 
        occurred with just the cap-and-trade program alone to others 
        that would be motivated by the standard or subsidy. CBO 
        estimated that the standards and subsidies in H.R. 2454 
        (including those for energy efficiency and for electricity 
        generation that would capture and store CO2) would 
        lower the allowance price by roughly 10 percent. Most of that 
        reduction would stem from the subsidy for carbon capture and 
        storage. (However, reductions in allowance prices stemming from 
        standards and subsidies could lead to higher, not lower, 
        economywide costs because--to the extent that they generated 
        changes in emissions patterns different from those that would 
        arise from the cap-and-trade program alone--those reductions 
        would not all be made in the most cost-effective manner.)
    economywide effects of the cap-and-trade provisions of the acesa
    By gradually increasing the prices of fossil fuels and other goods 
and services associated with greenhouse-gas emissions, climate 
legislation--including the cap-and-trade provisions of H.R. 2454--would 
tend to reduce long-run risks from climate change. Such legislation 
would also reduce economic activity through a number of different 
channels, although the total effect would be modest compared with 
expected future growth in the economy. The key channels are:

   Shift production, investment, and employment away from 
        industries involved in the production of carbon-based energy 
        and energy-intensive goods and services and toward industries 
        involved in the development and production of alternative 
        energy sources and non-energy-intensive goods and services;
   Reduce the productivity of existing capital and labor, which 
        are currently geared to relatively inexpensive energy;
   Reduce domestic households' income, thus tending to reduce 
        domestic saving;
   Discourage investment by increasing the costs of producing 
        capital goods, which is a relatively energy-intensive process;
   Reduce net inflows of capital from abroad (because lower 
        productivity and higher production costs for capital goods in 
        the United States would make it more attractive for investors 
        to invest in other countries);
   Reduce the total supply of labor by raising the prices of 
        consumer goods and thus reducing workers' real wages; and
   Interact with the distortions of economic behavior imposed 
        by the existing tax system.

    Taken together, those changes would affect the levels and 
composition of gross domestic product and employment and would thus 
influence households' economic well-being.
Effects of Emissions Restrictions on Gross Domestic Product
    Researchers often report the likely effect of climate policies on 
the economy in terms of their projected impact on GDP. On the basis of 
a review of estimates by other analysts, CBO concluded that climate 
legislation that would significantly reduce greenhouse-gas emissions in 
the United States would probably reduce GDP by a modest amount compared 
with what it would be without the legislation. The studies reviewed by 
CBO yielded a wide range of estimates of losses in GDP from climate 
policies, but all of them concluded that, all else being equal, higher 
prices for emission allowances would impose greater losses in GDP. On 
the basis of those studies, CBO concluded that GDP losses over the 
entire period of the policy were likely to fall in the range of 0.01 
percent to 0.03 percent per dollar of allowance price.\11\ CBO then 
estimated losses in GDP by combining its own estimates for the prices 
of allowances under H.R. 2454 with the range of predicted GDP losses 
per dollar of allowance price.
---------------------------------------------------------------------------
    \11\ In a 2003 review of studies of the potential impacts of the 
Kyoto Protocol, CBO concluded that GDP would be reduced by 0.018 
percent to 0.028 percent per dollar of allowance price (measured in 
2007 dollars) for each metric ton of CO2 equivalent, 
depending on how the policy was implemented. See Mark Lasky, The 
Economic Costs of Reducing Emissions of Greenhouse Gases: A Survey of 
Economic Models, CBO Technical Paper 2003-3 (May 2003). A more recent 
review of estimates of the economic effects of H.R. 2454 and similar 
policies found that the predictions differ considerably for the short 
and medium term, mainly because the studies incorporate different 
assessments about the rates at which important markets can be expected 
to adjust in response to the new policies, but the long-term 
predictions agree much more closely. After 2030, point estimates of the 
percentage losses in GDP per dollar of allowance price yield average 
values similar to the range implied by the 2003 CBO analysis but 
suggest a wider range. (The high end of that range comes from a model 
that assumes that the supply of labor responds very sharply to changes 
in wages.) The studies that CBO reviewed include Environmental 
Protection Agency, Office of Atmospheric Programs, ``EPA Analysis of 
the American Clean Energy and Security Act of 2009 H.R. 2454 in the 
111th Congress'' (June 23, 2009); Energy Information Administration, 
Energy Market and Economic Impacts of S. 2191, the Lieberman-Warner 
Climate Security Act of 2007, Report No. SR-OIAF/2008-1 (April 2008); 
Sergey Paltsev and others, The Cost of Climate Policy in the United 
States (Cambridge, Mass: MIT Joint Program on the Science and Policy of 
Global Change, April 2009); Warwick McKibbin and others, ``Consequences 
of Cap and Trade'' (fact sheet, Brookings Institution, 2009); and David 
Montgomery and others, Impact on the Economy of the American Clean 
Energy and Security Act of 2009, H.R. 2454 (Washington, D.C.: CRA 
International, May 2009).
---------------------------------------------------------------------------
    Using that approach, CBO concluded that the cap-and-trade 
provisions of H.R. 2454 would reduce the projected average annual rate 
of growth of GDP between 2010 and 2050 by 0.03 to 0.09 percentage 
points, resulting in progressively larger reductions in the level of 
GDP over time relative to what would otherwise occur (see Table 1).* To 
place the size of those changes into perspective, CBO projects that 
real GDP in the United States will grow at an average annual rate of 
about 2.4 percent between now and 2050 and will be roughly two and a 
half times as large in 2050 as it is today.
---------------------------------------------------------------------------
    * All tables and figures have been retained in committee files.
---------------------------------------------------------------------------
    The uncertainty about the effects of H.R. 2454 on GDP is probably 
even greater than is expressed by that projected range of effects, even 
though the studies reflect a wide range of assumptions about possible 
future technological developments that might decrease the cost of 
reducing emissions, and about the degree to which people would adjust 
their decisions about working, saving, and investing in response to the 
legislation. All of the analyses that CBO reviewed characterize the 
economy in a very similar manner; none of them accounts for all of the 
possible economic effects of the legislation; and none explicitly 
addresses the uncertainty of its point estimates.
    Unchecked increases in greenhouse-gas emissions would also probably 
reduce output over time, especially later in this century. Those 
climate-change-induced reductions in output would be moderated if 
actions that the United States took to reduce emissions were 
accompanied by similar efforts by other major emitting countries. 
Nonetheless, CBO concludes that the net effects on GDP of restricting 
emissions in the United States--combining the effects of diverting 
resources to reduce emissions and moderating losses in GDP by averting 
warming--are likely to be negative over the next few decades because 
most of the benefits from averting warming are expected to accrue in 
the second half of the 21st century and beyond.
Effects of Emissions Restrictions on Employment
    By raising the prices of goods and services in proportion to the 
covered greenhousegas emissions associated with their production and 
consumption, climate legislation would affect the total level of 
employment as well as the distribution of employment among industries. 
Although supply-and-demand responses in many markets would influence 
the magnitude of industry-specific and total employment effects, a key 
consideration is how quickly and extensively labor markets would 
respond to sustained increases in energy prices. If businesses and 
workers treated each successive increase in energy prices as a 
surprise, then adjustment would be slow, and the policy would lead to 
slightly higher unemployment for some time. If, conversely, businesses 
and workers exercised foresight and acted in their self-interest, 
adjustment would occur more quickly, and the policy would have little 
effect on overall unemployment. In either case, a cap-and-trade program 
would have adverse effects on workers in specific industries and 
geographic areas; some provisions of H.R. 2454 are intended to 
ameliorate those effects.
    Economywide Employment.--The cap-and-trade program established by 
H.R. 2454 would probably have only a small effect on total employment 
in the long run, but changes induced by the program would still have 
costs for workers. The increases in the price of energy caused by the 
program would reduce workers' real wages. Total employment would be 
lower in the long run to the extent that some workers chose to work 
fewer hours or not at all--but for nearly all workers, the choice in 
the long run would probably be to remain in the workforce and accept 
the prevailing wage. Moreover, experience shows that, apart from 
recessionary periods, the dynamic U.S. economy provides jobs for most 
people who want to work.
    Employment in Different Industries.--The small effect on overall 
employment would mask a significant shift in the composition of 
employment over time. A cap-and-trade program for carbon dioxide 
emissions would reduce the number of jobs in industries that produce 
carbon-based energy, use energy intensively in their production 
processes, or produce products whose use involves energy consumption, 
because those industries would experience the greatest increases in 
costs and declines in sales. The industries that produce carbon-based 
energy--coal mining, oil and gas extraction, and petroleum refining--
would probably suffer significant employment losses over time. 
Reductions also would be likely to occur in industries that use those 
forms of energy intensively or purchase emissions-intensive inputs to 
their production process from other industries, including chemicals, 
primary metals, minerals mining, nonmetallic mineral products, 
transportation, and construction. Among those industries, employment 
losses in chemicals and transportation services could be relatively 
large.
    The shifts in demand caused by the policy would also create new 
employment opportunities in some industries. Businesses that produce 
the machinery necessary to generate energy without CO2 
emissions and that produce that energy--for example, electricity 
generated by the wind or the sun--would hire more workers. Employment 
would also probably increase in industry sectors that supply goods and 
services that use less energy in their production or that require 
consumers to purchase less energy when using the industry's product. In 
the automobile industry, for instance, employment would shift from 
producing vehicles that rely solely on internal-combustion engines 
fueled by gasoline to producing vehicles with hybrid or electric 
engines. The largest gains in employment would probably be in service 
industries.
    The shift in employment between sectors of the economy would occur 
over a long period, as the cap on emissions became progressively more 
stringent and the allowance price (and, therefore, the price of 
emissions) became progressively higher. The experience of the U.S. 
economy over the last half-century in adjusting to a sustained decline 
in manufacturing employment provides evidence that the economy can 
absorb such long-term changes and maintain high levels of overall 
employment. From a peak of almost 20 million jobs in 1979, 
manufacturing employment fell to about 14 million jobs in 2007. 
Although manufacturing employment rose and fell with the business cycle 
over the period, the larger story is one of offsetting job creation and 
shifts of workers to other sectors of the economy. For example, from 
2000 through 2007, employment in manufacturing fell by 3.5 million 
jobs, while nonmanufacturing private employment increased by 8.2 
million jobs.\12\
---------------------------------------------------------------------------
    \12\ For an analysis of the economy's adjustment to a declining 
demand for U.S. manufacturing, see Congressional Budget Office, Factors 
Underlying the Decline in Manufacturing Employment Since 2000, Issue 
Brief (December 2008).
---------------------------------------------------------------------------
    Job turnover is always large in U.S. labor markets. In 2008, for 
example, employers reported that they hired about 56 million workers 
and that about 59 million workers left their jobs.\13\ In reviewing 
several studies that addressed the aggregate employment effects of 
climate legislation, CBO found a wide range of implied estimates of 
annual workforce turnover--gross jobs created and gross jobs lost--and 
concluded that the annual churning in the workforce might range from 
hundreds of thousands of jobs to several million jobs depending on the 
year.\14\ Even at the high end of that range, the churning of jobs that 
would be spurred by climate legislation would be small compared with 
what normally occurs.
---------------------------------------------------------------------------
    \13\ See Department of Labor, Bureau of Labor Statistics, Job 
Openings and Labor Turnover: January 2009, USDL 09-0245 (March 10, 
2009), Tables 11 to 14.
    \14\ CBO reviewed a number of studies that addressed the effects of 
policies like those that H.R. 2454 would put in place, including David 
Kreutzer and others, The Economic Consequences of Waxman-Markey: An 
Analysis of the American Clean Energy and Security Act of 2009, CDA09-
04 (Washington, D.C.: The Heritage Foundation, August 5, 2009); 
McKibbin and others, ``Consequences of Cap and Trade''; Environmental 
Protection Agency, Office of Atmospheric Programs, ``EPA Analysis of 
the American Clean Energy and Security Act of 2009 H.R. 2454 in the 
111th Congress''; Montgomery and others, Impact on the Economy of the 
American Clean Energy and Security Act of 2009 (H.R. 2454); Energy 
Information Administration, Energy Market and Economic Impacts of S. 
2191, the Lieberman-Warner Climate Security Act of 2007; Paltsev and 
others, The Cost of Climate Policy in the United States; and Mun S. Ho, 
Richard Morgenstern, and Jhih-Shyang Shih, Impact of Carbon Price 
Policies on U.S. Industry, Discussion Paper 08-37 (Washington, D.C.: 
Resources for the Future, November 2008).
---------------------------------------------------------------------------
    The process of shifting employment can have substantial costs for 
the workers, families, and communities involved. For example, one-
quarter of the workers who were displaced from their jobs in 2003--that 
is, workers who were permanently separated from their jobs because 
their employers closed or moved, there was insufficient work for them 
to do, or their positions were abolished--and who were subsequently 
reemployed were jobless for 27 weeks or more.\15\ Finding a new job 
might require substantial worker flexibility. Some workers would need 
to migrate to new geographic areas. An earlier study indicated that in 
states whose industries were hit by significant adverse shocks between 
1950 and 1990, the rate of unemployment generally decreased only when 
workers moved to different states, a process that often took more than 
five years to unfold.\16\ And some workers might need to acquire new 
skills more suited to the employment opportunities available to them.
---------------------------------------------------------------------------
    \15\ Data for people who lost jobs in 2003 are from Congressional 
Budget Office, Long-Term Unemployment (October 2007), p. 11.
    \16\ Oliver Jean Blanchard and Lawrence F. Katz, ``Regional 
Evolutions,'' Brookings Papers on Economic Activity, no. 1 (1992).
---------------------------------------------------------------------------
    Moreover, some workers would never find the new employment they 
were seeking. Some might end up working fewer hours than they might 
prefer. And some might leave the labor force entirely. Almost half of 
the unemployment spells completed in 2003 ended with the individuals 
leaving the labor force rather than becoming employed.\17\ Women, less-
educated workers, and older workers who lose their jobs appear to be 
more likely to leave the labor force than men, more-educated workers, 
and younger workers who lose their jobs.\18\ Some workers leaving the 
labor force, especially older or less-educated workers, might opt to 
seek disability payments that they would not have claimed otherwise.
---------------------------------------------------------------------------
    \17\ See Randy Ilg, ``Analyzing CPS Data Using Gross Flows,'' 
Monthly Labor Review (September 2005), pp. 10-18.
    \18\ Henry Farber, ``What Do We Know About Job Loss in the United 
States? Evidence from the Displaced Workers Survey, 1984-2004,'' 
Economic Perspectives (2005), pp. 13-28.
---------------------------------------------------------------------------
    Even workers who find new jobs might suffer permanent adverse 
effects. For example, reductions in employment that occur rapidly in 
particular geographic areas or industries could lead to significant 
reductions in the lifetime earnings of some affected workers. Even 15 
to 20 years later, men who separated from their stable jobs in a mass 
layoff during the 1982 recession had annual earnings that were 20 
percent lower than similar workers who did not experience such a job 
loss.\19\
---------------------------------------------------------------------------
    \19\ Till von Wachter, Jae Song, and Joyce Manchester, Long-Term 
Earnings Losses Due to Mass Layoffs During the 1982 Recession: An 
Analysis Using U.S. Administrative Data from 1974 to 2004 (April 2009), 
www.columbia.edu/vw2112/papers/mass_layoffs_1982.pdf.
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    Provisions of H.R. 2454 Intended to Ameliorate Those Employment 
Effects.--Some provisions of the bill--those that would subsidize the 
development and deployment of technologies that reduced emissions or 
that would subsidize production by specific industries and firms--would 
dampen the effects of the policy on employment in industries and areas 
where they are expected to be most severe.

   Selected provisions of the bill would subsidize petroleum 
        refiners through 2026 and trade-exposed, energy-intensive 
        industries--those in which domestic firms compete with foreign 
        firms that do not bear the cost of complying with comparable 
        policies to control emissions--through 2035. Those subsidies 
        would be linked to output, causing the firms receiving them to 
        produce more than they otherwise would under the cap-and-trade 
        system and in doing so employ more people (although that 
        process also dampens the reallocation of output and employment 
        to industries that produce fewer carbon emissions).
   The bill also includes measures that would decrease the 
        negative effects of the capand-trade system on output and 
        employment in the coal mining and processing industries. Those 
        provisions would establish and provide funding for the Carbon 
        Storage Research Corporation. That entity would, in the 15 
        years after enactment of the bill, support the development of 
        technologies to capture and store carbon, potentially enabling 
        coal-fired plants to generate electricity without releasing 
        greenhouse gases into the atmosphere. Through 2050, utilities 
        or merchant generators that invested in and operated plants 
        that used those technologies to generate electricity would be 
        paid subsidies to offset the higher costs of that technology. 
        Those subsidies would increase demand for coal and boost output 
        and employment in the coal industry relative to what would 
        occur under the emissions restrictions in the legislation but 
        without those subsidies.
   The bill also would establish the Climate Change Worker 
        Adjustment Assistance program and provide funding of $4.1 
        billion through 2019 for that program. That program would aim 
        to cushion the effects of the emissions-control policies on 
        workers who lost their job as a consequence of the policy. It 
        also would seek to complement the flexibility evident in U.S. 
        labor markets by providing job training and assisting workers 
        searching for employment.
The Overall Burden on Households
    Households' well-being depends on the amount and composition of 
goods and services they consume as well as how much time they have for 
nonmarket household activities including leisure. Policies to restrict 
emissions could affect all elements of households' well-being, and the 
legislation's overall burden would be determined by the value that 
people place on those various elements. For example, if people found 
products and activities that were not greenhouse-gas-intensive to be 
good substitutes for ones that were, they would be more willing to 
switch between them. As a result, they would find rising prices for 
greenhouse-gas-intensive products and activities less burdensome than 
if there were no good substitutes for them.
    Some of those components of well-being--mainly the consumption of 
marketed goods and services--are included in GDP, but other components 
are not. Conversely, some components of GDP, such as exports and 
investment, do not directly affect households' well-being in the same 
way that consumption does, although they support jobs and provide for 
the future. A substantial proportion of projected GDP impacts are due 
to declines in investment, mainly from the increased costs of producing 
energy-intensive capital goods. Declines in investment translate only 
gradually into reduced household consumption. As another example, if 
the policies caused output and real wages to fall, the burden of lower 
consumption might be partly offset if people also chose to supply less 
labor and instead devoted more time to valuable nonpaid activities not 
included in GDP, such as childrearing, production within the home, and 
leisure activities.
    Measuring the overall burden of policies like those embodied in 
H.R. 2454 requires estimates not only of supply and demand responses in 
many markets but also of households' valuation of activities that take 
place outside markets. Such estimates are difficult to obtain and very 
uncertain. Only two of the analyses of H.R. 2454 reviewed by CBO 
provide estimates of the overall burden, and the results differ 
considerably, reflecting differences in assumptions about households' 
behavior.\20\ On the basis of those estimates and of estimates of the 
burden of other types of policies such as tax shifts and trade 
liberalization, CBO concludes that the overall burden of H.R. 2454 is 
likely to be smaller than the projected loss in GDP.
---------------------------------------------------------------------------
    \20\ Some models--including one that provides an estimate of the 
burden--assume that households are very willing to work less and to 
shift their consumption away from goods and services that become 
relatively more expensive. Such models conclude that cap-and-trade 
policies to reduce carbon dioxide emissions would have a larger effect 
on GDP (because households would provide less labor to produce goods 
and services and would save less as well) but would impose only a small 
overall burden (because households could easily substitute relatively 
cheaper goods and services for more expensive ones and substitute 
household production or leisure for work). Much empirical work suggests 
that the supply of labor is significantly less flexible than those 
models assume, and CBO's own models and analyses in other areas 
generally assume less flexibility. By contrast, models that assume that 
households are relatively inflexible about shifting their consumption 
of goods, services, and leisure generally (including the other model in 
CBO's review that provides an estimate of the burden) conclude that 
policies would have smaller effects on GDP but larger effects on the 
overall burden (although still somewhat smaller than the GDP effects). 
Those estimates of the burden do not include any value people place on 
averting climate change by reducing emissions.
---------------------------------------------------------------------------
    CBO developed an estimate of households' loss in purchasing power 
as a rough indication of the direct effect that the cap-and-trade 
program established in H.R. 2454 would have on households. That loss in 
purchasing power equals the costs of complying with the policy minus 
the compensation that would be received as a result of the policy.\21\ 
Compliance costs include the cost of purchasing allowances and offsets, 
and of reducing emissions--costs that businesses would generally pass 
along to households in the form of higher prices. Compensation includes 
the free allocation of allowances, receipt of proceeds from the sale of 
allowances, and profits earned from producing offsets; much of that 
compensation would be passed to households from businesses and 
governments.
---------------------------------------------------------------------------
    \21\ Once the compensation received by U.S. households is deducted 
from the compliance costs, the remaining loss in purchasing power stems 
from the cost of reducing emissions and producing domestic offsets, 
expenditures on international offsets, and the value of allowances that 
would be directed overseas.
---------------------------------------------------------------------------
    Although CBO's measure of the loss in purchasing power provides an 
estimate of the direct effect of the cap-and-trade program on 
households, it ignores some channels of influence on economic activity 
and households' well-being that cannot be readily quantified. Some of 
the omitted channels lead CBO's measure to overstate households' true 
burden, and some lead CBO's measure to understate the burden. The 
latest research in this area does not reach a clear conclusion about 
the relative magnitude of those channels, but it appears that CBO's 
measure of the loss in purchasing power probably understates to a small 
degree the true burden of the cap-and-trade program.
    On the one hand, in keeping with the standard procedures followed 
by CBO, the Office of Management and Budget, and the Congressional 
Budget Committees in identifying federal budgetary costs, CBO estimated 
the price path for allowances that would reduce emissions to the levels 
defined by the annual caps without accounting for the effect that the 
policy might have on GDP. Because the program would reduce GDP (and 
thus lessen the overall demand for energy), the allowance price 
required to meet the cap would be slightly lower than CBO's estimate. A 
lower allowance price, in turn, would lead to a smaller loss in 
purchasing power. CBO's estimate of the loss in purchasing power, 
therefore, is slightly larger than would be the case if the agency had 
accounted for the potential decline in GDP when it estimated the price 
of allowances. In addition, CBO's measure ignores ways in which the 
program might interact with distortions of economic behavior (and, 
thus, costs ultimately imposed on households) generated by the existing 
tax system. Some of those interactions would tend to reduce overall 
economic costs. For example, the existing incentive for overconsumption 
of housing from the mortgage interest deduction might be countered to 
some extent by higher energy prices, as housing is energy intensive.
    On the other hand, CBO's estimate of the loss of purchasing power 
does not capture all of the ways in which the cap-and-trade program 
could impose costs on households. There would be transition costs of 
lost earnings by workers who would become temporarily unemployed or 
underemployed during the adjustment to higher prices for energy from 
fossil fuels. There would also be indirect effects on household 
consumption relative to what would happen in the absence of the cap-
and-trade program. The premature obsolescence of existing long-lived 
capital, such as coal-fired power plants that would no longer generate 
as much electricity, would reduce household wealth a little (through 
shareholders' losses) and in turn reduce consumption. Both lower 
household wealth and higher costs of producing energy-intensive capital 
goods would reduce domestic saving and investment, leading to slightly 
lower economic growth and household consumption. Finally, some 
interactions of the cap-and-trade program with existing taxes could 
tend to add to economic costs. For example, the increase in prices for 
fossil fuel energy and energy-intensive goods and services would tend 
to aggravate distortions in the labor market caused by existing taxes 
on earnings.
    The loss in purchasing power would rise over time as the cap became 
more stringent and larger amounts of resources were dedicated to 
cutting emissions--for example, by generating electricity from natural 
gas rather than coal or by improving energy efficiency. As a share of 
GDP, the aggregate loss of purchasing power would be 0.1 percent in 
2012 and 0.8 percent in 2050, CBO estimates, and would average 0.4 
percent over the entire 2012-2050 period. Measured at the projected 
2010 level of income, the average per-household loss in purchasing 
power would be $90 in 2012 and $925 in 2050 and would average about 
$455 per U.S. household per year over the 2012-2050 period.
            effects on households in different income groups
    Estimates of the average loss in purchasing power per household do 
not reveal the range of effects that the program would have on 
households in different circumstances, including their income level, 
sectors of the economy in which they work, and regions of the country 
in which they live. CBO does not have the capability to estimate 
effects by region or by sector of employment, but the agency does 
estimate effects on households of different income levels.
    Specifically, CBO estimated the effects of the cap-and-trade 
program established by H.R. 2454 on households in each fifth of the 
population arrayed by income (and adjusted for household size) on the 
basis of the provisions of the program as defined for both 2020 and 
2050. The loss in purchasing power that would be faced by households at 
each point in the income distribution would depend on the amount of 
compliance costs they would bear minus the amount of offsetting real 
income they would receive as a result of the policy. To show the burden 
of the loss in purchasing power that households would experience, CBO 
presents those losses as shares of after-tax income.
Avenues by Which Households Would Incur Costs and Receive Compensation
    Estimating the effects of the cap-and-trade program on households 
in different income brackets entails accounting for the various means 
by which households would bear compliance costs and receive 
compensation in their various roles as consumers, workers, 
shareholders, taxpayers, and recipients of government services.
    Compliance Costs.--CBO assumed that businesses would pass the costs 
of acquiring emissions allowances, purchasing domestic and 
international offset credits, and reducing emissions on to their 
customers through higher prices for goods and services. (That 
assumption, which is standard in distributional analyses, stems from 
the fact that the price of an item in the long run generally reflects 
the incremental cost of producing that item.) CBO estimated price 
increases for categories of goods and services using a model of the 
U.S. economy that relates final prices of goods to the costs of 
production inputs. Households and governments would bear those costs 
through their consumption of goods and services. Households account for 
the bulk of total spending, and they would bear an estimated 87 percent 
of the compliance costs. Those costs were allocated among households on 
the basis of their consumption of those goods and services as reported 
in the Consumer Expenditure Survey from the Bureau of Labor 
Statistics.\22\
---------------------------------------------------------------------------
    \22\ The database for the analysis was constructed by statistically 
matching income information from the Statistics of Income data (from 
the Internal Revenue Service), households' characteristics from the 
Current Population Survey (reported by the Census Bureau), and data on 
households' expenditures from the Consumer Expenditure Survey (from the 
Bureau of Labor Statistics). The data are from 2006, the latest year 
for which information from all three sources was available, and thus 
reflect the patterns of income and consumption in that year. The data 
were extrapolated to 2010 levels using the estimated overall growth in 
population and income. For the purposes of this analysis, CBO allocated 
the cost of reducing all of the gases covered in the cap-and-trade 
program among households and governments on the basis of their 
contributions to emissions of carbon dioxide, which constitute more 
than 85 percent of greenhouse gases.
---------------------------------------------------------------------------
    The federal government and state and local governments would bear 
the remainder of compliance costs (an estimated 13 percent) through 
their spending on goods and services. CBO did not distribute 
governmental costs across households because their incidence was 
unclear. If governments chose to increase taxes across the board, the 
cost would fall on households in proportion to their share of federal, 
state, and local taxes. In contrast, if governments chose to cover the 
additional expenses by cutting back on the services they provide, the 
cost would fall on households that no longer received those services.
    Emissions Allowances.--
    Under H.R. 2454, the distribution of allowances would change 
between 2020 and 2050, which would alter the distribution of the loss 
in purchasing power across households.
    In 2020, the government would issue most of the allowances at no 
cost to private entities, state governments, or the federal government. 
More specifically:

   15 percent of the value of the allowances would be set aside 
        for an energy rebate program for households whose gross income 
        does not exceed 150 percent of the federal poverty level or 
        that are receiving benefits through the Supplemental Nutrition 
        Assistance Program, the Medicare Part D low-income subsidy, the 
        Supplemental Security Income program, or other low-income 
        assistance, and for an expansion in the earned income tax 
        credit payable to individuals without qualifying children;
   16 percent of the value of the allowances would be given to 
        companies that distribute electricity and natural gas, with 
        instructions to pass those benefits on to their residential 
        customers;
   29 percent of the value of the allowances would be given to 
        those same distributors of electricity and natural gas, with 
        instructions to pass the value on to their commercial and 
        industrial customers;
   15 percent of the value of the allowances would be given to 
        what are termed trade-exposed, energy-intensive industries--
        which would be less able to pass their compliance costs on to 
        their customers than would other industries facing less 
        international competition--and oil refiners;
   18 percent of the value of the allowances would be directed 
        to the federal government and to state governments to spend 
        within the United States (not including the amount used to fund 
        the energy rebate and tax credit). For example, the bill would 
        direct a portion of the value to be spent encouraging the 
        development of particular technologies (such as electricity 
        generation that includes the capture and storage of carbon 
        dioxide) and improvements in energy efficiency; and
   7 percent of the allowance value would be spent overseas, to 
        fund efforts to prevent deforestation in developing countries, 
        encourage the adoption of more efficient technologies, and 
        assist those countries in adapting to climate change.

    The allocation of allowances under the 2050 provisions of the ACESA 
is quite different from that in 2020, with a much larger fraction of 
the allowance value flowing directly to households:

   15 percent of the value of the allowances would continue to 
        be used to fund the energy rebate program and the expansion in 
        the earned income tax credit;
   54 percent of the allowance value would be used to fund a 
        Climate Change Consumer Refund Account and would be paid on a 
        per capita basis;
   21 percent of the value would be directed to federal and 
        state governments (not counting the shares allocated for 
        household rebates, tax credits, and refunds) to be spent on 
        various objectives, including encouraging investments in clean 
        energy technology, increasing energy efficiency, facilitating 
        adaptation, and protecting wildlife; and
   10 percent of the value would be spent overseas to fund 
        efforts to prevent deforestation in developing countries, 
        encourage the adoption of more efficient technologies, and 
        assist those countries in adapting to climate change.

    For the allowances given to local distributors of electricity or 
national gas with instructions to pass the benefits on to their 
residential customers, CBO assumed that the value of those allowances 
would be received by those households. For the allowances given to 
those local distributors with instructions to pass the benefits on to 
their commercial and industrial customers, CBO assumed that the value 
of those allowances would be received by shareholders, because that 
allocation of allowances would not generally reduce the cost of 
producing an incremental unit of output and thus would not generally be 
passed through to households in the form of lower prices.\23\ For the 
allowances given to trade-exposed industries and oil refiners, CBO 
assumed that the value would be passed through in the form of lower 
prices for customers.\24\ With the exception of the allowances used to 
fund household rebates, refunds, or tax credits, CBO lacked sufficient 
information to distribute the value of allowances that were given to 
federal or state governments to spend within the United States. CBO 
also did not distribute among U.S. households the value of allowances 
that would be spent overseas.
---------------------------------------------------------------------------
    \23\ All increased profits, net of taxes, were allocated to 
households according to their holdings of equities, which were 
estimated from the Federal Reserve's Survey of Consumer Finances for 
2004. Those holdings include equity held through mutual funds and 
private pension accounts.
    \24\ That approach was used to account for CBO's inability to 
distribute the initial cost of the cap among such firms. The cost of 
the emissions cap would tend to fall on workers and shareholders in 
those industries; correspondingly, the relief aimed at those industries 
(which would be linked to their level of production) would tend to 
offset costs that workers and shareholders in those industries would 
otherwise incur. Because of data limitations, CBO assumed for this 
analysis that the cost of complying with the cap would lead to price 
increases for those industries. Correspondingly, CBO reflected the 
value of allowances allocated to those industries as offsetting price 
decreases.
---------------------------------------------------------------------------
    Domestic Offset Credits.--Covered entities would purchase domestic 
offset credits to comply with the cap under both the 2020 and 2050 
provisions of ACESA. Spending on domestic offsets would rise over time 
because the increase in the price of allowances would make it cost-
effective for firms to comply by purchasing increasingly costly 
offsets. Suppliers of domestic offset credits would experience 
increases in net income--the gross income received from selling the 
offsets minus the costs incurred to generate them.\25\
---------------------------------------------------------------------------
    \25\ Like other profits, increased after-tax net income by 
providers of domestic offsets was allocated to households according to 
their holdings of equities, which were estimated from the Federal 
Reserve's Survey of Consumer Finances for 2004. Those holdings include 
equity held through mutual funds and private pension accounts.
---------------------------------------------------------------------------
    Additional Financial Transfers and Costs That Would Affect 
Households.--The cap-and-trade program under H.R. 2454 would result in 
some additional transfers of income--and additional costs--that are not 
reflected in the gross compliance costs, the disposition of the 
allowance value, or the net income from domestic offset production. 
Households would receive additional income in three ways:

   The value of the rebates and tax credits for low-income 
        households in excess of the 15 percent of the allowance value 
        that the bill would set aside to pay for them\26\.--That amount 
        would add to the sums received by households but would also 
        increase the cost to the government.
---------------------------------------------------------------------------
    \26\ Estimates of the low-income rebates and tax credits were made 
by CBO and the staff of the Joint Committee on Taxation, respectively.
---------------------------------------------------------------------------
   Increases in government benefit payments that are pegged to 
        the consumer price index, such as Social Security benefits.--
        Under the assumption that the costs of compliance would be 
        passed through to consumers in the form of higher prices and 
        that the Federal Reserve would not act to offset those price 
        increases, the rise in the consumer price index would trigger 
        increased cost-of-living adjustments in benefits from certain 
        government programs. The increase in those transfer payments 
        would help offset the higher expenditures for the households 
        that received them but would also impose a cost on the federal 
        government.
   Reduced federal income taxes.--Because the federal income 
        tax system is largely indexed to the consumer price index, an 
        increase in consumer prices with no increase in nominal income 
        would reduce households' federal income tax payments. That 
        effect would increase households' after-tax income but would 
        also add to the federal deficit. Because each of those 
        transfers of income would have equal and offsetting costs 
        (increased Social Security benefits would ultimately need to be 
        paid for by higher taxes or reductions in other government 
        spending, for example), they would neither add to nor reduce 
        the loss in purchasing power associated with the policy. 
        However, because CBO was able to distribute the benefits 
        associated with the transfers but lacked sufficient information 
        to distribute the costs, the transfers do affect the estimated 
        distribution of the loss in purchasing power described below.
Effects of the Policy's Provisions in 2020
    CBO estimates that households in the lowest income quintile in 2020 
would see an average gain in purchasing power of 0.7 percent of after-
tax income, or about $125 measured at 2010 income levels. Households in 
the highest income quintile would see a loss in purchasing power of 0.1 
percent of after-tax income, or about $165 at 2010 income levels (see 
Figure 1 and Table 2), and households in the middle quintile would 
experience a loss in purchasing power equivalent to 0.6 percent of 
after-tax income, or about $310 at 2010 income levels.
    Although households in the lowest income quintile would experience 
a net gain in purchasing power in 2020 under the provisions of H.R. 
2454, they would experience the largest financial burden prior to 
compensation. The price increases triggered by the compliance costs 
would cause a loss in purchasing power of 2.5 percent of aftertax 
income for households in the lowest quintile, compared with 0.7 percent 
of aftertax income for households in the highest quintile. Although the 
dollar increase in outof-pocket expenditures stemming from the 
compliance costs would be substantially larger for high-income 
households ($1,400) than for low-income households ($430), it would 
impose a larger proportional burden on low-income households because 
those households consume a larger fraction of their income and because 
energyintensive goods and services make up a larger share of 
expenditures by low-income households.
    In estimating households' loss of purchasing power, CBO lacked 
sufficient information to allocate across households in different 
income brackets the benefits of some proposed government spending 
programs. In addition, the agency was not able to allocate across 
households the 13 percent of compliance costs that would be borne by 
the government as well as other expenditures that the federal 
government would face as a result of the policy and that would not be 
funded by revenue from the allowances. The government could finance 
those expenditures in various ways, including increasing taxes or 
reducing other spending, which could have very different effects on 
households at different points in the income spectrum. In 2020, the 
aggregate amounts of benefits and costs that CBO was not able to 
allocate across households roughly canceled each other out. As a 
result, the loss in purchasing power that CBO allocated across 
households in different income brackets was nearly the same as the 
average loss in purchasing power experienced by all households in 
aggregate (0.2 percent of after-tax income, or $160 per household when 
measured at 2010 income levels).\27\
---------------------------------------------------------------------------
    \27\ That average loss in purchasing power in 2020 is slightly 
lower than the $175 reported in CBO's June 2009 analysis (and which CBO 
referred to as ``net economywide cost'') because of refinements in 
CBO's methodology and subsequent changes in legislative provisions. In 
addition, the allocation of the loss in purchasing power across 
households is different than in the June 19th analysis because the 
final version of the bill targeted more relief at households in the 
lowest income quintile. For more information, see Congressional Budget 
Office, ``The Estimated Costs to Households from the Cap-and-Trade 
Provisions of H.R. 2454,'' letter to the Honorable Dave Camp (June 19, 
2009).
---------------------------------------------------------------------------
Effects of the Policy's Provisions in 2050
    The cap-and-trade program in H.R. 2454 would have different impacts 
across households in 2050 than in 2020. CBO estimates that households 
in the lowest income quintile in 2050 would see an average increase in 
purchasing power equal to 2.1 percent of their after-tax income, or 
$355 measured at 2010 income levels (see Table 3 and Figure 2). 
Households in the highest income quintile would see a loss in 
purchasing power of 0.7 percent of after-tax income, or about $1,360 
measured at 2010 income levels, and households in the middle quintile 
would have a loss in purchasing power of 1.1 percent of after-tax 
income, or about $590 at 2010 levels.
    In 2050, the aggregate amount of costs that CBO was unable to 
allocate across households would exceed the aggregate amount of 
unallocated benefits. In particular, the magnitude of the rebates and 
tax credits for low-income households in 2050 would be significantly 
larger than the 15 percent of the allowance value set aside to pay for 
them. In addition, more revenue would be required to fund the increases 
in indexed benefits (such as Social Security income) that would be 
triggered by higher prices. As a result, the loss in purchasing power 
allocated across households in different income brackets is only about 
60 percent of the estimated aggregate loss in purchasing power (1.2 
percent of after-tax income, or $925 per household when measured 
against 2010 income levels).
Comparison of the Effects of the 2020 and 2050 Policy Provisions
    The 2020 and 2050 policy provisions and the losses in purchasing 
power associated with them have some similarities and some differences.
    First, the loss in purchasing power stemming from both the 2020 and 
2050 policy provisions would impose the largest burden (measured as a 
fraction of after-tax income) on households in the middle and next-to-
highest income quintiles (see Figures 1 and 2).
    Second, the amount of compensation received by households in the 
lowest income quintile would be substantially higher in 2050 than in 
2020. Households in the bottom quintile would receive greater relief in 
2050 because they would continue to receive protection in their loss of 
purchasing power through the low-income rebate and tax credit 
provisions and would also receive refunds through the Climate Change 
Consumer Refund Account. If the low-income rebates and tax credits that 
households received were reduced to account for the Climate Change 
Refunds that they would also receive, the net gain by the average 
household in the lowest quintile would be about $135.
    Third, the ultimate beneficiaries of the value of the allowances 
would be more certain in 2050 than in 2020 because most of the 
allowances in 2020 would be distributed to households via private 
entities or government programs designed to promote new technologies or 
energy efficiency. As a result, CBO had to make assumptions as to how 
the allowances given to private entities would ultimately accrue to 
households. In contrast, most of the allowance value in 2050 would flow 
to households directly via rebates from the federal government.

    The Chairman. Thank you very much.
    Why don't we go ahead with the other witnesses before we 
ask questions.
    Mr. Newell, I understand this is your first hearing before 
our committee in your new position as administrator at Energy 
Information Administration. We welcome you and wish you well in 
that job.
    Mr. Newell. Thank you very much.
    It is, and I appreciate the opportunity.

STATEMENT OF RICHARD NEWELL, ADMINISTRATOR, ENERGY INFORMATION 
              ADMINISTRATION, DEPARTMENT OF ENERGY

    Mr. Newell. Mr. Chairman and members of the committee, I 
appreciate the opportunity to appear before you today. The 
Energy Information Administration is the statistical and 
analytical agency within the U.S. Department of Energy. By law, 
our data, analyses, and forecasts are independent of approval 
by any other officer or employee of the U.S. Government. 
Therefore, our views should not be construed as representing 
those of the Department of Energy or the administration.
    The cap-and-trade program that is the centerpiece of H.R. 
2454, the American Clean Energy and Security Act, establishes 
caps on covered greenhouse gas emissions through 2050. EIA's 
analysis focuses on the 2012 to 2030 period, during which the 
cumulative cap on covered emissions represents a 21-percent 
reduction requirement from the 113 billion metric tons of 
covered emissions in EIA's baseline projection. The actual 
reduction in covered emissions over the 2012 to 2030 period 
could be larger if covered entities decide to build a 
significant bank of allowances by 2030, or smaller if they 
decide to purchase less expensive offsets as a substitute for 
reductions in covered emissions.
    I'll focus now on certain key findings and insights from 
the analysis.
    First, I should say that, while I believe it is critical to 
undertake analyses of the type discussed here today, one must 
be humble and cautious when making projections decades into the 
future. There are a number of important but uncertain 
assumptions that must be made and that are critical to 
understanding the ultimate results of analysis.
    All analyses of this type must establish a baseline 
projection against which the effects of a policy scenario are 
measured. These baseline assumptions are one of the most 
important determinants of the estimated impacts of any change 
in policy relative to that baseline. EIA's baseline uses the 
April 2009 revision of the Annual Energy Outlook Reference 
Case, which takes into account impacts of the recent economic 
slowdown, as well as the American Recovery and Reinvestment 
Act.
    EIA's analysis shows that the estimated impacts of H.R. 
2454 on energy prices, energy use, and the economy are highly 
sensitive to assumptions about the availability and cost of 
both international offsets as well as no- and low-carbon 
technologies for power generation. The six main analysis cases 
considered in EIA's report reflect a range of different 
assumptions about these factors. The scenarios help inform 
decisions about policy design and provide insight into how 
policies might perform under alternative conditions.
    As shown in figure 1 of my written testimony, allowance 
prices through 2030 are more than four times larger, using the 
least favorable assumptions, than using the most favorable 
ones. EIA's other cases, which we believe to be more likely, 
lie within this range. Future energy prices are additional 
factors in future allowance-price uncertainty.
    Another important factor is policy design, including 
provisions for allowance trading, banking, and borrowing, which 
can increase the opportunities for cost-effective reductions. 
Provisions for allowance price ceilings and floors can also 
reduce price uncertainty.
    Regarding consumer energy prices, as shown in figure 2 of 
my testimony, EIA's result suggests that the free allocation of 
allowances to electricity and natural gas distributors 
significantly lowers direct impacts on consumer electricity and 
natural gas bills prior to 2025.
    EIA also modeled the combined efficiency and renewable 
electricity standard included in H.R. 2454. We found it does 
not play a significant role in driving the generation mix 
because its requirements appear likely to be met as a result of 
existing State-level mandates, Federal incentives for renewable 
energy, and the carbon price itself.
    Turning to energy system impacts, as shown in figure 4 of 
my testimony, electricity-related reductions account for 80 to 
88 percent of overall reductions in energy-related 
CO2 emissions in 2030, even though electricity 
comprises 41 percent of such emissions. Among other things, 
this result occurs because over 90 percent of coal is used in 
the electricity sector, yet, there are several alternative no-
and low-emission electricity generation technologies already 
demonstrated, and others are being developed.
    In contrast, the transportation sector is 95 percent 
dependent on petroleum, with comparatively few low-and no-
greenhouse gas alternatives that work readily within the 
current system. Therefore, while transport comprises 34 percent 
of U.S. energy-related CO2 emissions in 2030, a 
relatively smaller 5 to 8 percent of reductions come out of the 
transportation sector in EIA's analysis.
    Turning to the aggregate economic impacts, the left-hand 
panels of figure 6 in my written testimony compare the 
cumulative reductions in gross domestic product, or GDP, and 
consumption across different analysis cases. All impacts are 
measured relative to the Reference Case. The total discounted 
GDP change over the 2012-to-2030 period is -0.3 percent in the 
Basic Case, with a range from -0.2 percent to -0.9 percent 
across the main cases that we analyzed.
    The change in personal consumption is somewhat lower than 
this and other measures of economic impact, such as consumption 
per household and impacts on household energy bills, are also 
developed and discussed in the detailed report.
    Mr. Chairman, members of the committee, this concludes my 
testimony, and I'd be happy to answer any questions.
    Thank you.
    [The prepared statement of Mr. Newell follows:]
Prepared Statement of Richard Newell, Administrator, Energy Information 
                  Administration, Department of Energy
    Mr. Chairman, and members of the Committee, I appreciate the 
opportunity to appear before you today to discuss the recent U.S. 
Energy Information Administration (EIA) analysis of the energy and 
economic impacts of H.R. 2454, the American Clean Energy and Security 
Act of 2009 (ACESA).
    EIA is the statistical and analytical agency within the U.S. 
Department of Energy. EIA collects, analyzes, and disseminates 
independent and impartial energy information to promote sound 
policymaking, efficient markets, and public understanding regarding 
energy and its interaction with the economy and the environment. EIA is 
the Nation's premier source of energy information and, by law, its 
data, analyses, and forecasts are independent of approval by any other 
officer or employee of the United States Government. The views herein 
therefore should not be construed as representing those of the 
Department or the Administration.
    EIA's analysis of ACESA focuses on those provisions that can be 
readily analyzed using our National Energy Modeling System (NEMS). Key 
provisions of ACESA that are represented include:

   the cap-and-trade program for greenhouse gases (GHGs) other 
        than hydrofluorocarbons, including provisions for the 
        allocation of allowances to electricity and natural gas 
        distribution utilities, low-income consumers, State efficiency 
        programs, rebate programs, energy-intensive industries, and 
        other specified purposes;
   the combined renewable electricity and efficiency standard 
        for electricity sellers;
   the carbon capture and storage (CCS) demonstration and early 
        deployment program;
   Federal building code updates for both residential and 
        commercial buildings; and
   Federal efficiency standards for lighting and other 
        appliances.

    Provisions that are not represented in EIA's analysis include the 
Clean Energy Deployment Administration, the strategic allowance 
reserve, the separate cap-and-trade program for hydrofluorocarbon 
emissions, the GHG performance standards for activities not subject to 
the cap-and-trade program (e.g., methane emissions from coal mines and 
landfills), the distribution of allowances to coal merchant plants, new 
efficiency standards for transportation equipment, and the effects of 
increased investment in energy research and development.
    The choice of a baseline is one of the most influential assumptions 
for any analysis of climate and energy legislation. The starting point 
for EIA's analysis is an updated version of the Annual Energy Outlook 
2009 (AEO2009) Reference Case issued in April 2009 that reflects the 
projected impacts of the American Recovery and Reinvestment Act, which 
was enacted in February 2009. The AEO2009 also reflects other 
significant energy laws, including the Energy Improvement and Extension 
Act of 2008, the Energy Independence and Security Act of 2007, and the 
Energy Policy Act of 2005 (the latter two laws, following their 
enactment, were reflected in AEOs prior to the 2009 edition).\1\ This 
baseline projection through 2030 is not meant to be an exact prediction 
of the future but rather represents a plausible energy future given 
technological and demographic trends, current laws and regulations, and 
consumer behavior as derived from available data. EIA recognizes that 
projections of energy markets extending more than 20 years into the 
future are highly uncertain and subject to many events that cannot be 
foreseen, such as energy 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. Generally, differences between cases, which are the focus 
of the report, are likely to be more robust than the specific 
projections for any one case.
---------------------------------------------------------------------------
    \1\ The development of the updated Reference Case is described in a 
recent EIA report, An Updated Annual Energy Outlook 2009 Reference Case 
Reflecting Provisions of the American Recovery and Reinvestment Act and 
Recent Changes in the Economic Outlook, SR/OIAF/2009-03 (Washington, 
DC, April 2009), web site http://www.eia.doe.gov/oiaf/servicerpt/
stimulus/index.html.
---------------------------------------------------------------------------
    Relative to their emissions in 2005, sources covered by the ACESA 
cap-and-trade program must reduce their emissions 3 percent by 2012, 17 
percent by 2020, 58 percent by 2030, and 83 percent by 2050. Over the 
2012 to 2030 period covered by EIA's analysis, the cumulative cap on 
covered emissions totals 89 billion metric tons (BMT) of carbon 
dioxide-equivalent (CO2e), representing a 21-percent or 
24.6-BMT reduction requirement from the 113 BMT of covered emissions in 
EIA's baseline over the same period. The actual reduction in covered 
emissions over the 2012 to 2030 period could be either larger or 
smaller than this requirement. Actual reductions could be larger during 
this period because covered entities may have an incentive to hold a 
significant bank of allowances in 2030 to help them meet increasingly 
stringent caps that apply between 2030 and 2050. Actual reductions in 
covered emissions could be smaller than required to the extent offsets 
are used as a substitute.
    This testimony briefly summarizes projected impacts on energy 
prices, energy use, and economic activity as well as several key 
findings and additional insights drawn from EIA's analysis. The 
complete analysis report, which includes a description of the bill, 
EIA's modeling approach and results, as well as a discussion of 
uncertainties, caveats, and additional analysis cases, has been 
provided to the Committee and is available on EIA's web site 
(www.eia.doe.gov).
    Starting with key findings and insights, EIA's analysis shows that 
the estimated impacts of the ACESA on energy prices, energy use, and 
the economy are highly sensitive to assumptions about the availability 
and cost of international offsets as well as no- and low-carbon 
technologies for power generation. The six main analysis cases 
considered in EIA's report reflect a variety of different assumptions 
regarding these factors, with the Zero Bank and High Offsets cases 
representing the most favorable situations for ease of compliance with 
the ACESA cap-and-trade program and the No International/Limited Case 
representing the least favorable situation. As discussed below, GHG 
allowance prices and economic impacts through 2030 are more than 4 
times larger using the least favorable assumptions than using the most 
favorable ones. EIA's other cases, which we believe to be more likely, 
lie in between these alternative cases.
    It is well-known that some key technologies for reducing emissions 
face a variety of technical challenges (e.g., CCS) and, in some cases, 
additional questions regarding public acceptance of their widespread 
deployment arising from concerns unrelated to global climate change 
(e.g., nuclear power). As noted in EIA's previous analyses, barriers to 
potentially cost-effective low-and no-emissions technologies can be 
directly influenced by policy choices, including regulatory planning 
and siting decisions, incentives for early technology deployment, as 
well as the design of a cost-containment mechanism.
    EIA's results also suggest that the free allocation of allowances 
to electricity and natural gas distributors significantly lowers direct 
impacts on consumer electricity and natural gas prices prior to 2025, 
when it starts to be phased out. While this result may serve goals 
related to regional and overall fairness of the program, the overall 
efficiency of the cap-and-trade program is reduced to the extent that 
the price signal that would encourage cost-effective changes by 
consumers in their use of electricity and natural gas is delayed.
    In previous hearings, EIA has been asked about the main factors 
contributing to allowance price uncertainty under a cap-and-trade 
program. In addition to uncertainty regarding the cost and availability 
of international offsets and key no-and low-carbon technologies, future 
energy prices also play an important role in determining the cost and 
energy price impacts of meeting a fixed emissions target. Policy design 
is another important factor in allowance price behavior, including the 
design of provisions for allowance trading, banking, and borrowing, 
additional cost-containment mechanisms, and market oversight. The 
strategic allowance reserve in ACESA, which is not addressed in EIA's 
analysis, focuses on the important issue of short-term volatility in 
allowance prices but does not appear to address longer-term cost 
containment. Specifically, following a startup period, the strategic 
allowance reserve in ACESA relies on a ``trigger price'' for auctions 
that is set in relation to recent allowance prices, which does not 
appear to preclude a scenario in which allowance prices evolve along a 
relatively high trajectory given underlying conditions that would 
support such an outcome, such as those examined in the No International 
and No International/Limited cases.
    Let me now turn briefly to the specific results of EIA's analysis.
                   allowance and energy price impacts
    Figure 1* shows that, under ACESA, allowance prices--the key driver 
of energy price impacts--vary widely depending on assumptions regarding 
the availability and cost of international offsets and key no-and low-
carbon electricity technologies such as nuclear and coal with CCS.
---------------------------------------------------------------------------
    * All figures have been retained in committee files.
---------------------------------------------------------------------------
    ACESA increases delivered energy prices, but effects on electricity 
and natural gas bills of consumers are substantially lessened through 
2025 by the allocation of free allowances to regulated electricity and 
natural gas distribution companies. For example, Figure 2 shows that 
electricity prices in five of the six main ACESA cases range from 9.5 
to 9.6 cents per kilowatthour in 2020, lower than recent prices and 
only 3 to 4 percent above the Reference Case level.\2\ Average impacts 
on electricity prices in 2030 are projected to be substantially 
greater, reflecting both higher allowance prices and the phase-out of 
the free allocation of allowances to distributors between 2025 and 
2030. By 2030, electricity prices in the ACESA Basic Case are 19 
percent above the Reference Case level, with a wider band across all 
six main policy cases. As shown in Figure 3, electricity price impacts 
in 2030 vary significantly by region--in general, larger price impacts 
occur in those regions that are most reliant on coal and have 
competitive wholesale power markets.
---------------------------------------------------------------------------
    \2\ The average electricity price in the No International/Limited 
case in 2020 is 10.7 cents per kilowatthour. The recent 12-month 
rolling average electricity price through the end of May 2009 was 10.06 
cents per kilowatthour.
---------------------------------------------------------------------------
    Almost all of the increase in household energy costs prior to 2025 
arises from the increases in the delivered price of motor fuels, 
stemming from the requirement that fuel producers or importers hold 
enough emissions allowances to cover the emissions that result when 
their product is used by consumers. Even so, the gasoline price changes 
anticipated to result from ACESA are much smaller than the changes 
experienced over the past several years.
                         energy system impacts
    As shown in Figure 4, the vast majority of reductions in energy-
related emissions are expected to occur in the electric power sector. 
Across the ACESA main cases, the electricity sector accounts for 
between 80 percent and 88 percent of the total reduction in energy-
related carbon dioxide (CO2) emissions relative to the 
Reference Case in 2030, even though electricity comprises only 41 
percent of such emissions. Emission reductions in the electricity 
sector come primarily from reducing conventional coal-fired generation, 
which in 2007 provided 50 percent of total U.S. generation. A portion 
of the electricity-related CO2 emissions reductions results 
from reduced electricity demand stimulated both by consumer responses 
to higher electricity prices and incentives in ACESA to stimulate 
greater energy efficiency.
    There are several reasons for the concentration of emissions 
reductions in the electric power sector. First, over 90 percent of 
coal, the fuel with the highest carbon content, is used in the 
electricity sector. Second, while coal-fired generation is a major 
source of current and projected Reference Case emissions, there are 
several alternative generation sources already demonstrated (e.g., 
natural gas, renewables, and nuclear) and others are being developed 
(e.g., fossil with CCS). Third, changes in electricity generation fuels 
do not require fundamental changes in distribution infrastructure or 
electricity-using equipment.
    In contrast, the transportation sector is 95 percent dependent on 
petroleum for fuel, with its own dedicated distribution network and 
associated vehicle technologies, and comparatively few low-or no-GHG 
alternatives that work readily within this system. Recent U.S. 
experience and relatively high fuel prices over an extended period in 
Europe and other world regions illustrate that major shifts in 
transportation energy use are not likely to be induced by the impact of 
the ACESA cap-and-trade program on the price of motor fuels. Therefore, 
while transport comprises 34 percent of U.S. CO2 emissions 
in 2030, a relatively smaller 5 to 8 percent of reductions come out of 
the transportation sector in EIA's analysis.
    In addition to changing the projected mix of electricity generation 
sources, as shown in Figure 5, ACESA is likely to increase the total 
amount of new electric capacity that must be added between now and 2030 
in most of our analysis cases. The requirement for capacity additions 
beyond the Reference Case, which poses siting challenges for both 
generation and transmission facilities, reflects the retirement of many 
existing coal-fired power plants that would be expected to continue 
operating beyond 2030 absent the limitations on GHG emissions required 
under ACESA.
                 gdp and household consumption impacts
    In the process of reducing GHG emissions, ACESA increases the cost 
of producing energy, which reduces real economic output, reduces 
purchasing power, and lowers aggregate demand for goods and services. 
While a broad economic assessment of ACESA would also take into account 
the benefits of GHG reductions--through lower climate change impacts--
this is beyond the scope of EIA's modeling capacity. EIA's analysis 
therefore focuses on the cost side of this balance, while the benefits 
can be inferred from the magnitude of resulting emission reductions.
    The result is that projected real gross domestic product (GDP) is 
generally lower relative to the Reference Case, as are emissions. Note, 
however, that even including the highest cost scenario analyzed by EIA, 
the economy is still projected to continue to grow at a rate of 2.5 
percent or more on average from 2012 to 2030. The left-hand panels of 
Figure 6 compare the cumulative reductions in GDP and consumption over 
the 2009-through-2030 period across cases. All impacts are relative to 
the Reference Case. The total discounted GDP change over the 2012-to-
2030 time period is -0.3 percent in the ACESA Basic Case, with a range 
from -0.2 percent to -0.9 percent across the main ACESA cases. 
Similarly, the cumulative discounted change in personal consumption is 
-0.2 percent in the ACESA Basic Case and ranges from -0.1 percent to -
0.7 percent across the main cases.
    Consumption and energy bill impacts can also be expressed on a per 
household basis in particular years. In 2020, the reduction in 
consumption is $134 per household (2007 dollars) in the ACESA Basic 
Case, with a range of $30 to $362 across all main ACESA cases. In 2030, 
household consumption is reduced by $339 in the ACESA Basic Case, with 
a range of $157 to $850 per household across all main ACESA cases. By 
2030, the estimated reductions in household consumption in the ACESA No 
International/Limited Case, at the top of these ranges, are 
approximately double the impacts in the ACESA High Cost Case, which has 
the next highest level of impacts.
    While addressing GHG emissions is a challenge of unprecedented 
scale in terms of its implications for our energy system, the scale of 
the economy itself is also huge. Therefore, the same estimated economic 
impacts from any given analysis can be expressed in ways that may 
appear either large or small. Figure 6, which in its right hand panels 
presents the same results discussed above but in terms of the absolute 
levels of GDP and consumption in 2020 and 2030, shows how this framing 
matters. EIA strives, however, to present our results as neutrally as 
possible.
    Mr. Chairman and members of the Committee, this concludes my 
testimony. I would be happy to answer any questions you may have.

    The Chairman. Thank you very much.
    Mr. Harvey, why don't you go right ahead and give us the 
EPA's perspective.

 STATEMENT OF REID P. HARVEY, CHIEF, CLIMATE ECONOMICS BRANCH, 
 OFFICE OF AIR AND RADIATION, ENVIRONMENTAL PROTECTION AGENCY, 
                  ACCOMPANIED BY ALLEN FAWCETT

    Mr. Harvey. Thank you, Mr. Chairman and Ranking Member 
Murkowski, members of the committee. Thank you for the 
opportunity to testify about EPA's analysis of H.R. 2454.
    EPA's overall cost estimates of the bill are similar to 
those of CBO's and EIA's; and so, in view of that, I'll focus 
on several policy implications of our analyses that may be 
useful to you in the Senate as you continue your deliberations. 
The details of our analyses are available on EPA's Web site.
    It is important to note at the outset that EPA's analysis 
did not assess the costs if we don't act to reduce greenhouse 
gases, to weigh the cost of action against the cost of 
inaction, or to compare the costs of H.R. 2454 with other 
policy approaches to reduce greenhouse gas emissions.
    The U.S. Global Change Research Program, in its June 2009 
report, described the impacts that we're already seeing and 
that are likely to dramatically increase, this century, if we 
allow global warming to continue unchecked. In the report, it 
documents how communities throughout America would experience 
increased costs, including for more sustained droughts, 
increased heat stress on livestock, more frequent and intense 
spring floods, and more frequent and intense forest wildfires.
    Over the last several years, EPA's analyses of cap-and-
trade approaches in climate change legislation have shed light 
on three key factors that are important to the cost of a cap-
and-trade program: one, the coverage and cumulative reductions 
of the cap; two, the type and availability of offsets; three, 
the penetration of new technologies and existing technologies. 
I'll describe each of these in turn.
    First, our analysis of H.R. 2454 and related Senate bills 
tells us that what affects overall costs are the cumulative 
emissions reductions that the bills would achieve over decades, 
rather than the cap level that they set for any particular 
year. Because H.R. 2454, like several recent Senate bills, 
allows emissions allowances to be banked over time, its 2050 
cap drives overall behavior and encourages banking in the early 
years of the cap-and-trade program. In other words, just 
changing the 2020 cap alone does not have a significant effect 
on total costs if all else stays the same. Costs will be lower 
the sooner that we start acting, but a national commitment to 
meeting these long-run emissions targets is key.
    Second, allowing capped sources to meet some of their 
obligation through offsets lowers costs significantly. Our 
analysis of offsets was aided by our experience managing and 
analyzing emissions trading programs and voluntary programs, 
such as our methane programs. We found, through several 
scenario analyses, that delaying or limiting the ability to use 
low-cost international or domestic offsets to meet compliance 
obligations increased costs substantially, compared to the core 
case with full availability of offsets. For example, if no 
international offsets were allowed, allowance prices would be 
89 percent higher than the core case.
    Moreover, we found that the number of international offsets 
purchased is sensitive to other policy provisions in the bill. 
For example, we conducted sensitivities with respect to the 
energy efficiency provisions of H.R. 2454 that we modeled for 
the core case. Without the energy efficiency provisions, we 
found that the allowance price increased by about 2 percent. 
But, the number of international offsets purchased under that 
scenario rose by 11 percent, to compensate.
    So, it's important to note that the cost and availability 
of international offsets will be influenced by factors beyond 
U.S. policy choices, including the efforts of other nations to 
mitigate their emissions, and that there will always be some 
uncertainty about the future cost and availability of offsets.
    Third, penetration of low- or no-carbon technologies, such 
as renewable technologies, nuclear power, and carbon capture 
and storage, increases substantially by 2050 under H.R. 2454 
and similar Senate bills in the 110th Congress that we 
analyzed. For H.R. 2454, we estimated that these technologies 
would grow as a share of primary energy by 18 percent to 2020, 
to 26 percent by 2030, and to 38 percent by 2050, compared to a 
steady share of 14 percent in the business-as-usual case. So, 
these results demonstrate the key importance of placing a price 
on carbon emissions to incentivize the deployment of low- or 
no-carbon technologies.
    However, there's much uncertainty about the rate at which 
various technologies will penetrate. For example, the 
availability of nuclear power has a significant impact on our 
results. We used estimates of the costs of nuclear power from 
EIA, and we constrained the growth of nuclear power generation, 
using the same assumptions as those used by the U.S. Climate 
Change Science Program, which assumes that nuclear generation 
could increase by 150 percent by 2050.
    We also conducted sensitivity analyses, holding nuclear 
power to reference levels. We found that if the additional 
nuclear capacity were not available, allowance prices would 
increase by 15 percent. We also saw, in the short term, that 
H.R. 2454 would reduce overall electricity demand.
    Furthermore, financial incentives, such as bonus allowances 
for early deployment of carbon capture and sequestration, were 
found to increase deployment of cleaner technology in the near 
term.
    Overall, our analysis of H.R. 2454 highlights some of the 
factors that will affect the costs of meeting particular 
emissions targets that are inherently uncertain, such as the 
availability of offsets or the potential for technological 
advances. How these underlying uncertainties translate into 
uncertainty about the cost of a cap-and-trade program depends 
on the kinds of cost-containment provisions that are 
incorporated in the program.
    In conclusion, these three factors and their effects on 
costs are among the most important to consider in crafting 
climate change legislation. Our work, along with those of the 
other agencies represented on this panel, hopefully will 
provide some guidance on the likely outcomes of different 
policy choices.
    Thank you, again, for this opportunity to discuss EPA's 
analyses, and I look forward to any questions you may have.
    [The prepared statement of Mr. Harvey follows:]
Prepared Statement of Reid P. Harvey, Chief, Climate Economics Branch, 
      Office of Air and Radiation, Environmental Protection Agency
    Mr. Chairman, Ranking Member Murkowski, and Members of the 
Committee, thank you for the opportunity to testify today about EPA's 
analysis of H.R. 2454, the American Clean Energy and Security Act.
    EPA's overall cost estimates of the bill are similar in many 
respects to those of the Congressional Budget Office (CBO) and the 
Energy Information Administration (EIA). In view of those similarities, 
I will focus on several policy implications of our analyses that may be 
useful as the Senate continues its deliberations. The details of our 
analyses, along with the underlying data and spreadsheets, are 
available on EPA's website (www.epa.gov/climatechange/economics/
economicanalyses.html).
    It is important to note at the outset that EPA's analysis did not 
attempt to assess the costs if we don't act to reduce greenhouse gases; 
to weigh the costs of action against the costs of inaction; or to 
compare the costs of H.R. 2454 with other policy approaches to address 
GHG emissions. The U.S. Global Change Research Program (in its June 
2009 report, ``Global Climate Change Impacts in the United States'') 
described the impacts that we are already seeing and that are likely to 
dramatically increase this century if we allow global warming to 
continue unchecked. In the report, it documents how communities 
throughout America would experience increased costs, including from 
more sustained droughts, increased heat stress on livestock, more 
frequent and intense spring floods, and more frequent and intense 
forest wildfires.
    Over the last several years, EPA's analyses of cap-and-trade 
approaches in climate change legislation have shed light on three key 
factors that are important to the costs of a cap-and-trade program:

          1. the coverage and cumulative reductions of the cap;
          2. the type and availability of offsets; and
          3. the penetration of new and existing technologies.

    I'll describe the implications of each of these factors in turn.
    First, our analysis of H.R. 2454 and related Senate bills tells us 
that what affects overall costs are the cumulative emissions reductions 
the bills would achieve over decades, rather than the cap level they 
set for any particular year. Because H.R. 2454 (like several recent 
Senate bills) allows emission allowances to be banked over time, its 
2050 cap (an 83% reduction from 2005 levels by 2050) drives overall 
behavior and encourages banking in the early years of the cap-and-trade 
program. In other words, just changing the 2020 cap alone does not have 
a significant effect on total costs if all else stays the same. Costs 
will be lower the sooner we start acting but a national commitment to 
meeting these long-run emission reduction targets is key.
    Second, allowing capped sources to meet some of their obligation 
through offsets--emission reductions achieved by non-capped sources--
lowers costs significantly. Our analysis of offsets was aided by EPA's 
experience managing and analyzing emissions trading and voluntary 
programs, such as our methane programs. We found through several 
scenario analyses that delaying or eliminating the ability to use low-
cost international or domestic offsets to meet compliance obligations 
increased costs substantially compared to the core case with full 
availability of offsets. For example, if no international offsets were 
allowed, allowance prices would be 89 percent higher than the core 
case. Moreover, we found that the number of international offsets 
purchased is sensitive to other policy provisions in the bill. For 
example, we conducted sensitivities with respect to the energy 
efficiency provisions of H.R. 2454 that we modeled for the core case. 
Without the energy efficiency provisions, we found that the allowance 
price increased by about two percent, but the number of international 
offsets purchased under that scenario rose by 11 percent to compensate. 
It is important to note that the cost and availability of international 
offsets will be influenced by factors beyond U.S. policy choices, 
including the efforts of other nations to mitigate emissions, and that 
there will always be some uncertainty about the future cost and 
availability of offsets.
    Third, penetration of low or no-carbon technologies, such as 
renewable technologies, nuclear power, and carbon capture and storage 
(CCS), increases substantially by 2050 under H.R. 2454 and similar 
Senate bills in the 110th Congress that we have analyzed. For H.R. 
2454, we estimated that these technologies would grow, as a share of 
primary energy, to 18 percent by 2020, to 26 percent by 2030, and to 38 
percent by 2050, compared to a steady share of 14 percent in the 
business-as-usual case. These results demonstrate the key importance of 
placing a price on carbon emissions to incentivize the deployment of 
low and no-carbon technologies. However, there is much uncertainty 
about the rate at which various technologies will penetrate. For 
example, the availability of nuclear power has a significant impact on 
our results. We used estimates of the cost of nuclear power from EIA, 
and constrained the growth of nuclear power generation using the same 
assumptions as used by the U.S. Climate Change Science Program in 
developing their Scenarios of Greenhouse Gas Emissions and Atmospheric 
Concentrations report, which assumes that nuclear generation could 
increase by 150 percent by 2050. We also conducted sensitivity analyses 
holding nuclear power growth to reference levels and found that, if the 
additional nuclear capacity were not available, allowance prices would 
increase by 15 percent. We also saw in the short-term that H.R. 2454 
would reduce overall electricity demand. Furthermore, financial 
incentives, such as bonus allowances for early deployment of carbon 
capture and sequestration were found to increase deployment of cleaner 
technology in the near term. Overall, our analysis of H.R. 2454 
highlights some of the factors that will affect the costs of meeting 
particular emission targets that are inherently uncertain, such as the 
availability of offsets or the potential for technological advances. 
How these underlying uncertainties translate into uncertainty about the 
cost of a cap-and-trade program depends on the kinds of cost-
containment provisions that are incorporated in the program.
    In conclusion, these three factors and their effects on costs are 
among the most important to consider when crafting climate change 
legislation. Our work, along with those of the other agencies 
represented on this panel, hopefully will provide some guidance on 
likely outcomes of different policy choices. Thank you again for this 
opportunity to discuss EPA's analyses and I look forward to any 
questions you may have.

    The Chairman. Thank you very much.
    Mr. Fawcett, you're available to answer questions, is that 
right?--but didn't plan to testify?
    Mr. Fawcett. Correct.
    The Chairman. All right.
    Dr. Parker, why don't you go right ahead, with your 
testimony.

      STATEMENT OF LARRY PARKER, SPECIALIST IN ENERGY AND 
      ENVIRONMENTAL POLICY, CONGRESSIONAL RESEARCH SERVICE

    Mr. Parker. Thank you, sir. My name is Larry Parker. On 
behalf of the Congressional Research Service, Brent Yacobucci 
and I would like to thank the committee for its invitation to 
testify here today about cost projections of H.R. 2454.
    CRS has completed a review and synthesis of seven studies 
that attempt to project the cost of the bill's cap-and-trade 
program. Before I summarize these analyses, I must state a 
caveat. It is difficult, and some would consider it unwise, to 
project costs out to the year 2030, much less beyond. The 
already tenuous assumption that current regulatory standards 
will remain constant becomes more unrealistic and other 
unforeseen events loom as critical issues that cannot be 
modeled. Hence, long-term projections are, at best, speculative 
and should be viewed with attentive skepticism. The finer and 
more detailed the estimate presented, the greater the 
skepticism should be.
    But, if models cannot accurately predict the future, they 
can indicate the sensitivity of a program's provisions to 
various economic, technological, and behavioral assumptions 
that may assist policymakers in designing a greenhouse gas 
reduction strategy.
    The various cases presented here do provide some important 
insights in the costs and benefits of H.R. 2454 and its many 
provisions. We have summarized these into six points:
    No. 1, if enacted, the ultimate cost of H.R. 2454 would be 
determined by the response of the economy to the technological 
challenges presented by the bill. The potential for new 
technology to reduce the cost of H.R. 2454 is not fully 
analyzed by any of the cases, nor can it be. The process of 
technology development and dissemination is not sufficiently 
understood at the current time for models to replicate with any 
long-term confidence. In the same vein, it is difficult to 
determine whether or not the various incentives provided by the 
bill are directed in an optimum manner. In many cases, the bill 
focuses on specific technologies and not on broader research 
and development strategies.
    No. 2, the distribution of allowance value under 2454 will 
determine who bears much of the program's cost. The allowances 
created by H.R. 2454 are essentially licenses to emit 
greenhouse gases, and therefore, will have market value based 
on supply and demand. Total allowance value could approach or 
exceed $100 billion annually. The bill transfers that value to 
a wide range of covered and noncovered entities. Those entities 
receiving that value will bear less of the program's cost, 
compared to those who do not. The major impact of H.R. 2454's 
allowance allocation scheme is not in changing the cost 
required to comply with the program's requirement, instead it 
is to change who bears those costs.
    No. 3, the cases studied generally indicate that the 
availability of offsets, particularly international offsets, is 
a major factor in determining the cost of H.R. 2454. 
Sensitivity analysis found that eliminating international 
offsets would raise allowance prices by 60 percent or more. In 
general, those studies that assumed a restrictive supply of 
offsets projected higher allowance prices than cases that 
ramped up the availability of offsets.
    No. 4, the interplay among the various cases between 
nuclear power, renewables, natural gas, and coal-fired capacity 
with carbon capture and storage emphasizes the need for a low-
carbon source of electric generating capacity in the mid- to 
long-term. The cases presented here do not agree on the amount 
of new generating capacity necessary under the bill, or the mix 
of fuels and technologies that would be employed. The estimated 
amount of capacity constructed depends on the case's assumption 
about the need for new capacity and the replacement or 
retirement of existing capacity, along with consumer-demand 
response to the rising prices and incentives contained in the 
bill.
    No. 5, attempts to estimate household effects or conduct 
other fine-grained analysis are fraught with numerous 
difficulties. Estimates generated reflect more on the 
philosophies and assumptions of the cases reviewed than on any 
credible future effect. Decisions about appropriate welfare 
measure, household size, and discounting, and, indeed, the 
value of government services in general, dwarf any insight that 
can be gained from these estimates. For example, estimates of 
household effects in the studies reviewed vary by an order of 
magnitude even when normalized by household size and accounting 
method.
    No. 6, H.R. 2454's climate-related environmental benefit is 
best considered in a global context and the desire to engage 
the developing world in the reduction effort. When the United 
States and other developed countries ratify the 1992 United 
Nations Framework Convention on Climate Change, they agreed 
both to reduce their own emissions to help stabilize greenhouse 
gas emissions, but to take the lead in reducing those gases.
    This global scope raises two issues for H.R. 2454; first, 
whether the bill's greenhouse gas reduction program and other 
provisions would be considered sufficiently credible by 
developing countries so that schemes for including them in 
future international agreements becomes more likely; and 
second, whether the bill's reductions meet U.S. commitments to 
stabilization under the international treaty and would occur in 
a timely manner.
    Thank you. I will be happy to answer any questions you may 
have.
    [The prepared statement of Mr. Parker follows:]
Prepared Statement of Larry Parker and Brent Yacobucci, Specialists in 
    Energy and Environmental Policy, Congressional Research Service
    My name is Larry Parker. On behalf of the Congressional Research 
Service, Brent Yacobucci and I would like to thank the Committee for 
its invitation to testify here today about cost projections of H.R. 
2454, which would establish a cap-and-trade program to reduce U.S. 
greenhouse gas emissions through the year 2050. CRS has just completed 
a review and synthesis of seven studies that attempt to project the 
costs of H.R. 2454 to the year 2030 or 2050.
    Before I summarize the analyses, I must state a caveat: It is 
difficult (and some would consider it unwise) to project costs out to 
the year 2030, much less beyond. The already tenuous assumption that 
current regulatory standards will remain constant becomes more 
unrealistic, and other unforeseen events (such as technological 
breakthroughs) loom as critical issues which cannot be modeled. Hence, 
long-term cost projections are at best speculative, and should be 
viewed with attentive skepticism. The finer and more detailed the 
estimate presented, the greater the skepticism should be. In the words 
of the late Dr. Lincoln Moses, the first Administrator of the Energy 
Information Administration: ``There are no facts about the future.''
    But if models cannot accurately predict the future, they can 
indicate the sensitivity of a program's provisions to varying economic, 
technological, and behavioral assumptions that may assist policymakers 
in designing a greenhouse gas reduction strategy. The various cases 
examined here do provide some important insights on the costs and 
benefits of H.R. 2454 and its many provisions. We have summarized these 
insights into six points.
    First, if enacted, the ultimate cost of H.R. 2454 would be 
determined by the response of the economy to the technological 
challenges presented by the bill. The bill provides numerous price, 
research and development, deployment, and regulatory incentives for 
technology innovation. The potential for new technology to reduce the 
costs of H.R. 2454 is not fully analyzed by any of the cases examined, 
nor can it be. The process of technology development and dissemination 
is not sufficiently understood at the current time for models to 
replicate with any long-term confidence. In the same vein, it is 
difficult to determine whether the various incentives provided by the 
bill are directed in an optimal manner. In many cases the bill focuses 
on specific technologies and not on broader research and development 
strategies.
    Second, the distribution of allowance value (either through free 
allocations or auction revenue) under H.R. 2454 will determine who 
bears much of the program's cost. The allowances created by H.R. 2454 
are essentially licenses to emit a metric ton of carbon dioxide 
equivalent, and, therefore, will have market value based on supply and 
demand. Total allowance value could approach or exceed $100 billion 
(2005$) annually---significantly more than the projected resource costs 
to comply with the bill's emissions reduction requirement. H.R. 2454 
transfers that value to a wide range of covered and non-covered 
entities. Those entities receiving that value will bear less of the 
program's costs compared with those who do not. The major impact of 
H.R. 2454's allowance allocation scheme is not in changing the resource 
costs required to comply with the program's requirement; instead, it is 
in changing who bears those costs.
    Third, the cases studied generally indicate that the availability 
of offsets (particularly international offsets) is a major factor in 
determining the cost of H.R. 2454. Sensitivity analyses generally found 
that eliminating international offsets would raise allowance prices by 
60% or more. In general, those studies that assumed restrictive (and in 
some cases, declining) offset supply projected higher allowance prices. 
Cases that ramped up availability of offsets generally projected lower 
allowance prices. No case assumed that the full amount of offsets 
permitted under H.R. 2454 would be available or used immediately in 
2012.
    Fourth, the interplay between nuclear power, renewables, natural 
gas, and coal-fired capacity with carbon capture and storage (CCS) 
among the cases emphasizes the need for a low-carbon source of electric 
generating capacity in the mid-to long-term. A considerable amount of 
low-carbon generation will have to be built under H.R. 2454 in order to 
meet the reduction requirement. The cases presented here do not agree 
on the amount of new generating capacity necessary under the bill, or 
the mix of fuels and technologies that would be employed. The estimated 
amount of capacity constructed depends on the cases' assumptions about 
the need for new capacity and replacement/retirement of existing 
capacity under H.R. 2454, along with consumer demand response to the 
rising prices and incentives contained in the bill. Here again, 
technological development will be critical.
    Fifth, attempts to estimate household effects (or conduct other 
fine-grained analyses) are fraught with numerous difficulties; 
estimates generated reflect more on the philosophies and assumptions of 
the cases reviewed than on any credible future effect. Decisions about 
appropriate welfare measure, household size, and discounting, and, 
indeed, the value of government services in general, dwarf any insight 
that could be gained from such estimates. For example, estimates of 
household effects in the studies reviewed vary by an order of 
magnitude, even when normalized by household size and accounting 
method. Likewise, fine-grained analysis of effects on specific states 
and/or economic sectors are similarly suspect.
    Sixth, H.R. 2454's climate-related environmental benefit is best 
considered in a global context and the desire to engage the developing 
world in the reduction effort. When the United States and other 
developed countries ratified the 1992 United Nations Framework 
Convention on Climate Change (UNFCCC), they agreed both to reduce their 
own emissions to help stabilize atmospheric concentrations of 
greenhouse gases and to take the lead in reducing greenhouse gases. 
This global scope raises two issues for H.R. 2454: (1) whether the 
bill's greenhouse gas reduction program and other provisions would be 
considered sufficiently credible by developing countries so that 
schemes for including them in future international agreements become 
more likely, and (2) whether the bill's reductions meet U.S. 
commitments to stabilization under the UNFCCC and occur in a timely 
fashion so that global stabilization of atmospheric greenhouse gas 
concentrations may occur at an acceptable level.
    Thank you, We will be glad to answer any questions you may have.

    The Chairman. Thank all of you for your excellent 
testimony.
    Let me start with 5 minutes of questions, and then we'll 
just take turns and get through as many questions as we can.
    One issue--and maybe, Dr. Elmendorf, you could comment on 
this first--this whole issue of the baseline that we're talking 
about here is one that I think is particularly troublesome--the 
baseline projection of economic growth going forward and also 
of emissions, particularly in light of the recession that we 
find ourselves in. My understanding is, there's been about an 
8-percent reduction in emissions from 2007 levels that we're 
experiencing this year. What is CBO's view of what the 
appropriate projection ought to be--or baseline projection--if 
we're talking about a 20-percent cut in emissions--or maybe 17 
percent is what the House bill calls for--17 percent from 2005 
levels by 2020. Where does that 17 percent start getting 
counted from?
    Mr. Elmendorf. So, Mr. Chairman, as several witnesses have 
emphasized, the baseline plays a crucial role in the estimates. 
We and, I think, many of the modelers use the baseline 
emissions projections of the Energy Information Administration. 
Maybe Richard could speak to the logic that underlies that 
baseline. But, that's what we and others tend to follow. You're 
right, that is one of the many sources of uncertainty and 
sensitivity in our analysis.
    The Chairman. Dr. Newell, did you have any thoughts about 
the appropriate baseline?
    I guess one question that has to be answered in order to 
develop one of these models is, Are we expecting to get back to 
the 2007 level of GDP, here, in the near future, and then build 
off of that? Or, is this a new level we're starting at here? 
How do you answer those issues, Dr. Newell.
    Mr. Newell. As I mentioned in my testimony, the baseline 
that EIA has used was an update of the Annual Energy Outlook 
2009 forecast. Every year, EIA puts out a forecast of energy 
supply, demand, and CO2 emissions through 2030. This 
year we'll actually do it through 2035.
    In April, due to the significant changes in the near-term 
outlook, particularly due to the economic downturn, and then, 
in response, the Recovery and Reinvestment Act, EIA actually 
did an unusual thing and updated its forecast.
    In the near-term, that forecast was lower than it was 
before, primarily due to the economic downturn. As you pointed 
out, our estimate for this year is that emissions are likely to 
be 5.9 percent lower than they were last year, primarily, 
again, due to the economic downturn.
    In terms of what that's going to look like, moving forward, 
a lot of that, over the next several years, depends on the rate 
of economic recovery, which, as we know, has a significant 
degree of uncertainty associated with it. But, over the longer 
term, we expect that, in the absence of additional policies of 
the type that we're discussing around here today, emission 
growth would return roughly to what it was before the economic 
downturn.
    The Chairman. Let me ask about this offset issue, here. 
EPA's analysis of the House-passed legislation has shown that 
having no offsets at all in the first 10 years of the program 
results in a very small increase in the overall price of carbon 
allowances. I gather you do that by assuming that the offsets 
that will be acquired in those early years of the program will 
not be used for compliance obligations; instead, they will be 
used for banking. They will be banked for future years. Am I 
understanding your analysis correctly? Is this assumption 
you're making, that all of these allowances are going to be 
banked, is this the same assumption that others are making, as 
well? Or are you sort of an outlier on that issue?
    Mr. Harvey. That's correct. Our analysis showed that if you 
delay the international offsets' availability by about 10 
years--so, instead of being available in 2012, they were 
available in 2022--the effect on the overall allowance prices 
would be about 3 percent. We're using a model that has 
foresight out to 2050, and so, people are looking at the 
availability of the international allowances occurring after 
2022, and their behavior reflects that long-term approach. So, 
it's an outcome of our model and of other models that would 
reflect banking.
    The Chairman. My impression is that this is very different 
from the assumptions built into some of the other analyses that 
have been made. Let me ask Dr. Parker if that's accurate.
    Mr. Parker. Of course, a couple of the other analyses, in 
fact, restrict the use of offsets altogether. For example, the 
one by the Heritage Foundation does not allow any banking 
whatsoever and also has a declining availability of offsets 
over time. Likewise, the study done for the National 
Association of Manufacturers has a very high effective discount 
rate of 10 percent on future investments. Therefore, you would 
not tend to bank very much there, because you're thinking very 
short-term. So, most of the studies, I would say, follow the 
line that EPA is, that if these allowances are--if these 
offsets are available at less than the current allowance price, 
that people will buy them, bank them in anticipation of higher 
allowance prices down the road.
    So, I would say most of the studies follow the logic of 
EPA. But, there are these couple of other studies which use 
higher effective discount rates, and therefore, people are 
thinking much shorter-term. They do not bank.
    Mr. Elmendorf. Mr. Chairman, could I just add, for----
    The Chairman. Sure.
    Mr. Elmendorf. [continuing]. On behalf of CBO, that because 
of--we do expect there will be banking of offsets and 
allowances in the early years that would be--then be used 
later, when the caps become more stringent.
    Because of the possibility of banking, what matters for the 
price of allowances in the near term is the entire expected 
path of demand for allowances and the supply of allowances and 
the supply of offsets. So, the total amount of offsets 
available over the entire next 40 years plays a very important 
role in the price of allowances that we estimate. But, taking 
allowances away for just a few years doesn't matter very much, 
because that's only a small share of all the allowances that 
will be available over the entire period, and it doesn't matter 
as much when they're available because of this possibility of 
banking. So, the total supply of offsets is critically 
important in the estimates, as several of us have discussed, 
but we expect that the supply would increase a good deal over 
time as more international agreements were negotiated so that 
there--we don't think there's as much offset supply in the 
first few years. That's part of why that amount itself is not 
as important for the allowance price as the total amount of 
offsets.
    The Chairman. Thank you very much.
    Senator Murkowski. Thank you, Mr. Chairman.
    Mr. Elmendorf, let's start with you. In the CBO analysis, 
you have identified a cost figure of about $175 a year, and 
that's been kind of catchy, because it is ``a postage stamp a 
day'' has been cited. In that analysis, you're looking at the 
year 2020. By 2020 it's probably fair to say that the most 
severe and the most drastic of the greenhouse gas limits 
haven't gone into effect, so the costs--we would expect them to 
be somewhat lower.
    Dr. Parker has suggested that it is ``skeptical''. When 
looking beyond 2020, the crystal ball gets a little more 
difficult to read. Why did you choose 2020 as the--year to set 
this analysis? Can CBO produce an analysis, or estimates, for 
the years 2030, 2050, with any degree of reliability, when we 
know this is when we anticipate these more drastic cuts?
    Mr. Elmendorf. So Senator, our initial analysis was about 
2020. We chose that as a year at which the provisions of the 
House bill--this is what we were referring to at the time--
would have been, essentially, phased in. Everything would be up 
and running. But yet, it was not so far off as to seem so 
completely hypothetical. I mean, it is certainly true, that the 
uncertainties are very large, even for 2020. They get larger 
over time. So, we thought it had a concreteness--more 
tangibility to it, in a way that would be useful for people. 
But, we understand that's only one snapshot, in a sense, of the 
effects of the legislation. In the report we released a few 
weeks ago in preparation for this hearing, we, in fact, have 
redone the distributional analysis for 2050, as well as for 
2020. 2020 numbers are slightly different, because the final 
version of the House bill that we've now used was different 
than the version that we used at the time.
    So, our estimate that the net loss in purchasing power in 
2020 would be $160 per household, but in 2050 would be $925 per 
household. Those are both expressed, I should say, in 
comparable years. The actual nominal amounts would be much 
greater. So, just as you suspect, and as others suspect, the 
cost in 2050 is many times the cost in 2020--it's from $160 to 
$925.
    Senator Murkowski. I have got some questions. I think we 
could spend all morning here, with you but I would like to 
follow up, in the next round, about the whole aspect of 
discounting and appreciating how that factors in.
    Mr. Harvey, I wanted to ask you a question, because you had 
suggested in your comments this morning that the impacts of 
climate change on the globe, whether it's drought, whether it's 
intense spring flooding, fires--the impact is real. But, in 
looking at the costs that we're talking about, with the various 
analyses that are out there, none of them really tell us 
whether or not the bill will achieve the stated objective of 
mitigating global climate change. When you were analyzing the 
House bill, did you take into consideration the impact of 
projected greenhouse gas levels, or did you look at whether or 
not temperatures are increasing, whether sea levels will 
increase?
    Mr. Harvey. No, Senator, we did not do that analysis for 
the House bill. We did something similar for that in the Senate 
several years ago, but not for the House bill.
    Senator Murkowski. Why didn't you do it in the House one, 
then?
    Mr. Harvey. We weren't asked to.
    Senator Murkowski. OK.
    This will need to be a quick question for whoever wants to 
answer. When discussing the importance of climate change, one 
of the underlying reasons that we should move forward is from a 
national security perspective, because it will allow us to 
reduce the amount of oil that we have to import. Can any of you 
speak to the extent to which the House bill is projected to 
reduce our reliance on foreign imports of oil?
    Mr. Elmendorf, you're saying, ``No.''
    Mr. Newell.
    Mr. Newell. Yes, as part of our analysis, we did look at 
that issue, and we find that oil imports decline by 8 to 24 
percent, or 1 to 2 million barrels per day. That's by 2030, 
under a range of scenarios. So, yes, it does lead to a 
reduction in petroleum consumption and most of that reduction 
in petroleum consumption actually comes out of imports, in our 
projections.
    Senator Murkowski. Dr. Harvey, you looked at the same?
    Mr. Harvey. We did not look at the import question, no.
    Senator Murkowski. Dr. Parker.
    Mr. Parker. Basically, three of the models gave us enough 
information to talk about the general use of oil--not 
necessarily imports, but oil itself. The EIA did it. MIT did 
it. They showed a somewhat larger reduction in oil supply. By 
2030, they said the amount of oil would go down by almost 20 
percent. So, if that 20 percent of total oil usage came out of 
imports, that's obviously a much higher percentage of oil that 
would be--oil imports that would be reduced. If you assume it's 
about half or three-quarters imports, that would all come out 
of that sector. So, that analysis was done for them.
    Also, one of the EPA models, the ADAGE model provided, 
also, its reductions in oil usage, and that number is roughly 
the same as EIA's number.
    Senator Murkowski. Thank you, Mr. Chairman.
    Mr. Fawcett. Explicitly, the ADAGE model shows, in 2030, 
700,000 barrels-per-day savings in oil primary energy use.
    The Chairman. Senator Shaheen.
    Senator Shaheen. Thank you, Mr. Chairman.
    Mr. Elmendorf, you testified that your analysis looked at 
the costs of the House bill, but not any potential gains from 
the changes that are being talked about. Why is that?
    Mr. Elmendorf. We were able to quantify the direct costs 
for households, meaning both the gross costs of complying with 
legislation and the return of money to them through the 
allowance value, and so on. Assessing the economic impacts of 
climate change in that quantitative way is very, very 
difficult. The uncertainty that we've all talked about looms 
very large there.
    We have written about the effects of climate change drawing 
on other people's research, in terms of both the climate and 
the economy. We talk about some of those in my written remarks.
    One estimate that we draw on, what seems to us to be 
perhaps the most comprehensive estimate now, is that by 2100--
in other words, the end of this century--there could be a loss 
equivalent to about 5 percent of U.S. output. That's not just 
in measured GDP, it also incorporates nonmarket damages and 
costs associated with the risk of a catastrophic outcome; puts 
that cost--that loss as equivalent to about 5 percent of U.S. 
output.
    Most of that loss would be later in the century, as we 
understand--everybody understands; it's the cumulative amount 
of greenhouse gases that lead to these climate changes. So, 
those costs tend to be backloaded over the coming century. So, 
our view is that, over the next few decades, the economic 
losses from policies to avert climate change would exceed the 
economic gains, in terms of climate change. At some point over 
the longer term, those lines may cross as the expected risk and 
the--the expected costs and the risk of climate change rise. 
But, we just aren't able to quantify those, and the crystal 
ball really does just get too hazy for us to want to be 
attaching exact dollar values to that. It's just a limitation, 
I think, of the science.
    Senator Shaheen. So, let me run this question to other 
people on the panel.
    Has anybody looked at the potential gains to the economy 
from transition to new energy technologies and energy 
efficiency, in terms of job created, manufacturing output 
increases or reductions, anything like that?
    Mr. Harvey.
    Mr. Harvey. I was going to say that we have not assessed 
the benefits of the legislation. But, in our analysis of our 
vehicle rule recently, we showed that the benefits of that to 
address--to reduce greenhouse gas emissions from vehicles would 
be about $250 billion over the lifetime of the vehicles that 
were sold from 2012 to 2016. Those benefits really greatly 
exceed the costs, which are less than $60 billion. That's not 
just the greenhouse gas benefits of the vehicle rule, but it's 
also fuel savings, particulate-matter benefits, and energy 
security.
    We haven't analyzed the job question in our model, because 
it's a full-employment model.
    Senator Shaheen. Has anybody else?
    Dr. Newell, have you looked at potential gains as the 
result of some of these policy changes, as well as costs?
    Mr. Newell. No. EIA's modeling capacity is limited to 
focusing on the energy sector and the CO2 emissions 
associated with that.
    Senator Shaheen. Dr. Parker.
    Mr. Parker. The only ones who claim to have done work on 
the green jobs issue was CRA International. But, they found in 
their study that the green job benefit was completely overcome 
by the losses in the more traditional manufacturing sector. So, 
it was a net deficit.
    Mr. Elmendorf. Senator, could I just add that in our----
    Senator Shaheen. Yes.
    Mr. Elmendorf. I was speaking before to our analysis of the 
effects climate change itself.
    Senator Shaheen. Right.
    Mr. Elmendorf. In terms of the employment, we do talk 
about, and have drawn on some outside research on, trying to 
quantify that. As I said, there's certainly a decline in 
employment in fossil-fuel-intensive parts of the economy. There 
is an increase in employment in nonfossil-fuel-intensive parts 
of the economy. The net effect of that, we think, would likely 
be some decline in employment during that transition, because 
labor markets do not move that fluidly. Workers live in certain 
places, with particular skills, and they can't, immediately 
turn out living in some other place, with a different set of 
skills.
    But, there's no doubt that the--there's a--very significant 
shifts from some places to other places in the economy, and the 
GDP effects that we draw on from other people's estimates in 
our own work, are meant to incorporate both sides of that, both 
the losses in some areas and the gains in others.
    Senator Shaheen. Thank you.
    My State of New Hampshire is part of the Regional 
Greenhouse Gas Initiative that is already involved in a program 
to address carbon reductions among our utilities. One of the 
things that modeling for RGGI has shown is that investing in 
energy efficiency has considerable benefits: to cut energy 
consumption and to reduce demand for emission allowances in the 
underlying costs of electricity.
    Have any of these models looked at the potential benefits 
for energy efficiency and what that would mean if there were an 
emphasis on energy efficiency as part of a policy change to 
address climate change?
    Mr. Harvey.
    Mr. Harvey. Sure. Yes. We have looked at some of the energy 
efficiency provisions that were in the House bill, and we see 
improvements in energy efficiency that are driven by two 
factors. The first is energy efficiency results in the modest 
increases in energy prices that result from the cap. So, 
there's increased investment in more energy efficient 
technologies, and that leads to reduced energy demand. Then, 
second, we modeled some of the specific provisions of the bill 
which contained--for example, combined efficiency renewable 
electricity standard, building codes, and allowance allocations 
to States and to gas utilities, in support of energy 
efficiency. What we found in some of the areas where we took 
out the energy efficiency provisions to try to isolate their 
effect, and, without those provisions, that we found that the 
price changes result in the reduction of electricity demand of 
about almost 7 percent by 2030. When we modeled the energy 
efficiency provisions, they found that they reduced demand by 
about 5 percent. So, they definitely have an effect.
    Senator Shaheen. Did anybody else do anything that you 
think is significant in this area?
    Dr. Newell.
    Mr. Newell. Yes. The Energy Information Administration, in 
our analysis, also incorporated most of the provisions related 
to energy efficiency that were in the H.R. 2454, and they do 
provide a cost-effective means of reducing greenhouse gas 
emissions, along with the other supply side alternatives.
    Senator Shaheen. Thank you.
    Mr. Elmendorf. Senator, I could just add quickly, if I 
might, that our estimate of allowance prices is built off 
estimates from the literature about how responsive the economy 
will be over time to changes in prices. That incorporates, 
implicitly, some assumption about the development of new 
technologies.
    We looked explicitly at the renewable electricity standard 
in the House bill, but our view is similar to those of others, 
that it was not likely to be a binding standard; that, in fact, 
that amount of renewable electricity would be created anyway 
under the other incentives in the bill.
    Beyond that, there are other standards and subsidies in the 
House bill that we think would lead to some additional energy 
efficiency improvements, and that would hold down our estimate 
of the allowance price by a little bit.
    Senator Shaheen. Thank you.
    Thank you, Mr. Chairman.
    The Chairman. Thank you.
    Before we go on to more questions, we did notify folks we 
were going to try to report two nominations today.
    [Recess.]
    The Chairman. Senator Corker, you're next.
    Senator Corker. Thank you, Mr. Chairman.
    Thank all of you for your testimony. It's much appreciated.
    To Dr. Elmendorf and Newell, since the point of cap-and-
trade is to reduce carbon emission by increasing the price of 
carbon, therefore reducing consumption--I mean, I think that's 
the point of all of this--isn't it counterproductive to give 
away free allowances to the utility sector, in that what you're 
doing is causing that pricing mechanism that is there to reduce 
consumption not to be, if you will, ``learned,'' if you will, 
by the consumers? Doesn't that also cause the cost of the 
program to be even greater, because that moves it over to other 
sectors?
    If both of you could respond to that, I'd appreciate it.
    Mr. Elmendorf. So, Senator, it would be counterproductive 
to give away allowances in a way that reduced the price of 
electricity--of using an extra kilowatt-hour of electricity. 
Because, you're right that the purpose--the way in which the 
cap-and-trade system encourages development of alternative 
energy sources and encourages efficiency is to raise the price 
of electricity. So, if one counteracts that price signal, then 
one's diminished that channel of influence. But if, on the 
other hand, one can give allowances to a utility and say, 
``We'll give them back to the customers, not on a reduction in 
the price per kilowatt-hour, but just give back a flat amount 
per customer,'' for example--if you do it that way, then that 
doesn't change my incentive to turn up the air-conditioning, 
because I would still pay the same incremental cost of having a 
cooler house. So, it depends, critically, on not just who 
they're given to, but what the restrictions are on how that 
money can be used in affecting the price to the ultimate users.
    Senator Corker. Dr. Newell, agree? Disagree?
    Mr. Newell. I would roughly agree.
    The issue of the allowance allocation, be it to electrical 
utilities or to others, depends on how that is then used. If 
it's used to keep prices lower than they otherwise would be, 
due to increased cost of carbon emissions--which is purpose of 
the policy, then you would be eliminating an incentive for a 
cost-effective emission reductions through conservation or 
energy efficiency.
    Senator Corker. Since we're on the subject right now, I'll 
skip down to another question, that--wouldn't we be better off 
just selling or auctioning all of the allowances and reducing--
either giving a dividend back to taxpayers or reducing some 
other cost, instead of creating the sort of Rube Goldberg 
mechanism that this bill envisions?
    Mr. Elmendorf. So, Senator, you know, the CBO does not make 
policy recommendations. I think that----
    Senator Corker. From the standpoint of having----
    Mr. Elmendorf [continuing]. The differences----
    Senator Corker [continuing]. The proper result.
    Mr. Elmendorf [continuing]. In how the--as long as one 
doesn't distort the price signal to--for greater energy 
efficiency and for substituting other forms of fuel, then how 
one gives away those allowances--the value of the allowances--
whether by giving the allowance away or by selling them and 
giving the money away, is basically a distributional question. 
It's who bears the burden. That is incredibly important, 
perhaps, in the design of the policy, but not something about 
which economists have a particular comparative advantage in 
judging. But, it is very important, as you said, if you want 
the maximum efficiency in reducing carbon emissions, to not 
give the allowances away in a fashion that reduces the price 
signal.
    Senator Corker. My fear is, it's going to be very difficult 
to give them out to the utilities and that not be the case.
    Mr. Elmendorf. It's a challenge in policy design. Yes, 
Senator.
    Senator Corker. So, one would have to say, if someone were 
looking at the flaws in how this might work, that would be an 
area one might examine.
    Mr. Elmendorf. I would say it's an area that one needs to 
construct very carefully to preserve that price signal. Yes, 
sir.
    Senator Corker. So, to you Dr. Newell, I noticed, in your 
testimony, you talked a lot about many of the uncertainties 
that exist. Wouldn't we be just a whole lot better off to 
alleviate the uncertainties, especially as it relates to 
offsets and those kinds of things, by just utilizing a carbon 
tax and lowering another tax so that there's no net gain, if 
you will, by government consumption of taxes?
    Mr. Newell. There are a number of different design options 
within either a cap-and-trade system or a carbon tax to address 
issues of what the price of carbon would be.
    In fact, when you start getting into the specific designs, 
the distinctions between them become grayer. Within a cap-and-
trade system, you can incorporate price ceilings, price floors, 
which----
    Senator Corker. Which is like putting in place a tax, 
right? If you have a price ceiling and a price floor, it's a 
backhanded way of just having a tax, isn't it?
    Mr. Newell. A cap-and-trade system, at a fundamental level, 
is a policy that allocates emission allowances. So, there are 
distinctions, as opposed to being written into the tax code. 
The other distinction is that, in terms of an energy tax, a 
cap-and-trade system is on emissions, as opposed to energy, per 
se. So----
    Senator Corker. It just seems that it would be a far more 
transparent way of dealing with this issue. You know, we're 
creating this policy, or at least this bill contemplates 
creating a policy, that has a lot of human giving away of free 
allowances, all kinds of things that distort the market, and it 
just seems that if, truly, the goal was to lower the amount of 
carbon, there would be a proposal just to tax it and to lower 
some other tax and be done with it. It seems to me that the 
Treasury Secretary, or somebody, could raise or lower that over 
time, to try to hit 2020 targets and we'd be done with this, 
instead of this mechanism where, in essence, we're--sort of 
have a command-and-control situation through central 
government. It just seems like if you're going to get from A to 
B, a better way to get from A to B.
    But, I realize my time is up. Mr. Chairman, thank you for 
the 1-minute-and-45-seconds indulgence.
    The Chairman. Not a problem.
    Senator Landrieu.
    Senator Landrieu. Thank you.
    Let me follow up on those questions, because I think 
they're very important, about market volatility. In the current 
economic climate, this is a major issue that many are concerned 
about.
    As you all know, oil closed at 71.77 a barrel just on 
Friday. But, analysis that I've looked at shows that there's a 
two-thirds probability that oil will be as high as $99 or as 
low as $43. You all are all familiar with the ups and downs of 
this market. So, my question is, Does the House bill help us to 
reduce volatility in this price, or will it contribute to the 
volatility of this price? Have you all analyzed that? If so, if 
you'd comment.
    Mr. Elmendorf. So, Senator, we have not analyzed the 
effects of this proposal on the volatility of oil prices. I 
think the issue of volatility in the price of allowances, and 
the way that would pass through to the prices that households 
and businesses faced, is a very real one. That's one of the 
reasons that a lot of analysts would favor a carbon tax over a 
cap-and-trade system, as Senator Corker was suggesting. In 
fact, a number of features of the cap-and-trade system, though, 
as it is written into the House legislation, are designed to 
reduce the volatility of allowance prices to----
    Senator Landrieu. By setting the ceiling and the floor.
    Mr. Elmendorf [continuing]. To move that system in the 
direction of a carbon tax, in terms of trying to maintain a 
steadier price on carbon emissions.
    Senator Landrieu. Because I would argue that one of our 
goals should be--I mean, not just cleaning the environment, but 
stabilizing these prices in a way that allow industries to make 
smart decisions. Part of problem with our current system, but 
also part of the problem with the House approach, is that it's 
not really doing anything to reduce the volatility. I think 
that's a big problem. At least, it is from the State that I 
represent, that can't seem to get a handle on where prices are 
going, so they don't know whether to invest money, whether to 
rent the rigs. We've got low rig counts while we have a lot 
more oil and gas out there, and a lot more opportunities to 
produce.
    So, I'm glad that you mentioned that, and I'm glad that 
Senator Corker raised it, because I think it's a real 
challenge, as we move forward.
    Let me move on, though, to another aspect that I'm 
concerned about. Senator Murkowski questioned you about the 
reduction of crude oil, based on your analysis. You said that 
crude oil will be reduced by 20 percent, or something. I'm not 
sure which one of you. Analysis that I've been reading, while 
they recognize that crude oil might be reduced, but refined 
petroleum products, they're claiming, will be increased because 
of the loss of manufacturing and refinery capacity, or the 
results or consequences on the refining industry.
    Could you, No. 1, clarify if it is actually true, and why? 
Is it a volume reduction, or is it a percentage of reduction 
which is--I think it's a significant difference of crude--and 
then, how it affects refined products--did you all do any 
analysis on that?
    Mr. Newell. The numbers that I had given earlier, which 
were a  to-24-percent reduction in petroleum-based liquid 
fuels, would include both crude oil and refined products--that 
would be the reduction in 2030. In terms of the breakdown 
between crude and refined products, I don't have that with me 
right now. But, I'd be happy to get that to you.
    Senator Landrieu. But, focused on imports, we understand 
that we will be--if we stay on the same path as the House bill, 
the impact to the domestic refining industry will be contracted 
so that we will not be refining our own product, we'll be 
refining our products offshore and importing them. Is that what 
your analysis shows? Or should we look again?
    Mr. Newell. Again, I don't have the specific numbers in 
front of me on the implications for domestic petroleum versus 
imported petroleum products.
    [The information follows:]

    Petroleum import disposition: What is the breakdown of the 
projected impact of H.R. 2454 on imports of refined products, versus 
the impact on crude oil imports?
    Net petroleum imports are projected to decline from 12.1 million 
barrels per day in 2007 to 8.3 million barrels per day in 2030 in the 
AEO2009 reference case. In 2007, crude oil imports accounted for 83 
percent of all petroleum imported. Beyond 2007, EIA projects that the 
crude oil share of total petroleum imports will rise slightly due to an 
overall decrease in petroleum consumption, caused first by higher 
prices and then by the recession. However, by 2030, EIA projects the 
crude oil share of imports will return to about 83 percent. In the main 
cases of EIA's analysis of H.R. 2454, net petroleum imports are 
projected to decline to between 7.6 and 6.3 million barrels per day in 
2030. Crude oil isprojected to continue to account for the vast 
majority--between 84 and 87 percent--of petroleum imported into the 
United States.
    While we are confident that crude oil will continue to represent 
the predominant share of net petroleum imports, EIA recognizes that the 
share of net imports of refined products in total net petroleum imports 
can be sensitive to the future implementation of H.R. 2454. For 
example, regulations to be developed under proposed section 787 of the 
Clean Air Act (CAA) in H.R. 2454 to allocate among refiners the 
allowances provided to the refinery sector by proposed CAA section 782, 
will play a significant role in determining the net impact of H.R. 2454 
on the cost of energy used at domestic refineries. Changes in domestic 
refiners' cost of energy used on-site relative to that borne by their 
foreign competitors will also depend to a significant extent on the 
details of emissions reduction programs that affect foreign refiners. 
Lacking clear guidance in the language of H.R. 2454 or the details of 
emissions reduction efforts in other countries, these issues were not 
examined in our analysis. Beyond changes in relative energy cost, other 
factors that will continue to affect trade flows in refined products 
are differences in regional production and consumption slates, and the 
competitiveness of individual refinery configurations, which depend on 
price differentials across different grades of crude oil and different 
product types.

    Senator Landrieu. If you all would look at that--because 
it's very important--because another focus that I'm going to 
have is not just cleaner environment, but more economic 
security and national security. Having to import more refined 
products is not moving us in the right direction.
    I know I have only 8 seconds, so I'm going to ask my 
question and then ask you to submit it in writing.
    Have you all analyzed the approach, maybe using cap-and-
trade for the utility sector, but using a different approach 
for the transportation energy sector? You know, sort of looking 
at the sectors differently. The utility electric sector using 
one approach and maybe getting to our goals through the 
transportation sector a different way?
    I know that's not what the bill contemplates in the House, 
but just any broad analysis, real quickly?
    Mr. Elmendorf. So, we have not, I think, looked at that 
question, specifically. I think the general point to remember 
is that the broader the coverage of sources of carbon dioxide 
emissions, and the more they're included in the bill, and the 
more flexibility that households and businesses have in 
choosing where and when and how to reduce carbon emissions, the 
lower will be the overall cost of a given amount of emissions 
reductions. The more that you and your colleagues specify 
particular sources of emissions reductions, the less you are 
allowing the market forces to determine what is the most cost-
effective way of reducing those emissions.
    Senator Landrieu. Thank you.
    The Chairman. Senator Barrasso.
    Senator Barrasso. Thank you very much, Mr. Chairman.
    Thank you all for being here today.
    Mr. Elmendorf, if I could, in your testimony you said ``If 
this bill passes, I think, that it would come at a cost to the 
economy, that there would be permanent job shifts, and that, 
while those shifts were occurring, total unemployment would be 
reduced so that unemployment would essentially go up; for 
families, there would be a loss in purchasing power, and that 
that loss of purchasing power could get worse as the caps 
become more stringent.''
    You talked about certain industries that produced carbon-
based energy--coal-mining, very important in Wyoming; oil and 
gas extraction; petroleum refining--that they would probably 
suffer significant employment losses over time.
    Where are those jobs going to go? Is that impact going to 
be significant in--more significant in some States rather than 
others?
    Mr. Elmendorf. So, you summarized the raw conclusions just 
the way we wrote them, Senator. The shifts will be significant. 
As we said, there will be reductions in employment in 
industries that produce fossil fuels, that use fossil fuels 
intensively, or that make products whose use by households 
involves a lot of fossil fuel use. Instead, jobs will emerge in 
industries that develop nonfossil fuel energy or use less 
energy.
    We talk, in the written testimony, about the experience of 
the United States with the transition from manufacturing 
employment over the last several decades, significant decline 
in manufacturing employment. Nonetheless, apart from this, 
obviously, very deep recession we're in now, total employment 
has grown rather rapidly.
    But, very clearly we say in the testimony--and I want to 
leave no misunderstanding--that that aggregate performance--the 
fact that jobs turn up somewhere else for some people--does not 
mean that there aren't substantial costs borne by people, 
communities, firms in affected industries in affected areas. I 
mean, we saw that in manufacturing and we would see that in 
response to the sort of changes this legislation would produce.
    Senator Barrasso. I appreciate your candor in that. Thank 
you very much. Because I'm looking at this from--in terms of 
alternative energy sources, and I'm wondering, Will those 
sources be available in the next 10 years to, one, replace the 
jobs and, two, replace the carbon-based energy that--in terms 
of the capacity of that energy for fueling the country?
    Mr. Elmendorf. So, and as a number of us has discussed, one 
of the great uncertainties about the costs of reducing carbon 
emissions is how readily the economy can move toward an economy 
which uses different sorts of energy. There are some very 
serious technological challenges; also, of course, in the 
country, tremendous technological abilities. Guessing the rate 
at which that sort of evolution can occur is--and I use the 
word ``guess'' deliberately--is difficult for those of us in 
the projection business. We do say, in the testimony, that we 
think the effect on overall unemployment would be small. But, 
again, there are in particular areas, in particular industries, 
there will be significant effects.
    Senator Barrasso. Thank you.
    Dr. Newell, you talked about a reduction in CO2 
and coming from the electricity sector--in terms of the 
modeling in the Waxman-Markey bill--I think you said this is 
going to decrease the amount of coal consumed, and decrease the 
amount of natural gas consumed, and increase the amount of 
renewable energy consumed. Is that your assessment? Is that 
correct?
    Mr. Newell. On coal, that is correct. On renewables, that 
is correct. It would increase our natural gas use, but it 
depends on the circumstances of the policy and the time at 
which you're talking.
    Senator Barrasso. OK. Now, in terms of the nuclear energy, 
how many new nuclear power plants are we going to need to build 
to achieve the range that are consistent with your studies?
    Mr. Newell. It depends on which scenario. We looked at a 
range of different scenarios, as I just described earlier. In 
our Basic Case, my recollection is that it's 96 gigawatts of 
new nuclear power by 2030. Under other assumptions, we looked 
at a range of assumptions, due to the degree of uncertainty.
    Senator Barrasso. For folks listening, about how many new 
nuclear power plants are you talking about to do that? How many 
plants are going to need to be constructed to give you that 
number of gigawatts?
    Mr. Newell. I don't have that number right in front of me, 
in terms of the number of plants.
    [The information follows:]

    What does your analysis of H.R. 2454 project in terms of new 
nuclear plants by 2030 that would be needed in order to meet the 
emission reductions called for in the bill?
    In our analysis, the role played by new nuclear power generation 
varied with assumptions about the cost of availability of international 
offsets and low/no-carbon-emitting electricity generating technologies. 
In our Basic Case, 96 gigawatts of new nuclear capacity was added, or 
roughly 74 plants if each is assumed to be 1.3 gigawatts in capacity. 
(The actual number of plants would depend on plant capacity, which 
could range from well under 1 gigawatt up to 1.5 gigawatts per plant, 
based on planned configurations.) This level of additions roughly 
equals the amount of new U.S. nuclear capacity that was added between 
1970 and 1990. However, across the main alternative cases in our 
analysis, the amount of new nuclear capacity added varied from 11 
gigawatts to 135 gigawatts, or roughly 8 to 104 plants if each is 
assumed to be 1.3 gigawatts in capacity.

    Senator Barrasso. Do you know how many were built in the 
last 20 years in the United States?
    Mr. Newell. That number, though 96 gigawatts, is roughly 
consistent with the rate of increase in nuclear power over the 
1970 to 1990 period.
    Senator Barrasso. OK. Secretary Chu recently announced an 
ambitious timetable for deployment of a carbon-capture 
technology--also to Dr. Newell--said the U.S. could have 10 to 
12 commercial demonstration projects operational in the next 7 
years. Does your modeling assume similar success with 
deployment of carbon-capture technology?
    Mr. Newell. I would have to go back and check our 
projections, as opposed to what you laid out regarding the 
Secretary. But we do have significant penetration of coal with 
carbon-capture and storage in our projections under the Markey-
Waxman bill.
    [The information follows:]

    In our analysis, the role played by new coal plants with CCS varied 
with assumptions about the cost and availability of international 
offsets and low/no carbon-emitting electricity generating technologies. 
In our Basic Case, 5 gigawatts of new CCS capacity was added through 
2017. Across the main alternative cases in our analysis, the amount of 
new CCS capacity added through 2017 varied from 2 gigawatts to 6 
gigawatts. Assuming that the early plants would be fairly small--200-
400 megawatts or less--the level of additions we show is in line with 
the statement by Secretary Chu.

    Senator Barrasso. Thank you.
    Thank you, Mr. Chairman.
    The Chairman. Thank you.
    Senator Cantwell.
    Senator Cantwell. Thank you, Mr. Chairman.
    I would like to submit, for the record, a study that is 
called ``Unlocking the Green Economy: How Carbon Pricing Can 
Open the Floodgates of Private Investment in Clean Energy.''*
---------------------------------------------------------------------------
    * The study has been retained in committee files.
---------------------------------------------------------------------------
    To say that there aren't reports out there that show that 
there is a linkage between the stability that can come from 
more price predictability is, I think, missing at least one 
report, and I'm sure there are others.
    I'd like to go back to Senator Corker's question.
    Mr. Elmendorf, good to see you.
    Mr. Elmendorf. Good to see you again, Senator.
    Senator Cantwell. Out of the frying pan, into the fire. 
Although, I actually think that CBO's determining outcome is 
probably easier on climate than it is on healthcare. Would you 
agree?
    Mr. Elmendorf. Every day, Senator, I am overwhelmed by the 
uncertainties in all of the things we're trying to do.
    Senator Cantwell. OK.
    One certainty you seem to have on the CBO estimates on the 
House bill as it related to giving emission allowances to local 
electricity companies--and I just want to emphasize, because I 
think Senator Corker brought up an important point, and that 
is, in your analysis, that the--40 percent of the allowances 
would end up in the pockets of the residential consumers, but 
more than 60 percent would go to the utilities. Your analysis 
is that they would not pass those savings on to the consumer; 
the utilities would keep is a profits, rather than pass on to 
the consumers.
    Mr. Elmendorf. Assessing the effects of giving allowances 
to utilities is--or a local distribution companies--is 
difficult. One of the things that we say in this testimony 
today is that it's easier to assess the distributional 
consequences of the legislation in 2050 because the allowances 
are auctioned and the revenues collected and distributed by the 
government, rather than having so many allowances given away in 
particular categories. I think that's related to Senator 
Corker's concern about the transparency, or lack thereof, in 
what's going on.
    So, we have made assumptions about the ways in which the 
utilities and the local distribution companies would behave. As 
you said, we think the money directed to residential customers 
would, in fact, be passed through to households. The ones 
dedicated to commercial and industrial customers, we think 
would end up in profits.
    Senator Cantwell. So, basically, skip the middleman. If you 
want more predictability about getting the money into the hands 
of consumers, skip the middleman and give it directly to them.
    Mr. Elmendorf. Certainly increases the predictability. Yes, 
Senator.
    Senator Cantwell. Thank you.
    On EPA, on this question--well, you know what? I'm going to 
come back to this because the allowances--I'll let you think 
about the 1.4 trillion we're going to give to foreign 
governments, as far as allowances--I don't even think there is 
enough. I think that's more than seven times our current total 
emissions. That's what the House bill would do, in giving money 
away to allowance--I don't even know if you could accomplish 
that.
    But, anyway, back to this question my colleagues were 
talking about--several of my colleagues--the predictability 
that comes, or, I should say, when predictability exists in the 
market--and this is for Mr. Harvey or Mr. Newell--that it 
allows investment to occur. So, it's not putting a specific 
price at any moment, but the certainty and the predictability 
then leads to the investment. So, could either Mr. Newell or 
Mr. Harvey talk about that, particularly as it relates that 
dynamic, having a consistent price signal, giving innovators 
the signal to make investments, particularly in the area of 
nuclear power.
    Mr. Newell. There are a number of different factors that 
govern the degree of technological investment or innovation in 
any particular area. One of them is certainly the expected 
allowance price under a cap-and-trade system. Providing more 
certainty about that price, or putting within a range, I think 
would increase the predictability for investors and would 
encourage that kind of innovation.
    Senator Cantwell. Back to Senator Landrieu's--we don't have 
that right now. The fluctuation she's talking about is not 
going to generate that, correct? It's not going to generate the 
certainty in the market to get the investment.
    Mr. Newell. EIA did not specifically analyze the 
uncertainty, in short periods of time, of the Waxman-Markey 
bill. The provision in the Waxman-Markey bill, though, for the 
strategic reserve has a strategic reserve price which has a 36-
month rolling average, plus 60 percent. So, in terms of 
providing a stable ceiling on prices, it doesn't do that over 
any extended period.
    Senator Cantwell. Mr. Harvey.
    I'm not talking about so much--I'm talking about the fact 
that our current state of affairs, for the next 30 years, is 
likely to be a roller coaster on price.
    Mr. Harvey. Sure. As I mentioned earlier, you know, we're 
using a long-term model over 2050, so we're not capturing the 
shorter-term market fluctuations.
    I think, in the design of the program, our experience with 
the acid rain programs, with the NOX-trading 
program, with RGGI, with the EU system, has shown that they've 
been able to weather, you know, ups and downs in the overall 
energy markets. So, I think we do have some experience, at 
least since the 1990s, of running the acid rain program, seeing 
that that's been able to be addressed.
    There are features in the House bill, such as the banking 
provisions, that also address the concerns about volatility, as 
well as borrowing, which is not a feature that we currently 
have in the acid rain program.
    So, I would also mention the strategic reserve allowance, 
which is sort of a price-ceiling feature, as well.
    So, all of those are design mechanisms that you may want to 
consider.
    Senator Cantwell. Thank you.
    Thank you, Mr. Chairman. My time's up.
    The Chairman. Senator Bunning.
    Senator Bunning. Thank you, Mr. Chairman.
    Dr. Newell, good to see you, again. Thank you, for being 
here.
    In your cost analysis of the House-passed bill of cap-and-
trade, you relied very heavily on the assumption that nuclear 
power would provide a large amount of low carbon emission 
power. I've always said that's absolutely needed if we're going 
to get from here to where we want to get to.
    Given that we have not licensed any nuclear reactors in 
over 30 years, do you believe that we will have any new nuclear 
online by 2012?
    Mr. Newell. The different scenarios that we looked at, due 
to the degree of uncertainty, as you pointed out, in matters 
such as the deployment of new nuclear power had a range of 
increase in nuclear power from 11 to 135 gigawatts, across 
different cases.
    Senator Bunning. But, would you please answer my question?
    Mr. Newell. In terms of what's likely to happen between now 
and 2012?
    Senator Bunning. 2012.
    Mr. Newell. No, nothing new by 2012.
    Senator Bunning. Nothing new. Thank you. That's what I 
thought.
    Dr. Parker, under the cap-and-trade system do you believe 
that the technology needed to further develop advanced coal 
technologies and coal with carbon-capture and storage can 
remain a cost-competitive option for utilities to invest in?
    Mr. Parker. The analysis that we--oh, I'm sorry.
    Senator Bunning. Thank you.
    Mr. Parker. Yes. Sorry.
    The analysis that we looked at were considerably less 
enthusiastic about carbon-capture and storage than they were 
last year, when these analyses were done, on the Lieberman-
Warner bill. The most optimistic analysis was that conducted by 
EIA in their basic case. Other analyses assumed anywhere 
between no carbon-capture and storage being available through 
the year 2030, to very minimum amounts through the year 2030.
    This is due both to the fact that estimates of the cost of 
CCS has gone up over the last year and, second, the price of 
its primary competitor, which is natural gas. The assumptions 
of availability have gotten more optimistic over the last year.
    These 2 things have combined to have a less hopeful outlook 
for CCS than if you had asked me that question last year.
    Senator Bunning. Thank you.
    Being from Kentucky, since we produce 95 percent of all of 
our electric power from coal-based or coal-fired generation, 
you can imagine the cost-shifting that will be required in the 
next 20 years, to 2030, and the job loss that will occur not 
only in Wyoming, but Kentucky and anybody that produces 
electricity from coal-fired generation.
    Mr. Elmendorf, it's great to see you again--since I spent 5 
hours with you yesterday, it's great to see you again today. In 
you testimony, you described the rise of an annual real rate of 
5.6 percent over the course of a cap-and-trade system. As a 
result, the price of goods and services throughout the economy 
will increase in proportion to the emissions associated with 
their production and consumption. What is the proportion of 
increase, and why did the CBO not score these specific costs to 
consumers?
    Mr. Elmendorf. So, let me--I think, a couple of questions 
in that, Senator.
    The 5.6 percent is our assumption about the rate of return 
that businesses will earn, on average over that whole period, 
on investments of all sorts. We assume that their decisions 
about whether to sell a carbon emission allowance today, or to 
bank it, will be a decision that they will use the same rate of 
return in that calculation that they think they can earn on 
other investments. But, that's----
    Senator Bunning. You haven't anticipated that they would 
get a higher return by banking them now and using--10 years 
down the road--that they wouldn't be worth more, 10 years down 
the road than----
    Mr. Parker. Oh, no. So, we think they will bank them now.
    Senator Bunning. Oh. OK.
    Mr. Parker. We think they will bank them to the point at 
which through the banking, they will bank them to the point at 
which the price will rise at this 5.6 percent. Because if they 
expected the price to rise faster, that would be a good 
investment; they would bank even more, and that additional 
banking would then serve to bring down the--push up the price 
today and bring down the price in later years. So, it is the 
banking that enables that to happen. The effect of that is that 
our allowance price, as we project it, rises by 5.6 percent a 
year over that period. But, it's the banking that makes that 
happen.
    In our assessment of the consequences of the legislation 
for households, we definitely take account of the way in which 
the higher prices for fossil fuels would percolate through all 
the connections in the economy. We use input-output tables to 
do this, into the prices of the goods and services that 
households consume, and that is what underlies our estimate of 
the effect on households in 2020 and in 2050, and the later 
numbers are a larger cost, because the prices are higher.
    Senator Bunning. OK. Thank you.
    My time is expired.
    The Chairman. Senator Sessions.
    Senator Sessions. Thank you, all of you. I appreciate your 
statements of humility and recognize--that you recognize this--
your inability to predict the future and economic factors and 
technological advancements.
    But, I think we are participating in something in which our 
conceit is such that we think we can manage the climate. We 
think we can manage a huge portion of the most dynamic economy 
the world has ever known. I'm wary of it. Just let me tell you. 
My experience says that when we get into this, things don't end 
up very well. They end up less efficient than if we could 
figure out a more free-market way to handle it. As I want to 
say sometimes, ``Oh, what a tangled web we create when we first 
begin to regulate.'' So, I just would say to you, that's a 
fundamental concern about it.
    Has anybody calculated the number of regulators that are 
going to be necessary for this? Recognizing, of course, this is 
wealth extracted from the economy and placed into an area of 
the economy that produces no clean energy, have any of you all 
calculated that from--I see, ``no,'' Dr. Newell----
    Mr. Elmendorf. So, Senator, I'm told that we did 
incorporate, in our cost estimate for the House-passed 
legislation, an estimate of the cost of administering the 
program, as part of the discretionary costs that we think 
would----
    Senator Sessions. For example, did----
    Mr. Elmendorf [continuing]. Be required by the bill, but I 
don't have the----
    Senator Sessions [continuing]. Did you include things--I'd 
like to have those numbers, if you would submit them.
    Do you include things like FBI agents and investigators to 
do fraud? EPA got a 3-percent increase in their budget this 
year. You should be happy, Mr. Harvey. But, that may just be 
the beginning.
    Mr. Elmendorf. So, we'll submit that for the record to you, 
Senator. I don't know, offhand. We're pretty careful about 
the----
    Senator Sessions. One more----
    Mr. Elmendorf [continuing]. Effect----
    Senator Sessions [continuing]. Thing you should calculate. 
You should calculate what every regulated business in America 
will have to add to their payroll, because the CEO, I assume, 
Mr. Harvey, will certify how many CO2 molecules are 
emitted, how much ton of carbon is emitted, and he's got to 
hire somebody that he trusts to do that, and that person won't 
be producing clean energy; that person will just be counting 
and certifying. So, we trade a large amount--so, I just would 
say to us--insofar as we're humanly possible, I think our focus 
should be to move our wealth to areas that create clean energy, 
and not regulators.
    Mr. Elmendorf. So, Senator, I could say briefly, our cost 
estimate includes, as they generally do, an assessment of the 
intergovernmental and private-sector impacts of the 
legislation. This is from the Unfunded Mandates Reform Act that 
Congress passed more than a decade ago. So, we talk at some 
length about the imposition of the mandates. We note here that 
we don't have information to quantify the costs of all of them.
    Senator Sessions. So, you haven't quantified the billions 
that would be expended which could be utilized to build a 
nuclear power plant, for example, that would actually do 
something worthwhile.
    Mr. Elmendorf. Sir, there are some costs that we do 
quantify here, but there are others that we do not.
    Senator Sessions. Now, am I correct, does anybody dispute 
the testimony we've had, that the net of this would be some at 
least diminishment of employment?
    [No response.]
    Senator Sessions. All right. So, I think it's fair to say 
that it is not a good argument to contend that a cap-and-trade 
program will increase employment. In fact, a study in Spain 
showed a rather significant reduction.
    Also, it can reduce employment in areas like steel 
manufacturing, the chemical industry, which is already being 
savaged in America because of energy prices. They find lower 
places around the world. Fertilizer manufacturing will always 
be damaged by higher energy costs.
    Isn't it a fact--I guess, Mr. Elmendorf, that I'll ask 
you--that an international offset transfers wealth and jobs 
overseas?
    Mr. Elmendorf. So, Senator, I think an international offset 
is like other sorts of imports. When we import a regular good 
or a service from overseas, we do pay for it, but we do that, 
in general, because we think it is less expensive to obtain 
from overseas than to grow that or make that, or whatever, 
ourselves.
    Senator Sessions. But, if you tax--an American corporation 
that makes steel, in effect, to purchase an offset abroad that 
makes their competitor more efficient economically, that can 
cost jobs in our manufacturing, can it not? Are you scoring 
that in this?
    Mr. Elmendorf. So, that is part of our analysis, yes. I 
mean, I think, again, we import something if we think it's 
cheaper. In this case, it is cheaper to achieve that given 
amount of carbon emissions----
    Senator Sessions. I understand.
    Mr. Elmendorf [continuing]. Reduction.
    Senator Sessions. You're saying it's cheaper to buy the----
    Senator Sessions [continuing]. Offset. Indeed, the numbers 
I think you've said is that, if we didn't have international 
offsets, the offsets would increase by 96 percent. But, if you 
do have international offsets, you're taking American wealth 
and transferring it to help make our competitors more 
efficient.
    Mr. Elmendorf. So, and the effects of that transfer are 
included in our estimates of the--and the modelers on whom we 
draw--estimates of the effect on American GDP and American 
employment and on American households.
    Senator Sessions. Thank you, Mr. Chairman. There are a lot 
of things I'm convinced that we can do to be cleaner, improve 
national security, and make this a more prosperous country. 
We've just got to be very careful.
    The Chairman. Senator Brownback.
    Senator Brownback. Thank you, Mr. Chairman.
    I want to thank the panel. It's been very informative.
    You all are putting forward a lot of speculative 
information. I think, Dr. Parker, I appreciate your statements 
the most, about the speculative nature of what we're 
speculating on here. I appreciate that, because I certainly am 
a skeptic on this and the ability for us to be able to manage 
and micromanage the impacts of this.
    I want to give you, though, some real-world data that's 
near-term. Always, around here, it seems like the further out 
you project it, the less credible it probably is.
    I just had a Kansas City, Kansas Board of Public Utilities 
in my office this morning. They are saying, under H.R. 2454, 
their costs to their customers will go up in 2012 by 25--in the 
first year of this--by 25 percent, their utility rates, in 
Kansas City, Kansas. That's a near-term--and they're saying 
that's a pretty cheap price of an allowance for coal. They're 
pretty heavy coal use, they also have some wind energy.
    I also have in numbers, from Kansas City Power and Light 
area, a broader region. They're saying their utility rates will 
go up 33 to 44 percent under the scenario that's being put 
forward on the trading. That's on the lower-to midrange of 
allocation.
    Then, McPherson, Kansas--they're in the middle of the 
State, smaller community--they're projecting, just for their 
community, a $5 million cost to comply, and then they've got a 
oil refinery that's there that they project's going to go out 
of business because they won't be able to compete as an oil 
refinery.
    I just want to give you some real-world numbers for this 
speculative bill that we're putting forward, and its real-world 
impact on people, which is a big reason why I'm such a skeptic 
on going this route, because, while we're projecting these 
things, people are having to deal with their basic lives on it, 
and this is going to be very expensive.
    Mr. Elmendorf, I gather, from your scenario and what you're 
saying, that manufacturing will be further pressured to leave 
the United States under this bill. Manufacturing that involves 
any sort of energy use, from what I gather from page 12 of your 
testimony. Would that be correct?
    Mr. Elmendorf. So, I think there are some aspects of 
manufacturing that would do well, others that would not do 
well. Again, I think the main distinction to draw is between 
those parts of the economy, manufacturing or other areas, that 
are energy--fossil-fuel energy-intensive, and those that 
aren't. So, certainly the energy-intensive aspects of 
manufacturing would be particularly hard hit. We list some of 
those industries here.
    Senator Brownback. OK. It looks like, to us, in our State, 
that we're going to hit pretty hard with this, being a fairly 
high-energy-using State--agriculture is an industry that uses a 
lot of energy--that you're likely to drive a fair amount of 
that overseas to places with lower energy costs?
    Mr. Elmendorf. It depends on what other countries did. If 
other countries didn't act, then more would be driven overseas, 
that's right.
    I mean, one thing just to note, Senator--you mentioned 
agriculture is obviously a very important part of the economy 
in Kansas--that is one of the sectors of our economy that are 
at some risk of--from climate change. The uncertainties----
    Senator Brownback. We're very----
    Mr. Elmendorf [continuing]. Around the----
    Senator Brownback [continuing]. Familiar with that.
    Mr. Elmendorf [continuing]. The damage of climate change 
are also great, and many analysts believe that in the--and CBO 
has written about this--these uncertainties at great length. 
Many economists believe that the right response to that kind of 
uncertainty is to take out some insurance, if you will, against 
some of the worst outcomes.That's what motivates some of the--
--
    Senator Brownback. If I could, because I'm going to lose my 
time, here--if I could, on that, that's why we believe that 
investment in innovation, rather than taxes and regulation, is 
the way to go to address it, that you should go on a--just a 
different model of this, and one that I don't think involves 
near the speculation, nor the market manipulation, of what this 
panel is talking about. You're talking about a massive market 
manipulation, here, on a grand scale that has significant 
impacts, it looks like to me, particularly on the Midwest and 
the South in this country, for as far as what you're going to 
do of moving of cost, and the likelihood for us to lose a lot 
of jobs, a lot of businesses. It looks like oil refinery 
processing, you're probably going to drive all overseas. We've 
got several oil refineries in our State. So, I say, yes, 
address it, but do it through investment and innovation, not 
this sort of huge taxing and regulatory scheme.
    Appreciate it, Mr. Chairman.
    Mr. Elmendorf. So, I'll just be clear. So, obviously, I'm 
not advocating for this bill, and I'm not trying to fight 
against this bill. I'm just trying to explain what people talk 
about in its workings.
    You talk about innovation, and I think many people who 
support putting a price on carbon emissions through a cap-and-
trade system, or through a tax, do so because they believe that 
that sort of price signal is a very effective way of spurring 
innovation and reaching the end that you have in mind.
    But, of course, there are other ways that one might----
    Senator Brownback. Such as us investing, us doing research 
and--supportive of that--us subsidizing methane-production 
electricity from landfills or from large livestock operations--
all those things would be a way of investing, rather than 
putting a big tax on my customers of utilities in Kansas City, 
Kansas.
    The Chairman. Senator McCain.
    Senator McCain. Thank you, Mr. Chairman.
    I thank the witnesses.
    Mr. Harvey, EPA's estimate includes a significant increase 
in the deployment of nuclear power by 2050, and I hope that's 
the case. Are there regulatory changes in the Waxman-Markey 
bill that bring you this conclusion?
    Mr. Harvey. I'm not aware of regulatory changes to nuclear 
power in the Waxman-Markey bill, Senator.
    Senator McCain. Wouldn't you then assume that, given the 
state of nuclear power in the United States, that, unless there 
are significant changes, that we're basically looking at a 
stagnant industry, particularly in light of the fact that we're 
going to close the facility that was intended to store spent 
nuclear fuel?
    Mr. Harvey. I think the biggest driver for us is the carbon 
price, Senator, that's driving the penetration of new nuclear 
power.
    Senator McCain. Again--and we continue this discussion 
endlessly, unfortunately--if you don't have recycle, if you 
don't have a place to store, you don't have sufficient loan 
guarantees, you don't have sufficient regulatory expedition of 
the licensing process, you're not going to--you're going to 
repeat what's been happening for the last 20 years. So, in all 
due respect, it's a bit presumptuous of you to take into your 
calculations a significant increase in nuclear power when 
there's nothing in the landscape that would indicate that 
that's the case, and nothing in this legislation. I'll be glad 
to be corrected in that assumption, if you have that for me.
    Mr. Harvey. We did sensitivities on that. We did a case 
where we held nuclear power to reference levels, with some 
slight growth, and we found that allowance prices were about 15 
percent higher. That was the major analysis we did.
    You know, driving our analysis was input assumptions that 
we brought in from EIA on the cost of nuclear power. You know, 
we also are aware that there are about 20 projects currently in 
the licensing process. So, you know, perhaps, you know, Dr. 
Newell could speak more to EIA's projections about nuclear 
power. But, I think, you know, we didn't assume it; it came in 
because of the carbon prices, which are a significant 
incentive.
    Senator McCain. Do you want to comment, Dr. Newell.
    Mr. Newell. In our reference case scenario--which would be 
in the absence of this particular climate bill--there's an 
assumption of 11 gigawatts of new nuclear power by 2030. This 
is primarily induced by previous legislation--loan guarantees 
and tax incentives and so on. But, due to the significant 
degree of uncertainty about other conditions that would affect 
the potential for nuclear power, such as long-term storage, 
regulatory processes, public acceptance, we looked at a range 
of different scenarios, holding that 11 gigawatts at its base 
level and going up to as high as 135 gigawatts. But, as you 
point out, there's a significant degree of uncertainty.
    Senator McCain. Mr. Harvey, have you seen any estimates 
that, without nuclear power, we could reach a goal of 
significant renewable fuels by the year 2050 that would have a 
significant impact on that, on our renewable energy 
requirements?
    Mr. Harvey. Again, I would sort of go back to the scenario 
that we did, where we held nuclear power constant. We did reach 
the goal, but carbon prices were higher. Alan, would you add 
anything to that?
    Mr. Fawcett. Yes. Holding nuclear power constant, 
essentially, you know, there are other technologies that we see 
coming in if the nuclear power isn't available. On higher 
allowance prices, we see more carbon capture and sequestration, 
more renewable power coming in, and greater use of offsets to 
be able to still meet the targets.
    Senator McCain. Boy, I'd love to see that, because the 
previous estimates of the Department of Energy is that wind, 
tide, solar, and all the others would reach about 20 to 25 
percent, maximum, of our renewable requirements. So, I'd be 
really interested in seeing your analysis.
    Mr. Elmendorf, thank you for your great work. As I 
mentioned to you before, your reward will be in heaven, not 
here on Earth. Have you had a chance to look at the European 
cap-and-trade system?
    Mr. Elmendorf. We have looked at the European cap-and-trade 
system, yes, Senator.
    Senator McCain. It's been fits and starts, right?
    Mr. Elmendorf. That's right. I'm not personally an expert, 
but I have some colleagues, here, who may be able to help me if 
you want to dig into that issue.
    Senator McCain. The reason why I think it's important is 
because the Europeans have been in the cap-and-trade business 
for some years. So, it seems to me patently obvious that we 
should look at what they've done, or haven't done, since they 
have been involved in the experiment for, what, 10, 15 years?
    Mr. Elmendorf. Yes, Senator. So, one thing I do know is--
about that example--is that some of the volatility that they've 
seen stems from hindering flexibility in the timing of 
achieving emissions reductions, so that the provisions that are 
now discussed in--as part of cap-and-trade legislation in this 
country, involving the banking of allowances, ability to borrow 
allowances, reserve pools, and so on, are designed to try to at 
least dampen some of that volatility, which, in my 
understanding, has arisen in some of these cases in Europe from 
hitting ends of periods in which there was no ability to shift 
behavior into the next year. This flexibility in timing that's 
now being contemplated for U.S. bills is designed to ameliorate 
some of that. But, it is a risk.
    Senator McCain. Let me strongly suggest, to all the 
witnesses, that we look carefully at the European experiment. 
It has not lived up to the expectations that were advertised at 
the time that it was implemented. It was practically nirvana. 
So, let's look carefully at the European experiment; let's also 
look at our acid rain experiment, which succeeded; and find 
out, at least, if you could submit to this committee, the 
lessons learned from both of those cases, if we are going to 
seriously--we certainly don't want to repeat the mistakes that 
others have already made.
    My time is expired. I thank you, Mr. Chairman.
    I thank the witnesses.
    Mr. Elmendorf. Mr. Chairman, I actually have an answer to 
Senator Sessions' question from earlier. It is, in fact, in our 
cost estimate for the House bill, but I had forgotten. We say, 
``CBO estimates that fully funding Federal agencies' 
administrative costs would require gross appropriations 
totaling $8.2 over the 2010-2019 period. This estimate is based 
on historical information on how large regulatory programs have 
been implemented and on information provided by EPA, FERC, and 
other agencies with significant administrative responsibilities 
under the bill.''
    Senator Sessions. Do you have actual employee numbers for 
that?
    Mr. Elmendorf. But, I don't think we have employee numbers. 
But we have----
    Senator Sessions. How can you calculate if you don't have 
the employee numbers?
    Mr. Elmendorf. There are different ways of coming at the 
question.
    Senator Sessions. I'd like to see what you've got. I know 
time is short. Thank you for sharing that.
    The Chairman. Let me just advise members, we've started a 
vote. We can recess and come back and ask additional questions 
if members want to do that, or we can go ahead and proceed for 
another 6 or 8 minutes.
    Yes, Senator McCain, did you have an opinion on what we 
ought to do?
    Senator McCain. I just had one additional question for 
the----
    The Chairman. OK.
    Senator McCain. [continuing]. Panel if----
    The Chairman. Let me see if Senator Cantwell had any 
additional question, first, and then we'll go back over to this 
side and take any additional question.
    Did you have another question, or did you want----
    Senator Cantwell. Thank you, Mr. Chairman. Now? You're 
saying----
    The Chairman. Yes, I'd like to see if we could finish up 
before we----
    Senator Cantwell. Thank you.
    The Chairman [continuing]. Go vote, if we could.
    Senator Cantwell. Yes. I would like to go back to Mr. 
Harvey on this allowance question, because obviously EPA's 
analysis of the House bill has a reliance on international 
offsets that would result in 1.4 trillion in payments to 
foreign governments and companies to purchase the offsets. I 
just have serious concerns about why we would spend so much 
money overseas making that kind of investment when we really 
need to be making the investment here in the United States.
    So, I know we had some experts, Mr. Chairman, here last--or 
2 weeks ago--who didn't even believe in the analysis of the 
original numbers.
    So, maybe you could help us with that. What would happen if 
the projects were not available?
    Mr. Harvey. Thank you, Senator.
    As I mentioned in my testimony, we ran a scenario where we 
omitted the use of international offsets altogether, and the 
costs would be 90 percent higher. The----
    Senator Cantwell. How much? How much?
    Mr. Harvey. Ninety percent--89 percent higher--if you just 
had domestic offsets and the other technologies domestically. 
So, there's support for international offsets, obviously from 
people who are concerned about reducing the cost of meeting 
these targets by the U.S. alone. So, allowing international 
offsets does involve those transfers you talked about, but it 
also reduces the cost to U.S. firms.
    Senator Cantwell. But, we should spend $1.4 trillion 
investing in----
    Mr. Harvey. It's the general argument that--we were talking 
a little bit about this, about international trade savings, as 
well.
    Senator Cantwell. I'd rather see $1.4 trillion invested in 
U.S.----
    Mr. Harvey. That's a policy choice for Congress.
    Senator Cantwell. Yes. Thank you.
    Thank you, Mr. Chairman.
    The Chairman. Senator McCain, did you have a question?
    Senator McCain: Just one.
    The Chairman. Then, Senator Corker----
    Senator McCain. Mr. Harvey, have you looked at the acid 
rain experiment?
    Mr. Harvey. Yes, I was actually an employee of the Clean 
Air Markets division, before I worked on this, so I'm----
    Senator McCain. How do you account for its success?
    Mr. Harvey. It set clear, long-term goals. It reduced acid 
rain emissions by about 50 percent. It got EPA out of the 
business of telling companies how to make the reductions. They 
went out, and they were innovative, and they found ways to meet 
their goals at their least cost. So, it's been a great success, 
both environmentally and from an economic point of view.
    Senator McCain. But, it was simple.
    Mr. Harvey. It was very simple. The rules were clear. 
Congress defined the allocations. We had very few lawsuits 
challenging the implementing rules. It's been quite a success 
for us. We've been able to do it with a very small number of 
employees.
    The Chairman. Senator Corker.
    Senator McCain. I thank you, Mr. Chairman.
    Senator Corker. I want to thank all of you, for your 
testimony.
    Dr. Parker, I didn't ask any questions today, but I 
continue to be appreciative of the great work you all do at 
CRS, and all of you for your testimony today.
    Going to Senator McCain's comment about the European 
system--and certainly my comments are anecdotal, only from 
personal experience. Senator Bingaman and I spend a good deal 
of time meeting. Every policy person would come up to us after 
the meetings that we had, and they would say, ``Whatever you 
do, do not give away free allowances.'' That is the reason we 
had so many problems with our European system, is giving away 
free allowances. Obviously, that's what we do in this Rube 
Goldberg system that's been put in place by the House. Would 
you all mind commenting on the issue of how free allowances, in 
essence, distort and make less simple a system like we're 
talking about?
    Mr. Elmendorf. So, again, Senator, I can't make a policy 
recommendation. Many analysts do favor simpler approaches, and 
they favor the simple approach in this context of auctioning 
allowances and then having Congress decide what to do with 
those proceeds in a more transparent fashion. I think, from a 
substantive point of view, the crucial effects of the--giving 
away the allowances depend, first of all, on whether they 
change the prices, distort the price signals that the system is 
trying to create. As I've suggested, there are ways from them 
not to do that, but it is complicated. Second, there are very 
important distributional consequences. That's a policy choice, 
again, that you get to make. But, I agree that those choices 
are more obscured by giving them away in this complicated 
fashion.
    Senator Corker. These free allowances are equal to 
marketable securities. I mean, when you're giving away an 
allowance, it's like giving away a share of IBM stock. You can 
sell it immediately. So, we speak as if ``free'' means at ``no 
money,'' but the fact is, it's huge transference of wealth that 
does, in fact, make a system like this far less simple. Is that 
correct?
    Mr. Elmendorf. For just that logic, Senator, CBO includes 
both the costs of giving that allowance away at market value 
and we impute the revenue to the government budget that could 
have been earned from selling that allowance.
    Senator Corker. Thank you.
    The Chairman. Senator Murkowski.
    Senator Murkowski. Very quickly, Mr. Chairman.
    I just want to note that Senator McCain brings up the issue 
of acid rain and you know how did that worked. We need to 
appreciate it was limited to what was happening here in this 
country. It was a domestic issue, it didn't require 
technological breakthroughs. We haven't had much discussion 
today regarding what we will be putting in place through 
climate change policy not only depends on innovative 
technologies, but it also depends on the cooperation from other 
countries over which we have very limited, if any, control at 
all.
    There has been great testimony this afternoon. I really 
appreciate it, Mr. Chairman. However, I am reminded that so 
much of what we're talking about is theoretical. In the cost-
containment hearing we had a couple of weeks ago, we kept 
talking about the theoretical offsets. Now we're talking about 
the technologies that will be needed. Nuclear technology isn't 
new, but when we talk about our ability to get up and running 
what we actually need--again, it goes back to the level of 
skepticism that is out there.
    We talk about Carbon Capture & Storage and where we're 
going to be when our reality is that we're still trying to 
figure out how we commercialize it. You know, we can't be 
implementing policies that are ``a wish and a prayer'' policy. 
We've got to know that this is tangible. We've got to push it, 
absolutely. But, we talk at great lengths about the theoretical 
aspects of it.
    Mr. Chairman, I know we've got to go, and I appreciate your 
indulgence. Thank you.
    The Chairman. Thank you all. This is very useful testimony. 
We appreciate your giving us the time and the effort.
    That ends our hearing.
    [Whereupon, at 11:59 a.m., the hearing was adjourned.]
                                APPENDIX

                   Responses to Additional Questions

                              ----------                              

   Response of Douglas W. Elmendorf to Question From Senator Bingaman
    Question 1. A key uncertainty is how the models handle the 
recession and recovery. Do the models assume that growth and emissions 
will return to trend (i.e., that there will be a period of higher than 
normal growth after the recession ends as unused capacity is put into 
service) or that there has been a step-change in GDP and after the 
recession, growth rate will return to normal but that the US economy 
will set out from a low base. This question is fundamentally important 
because US emissions will have fallen by more than 8% from 2007 levels 
by the end of this year. This is the initial condition from which the 
models are being initiated. How they handle it is critical to 
projecting 2020 and 2030 costs.
    Answer. Most groups in the United States that model the effects of 
climate policies, CBO included, rely on the Energy Information 
Administration (EIA) for a projection of baseline emissions. That 
projection is driven in part by EIA's expectations about future GDP 
growth, which are similar to CBO's. Both CBO and EIA take into account 
the substantial decline in GDP as a result of the recession and a 
significant bounceback from it. However, for reasons largely unrelated 
to GDP growth, EIA is projecting lower emissions through 2030 than it 
projected a few years ago.
 Responses of Douglas W. Elmendorf to Questions From Senator Murkowski
                treatment of allowance allocation costs
    Question 1. The creation of carbon allowances creates value, and 
therefore wealth that can be distributed by the government. When 
allowances are auctioned, it is my understanding that CBO assumes a 25% 
reduction in net revenues because the purchase of allowances would be 
tax deductible. Similarly, allowances given away for free are treated 
as expenditures just as if they were cash payments. However, CBO 
asserted in a letter earlier this year that.
    ``Depending on who would receive the allowances and what they would 
be used for, the reduction in taxable income . . . could be accompanied 
by a matching increase in taxable income elsewhere in the economy. If 
so, the added tax revenues would offset the initial loss . . . In such 
cases, the issuance of the allowances would be budget neutral-that is, 
it would have no net effect on the budget deficit. In other 
circumstances, however, that would not be the result''.
    What are those other circumstances, and why would CBO tend to view 
them differently than a situation in which allowances are given away 
for free?
    Answer. For the purposes of calculating the net impact on the 
federal budget of distributing allowances, CBO makes no distinction 
between allowances that are auctioned and those that are distributed 
for free. Whether an allowance is auctioned or given away, CBO applies 
a 25 percent revenue offset to the proceeds or to the allowance value 
to account for the loss of income and payroll tax revenues that would 
result because the acquisition and use of allowances would create an 
additional business expense for companies that would have to comply 
with the cap. Even if companies received the allowances for free, using 
the allowances, rather than selling them, would result in forgone 
income to those companies. Businesses might pass that cost on to their 
customers, but it is a cost that would be borne and reduce tax 
collections at some point in the economy.
---------------------------------------------------------------------------
    \1\ See Congressional Budget Office, letter to Honorable Henry A. 
Waxman, The Budgetary Treatment of Emission Allowances Under Cap-and-
Trade Policies (May 15, 2009), p.5.
---------------------------------------------------------------------------
    Similarly, whether the federal government spends auction proceeds 
or gives allowances away for free, there could be a matching increase 
in income and payroll tax revenues, depending on who would receive the 
money or the allowances and what they would be used for. In some cases 
(whether using auction proceeds or issuing allowances for free), the 
process of issuing and distributing allowances would be budget 
neutral--that is, the initial loss of income and payroll tax revenues 
(estimated at 25 percent of the allowance value) could be offset by 
other increases in income and payroll taxes. That outcome would depend 
on how the allowances or auction proceeds were used, not on whether the 
``value'' is distributed through an auction or is freely allocated.
    For example, under H.R. 2454, providing allowances free of charge 
(as passed by the House) to businesses (such as merchant coal 
generators, generators with long-term power purchase agreements, and 
petroleum refiners) would fit into the category of transactions that 
would be budget neutral because they would generate taxable income; 
under the legislation, those entities could sell or use the allowances 
and consequently increase their taxable incomes. Distributing auction 
proceeds to businesses with no strings attached as to how that money 
should be used would similarly be budget neutral.
    In contrast, providing allowances to non-business entities-such as 
states to support specific activities, or to other countries to support 
efforts to reduce greenhouse gases-would not be budget neutral because 
it would not generate taxable income. Spending by those entities would 
simply substitute for spending elsewhere in the economy, generating no 
additional taxable income. In the same way, use of auction proceeds by 
the federal government for activities like research and development or 
for distribution to low-income households who do not pay taxes would 
not be budget neutral.
                     anticipated market volatility
    Question 2. There is a great deal of variation among the cost 
estimates that have been produced for the Waxman-Markey bill. While 
that is generally a cause for concern, perhaps it gives a reliable idea 
of the market volatility we can expect for carbon allowance prices over 
the next four decades.
    Assuming this is the case, can you provide us with an anecdotal 
assessment of these potential fluctuations in allowance prices and how 
they compare to volatility we have seen in the oil and gas markets 
recently?
    Answer. The variation in cost estimates for the Waxman-Markey bill 
reflects different analysts' assumptions about a wide variety of 
factors, including: the development of new technologies that regulated 
entities might use to reduce their emissions; the availability of 
domestic and international offset credits; trade-offs that regulated 
entities would make between current and future costs, which would 
govern their decisions about banking allowances for future use; and the 
effect of subsidies and mandates that H.R. 2454 would provide for 
energy efficiency, research and development, and specific technologies. 
For example:

   Studies that assumed that carbon capture and sequestration 
        or nuclear generation would be more readily available options 
        for lowering emissions tended to project lower compliance costs 
        than those that assumed more restricted availability;
   Studies that assumed that domestic and international offsets 
        would not be readily available due to problems in meeting the 
        criteria established in the legislation or subsequent 
        regulations projected relatively high compliance costs;
   Studies that assumed that firms would engage in relatively 
        more banking of allowances tended to predict higher costs in 
        the near term and lower costs in the future; and
   Studies that assumed that subsidies for energy efficiency or 
        new technologies would have relatively large effects tend to 
        find lower compliance costs.

    For a discussion of some of those factors see:

   The Use of Offsets to Reduce Greenhouse Gases (CBO Economic 
        and Budget Issue Brief, August 3, 2009) which is available at 
        www.cbo.gov/ftpdocs/104xx/doc10497/08-03-Offsets.pdf
   How Regulatory Standards Can Affect a Cap-and-Trade Program 
        for Greenhouse Gases (CBO Economic and Budget Issue Brief, 
        September 16, 2009) which is available at www.cbo.gov/ftpdocs/
        105xx/doc10562/09-16-CapandStandards.pdf
   CBO's cost estimate for H.R. 2454, the American Clean Energy 
        and Security Act of 2009, as ordered reported by the House 
        Committee on Energy and Commerce on May 21, 2009 which is 
        available at www.cbo.gov/ftpdocs/102xx/doc10262/hr2454.pdf

    The prices for emission allowances that underlie various cost 
estimates represent potential opening bids during a hypothetical 
auction on the first day of trading in the carbon market. As regulated 
entities, investors, entrepreneurs, and others who have information 
about the cost of reducing emissions submit their bids, that market 
would open with a single price that represents everyone's initial 
knowledge and expectations about current and future demand for 
allowances relative to their supply. The volatility that would occur 
once that market was in operation would reflect changing market 
conditions. For example, an announcement that the EPA is on the verge 
of approving a large number of offset allowances could result in a 
decrease in the allowance price because market participants would 
expect the demand for allowances to fall because of the compliance 
obligation that would be met by this new supply of offsets. Similarly, 
allowance prices would rise if heat waves boosted consumer demand for 
electricity to operate air conditioning units. Market participants 
would foresee the need to hold additional allowances to cover the 
increase in emissions resulting from meeting that increased demand for 
electricity.
    The price of allowances would generally be expected to rise over 
time, but could vary widely from day-to-day or year-to-year depending 
on the design of the market, economic growth, and other factors that 
affect the use of fossil fuels. The price in the market for sulfur 
dioxide (SO2), which causes acid rain, in the United States 
and the price of carbon allowances in the European Union's Emission 
Trading Scheme have both shown wide fluctuations over time, but the 
design of those markets is different than the market that would be 
established by H.R. 2454, which passed the House of Representatives, 
and the prominent proposals that are under consideration in the Senate. 
CBO is currently examining how financial instruments (such as futures 
contracts) and regulatory instruments (such as price collars) might 
affect volatility. However, that work is not yet complete.
                             discount rates
    Question 3. The difficulty of looking decades into the future at 
the impact of a climate policy is compounded by how much the value of a 
dollar changes over time.
    If we were to go back to 1969, and wanted to explain the value of a 
$23,000, 2009 model-year car, there are a few ways we could attempt to 
do so. We might adjust the 2009 price tag for inflation and say ``it 
will cost the equivalent of $3,960 in today's dollars''. Or we could 
say, ``put $562 in the bank, and at a 5% interest rate you will have 
enough to buy the car in 2009''. This latter explanation would rely 
upon a `net present value inflation adjusted' calculation, which is 
what most of these reports use.
    But it should be apparent that this is a very bad indication of 
what something will actually cost in 40 years. Climate bills do not 
require Americans to put away money now to cover costs later; they 
simply impose those costs at some future date.
    So I have to ask if there is something I am missing here. I 
understand that discounting is a standard practice in the computer 
models used by the agencies, but it seems like these models and the 
numbers they generate are better for comparing two pieces of 
legislation than providing a real idea of what costs we can expect.
    Are there better ways to explain the costs of these bills, or at 
least ways that would make more sense to my constituents?
    What would the use of actual dollar amounts, simply adjusted for 
inflation without discounting, do to the cost estimates produced for 
these climate bills?
    Answer. CBO reports the effect of legislation on the federal budget 
in nominal terms; that is, there is no discounting or adjustment for 
expected inflation. Correspondingly, CBO uses nominal estimates of 
allowance prices for its estimate of the costs that H.R. 2454 would 
impose on the federal budget.
    CBO estimates the loss in purchasing power that households might 
experience in future years as a result of the cap-and-trade program 
defined in H.R. 2454. Those costs would be incurred in future years 
when income levels are expected to be higher than they are currently. 
In order to provide a current context for the magnitude of those future 
costs, CBO reports the costs in the context of 2010 income levels. For 
example, CBO estimates that the average per household loss in 
purchasing power in 2020 would be 0.2 percent of after-tax income in 
that year. Measured at 2010 income levels, 0.2 percent of after-tax 
income would be $165. CBO's estimates of the loss in purchasing power 
do not involve any discounting.
  Responses of Douglas W. Elmendorf to Questions From Senator Barrasso
    Question 1. Based on your analysis, would imposing a cap and trade 
program like the one in Waxman-Markey cause job losses in the fossil 
fuel sector similar to the massive job losses experienced by the 
manufacturing industry since the 1970s? Which specific States will be 
most impacted?
    Answer. In 1979 about 19 million people were employed in the U.S. 
manufacturing sector. By end of 2008 that number had decreased by 
almost a third, a loss of over 6 million jobs. By comparison, in 2007 
about 800,000 people in the United States were employed in the 
industries that extract and process oil, natural gas, and coal, 
according to the Bureau of the Census.
    CBO reviewed several studies of the likely impact of climate policy 
on employment. Those studies identified the fossil-fuel cluster of 
industries as one in which employment would decline if a cap-and-trade 
program like that provided for by H.R. 2454 were put in place. The 
absolute number of jobs lost in those industries would be much lower 
than the number of jobs lost in the manufacturing sector since 1979 
simply because those industries are much smaller than the manufacturing 
sector. However, some of the studies that CBO reviewed projected 
percentage job losses, in coal mining, for example, comparable to those 
experienced in the manufacturing sector over the past thirty years.
    CBO has not analyzed the effects of H.R. 2454 on employment at the 
state level.
    Question 2. If Waxman-Markey passed, you stated in your testimony 
that there would be ``significant shifts'' from emissions-intense 
sectors such as oil and refining firms to low-carbon businesses such as 
wind and solar power.
    You also stated ``We want to leave no misunderstanding that 
aggregate performance, the fact that jobs turn up somewhere else for 
some people does not mean that there are not substantial costs borne by 
people, communities, firms in affected industries and affected areas. 
You saw that in manufacturing, and we would see that in response to 
changes that this legislation would produce.''
    You further stated that ``The net effect of that we think would 
likely be some decline in employment during the transition because 
labor markets don't move that fluidly.''
    Would states in the West, such as Wyoming, which are heavily 
dependent on coal, oil, and natural gas production and use, suffer 
significant job losses in these sectors as a result of Waxman-Markey 
passing? In the initial years, would the people in those sectors 
displaced by the passage of the bill have the ``skill sets'' to 
transfer into jobs in low carbon sectors of the economy? Would a likely 
outcome include moving to other regions of the country to get jobs in 
low carbon sectors of the economy?
    Answer. A cap-and-trade program for greenhouse gases would cause 
employment shifts in the economy. Such a program would decrease 
employment in the production of carbon-intensive fuels, such as coal, 
and in other industries that rely on such fuels. It would also create 
employment opportunities in the production of less carbon-intensive 
forms of energy and other goods and services that depend less on 
carbon-intensive fuels.
    If a cap-and-trade program like that provided for by H.R. 2454 were 
put into place, employment would probably decline in industries such as 
those that extract and process oil, natural gas and coal. Although CBO 
has not done a state-by-state analysis of employment, the decline in 
employment in those industries would translate into job losses in the 
states in which those industries are concentrated. Some people who 
would lose their jobs would find themselves lacking the skills to move 
easily from one industry to the other. In addition, it is not clear 
that new jobs would arise in the same areas of the country in which the 
old jobs were lost, causing some people seeking new employment to move 
to a new area that they believed to have better job prospects.
    Question 3. Would states in the South, some of which are dependent 
on off-shore oil exploration, oil refining, and coal production, and 
states in the Midwest, which rely on coal production and use, suffer 
similar losses? Would the impact in the initial years be the same in 
these regions as in Western states?
    Answer. As noted above, some of the industries that are at the 
greatest risk of declining employment are those that produce carbon-
intensive fuels such as coal, oil, and natural gas. Although CBO has 
not done a state-by-state or regional analysis of employment, declines 
in employment in such industries would translate into job losses in the 
states in which those industries are concentrated. The shift in the 
economy to less reliance on carbon-intensive fuels, goods, and services 
would also create employment opportunities elsewhere in the economy, 
but those opportunities could be in other areas of the country.
  Responses of Douglas W. Elmendorf to Questions From Senator Cantwell
    Question 1. CBO's analysis of the House passed climate bill found 
that the middle income quintiles bear most of financial burden under 
H.R. 2454. While the lowest income households are kept whole through 
government refunds of auction revenues, the system is strongly 
regressive for the middle income households,
   Could you provide a more detailed explanation of anticipated 
        distribution of costs under H.R. 2454?

    Answer. CBO anticipates that businesses would largely pass the cost 
of complying with a cap-and-trade program-the cost of purchasing 
allowances, purchasing domestic and international offset credits, and 
reducing emissions-on to their customers through higher prices for 
goods and services. Higher income households would incur a larger 
portion of that cost because they consume more than lower income 
households. However, those compliance costs would impose a larger 
financial burden measured as a share of income on lower income 
households because those households tend to consume more of their total 
income, and because energy-intensive goods and services generally make 
up a larger fraction of their total consumption.
    Although compliance costs would generally be distributed among 
households based on their purchases of goods and services, policymakers 
could substantially offset those costs for some households through the 
allocation of allowances (or the revenue raised by selling allowances). 
CBO developed an estimate of households' loss in purchasing power as a 
rough indication of the direct effect that the cap-and-trade program 
established in H.R. 2454 would have on households. That loss in 
purchasing power equals the costs of complying with the policy minus 
the compensation that would be received as a result of the policy.\2\ 
The combination of compliance costs and the allocation of allowances 
specified in H.R. 2454 would impose the largest loss in purchasing 
power on households near the middle of the income distribution.
---------------------------------------------------------------------------
    \2\ Once the compensation received by U.S. households is deducted 
from the compliance costs, the remaining loss in purchasing power stems 
from the cost of reducing emissions and producing domestic offsets, 
expenditures on international offsets, and the value of allowances that 
would be directed overseas.

   CBO's analysis shows that the richest 20% of Americans pay 
---------------------------------------------------------------------------
        less than the middle brackets, why is that the case?

    Answer. CBO estimates that in 2020, compliance costs for the 20 
percent of the population with the highest income would be about twice 
that for households in the middle income group ($1,400 vs. $685, 
measured at 2010 income levels).
    That difference would be more than offset, however, by the impact 
of the allowance allocations. In 2020, CBO estimates that roughly 35 
percent of the allowances would be allocated in a manner that benefited 
shareholders, who are more likely to be members of higher income 
households. As a result, the loss in purchasing power-that is, the 
compliance cost minus the compensation received as a result of the 
policy-experienced by the average household in the top one fifth of all 
households arrayed by income, $165 (measured at 2010 income levels), 
would be less than the loss in purchasing power experienced by 
households in the middle and fourth income quintiles-$310 and $375 (at 
2010 income levels), respectively. The disparity in the loss in 
purchasing power in 2020 would be larger when measured in relative 
terms; that loss would be about 0.1 percent of after-tax income for the 
average household in the top income quintile and 0.6 percent and 0.5 
percent for the average household in the middle and fourth income 
quintiles, respectively.
    The results would be different in 2050, because a smaller fraction 
of the allowance value would benefit higher income households, by CBO's 
estimate. In that year, the dollar loss in purchasing power (measured 
at 2010 income levels) would be largest for the average household in 
the highest income quintile. Measured relative to after-tax income, 
however, the loss in purchasing power would still be greatest for 
households in the middle quintile (1.1 percent for that group vs. 0.7 
percent for the highest income quintile).

   Could the income distributional disparity be alleviated if 
        more--or all--allowances were auctioned, generating revenues 
        that could be distributed more equally and directly to American 
        families to offset energy cost increases?

    Answer. Instructing the government to sell the allowances and use 
the revenue to provide rebates to households would be a more direct 
method of distributing the allowance value than giving the allowances 
to private entities and instructing them in how to use the value of the 
allowances to benefit customers. For example, it is unclear exactly how 
the allowances given to local distributors of electricity under H.R. 
2454 would ultimately accrue to households. CBO estimated that roughly 
one-third of that value would be received by households in the form of 
rebates while the other two-thirds would benefit commercial and 
industrial businesses that are served by those distributors.
    If the Congress wanted to ensure that each household received an 
equal (uniform) amount of the allowance value, measured in dollars, it 
could do so by requiring the sale of all of the allowances and using 
the revenue to provide rebates to U.S. households. For households with 
relatively low consumption levels, that rebate could more than offset 
the higher costs that they would incur (by paying higher prices for the 
goods and services that they consume) as a result of the policy. 
Measured as a share of income, such a policy would impose a larger 
burden (taking into account both compliance costs and the distribution 
of allowance value) on higher income households than on lower income 
households. Additional information about the distributional effects of 
such a strategy is discussed in The Distribution of Revenues from a 
Cap-and-Trade Program for CO2 Emissions (Statement of 
Douglas W. Elmendorf, Director, CBO, before the Committee on Finance, 
United States Senate, May 7, 2009) which is available at: http://
www.cbo.gov/ftpdocs/101xx/doc10115/05-07-Cap_and_Trade_Testimony.pdf.

   Has CBO done any analysis on how different climate policies 
        differentially impact consumers in various regions of the 
        country?

    Answer. CBO has not done such analysis itself. However, the agency 
recently reviewed two studies that examined how the costs of complying 
with a cap-and-trade program might vary across the country. Like CBO's 
national level analysis, those studies-one produced by a team of 
experts affiliated with the National Bureau of Economic Research (NBER) 
and one by researchers at Resources for the Future (RFF)-assumed that 
businesses would pass the cost of complying with the cap-and-trade 
program on to their customers in the form of higher prices. The two 
studies suggest that regional differences in the burden that those 
higher prices would impose on households would be relatively small. In 
particular, the NBER study suggests that the increase in households' 
spending (resulting from the higher prices) would range from 1.9 
percent of annual income in what it defines as the East South Central 
region to 1.5 percent in the West North Central region.
    The RFF study also finds only small regional differences, although 
the differences are somewhat larger for low-income households. 
Specifically, the increase in households' spending would range from 1.6 
percent of annual income in the Ohio Valley to 1.3 percent in 
California, New York, and the Northwest. Effects on households in the 
bottom deciles of the income distribution would range from 5.5 percent 
in the Ohio Valley to 4.0 percent in California. For more information 
see: http://www.cbo.gov/ftpdocs/104xx/doc10432/07-09-
RegionalEffects_Cap-Trade.pdf.

   Would an upstream point of regulation at the point of fossil 
        fuel production, in other words at the beginning of the value 
        chain, minimize regional disparities since the actual amount of 
        carbon consumed per capita is quite similar across the country?

    Answer. The decision about where to place the cap would probably 
not substantially affect the distribution of the compliance costs among 
regions. As described above, most analysts anticipate that the bulk of 
the compliance costs would be ultimately be borne by consumers in the 
form of higher prices for the goods and services that they buy. Thus, 
regional differences in the incidence of the compliance costs would 
stem from differences in consumption patterns among regions, but would 
be largely unrelated to the point of regulation.

   Would an equal, per capita distribution of some portion of 
        revenues raised in an auction for emission allowances help 
        reduce regional disparities?

    As indicated above, two studies that CBO reviewed found little 
difference in the burden (measured as a share of income) that the cost 
of complying with a cap-and-trade program would have on households in 
different regions. An equal per capita rebate would provide greater 
benefits to lower income households (as a share of income) and thus 
would tend to benefit lower income regions of the country. Other 
alternatives, such as giving revenues from the sale of allowances (or 
the allowances themselves) to affected industries, could also change 
the distribution of the net costs. That strategy would likely benefit 
shareholders, who are typically from higher income households, and thus 
would tend to benefit higher income regions of the country.
    Question 2. I understand that the CBO's cost estimate for the House 
climate bill was a net gain in federal revenues of $24 billion between 
2010 and 2019, but I am wondering about the longer-term cost 
implications of the bill and understand that CBO scores things a little 
differently in the Senate, namely by adopting a longer timeframe when 
assessing policy impacts.

   Assuming for now that the Senate bill will be a companion to 
        the House bill and will have the same provisions, can you give 
        us your impression of what the CBO score on the House bill is 
        likely to be in the Senate?

    Answer. By law, CBO is required to prepare a cost estimate for each 
bill reported by any committee of the House of Representatives or the 
Senate. Generally, those estimates provide CBO's assessment of effects 
on spending subject to appropriation action (known as discretionary 
spending), effects on direct spending (also sometimes referred to as 
mandatory spending), and effects on revenues (incorporating estimates 
by the Joint Committee on Taxation[JCT]). The Congressional Budget Act 
requires that such estimates cover all the costs that would be incurred 
in each of the five fiscal years beginning with the year that the 
proposed legislation would become effective.
    However, to assist both the House and Senate in carrying out the 
annual budget resolution, CBO and JCT routinely provide estimates for 
direct spending and revenue provisions for a period of 10 years. Such 
10-year estimates are necessary for the Budget Committees' 
determination of whether legislation complies with the pay-as-you-go 
rules in each House.
    Further, the Senate has an additional rule that pertains to longer-
term effects on federal deficits, covering a total period of 50 years. 
As a result, CBO is required, pursuant to section 311(b) of the fiscal 
year 2009 budget resolution (S. Con. Res. 70), to provide an estimate 
of whether enactment of a bill would cause a net increase in deficits 
in excess of $5 billion in any of the four 10-year periods following 
the 10-year budget window covered by the pay-as-you-go rule.
    In June 2009, CBO estimated that H.R. 2454, as passed by the House 
of Representatives, would yield a reduction in deficits of about $9 
billion between 2010 and 2019 (the 10-year period currently covered by 
the pay-as-you-go rule). At that time, CBO did not provide any estimate 
of the long-term budget effects of H.R. 2454. For potential Senate 
consideration of H.R. 2454, consistent with section 311(b) of S. Con. 
Res. 70, CBO estimates that enactment of the legislation would increase 
budget deficits by significantly more than $5 billion in each of the 
three 10-year periods following 2019. Finally, CBO estimates that 
enacting the House bill would generate a reduction in deficits for the 
10-year period beginning in 2050.
    To understand the net budget impact of H.R. 2454, as passed by the 
House, it is important to understand the budgetary treatment of 
emission allowances. The cost of purchasing allowances, whether from 
the government or from other entities that might receive allowances, 
would become an additional business expense for companies. Such costs 
would result in a decrease in taxable income in the economy and would 
result in a loss of government revenue from income and payroll taxes. 
Those losses would offset an estimated 25 percent of the revenues the 
federal government would receive from auctioning allowances.
    Depending on who would receive the allowances and what they would 
be used for, the reduction in taxable income could be accompanied by a 
matching increase in taxable income elsewhere in the economy. In those 
cases, the added revenues from income and payroll taxes would offset 
the initial loss of tax revenues from the sale of the allowances and 
the whole transaction would be budget neutral-that is, it would have no 
net effect on the budget deficit. In other circumstances, there would 
be no offset to the initial tax loss so there would be a net loss of 
revenues and hence an increase in the budget deficit.
    By CBO's estimate, H.R. 2454, as passed by the House, would reduce 
budget deficits by about $9 billion over the 2010-2019 period. That 
budgetary gain would occur because spending of some of the proceeds 
from the auction of allowances (about $25 billion over the 2010-1029 
period) would be subject to subsequent Congressional action (and thus 
would not add to the deficit unless provided for in future 
appropriation bills). Those allowances that would be distributed during 
that period would be allocated to entities in a way that would be 
budget neutral. In the subsequent three decades (2020-2049), the bill 
would add large amounts to budget deficits. Two major factors underlie 
this shift from a net budgetary gain to net increases in deficits over 
time:

   First, most of the allowance allocations that would be 
        budget neutral (that is, allocations that would not generate 
        the net 25 percent revenue reduction) would be phased out in 
        the mid-2020s. The allowance allocations that would be budget 
        neutral are primarily those that would be given to businesses 
        either directly, such as the allowances that would be given to 
        trade-exposed energy-intensive businesses, or indirectly, such 
        as those given to commercial or industrial consumers of 
        electricity via their local distribution companies. When 
        businesses receive allowance value-and are not instructed how 
        to use that value-it generally increases their taxable income. 
        In those cases, the added tax revenue would offset the initial 
        loss in tax revenue from the cost of using allowances. By 2025, 
        most of the allowances given to businesses would be phased out. 
        Instead the revenue from auctioning allowances would be used to 
        fund payments for low-income households (see below) and the 
        Climate Change Consumer Rebate, a nontaxable rebate to all 
        households; the use of allowances in that way would not be 
        budget neutral because those payments would not be taxable 
        income to households and would not yield additional tax revenue 
        to offset the revenue losses (the 25 percent revenue reduction) 
        that would result from sale of the allowances.

   Second, the payments for low-income programs created by the 
        bill would become much more expensive after 2020 relative to 
        the amounts set aside by the bill to fund them. Those household 
        payments would be an entitlement: low-income households would 
        receive payments equal to their ``loss in purchasing power'' as 
        determined by the Energy Information Administration. The size 
        of those payments would increase as the caps on emissions 
        became tighter over time.\3\ H.R. 2454 would set aside 15 
        percent of the allowance value to fund the payments to low-
        income households. However, those funds would not be sufficient 
        to fund the payments in the latter years of the program because 
        the value of the allowances would not grow proportionately with 
        the loss in purchasing power that households would experience.
---------------------------------------------------------------------------
    \3\ The bill introduced in the Senate would do away with this 
entitlement and specify that only 15 percent of allowance value will be 
used to fund low-income programs.

    CBO estimates a large surplus in the 2050-2059 period because a 
large amount of the revenue collected during this period from the sale 
of allowances would not be allocated or spent (that is, they would be 
deposited in the Treasury). Those unallocated revenues would be counted 
---------------------------------------------------------------------------
toward deficit reduction.

   I also noticed that CBO found that the unfunded mandates 
        that the House bill would impose on industry and state and 
        federal government exceeds the threshold established by the 
        Unfunded Mandates Reform Act. Were these mandates reflected in 
        any way in the CBO's estimate of the House bill's cost?

    Answer. CBO determined that H.R. 2454, as passed by the House, 
would impose both intergovernmental and private-sector mandates as 
defined in the Unfunded Mandates Reform Act (UMRA). We estimated that 
the aggregate costs of those mandates would well exceed the annual 
thresholds established in UMRA ($69 million for intergovernmental 
mandates and $139 million for mandates on the private sector in 2009, 
adjusted annually for inflation). CBO could not estimate the cost of 
some of the mandates in the bill because we lacked adequate information 
about the scope of future regulations.
    The mandates CBO identified include: requirements that utilities, 
manufacturers, and other entities reduce greenhouse gas emissions 
through cap-and-trade programs and performance standards; requirements 
that public and private entities provide information on greenhouse 
gases to a federal registry; a requirement that public and private 
utilities pay an annual assessment following a referendum by the 
affected utilities; limitations on certain commodity transactions; 
restrictions on the production and importation of hydrofluorocarbons; 
new efficiency standards and required capabilities for lighting and 
appliances; new standards for the manufacture of vehicles capable of 
using alternative fuels such as ethanol, methanol, and biodiesel, and 
for new heavy-duty vehicles and engines; and several preemptions of 
state and local authority.
    Some of the costs of complying with the mandates imposed by the 
bill (for example, the expenditures covered facilities would have to 
make to acquire allowances) are included in the cost estimate's tables 
showing the budgetary impacts of H.R. 2454. That is because the 
revenues we estimate would be collected by the federal government are 
mandate costs to the entities that would have to pay those amounts. 
Other compliance costs (for example, the cost of purchasing offset 
credits, the costs of directly reducing emissions, and the costs or 
preparing reports) are not included in those budgetary tables because 
they would not directly affect the federal budget. All of the mandates 
and their impacts on state, local, and private entities, however, are 
discussed at length in the section entitled ``Intergovernmental and 
Private-Sector Impact'' on pages 35-40 of CBO's cost estimate for H.R. 
2454, as ordered reported by the House Committee on Energy and Commerce 
on May 21, 2009, which is available at www.cbo.gov/ftpdocs/102xx/
doc10262/hr2454.pdf.

   Did CBO's score of H.R.2454 assume the cost of a larger 
        federal bureaucracy? If yes, what were those costs and what 
        assumptions were they based on?

    Answer. Several federal agencies, including the Environmental 
Protection Agency (EPA), the Federal Regulatory Energy Regulatory 
Commission (FERC), the Department of State, the Department of Energy, 
and others would be responsible for administering programs under H.R. 
2454. In total, CBO estimates that fully funding federal agencies' 
administrative costs required to implement the provisions of H.R. 2454 
would require gross appropriations totaling $540 million in 2010 and 
$8.2 billion over the 2010-2019 period. A significant portion of the 
estimated costs would be incurred by EPA to administer the proposed 
greenhouse gas cap-and-trade program, including a roughly five percent 
increase in personnel each year. Such personnel would be responsible 
for developing regulations, preparing rulemakings, assessments, and 
studies, distributing proceeds generated from the auctions, and other 
activities related to the cap-and-trade program. Other agencies would 
be responsible for supporting the proposed energy-efficiency and 
renewable electricity standard, providing rebates to low-income 
individuals and undertaking a variety of rulemakings and studies 
related to the new programs authorized under the bill; consequently, 
those agencies would incur costs for additional personnel, contractors, 
and information technology. The estimates of cost are primarily based 
on input from EPA and other federal agencies and on historical 
information on how large regulatory programs have been implemented.
    FERC, which has the authority to offset 100 percent of its 
administrative costs through fees on regulated entities, would levy 
additional fees sufficient to offset any increased administrative costs 
incurred under H.R. 2454. Based on information from FERC, CBO estimates 
that increased user fees to the agency would offset roughly $40 million 
of annual estimated costs under H.R. 2454. Consistent with current 
budgetary treatment, such fees would be recorded as offsetting 
collections, thus reducing the net appropriations that would be 
necessary to implement the legislation to roughly $7.8 billion over the 
next 10 years. CBO estimates that net outlays resulting from that 
amount of funding would total $390 million in 2010 and $7.5 billion 
over the 2010-2019 period. Those costs are not counted for pay-as-you-
go purposes because they would be subject to future appropriation 
action.
    Question 3. Assuming the United States adopts cap-and-trade 
legislation such as those currently under consideration in Congress, 
are there any alternative cost containment options if verifiable 
international offsets are not available in sufficient quantity?
    Answer. Cap-and-trade programs could include a variety of design 
features that would help contain compliance costs. Those options 
include:

   Allowing firms to transfer allowance requirements across 
        time-by defining compliance periods over multiple years, and by 
        allowing firms to ``bank'' allowances to use in a future year 
        or to ``borrow'' allowances from a future year for use in an 
        earlier year,
   Allowing firms to purchase ``offset credits'' that are 
        generated by entities that reduce emissions that would not 
        otherwise be subject to the cap in approved ways,
   Allowing firms to purchase an additional supply of 
        allowances at or above a stated price. One variant of this 
        approach is to create a ``reserve pool''. another variant is to 
        establish a ``price ceiling.'' Under the reserve pool approach, 
        the government would sell a limited number of allowances in 
        ``reserve auction'' at or above a minimum reserve auction 
        price. Allowances sold in the reserve auction would be taken 
        from allocations in future years. Under the price ceiling 
        approach, the government would sell an unlimited number of 
        supplemental allowances (that is, in addition to the allowances 
        initially created under the legislation) at a pre-specified 
        ``safety valve'' price.

    H.R. 2454 and S. 1733 would utilize several of those cost 
containment mechanisms. Both bills would allow firms to bank unlimited 
numbers of allowances, to undertake limited borrowing of future 
allowances, to comply over multiple years, and to purchase offset 
credits as a way of containing the cost of meeting the cap.
    CBO finds that allowing firms to comply by submitting offset 
credits would significantly lower firms' compliance costs under this 
legislation. For example, CBO estimates that the use of offset credits 
would reduce the allowance price for H.R. 2454 by roughly 70 percent. 
Further, CBO estimates that international offsets play a more 
significant role in holding down costs than do domestic offsets: firms 
are not projected to use the maximum number of domestic offset credits 
allowed under H.R. 2454 (one billion) until 2042, while firms are 
projected to reach the one billion limit on the use of international 
offsets more than a decade earlier. (Firms would be able to use 
additional international offsets to make up for the lack of 
availability of domestic offsets in the intervening years). Thus, if 
international offset credits were not as readily available as CBO 
projects, compliance costs would be higher than CBO estimates.
    Both H.R. 2454 and S. 1733 would establish a reserve pool to help 
contain costs if costs were higher than anticipated. That reserve would 
be initially stocked with a limited number of allowances withheld from 
annual allocations at the onset of the program and could be refilled by 
government purchases of international offsets. Specifically, the bills 
would instruct the Administrator of the Environmental Protection Agency 
to use the revenue obtained by selling allowances from the reserve pool 
to purchase domestic and international offset credits. The 
Administrator would be instructed to retire those credits and create a 
number of allowances equal to the number of international offset 
credits retired. Those allowances would be used to re-stock the reserve 
pool. If international offset credits were not readily available, 
restocking the reserve pool would be difficult.
    Because a scarce supply of international offsets could both 
increase the likelihood that firms would wish to purchase allowances 
from the reserve pool and would limit the Administrator's ability to 
restock that pool, the reserve pool would probably not hold down costs 
in that situation. Legislation could seek to address this situation by 
authorizing the Administrator to find other ways to restock the reserve 
pool, for example, by using domestic offset credits, should they happen 
to be more readily available than international offset credits.
    Establishing a price ceiling, which would result in an increase in 
the number of available allowances, could avoid the potential problem 
of running out of additional allowances (that is, depleting the reserve 
pool). Unlike what would occur in the case of the reserve pool, the 
government would maintain the price ceiling by supplementing the total 
number of allowances over the course of the policy. For example, under 
the provisions of H.R. 2454, the government might agree to sell firms 
as many allowances as they might wish to purchase at a price of $28 in 
the initial year of the policy. That price ceiling could rise over 
time. Although such an approach would avoid potential difficulties with 
restocking the reserve pool, it would also create more uncertainty 
about the quantity of emissions over the course of the policy.
    Numerous variations of reserve pools and price collars could be 
considered, with different implications for policy outcomes. CBO is 
performing additional analysis on this topic.
    For further information, see:

   Flexibility in the Timing of Emission Reductions Under a 
        Cap-and-Trade Program (Statement of Douglas W. Elmendorf, 
        Director, CBO, before the Committee on Ways and Means, United 
        States House of Representatives, March 26, 2009) which is 
        available at: www.cbo.gov/ftpdocs/100xx/doc10020/03-26-Cap-
        Trade_Testimony.pdf
   Congressional Budget Office, Policy Options for Reducing 
        CO2 Emissions (February 2008), which is available 
        at: www.cbo.gov/ftpdocs/89xx/doc8934/02-12-Carbon.pdf

    Question 4. Do you believe consumers need to feel a price signal in 
order to undertake energy efficiency investments and make the 
behavioral changes necessary to reduce national fossil fuel use? Do 
measures meant to reduce the burden of higher electricity prices, such 
as the significant share of emissions allowances allocated to local 
electricity distribution companies (LDCs) under H.R. 2454, effectively 
dampen the carbon price signal and thus consumers' incentives to make 
choices and behavioral changes that will be needed to decarbonize the 
economy?
    Answer. Price signals are an effective and efficient way to 
encourage consumers (and businesses) to reduce energy consumption and 
increase investment in energy efficiency. Although other regulatory 
approaches can achieve the same goals, under most circumstances, those 
alternative approaches are a more expensive means to achieving the same 
goal.
    The cap-and-trade program for greenhouse gases (GHGs) that would be 
created by H.R. 2454 would provide incentives for emissions reduction 
in two ways. First, it would motivate generators that are covered by 
the cap to reduce the amounts of GHGs that they emit directly in the 
production of electricity. Second, it would result in higher prices for 
goods and services whose production or consumption leads to relatively 
large quantities of GHG emissions. Those higher prices would encourage 
consumers to purchase fewer of those products.
    H.R. 2454 would also provide rebates to electricity consumers 
through local distribution companies (LDCs). Those rebates would be 
provided as reductions to the fixed portion of electric bills rather 
than as reductions to the rate charged for electricity. To the extent 
that consumers view such rebates as unrelated to the price of 
electricity, the rebates would not affect the incentive to reduce 
consumption. Conversely, if consumers view the rebates as offsetting 
the price increase, the rebates would eliminate the added incentive to 
reduce their consumption of electricity.
    CBO concluded that the share of emissions allowances allocated to 
local electricity distribution companies (LDCs) in the manner described 
in H.R. 2454 would dampen, but not eliminate, the carbon price signal 
to residential electricity consumers. Although the fixed rebates that 
LDCs would provide to customers would not, in theory, reduce incentives 
to conserve energy, CBO concluded that not all residential consumers 
would distinguish changes in the fixed portion of their bill from 
changes in the what they pay based on their use of electricity. 
Therefore, CBO estimated that rebates to residential consumers would 
cut the price signal in half, but not completely eliminate it. That 
dampening of the price signal for residential customers would cause the 
overall price on emissions to rise slightly to generate additional 
reductions in usage in other sectors of the economy.
                                 ______
                                 
       Response of Larry Parker to Question From Senator Bingaman
    Question 1. A key uncertainty is how the models handle the 
recession and recovery. Do the models assume that growth and emissions 
will return to trend (ie that there will be a period of higher than 
normal growth after the recession ends as unused capacity is put into 
service) or that there has been a step-change in GDP and after the 
recession, growth rate will return to normal but that the US economy 
will set out from a low base. This question is fundamentally important 
because US emissions will have fallen by more than 8% from 2007 levels 
by the end of this year. This is the initial condition from which the 
models are being initiated. How they handle it is critical to 
projecting 2020 and 2030 costs.
    Answer. In general, the models do assume that smooth, steady 
economic growth will return after the recession ends, but from a lower 
starting point. In addition to the lower starting point, the reference 
case scenario developed by the Energy Information Administration for 
its Annual Energy Outlook has become increasingly pessimistic about 
future U.S. economic growth. This is illustrated in our report, CRS 
Report 40809, by Figure 3 on page 16.
     Responses of Larry Parker to Questions From Senator Murkowski
                     anticipated market volatility
    Question 1. There is a great deal of variation among the cost 
estimates that have been produced for the Waxman-Markey bill. While 
that is generally a cause for concern, perhaps it gives a reliable idea 
of the market volatility we can expect for carbon allowance prices over 
the next four decades.
    Assuming this is the case, can you provide us with an anecdotal 
assessment of these potential fluctuations in allowance prices and how 
they compare to volatility we have seen in the oil and gas markets 
recently?
    Answer. Attached to this memorandum is a CRS powerpoint 
presentation that discusses allowance volatility within existing cap-
and-trade programs.* As noted, volatility in allowance markets can be 
caused by a variety of allowance supply, demand and market design 
dynamics. In some cases (such as the European Union's Emissions Trading 
Scheme (ETS)), the volatility can be substantial. Perhaps more 
importantly with respect to allowance prices and energy market 
volatility, analysis of ETS allowance prices during Phase 1 suggests 
the most important variables in determining allowance price changes in 
the European program were oil and natural gas price changes. See: Maria 
Mansanet-Bataller, Angel Pardo, and Enric Valor, ``CO2 
Prices, Energy and Weather,'' 28 The Energy Journal 3 (2007), pp. 73-
92.
---------------------------------------------------------------------------
    * Attachment has been retained in committee files.
---------------------------------------------------------------------------
                             discount rates
    Question 2. The difficulty of looking decades into the future at 
the impact of a climate policy is compounded by how much the value of a 
dollar changes over time.
    If we were to go back to 1969, and wanted to explain the value of a 
$23,000 2009 model-year car, there are a few ways we could attempt to 
do so. We might adjust the 2009 price tag for inflation and say ``it 
will cost the equivalent of $3,960 in today's dollars''. Or we could 
say, ``put $562 in the bank, and at a 5% interest rate you will have 
enough to buy the car in 2009''. This latter explanation would rely 
upon a `net present value inflation adjusted' calculation, which is 
what most of these reports use.
    But it should be apparent that this is a very bad indication of 
what something will actually cost in 40 years. Climate bills do not 
require Americans to put away money now to cover costs later; they 
simply impose those costs at some future date.
    So I have to ask if there is something I am missing here. I 
understand that discounting is a standard practice in the computer 
models used by the agencies, but it seems like these models and the 
numbers they generate are better for comparing two pieces of 
legislation than providing a real idea of what costs we can expect.
    Are there better ways to explain the costs of these bills, or at 
least ways that would make more sense to my constituents?
    What would the use of actual dollar amounts, simply adjusted for 
inflation without discounting, do to the cost estimates produced for 
these climate bills?
    Answer. The general purpose of a discount rate is to convert future 
revenues and costs into their value today so that they can be compared 
to each other in a meaningful fashion. As noted in your example, 
businesses use discount rates to account for the ``time value'' of 
money in making investments (see discussion of discount rates in CRS 
Report 40809, page 40). Since a first-order effect of climate change 
legislation is the cost businesses incur in complying with the 
reduction requirements, use of discount rates by the models reflects 
standard business practice.
    With respect to attempting to estimate impacts on consumers, model 
results are problematic and should be viewed with the utmost skepticism 
(CRS Report 40809, pages 76-82). The ``time'' issue here is not related 
to making long-term investment decisions (as your example illustrates 
correctly), but putting any costs in the context of the economy in 
which they would occur at the time they would occur. Talking about a 
cost to be incurred in 2020 in terms of today is mixing a 2020 cost 
estimate with a 2009 economy (currently in recession) and 2009 wages. 
If, as suggested by your question, one only adjusts for inflation, one 
is assuming the U.S. economy and wages in real terms will not increase 
for the next 10, 20, 30, or even 40 years (depending on the cost 
estimate being used). All models project future real economy growth 
(beyond inflation), and therefore, the economy of the future is assumed 
to be larger than it currently is. Individuals in 2020, 2030, or 2050 
are projected to have higher real income (beyond inflation) than they 
have today. Thus, simply adjusting future costs to inflation may be 
inadequate, unless one believes that the U.S. economy and people's 
wages will remain stagnant and not increase in real terms for the next 
decade or more.
    The analyses by CBO and CRA International referenced in CRS Report 
40809 recognize this problem by estimating their projected 2020 costs 
in terms of a 2010 economy (i.e., the estimated impact in 2020 has been 
scaled to represent an equivalent impact in terms of the size of the 
2010 economy). Based on CBO's projections of GDP growth, population 
growth, and inflation, CRS estimated the imputed real discount rate of 
CBO's scaling methodology at 2% annually in real terms. By using this 
discount rate, the impact of a 2020 costs can be converted into an 
impact reflective of today's economy. This allows one to compare a cost 
and an economy in the same time period (2010).
    CRS Report 40809 presents household effect estimates for 2020 in 
both undiscounted (Figure 17) and the CRS calculated discounted (Figure 
18) forms. As stated in the Report on page 80:

          The data for household effects in the various cases are 
        presented in either discounted or undiscounted form. As noted 
        earlier, discounting is a way in which economics expresses 
        time, and is a standard convention when examining a stream of 
        economic data across time. With respect to household effects, 
        discounting costs accounts for the fact that program costs will 
        occur in the future when incomes are expected to be higher. For 
        the purposes of this section, CRS has generally presented data 
        in undiscounted form, partly because the discount rates of the 
        studies vary substantially.
          A second accounting issue is the context in which the 
        household effects estimates are presented. Most of the cases 
        here present their household effects estimates in the economic 
        context of the year in which they would occur; i.e., effects in 
        2020 are presented in terms of its impact on a 2020 economy. 
        Two cases, CBO and NBCC/CRA scaled their estimates in the 
        context of the 2010 economy. In its discussion of results 
        below, CRS attempts to normalize the various cases' household 
        effects estimates in the context a 2010 economy.
          Because household estimates are problematic for reasons 
        suggested above, CRS focuses on those effects estimated for the 
        year 2020. Any estimate beyond that point, or any cumulative 
        estimate to 2030 or beyond, should be viewed with the utmost 
        skepticism.
      Responses of Larry Parker to Questions From Senator Cantwell
    Question 1. Assuming the United States adopts cap-and-trade 
legislation such as those currently under consideration in Congress, 
are there any alternative cost containment options if verifiable 
international offsets are not available in sufficient quantity?
    Answer. As noted in CRS Report 40809, all the analyses examined 
agreed that international offsets were a critical cost containment 
mechanism under H.R. 2454 (pages 46-47). The CRS has two other reports 
that discuss a range of cost containment options that designers of a 
cap-and-trade program could use instead of international offsets. These 
reports are: (1) CRS Report RL33799, Climate Change: Design Approaches 
for a Greenhouse Gas Reduction Program by Larry Parker, and (2) CRS 
Report R40242, Carbon Tax and Greenhouse Gas Control: Options and 
Considerations for Congress by Jonathan Ramseur and Larry Parker. As 
discussed in CRS Report RL33799, there are three primary foci to 
containing costs under a cap-and-trade program.

   The tonnage requirement, and options include making the cap 
        more flexible (e.g., using emission rates rather than tonnage 
        caps based on historic emissions, expanding availability of 
        domestic offsets, imposing a carbon tax).
   The timetable for compliance and options for delaying 
        compliance under certain conditions (e.g., triggering reduction 
        ``circuit-breakers'' under specific economic or technology 
        development conditions).
   The techniques and options covered entities are permitted to 
        use in coming into compliance (e.g., banking, borrowing, 
        auctioning of permits, safety valve).

    Question 2. Do you believe consumers need to feel a price signal in 
order to undertake energy efficiency investments and make the 
behavioral changes necessary to reduce national fossil fuel use? Do 
measures meant to reduce the burden of higher electricity prices, such 
as the significant share of emissions allowances allocated to local 
electricity distribution companies (LDCs) under H.R. 2454, effectively 
dampen the carbon price signal and thus consumers' incentives to make 
choices and behavioral changes that will be needed to decarbonizes the 
economy?
    Answer. All of the models examined by CRS assume some price-induced 
demand response by consumers to higher prices (see CRS Report 40809, 
pages 64-76). With respect to the potential dampening effect of a 
rebate via the LDC, we state on pages 67-68:

          The manner in which allowances are allocated does not reduce 
        the program's compliance cost,it only changes who bears the 
        cost.\1\ As stated by W. David Montgomery of CRA International 
        during congressional testimony:
---------------------------------------------------------------------------
    \1\ There is research to suggest that using allowance value to 
reduce other distorting taxes (e.g., income and payroll taxes), can 
produce a more efficient tax system, and therefore reduce the overall 
cost to the economy from the cap-and-trade program. However, H.R. 2454 
does not use allowance value to reform the tax system.
---------------------------------------------------------------------------
          The allocation of allowances cannot eliminate the cost of a 
        cap and trade program; it can only change who bears the cost. 
        Free allocations can remove some or all of the cost of 
        obtaining allowances that grant permission to emit up to the 
        stated caps; but no matter how allowances are distributed, none 
        of the cost of the actions that must be undertaken to bring 
        emissions down to satisfy the caps can be removed. At best, 
        that distribution can eliminate the cost of purchasing 
        allowances from the government. Nothing can eliminate the cost 
        of reducing emissions from their projected business-as-usual 
        level to the capped level, though there are many ways of hiding 
        or shifting that cost around.\2\
---------------------------------------------------------------------------
    \2\ W. David Montgomery, Prepared Testimony. Hearing on Allowance 
Allocation Policies in Climate Legislation. House. Committee on Energy 
and Commerce, Subcommittee on Energy and Environment, (June 9, 2009), 
p. 1.
---------------------------------------------------------------------------
          Indeed, free allocation of allowances can increase the cost 
        of the program if it dilutes the price signal, resulting in 
        less economically efficient compliance schemes. As EPA stated 
        in its analysis of H.R. 2454:
          Returning the allowance value to consumers of electricity via 
        local distribution companies in a non-lump sum fashion prevents 
        electricity prices from rising but make the cap-and-trade more 
        costly overall. This form of redistribution makes the cap-and-
        trade more costly since greater emission reductions have to be 
        achieved by other sectors of the economy. Resulting changes in 
        prices of other energy-intensive goods also influence the 
        overall distributional impacts of the policy.\3\
---------------------------------------------------------------------------
    \3\ U.S. Environmental Protection Agency, EPA Analysis of the 
American Clean Energy and Security Act of 2009: H.R. 2454 in the 111th 
Congress (June 23, 2009), p. 49.
---------------------------------------------------------------------------
          In the case of H.R. 2454, this diluting effect does not seem 
        to dominate the cost analysis. For example, in analyzing the 
        May discussion draft that preceded the introduction of H.R. 
        2454, EPA assumed that the cap-and-trade program would allocate 
        its allowances entirely by auction-the most economically 
        efficient means of distributing allowances. In its June 
        analysis of H.R. 2454 as reported by House Energy and Commerce 
        Committee, EPA included scenarios that incorporated the free 
        allocation provisions of the bill in a manner that reduced 
        electricity price increases to consumers and which increased 
        electricity demand and associated emissions. However, in 
        comparing the overall impact of the two versions, the projected 
        allowance prices were less in the reported version than the 
        discussion draft-a result driven primarily by the reported 
        version's less stringent 2020 emissions cap and its provisions 
        permitting expanded use of international offsets.\4\ This 
        suggests that, in the case of H.R. 2454, there may be design 
        parameters, particularly the assumed availability of 
        international offsets, that could substantially outweigh 
        whatever economic inefficiencies are introduced by its free 
        allocation scheme.
---------------------------------------------------------------------------
    \4\ The Heritage Foundation found that the less efficient 
allocation of the reported version of H.R. 2454 overweighed the 
reduction in the 2020 reduction requirements from the discussion draft. 
However, the Heritage Foundation did not alter its somewhat restrictive 
assumptions about the availability of offsets in recalculating H.R. 
2454 costs. See The Heritage Foundation, Son of Waxman-Markey: More 
Politics Makes for a More Costly Bill, (May 18, 2009).
---------------------------------------------------------------------------
          In the case of H.R. 2454, there are three factors that affect 
        the efficiency of its allocation system. First, as indicated 
        earlier, H.R. 2454 uses a mixture of free allocation schemes 
        and auctions to distribute allowances. Over time, the 
        distribution becomes increasingly based on auctions with per-
        capita rebates to consumers. Thus, the allocation system 
        becomes increasingly efficient economically over time with over 
        65% of allowances auctioned by 2030. Second, there is a 
        significant amount of free allowances allocated for other 
        purposes (state energy efficiency programs, international 
        activities, etc.,) that would have little or no effect on the 
        price signal. Third, the bill contains language that attempts 
        to prevent electricity and natural gas LDCs from using the free 
        allowances provided them to reward increased use of energy. 
        Alternatives include focusing on the fixed component of energy 
        bills and use of allowance value to fund energy efficiency 
        activities (mandated for one-third of natural gas LDCs' 
        allocation).
          Of the analyses examined here, the EPA cases assume that the 
        allowances allocated to electricity LDCs do dilute the price 
        signal, resulting in the need for increased emission 
        reductions. However, the scenario most focused on by EPA 
        (scenario 2) incorporates some of the efficiency provisions of 
        H.R. 2454 that counteract this effect. The CRA International 
        analysis assumes that LDCs do distribute the allowances in the 
        manner mandated by the bill, preventing a dilution of the price 
        signal. Disagreeing with EPA's interpretation, CRA 
        International states: ``The specific provisions on the use of 
        the allowances do not allow the use of the allowances for 
        rebates based `solely on the quantity of electricity delivered 
        to such ratepayer.' [footnote to H.R. 2454 omitted] Since the 
        rebate is not to be based on electricity use it should not 
        distort the incentive for consumers to conserve 
        electricity.''\5\ For EIA, electricity allowances allocated 
        freely to load serving entities are reflected as a reduction in 
        ``effective'' electricity rates to consumers.\6\ When asked by 
        CRS about how its study distributed allowance value, the 
        Heritage Foundation rejected the entire notion a priori that 
        allowance value could be used to reduce energy prices. Instead, 
        the Heritage Foundation models the macro-economic and pricing 
        effects of H.R. 2454 as if all the allowances are auctioned, 
        treating the allowance value created by H.R. 2454 as government 
        revenue (similar to a tax) regardless of whether they are 
        formally auctioned or not.\7\
---------------------------------------------------------------------------
    \5\ CRA International, Impact on the Economy of the American Clean 
Energy and Security Act of 2009 (H.R. 2454) (May 2009) p. 53.
    \6\ EIA models the natural gas LDC allowance allocation similarly, 
except for the \1/3\ that is designated for energy efficiency. EIA 
models this provision by using \1/3\ of the value of allowances for 
programs that accelerate penetration of more efficient technologies and 
therefore lower gas demand.
    \7\ The Heritage Center for Data Analysis, The Economic 
Consequences of Waxman-Markey: An Analysis of the American Clean Energy 
and Security Act of 2009 (August 5, 2009) p. 16.
---------------------------------------------------------------------------
                                 ______
                                 
      Response of Richard Newell to Question From Senator Bingaman
    Question 1. A key uncertainty is how the models handle the 
recession and recovery. Do the models assume that growth and emissions 
will return to trend (i.e., that there will be a period of higher than 
normal growth after the recession ends as unused capacity is put into 
service) or that there has been a step-change in GDP and after the 
recession, growth rate will return to normal but that the US economy 
will set out from a low base. This question is fundamentally important 
because US emissions will have fallen by more than 8% from 2007 levels 
by the end of this year. This is the initial condition from which the 
models are being initiated. How they handle it is critical to 
projecting 2020 and 2030 costs.
    Answer. EIA's analysis of H.R. 2454 was prepared before the full 
depth of the recessionas apparent. However, the analysis did 
incorporate a fall in U.S. economic output and energy-related carbon 
dioxide (CO2) emissions in 2008 and 2009. In the Updated 
Annual Energy Outlook 2009 Reference Case (April 2009), U.S. energy-
related CO2 emissions do grow as the recession ends, but 
they do not reach the 2005 level until the year 2024.
    Responses of Richard Newell to Questions From Senator Murkowski
                     anticipated market volatility
    Question 1. There is a great deal of variation among the cost 
estimates that have been produced for the Waxman-Markey bill. While 
that is generally a cause for concern, perhaps it gives a reliable idea 
of the market volatility we can expect for carbon allowance prices over 
the next four decades.
    Assuming this is the case, can you provide us with an anecdotal 
assessment of these potential fluctuations in allowance prices and how 
they compare to volatility we have seen in the oil and gas markets 
recently?
    Answer. While EIA has not examined each of the published analyses 
of H.R. 2454 in detail, we believe that the key drivers in the wide 
range of cost estimates are assumptions about the longer-term cost and 
availability of offsets and zero-and low-emitting electricity 
generating technologies such as nuclear and fossil with carbon capture 
and storage. As a result, we do not believe that the variation in 
allowance cost estimates in these studies is a good measure of the 
potential short-term volatility in allowance prices. Any short-term 
price volatility would be more likely to be due to variation in energy 
prices, weather, short-term energy supply and demand shocks, or other 
factors. These short term changes are not typically assessed in 
existing studies.
                             discount rates
    Question 2. The difficulty of looking decades into the future at 
the impact of a climate policy is compounded by how much the value of a 
dollar changes over time.
    If we were to go back to 1969, and wanted to explain the value of a 
$23,000, 2009 model-year car, there are a few ways we could attempt to 
do so. We might adjust the 2009 price tag for inflation and say ``it 
will cost the equivalent of $3,960 in today's dollars.'' Or we could 
say, ``put $562 in the bank, and at a 5% interest rate you will have 
enough to buy the car in 2009.'' This latter explanation would rely 
upon a `net present value inflation adjusted' calculation, which is 
what most of these reports use.
    But it should be apparent that this is a very bad indication of 
what something will actually cost in 40 years. Climate bills do not 
require Americans to put away money now to cover costs later; they 
simply impose those costs at some future date.
    So I have to ask if there is something I am missing here. I 
understand that discounting is a standard practice in the computer 
models used by the agencies, but it seems like these models and the 
numbers they generate are better for comparing two pieces of 
legislation than providing a real idea of what costs we can expect.
    Are there better ways to explain the costs of these bills, or at 
least ways that would make more sense to my constituents?
    What would the use of actual dollar amounts, simply adjusted for 
inflation without discounting, do to the cost estimates produced for 
these climate bills?
    Answer. EIA recognizes that there are multiple ways to express the 
costs of complying with H.R. 2454 and, as a result, in our study we 
provided costs during each year separately, as well as both discounted 
and undiscounted cumulative costs. The undiscounted cumulative costs 
are always higher; however, when one wants to compare alternative 
policies and scenarios that have different time paths of costs and 
benefits, discounting is necessary to put them on a comparable basis. 
Discounting is the widely-accepted economic method for aggregating 
impacts that occur at different points in time.
     Responses of Richard Newell to Questions From Senator Cantwell
    Question 1. Both the EPA and EIA analyses have addressed the 
question of costs associated with various pieces of climate change 
legislation, most recently H.R. 2454. Has either of these agencies, or 
any other government agency, ever analyzed the potential economic costs 
of business-as-usual, assuming that climate impacts projected by the 
Intergovernmental Panel on Climate Change and the U.S. Climate Change 
Science Program come to pass in the upcoming decades? How do the 
economic costs of inaction compare with those of policy action on 
climate change?
    Answer. EIA has not performed such an analysis, and would defer to 
EPA as to whether or not that agency has. A recent interagency effort 
has focused on measures of the ``social cost of carbon.''.
    Question 2. According to the EIA, in January of 2008, crude oil 
cost $87 per barrel, in July itost $128 a barrel, and in December it 
cost $37 a barrel, for an annual average cost of $94/barrel.

   Does ETA's or EPA's modeling of H.R. 2454 give us any 
        indication of the extent to which seasonal energy price 
        volatility might result from a capand-trade policy?
   Could a well-designed price collar mitigate this volatility?

    Answer. EIA's analysis of H.R. 2454 assumes that allowance prices 
will rise smoothly athe rate of return that investors would require. It 
does not specifically address the volatility in prices that might occur 
in the actual market. In principle, theanking provisions of the 
legislation would tend to dampen any volatility because, if the 
allowance price were to fall below a long-term expected value, 
allowances would be banked for future use. In addition, a well-designed 
price collar could likely dampen the volatility in prices that might 
otherwise occur, depending on the price ceiling, the price floor, and 
the amount of allowances available to support the price collar.
    Question 3. To what extent does the length and complexity of H.R. 
2454 increase the uncertainties and the sensitivities in the modeling 
results?
    Answer. While a shorter, less complex bill would likely be easier 
to model, the keyompliance uncertainties would remain. These 
uncertainties center on assumptions about the cost and availability of 
offsets and zero- and low-emitting electricity generating technologies 
such as nuclear and fossil with carbon capture and storage (CCS). Until 
there is some significant market experience with offsets and several 
new nuclear plants and fossil plants with CCS are built, it will be 
difficult to reduce these uncertainties.
    Question 4. To what extent does [sic] H.R. 2454's cost containment 
measures, such as itseavy reliance on offsets to meet emission 
reduction targets, increase the uncertainties and the sensitivities in 
the modeling results?
    Answer. EIA found that the use of offsets, particularly 
international offsets, was a keyompliance option under H.R. 2454. In 
fact, in our Basic Case, offsets account for nearly 60 percent of the 
compliance through 2030. This led us to prepare several sensitivity 
cases with alternative offset assumptions. Until there is some 
significant market experience with offsets, it will be difficult to 
reduce these uncertainties.
    Question 5. To what extent does the development of a carbon market 
in H.R. 2454, which will likely cause price changes independent of 
supply and demand fundamentals, increase the uncertainties and the 
sensitivities in the modeling results?
    Answer. EIA's analysis of H.R. 2454 assumes that allowance prices 
will rise smoothly athe rate of return that investors would require. It 
does not specifically address the volatility in prices that might occur 
in the actual market. In practice, there could be periods when prices 
vary significantly and careful market monitoring would also be 
required. Nonetheless, the use of a cap-and-trade system as the 
centerpiece of H.R. 2454 would tend to lessen the sensitivity of the 
bill's cost to various key factors. This is due to the flexibility of 
cap-and-trade, which allows substitute compliance options to provide 
cost-effective reductions when other options turn out to be limited or 
of relatively high cost.
    Question 6. Both the EIA and EPA analyses of the House bill show 
significant expansion of nuclear power as the constraints on fossil 
carbon get tighter in future decades. Could you talk about the 
expansion of nuclear power and assumptions that facilitate it in your 
models?

   Is price the principal driver of nuclear power in the 
        models, or doovernment subsidies play a role in the industry's 
        expansion?
   What role do you believe a clear and consistent carbon price 
        signal play [sic] in the future development of nuclear power? 
        How would you rate the impact of a carbon price signal on 
        future nuclear energy development relative to expansion of 
        existing industry subsidies and removal of other institutional 
        barriers?
   How could we manage volatility in the carbon market to 
        ensure a consistent price signal for energy technology 
        innovators and investors?

    Answer. Although the existing tax credits do play a role in 
spurring the construction of amall number of new nuclear plants, the 
emission allowance price is the primary factor that makes new nuclear 
power generation attractive in EIA's analysis of H.R. 2454. Because 
zero-emissions technologies such as nuclear and renewable power are 
more readily available for electricity generation than for other energy 
applications, there would be a substantial incentive to move toward 
emissions-free sources of electricity as part of cost-effective plans 
to meet a cap on covered emissions that requires an 83 percent 
reduction in emissions by 2050.
    Because new nuclear plants and other low-emitting electricity 
generating technologies are very long-lived assets, uncertainty about 
future costs, including allowance costs, is a key concern when 
evaluating a potential investment. A policy instrument, such as an 
allowance price collar, could contain this cost uncertainty and improve 
the viability of such investments.
    Nonetheless, substantial uncertainty about the future would'still 
remain, which is why EIA's analysis contains several alternative cases, 
including sensitivity cases around nuclear power. The ACESA Basic Case 
represents an environment where key low-emissions technologies, 
including nuclear, fossil with CCS, and various renewables, are 
developed and deployed on a large scale in a timeframe consistent with 
the emissions reduction requirements of ACESA and without encountering 
any major obstacles.
    The ACESA High Cost Case is similar to the ACESA Basic Case except 
that the costs of nuclear, fossil with CCS, and biomass generating 
technologies are assumed to be 50 percent higher. There is great 
uncertainty about the costs of these technologies, as well as the 
feasibility of introducing them rapidly on a large scale. Cost 
estimates for these technologies rose rapidly from 2000 through 2008 
and have only recently begun to moderate. The actual costs of these 
technologies will not become clearer until a number of full-scale 
projects are constructed and brought on line.
    The ACESA Limited Alternatives Case represents an environment where 
the deployment of key technologies, including nuclear, fossil with CCS, 
and biomass, is limited to their Reference Case levels through 2030. 
There is great uncertainty about how fast these technologies, the 
industries that support them, and the regulatory infrastructure that 
license/permit them might be able to grow and, for fossil with CCS, 
when the technology will be fully commercialized.
    Question 7. Any climate policy enacted into law today is unlikely 
to start until at least 2012,but how much uncertainty is there 
regarding the projected emissions in 2012? Does this uncertainty 
suggest that Congress might want to defer to the executive branch and 
give it the authority to set the base year emissions target in 2011 so 
that more reliable estimates closer to the implementation date can be 
used?
    Answer. The cost of complying with H.R. 2454 is driven by the 
cumulative emissions reductions required over the entire period covered 
by the legislation. As a result, shifting the initial baseline year of 
the bill would not have a large impact if all the targets in later 
years remained unchanged. If, however, the targets for all years were 
shifted with the baseline year, there could be a larger impact.
    Question 8. The Natural Resources Defense Council (NRDC) recently 
did their own analysis of the House-passed bill and predicted that 
enhanced oil recovery from captured CO2 would increase 
domestic oil production by 1.3 million barrels per day in 2020 and 2.6 
million barrels per day by 2050.

   How does NRDC's analysis compare to ETA's projections of 
        domestic oil production?
   What does ETA's analysis tell us about petroleum use under 
        the House-passed bill and what does this imply about our 
        foreign oil dependence?

    Answer. There are several important differences between the NRDC 
and EIA analyses. First, the NRDC's analysis assigned all of the 
production arising from the use of CO2-enhanced oil recovery 
(EOR) technology to the passage of the legislation, whereas EIA's 
Annual Energy Outlook 2009 (AE02009) Reference Case (April), already 
projects 1.45 million barrels per day of domestic crude oil production 
(20 percent of the total) from CO2-EOR in 2030 (the limit of 
our modeling horizon)--with a portion of that CO2 supply 
being provided by carbon capture at industrial facilities.
    Second, in EIA's analysis the amount that oil producers using 
CO2-EOR would be able to collect from emitters for taking 
captured CO2 under either a carbon capand-trade scheme or 
tax is limited by the cost of alternative CO2 sequestration 
options available to emitters, such as storage in deep saline aquifers 
and unminable coal seams. NRDC's analysis apparently allows oil 
producers to collect a larger fee for taking and using CO2, 
despite the availability of lower-cost options for emitters seeking to 
sequester their captured CO2.
    Third, the NRDC projections of CO2-EOR production 
include both the onshore lower-48 and the offshore Louisiana regions. 
The EIA excludes the offshore Louisiana region because of the 
considerable cost of constructing offshore CO2 pipelines and 
building new offshore platforms to accommodate CO2--EOR 
facilities. EIA and NRDC also use different methodologies for assessing 
the increment to the technically recoverable resource (TRR) base that 
would arise from implementation of the CO2--EOR technology.
    EIA's analysis of ACESA showed an incremental CO2--EOR 
production of approximately 200,000 barrels per day above the AE02009 
Reference Case across the cases that EIA analyzed. With regard to 
domestic crude oil production, EIA projects that, under the AE02009 
Reference Case, CO2--EOR will provide 20 percent of domestic 
crude oil production by 2030 and that the technology for the 
CO2--EOR capture at industrial facilities will be developed 
and deployed without climate change legislation under projected crude 
oil prices.
    Projected U.S. petroleum use in 2030 is 20.9 million barrels per 
day (bpd) in the AE02009 Reference Case, and ranges from 19.3 million 
bpd to 20.1 million bpd across the main policy cases in EIA's analysis 
of ACESA. Across the policy cases, more optimistic assumptions 
regarding the cost and availability of offsets and low- and no-carbon 
electric generation technologies tend to result in lower allowance 
prices and higher levels of projected oil consumption. The share of net 
crude and product imports in projected 2030 petroleum consumption is 40 
percent in the Reference Case, and ranges from 34 to 38 percent across 
the ACESA policy cases.
    Question 9. I understand EIA recently started incorporating the 
impact financial marketrading might be having on energy market prices. 
Are there lessons from that effort that could be applied to better 
predicting future prices under H.R. 2454? What impact do you think a 
new multi-trillion carbon trading market might have on cash and future 
carbon prices?
    Answer. In September 2009, EIA launched the Energy and Financial 
Markets Initiative toupplement EIA's data collection and analysis of 
oil and natural gas fundamentals. Key actions under this Initiative 
are: (1) collection of critical information on factors affecting energy 
prices, (2) analysis through in-depth studies of energy market 
behavior, (3) outreach to solicit feedback from a broad range of 
experts on the interrelationship of energy and financial markets, and 
(4) coordination with other Federal agencies engaged in energy market 
information collection and analysis. Together, these actions should 
help us better understand what drives short-term energy prices.
    The fundamental supply and demand characteristics of a greenhouse 
gas (GHG) allowances market are likely to be significantly different 
from oil markets. Oil supply and oil demand are not very responsive to 
prices in the short-run. New sources of supply have a long time 
horizon, and transportation sector demand, a key part of the oil 
market, does not have ready alternatives to petroleum and cannot 
replace its stock of vehicles quickly. This means that there can be a 
wide range of prices that are roughly consistent with a physical 
balancing of supply and demand. Because of this, other factors, such as 
hedging, investment, and speculative activities in futures and options, 
also affect prices.
    In contrast, the demand for GHG allowances should be relatively 
more responsive to price changes because there are a number of 
different options to substitute formitting GHGs, i.e, various low-
carbon energy sources as well as offsets. On the allowance supply side, 
the government actually controls the supply of allowances, so it can 
make the supply of allowances as flexible or inflexible as it desires. 
Given the supply and demand characteristics of a GHG market, policy can 
be designed to reduce the possibility of price volatility due to 
financial market behavior. Cost containment mechanisms can adjust the 
supply of allowances, limits can be placed on how far prices can move, 
and offset provisions can be designed to expand abatement opportunities 
and thus allowance supply.
    Question 10. What assumptions does EIA make in its analysis of H.R. 
2454 on the timing, scale, and cost of carbon capture and storage 
deployments? Do these assumptions rely on any particular legislative 
proposals in the bill or do they reflect the current state of 
technology?
    Answer. The role of coal plants with carbon capture and storage 
(CCS) equipment varies in our analysis. There is significant 
uncertainty about when this technology will be commercially available 
and what the new plants will cost. As a result, several cases with 
alternative assumptions about the technologies' cost and availability 
were prepared. In our Basic Case, 5 gigawatts of new CCS capacity is 
added through 2017. The cumulative additions through 2030 in our main 
cases vary from 2 gigawatts when it is assumed the technology will not 
be broadly available through 2030, to 69 gigawatts when it is assumed 
that new additions will begin in 2016 and be widely available 
thereafter with overnight construction costs (i.e., with no interest 
costs incurred) starting just over $3,500 per kilowatt. The key drivers 
for the additions are the emissions allowance price and the special 
bonus allowances for new plants with CCS.
    Question 11. If the U.S. does not enact any limits on greenhouse 
gases, does EIA still project fossil fuel prices rising in the future? 
What percentage increase is predicted for coal, oil, and natural gas 
for the years 2015, 2020, 2025, and 2030? What level of volatility does 
EIA project in fossil fuel prices over the next 20 years, and how does 
that compare to the volatility we have experienced over the last 
decade?
    Answer. The table below shows the natural gas, coal and oil prices 
in 2007 dollars in our updated 2009 Reference Case. As shown, prices 
are expected to rise over time, though they do initially fall from the 
high levels they reached in 2008. EIA's long-term projections only 
provide average annual prices, so they do not address the market 
volatility that will likely occur.

 
----------------------------------------------------------------------------------------------------------------
                                                              2007       2015       2020       2025       2030
----------------------------------------------------------------------------------------------------------------
Natural Gas (dollars per Mcf)                                   6.39       5.60       6.79       6.82       8.01
----------------------------------------------------------------------------------------------------------------
Coal (dollars per million Btu)                                  1.86       1.98       2.02       2.05       2.09
----------------------------------------------------------------------------------------------------------------
Oil (dollars per barrel)                                       72.33      98.88     116.79     122.63     130.92
----------------------------------------------------------------------------------------------------------------

    Question 12. Assuming the United States adopts cap-and-trade 
legislation such as those currently under consideration in Congress, 
are there any alternative cost containment options if verifiable 
international offsets are not available in sufficient quantity?
    Answer. EIA found that the use of offsets, particularly 
international offsets, was a key compliance option under H.R. 2454. In 
fact, in our Basic Case, offsets account for nearly 60 percent of the 
compliance through 2030. This led us to prepare several sensitivity 
cases with alternative offset assumptions. When it was assumed that 
international offsets were not available, the allowance price in 2030 
was 64 percent above the Basic Case level. Besides offsets, other 
potential cost control mechanisms include banking and borrowing (often 
referred to as temporal flexibility), an explicit safety valve or price 
ceiling that sets a maximum allowance price, or a price collar that 
includes both a floor and ceiling price for allowances.
    Question 13. Do you believe consumers need to feel a price signal 
in order to undertake energy efficiency investments and make the 
behavioral changes necessary to reduce national fossil fuel use? Do 
measures meant to reduce the burden of higher electricity prices, such 
as the significant share of emissions allowances allocated to local 
electricity distribution companies (LDCs) under H.R. 2454, effectively 
dampen the carbon price signal and thus consumers' incentives to make 
choices and behavioral changes that will be needed to decarbonize the 
economy?
    Answer. A price signal for consumers would provide them an 
incentive to increase their investments in energy efficiency. Absent 
such a price signal, it would be more difficult to induce such 
investments. The free allocation of allowances to LDCs could lower the 
incentive of consumers to invest in efficiency if LDCs are not very 
careful in how they pass on the allowance value to their consumers. If 
the LDCs adjust their monthly bills to reflect the value of the freely 
allocated allowances, many consumers, reacting to the final bills they 
receive, may not even realize that energy prices have actually risen. 
If, on the other hand, LDCs send adjustment checks separately from 
their energy bills, or make adjustments infrequently (e.g., annually), 
consumers will see the higher monthly prices and that will give them 
more of an incentive to invest in energy efficiency.
                                 ______
                                 
      Response of Reid P. Harvey to Question From Senator Bingaman
    Question 1. A key uncertainty is how the models handle the 
recession and recovery. Do the models assume that growth and emissions 
will return to trend (ie that there will be a period of higher than 
normal growth after the recession ends as unused capacity is put into 
service) or that there has been a step-change in GDP and after the 
recession, growth rate will return to normal but that the US economy 
will set out from a low base. This question is fundamentally important 
because US emissions will have fallen by more than 8% from 2007 levels 
by the end of this year. This is the initial condition from which the 
models are being initiated. How they handle it is critical to 
projecting 2020 and 2030 costs.
    Answer. EPA's models are calibrated to EIA's 2009 Annual Energy 
Outlook (March release for ADAGE and IGEM, April release for IPM). The 
AEO 2009 forecast projects that GDP growth in the years 2011-2013 is 
approximately one percentage point higher than the average over the 
entire forecast.
    Responses of Reid P. Harvey to Questions From Senator Murkowski
                     anticipated market volatility
    Question 1a. There is a great deal of variation among the cost 
estimates that have been produced for the Waxman-Markey bill. While 
that is generally a cause for concern, perhaps it gives a reliable idea 
of the market volatility we can expect for carbon allowance prices over 
the next four decades.
    Answer. The models that have been used to analyze the Waxman-Markey 
bill do not represent price volatility. The variation in cost estimates 
reflects uncertainty about the realized cost of the bill.
    Question 1b. Assuming this is the case, can you provide us with an 
anecdotal assessment of these potential fluctuations in allowance 
prices and how they compare to volatility we have seen in the oil and 
gas markets recently?
    Answer. EPA acknowledges that any market for carbon will have some 
degree of volatility, although all recent legislative proposals include 
mechanisms to reduce volatility. However, EPA models are not suited to 
assess likely short-term market volatility and are instead designed to 
assess the economic impacts of the policy over a longer time horizon. 
Based on past experience with existing cap-and-trade markets in the 
U.S., EPA has assessed the prices for SO2 allowances for the 
Acid Rain Program from August 1994 to December 2003, to capture a time 
period of market behavior in the absence of major regulatory 
adjustments. The findings suggest that the volatility of SO2 
allowance prices during this period were very comparable to the 
volatility of other energy related prices, if not generally lower, for 
the time period considered.
                             discount rates
    Question 2a. The difficulty of looking decades into the future at 
the impact of a climate policy is compounded by how much the value of a 
dollar changes over time.
    If we were to go back to 1969, and wanted to explain the value of a 
$23,000 2009 model-year car, there are a few ways we could attempt to 
do so. We might adjust the 2009 price tag for inflation and say ``it 
will cost the equivalent of $3,960 in today's dollars''. Or we could 
say, ``put $562 in the bank, and at a 5% interest rate you will have 
enough to buy the car in 2009''. This latter explanation would rely 
upon a `net present value inflation adjusted' calculation, which is 
what most of these reports use.
    But it should be apparent that this is a very bad indication of 
what something will actually cost in 40 years. Climate bills do not 
require Americans to put away money now to cover costs later; they 
simply impose those costs at some future date.
    So I have to ask if there is something I am missing here. I 
understand that discounting is a standard practice in the computer 
models used by the agencies, but it seems like these models and the 
numbers they generate are better for comparing two pieces of 
legislation than providing a real idea of what costs we can expect.
    Answer. The net present value of the consumption loss in a future 
period calculates the consumption loss today that would be equivalent 
to the consumption loss estimated for a future period. For example, as 
shown in table 4 of EPA's analysis of S. 1733, in 2020 H.R. 2454 would 
result in a consumption loss of $0.23-$0.29 per day. The net present 
value today of this loss would be $0.13-$0.16 per day. This means that 
a household would be indifferent between a consumption loss of $0.29 
that happens in 2020 and a consumption loss of $0.16 that happens 
today.
    Question 2b. Are there better ways to explain the costs of these 
bills, or at least ways that would make more sense to my constituents?
    Answer. There are many different ways to present the cost of these 
bills. Examples of cost metrics included in EPA's analysis of H.R. 2454 
include (all values are from ADAGE scenario 2 in 2030 unless otherwise 
noted):

   Allowance price: $27/tCO2e
   Average annual net present value cost per household (2005 
        $): -$111
   Change in average household energy expenditures (%): 2%
   Change in GDP (billion 2005 $): -$83
   Change in GDP (%): -0.37%

    Question 2c. What would the use of actual dollar amounts, simply 
adjusted for inflation without discounting, do to the cost estimates 
produced for these climate bills?
    Answer. On a per household basis, the undiscounted cost of H.R. 
2454 is estimated to be $0.23 to $0.29 per day in 2020, $0.76 to $1.00 
per day in 2030, and $2.50-$3.52 per day in 2050 in the core scenario 
of EPA's analysis. All of these costs are presented in real 2005 
dollars.
     Responses of Reid P. Harvey to Questions From Senator Cantwell
    Question 1. Both the EPA and EIA analyses have addressed the 
question of costs associated with various pieces of climate change 
legislation, most recently H.R. 2454. Has either of these agencies, or 
any other government agency, ever analyzed the potential economic costs 
of business-as-usual, assuming that climate impacts projected by the 
Intergovernmental Panel on Climate Change and the U.S. Climate Change 
Science Program come to pass in the upcoming decades? How do the 
economic costs of inaction compare with those of policy action on 
climate change?
    Answer. EPA has not analyzed the total economic costs (damages) 
associated with no action on climate change, nor are we aware of any 
other government agency's work on this topic. For marginal (small) 
changes in greenhouse gases, the benefits of action (the avoided 
damages) have been estimated by EPA\1\, NHTSA\2\, and DOE\3\ and more 
recently using newly developed interim values\4\ for the damages 
associated with avoided damages. However, these values are more 
appropriately applied to regulatory changes, rather than climate 
legislation, because they were developed for marginal changes in 
emissions, rather than the comparatively large changes resulting from 
current climate proposals under review. To examine the avoided economic 
costs from legislation, a different approach would be required and to 
date EPA has not analyzed this. The June report from the U.S. Global 
Change Research Program\5\ did, however, examine impacts on the United 
States from lower versus higher greenhouse gas emission scenarios. This 
report examined all regions and all sectors (e.g., agriculture, human 
health, etc.) but did not attempt to estimate total costs.
---------------------------------------------------------------------------
    \1\ U.S. Environmental Protection Agency. ``Regulating Greenhouse 
Gas Emissions Under the Clean Air Act: Advance Notice of Proposed 
Rulemaking-Technical Support Document on Benefits of Reducing GHG 
Emissions'' (2008) and ``Proposed Rulemaking To Establish Light-Duty 
Vehicle Greenhouse Gas Emission Standards and Corporate Average Fuel 
Economy Standards'' (2009)
    \2\ U.S. National Highway Transportation and Safety Administration. 
``Average Fuel Economy Standards: Passenger Cars and Light Trucks Model 
Year 2011: Final Rule'' (2009) and ``Proposed Rulemaking To Establish 
Light-Duty Vehicle Greenhouse Gas Emission Standards and Corporate 
Average Fuel Economy Standards'' (2009)
    \3\ U.S. Department of Energy, ``Energy Conservation Program for 
Commercial and Industrial Equipment: Packaged Terminal Air Conditioner 
and Packaged Terminal Heat Pump Energy Conservation Standards: Final 
Rule'' (2008)
    \4\ For example, see Federal Register 40 CFR Parts 86 and 600, 
September 28, 2009 ``Proposed Rulemaking To Establish Light-Duty 
Vehicle Greenhouse Gas Emission Standards and Corporate Average Fuel 
Economy Standards; Proposed Rule''.
    \5\ U.S. Global Change Research Program, ``Global Climate Change 
Impacts in the United States'' (2009).
---------------------------------------------------------------------------
    Question 2. According to the EIA, in January of 2008, crude oil 
cost $87 per barrel, in July it cost $128 a barrel, and in December it 
cost $37 a barrel, for an annual average cost of $94/barrel.

   Does EIA's or EPA's modeling of H.R. 2454 give us any 
        indication of the extent to which seasonal energy price 
        volatility might result from a cap-and-trade policy?

    Answer. The models used for EPA and EIA's analyses of H.R. 2454 are 
not designed to capture price volatility or seasonal energy price 
fluctuations.

   Could a well-designed price collar mitigate this volatility?

    Answer. A well-designed price collar could mitigate potential price 
volatility. Banking and borrowing provisions also help address price 
volatility.
    Question 3. To what extent does the length and complexity of H.R. 
2454 increase the uncertainties and the sensitivities in the modeling 
results?
    Answer. EPA's analysis did not attempt to model all of the 
provisions contained in H.R. 2454. Instead, the analysis focused on the 
cap-and-trade provisions in Title III, the competitiveness provisions 
in Title IV, and a few of the energy efficiency provisions in Titles I 
& II. To the extent that the non-modeled provisions would impact the 
cost of the bill, this increases the uncertainties in the modeling 
results.
    Question 4. To what extent does H.R. 2454's cost containment 
measures, such as its heavy reliance on offsets to meet emission 
reduction targets, increase the uncertainties and the sensitivities in 
the modeling results?
    Answer. As stated in EPA's October 23, 2009 analysis of S. 1733, 
``the cost and availability of offsets, particularly international 
offsets, is one of the greatest uncertainties in forecasting the cost 
of climate legislation. . .All analyses that have looked at the issue 
have shown that the availability of offsets is one of the most 
important factors influencing allowance prices.'' To address this 
issue, EPA has in the past conducted a number of sensitivity analyses 
on offset use.
    Question 5. To what extent does the development of a carbon market 
in H.R. 2454, which will likely cause price changes independent of 
supply and demand fundamentals, increase the uncertainties and the 
sensitivities in the modeling results?
    Answer. EPA's analysis did not attempt to model price volatility. 
The economic models used by EPA estimate equilibrium conditions. 
Specifically, they assume rational behavior and full information.
    Question 6. Both the EIA and EPA analyses of the House bill show 
significant expansion of nuclear power as the constraints on fossil 
carbon get tighter in future decades. Could you talk about the 
expansion of nuclear power and assumptions that facilitate it in your 
models?

   Is price the principal driver of nuclear power in the 
        models, or do government subsidies play a role in the 
        industry's expansion?

    Answer. EPA's reference case projection of nuclear energy in the 
ADAGE model is simply calibrated to the DOE's forecast in the March 
release of the AEO 2009. The AEO forecast projects nuclear power to 
grow 12% from 2010 levels to 907 billion kWh of nuclear generation in 
2030. This reference case projection reflects existing industry 
subsidies and existing institutional barriers. We have not modeled the 
impact of changing existing nuclear subsidies.
    In the policy case, price is the principal driver of nuclear power 
in EPA's models; however assumed limits are placed on the growth of 
nuclear power. EPA's analysis of H.R. 2454 projects a 150-percent 
increase in nuclear generating capacity by 2050, in response to the 
carbon price generated by H.R. 2454. In the longer term, we believe 
that nuclear power will be a cost competitive source of emissions-free 
electricity under a cap and trade system. The 150-percent increase in 
nuclear generating capacity by 2050 is a restriction on the amount of 
new nuclear capacity that the model is allowed to build. These 
restrictions are designed to reflect the technical and political 
feasibility of building new nuclear power plants. The assumed 
limitations on new nuclear capacity reflect the U.S. Climate Change 
Science Program Synthesis and Assessment Product 2.1a (MiniCAM Level 1 
Scenario), and the EPRI analysis ``The Power to Reduce CO2 
Emissions: The Full Portfolio'' (August 2007). When it comes to the 
nuclear industry, EPA uses the assumptions about the costs of nuclear 
power used by the Energy Information Administration. All of the 
assumptions that EPA uses have been through repeated rounds of inter-
agency review. The peer review that EPA's methodologies and assumptions 
have been through is described in slides 16-18 of the appendix to EPA's 
analysis of H.R. 2454. EPA recognizes that the actual degree of future 
expansion of any of the electricity-generating technologies in question 
depends not just on the economic incentives created by a policy such as 
H.R. 2454 or S. 1733, but also on the presence or absence of 
constraints (administrative, political, etc.) that EPA's computer 
models are not designed to detect. For that reason, EPA's computer-
modeling efforts include running the policy in question through the 
models under assumptions that the technologies in question do not 
deploy as much as hoped or expected, irrespective of the economic 
incentives created by the policy under analysis.

   What role do you believe a clear and consistent carbon price 
        signal play in the future development of nuclear power? How 
        would you rate the impact of a carbon price signal on future 
        nuclear energy development relative to expansion of existing 
        industry subsidies and removal of other institutional barriers?

    Answer. See above answer.

   How could we manage volatility in the carbon market to 
        ensure a consistent price signal for in energy technology 
        innovators and investors?

    Answer. There is a large body of literature on how best to control 
volatility through market design. This literature is too vast to be 
completely covered here. But it highlights several measures that are 
widely recognized as important to ensuring the clarity and consistency 
of market signals, some of which are included in HR 2454:

   Allowing a large number of buyers and sellers of allowances
   Allowing banking and borrowing of allowances
   Other cost containment mechanisms (e.g. strategic reserve; 
        price collar) Providing a floor for allowances prices through 
        an auction ``reserve price''
                          suggested references
          Burtraw, Dallas. Addressing Price Volatility in Climate 
        Change Legislation. Written Testimony before the House of 
        Representatives Committee on Ways and Means. March 2009.

          Ellerman, A. Denny and Paul Joskow. The European Union's 
        Environmental Trading System in Perspective. Pew Center on 
        Global Climate Change. May 2008.

          Hearing of the U.S. House of Representatives Committee on 
        Ways and Means, ``Addressing Price Volatility in Climate Change 
        Legislation.'' March 26, 2009. http://waysandmeans.house.gov/
        hearings.asp?formmode=detail&hearing=6
        68

          Monast, Jonas, Jon Anda, and Tim Profeta (2009. ``U.S. Carbon 
        Market Design: Regulation Emissions Allowances as Financial 
        Instruments.'' Working Paper. Duke University, Nicholas 
        Institute for Environmental Policy Solutions, February 2009.

          Parsons, John, Denny Ellerman, and Stephan Feilhauer. 
        ``Designing a U.S. Market for CO2.'' Report No. 171, 
        MIT Joint Program on the Science and Policy of Global Change, 
        February 2009.

          Pirrong, Craig (2009). Market Oversight for Cap-and-Trade: 
        Efficiently Regulation the Carbon Derivatives Market. Brookings 
        Institution, September 2009.

          Tatsutani, Marika and William Pizer (2008). ``Managing Costs 
        in a U.S. Greenhouse Gas Trading Program.'' Discussion Paper, 
        Resources for the Future, July 2008.

    Question 7. EPA's analysis of H.R. 2454 suggests that the House-
passed bills unlimited allowance banking provisions and heavy reliance 
on domestic and international offsets result in just a 20 percent 
reduction in actual gross CO2 equivalent emissions (i.e. the 
actual amount of greenhouse gas emitted into the atmosphere for a given 
year referenced to global warming potential) in 2050 from 2005 levels.

   Is this an accurate interpretation of EPA's analysis, and if 
        so would you agree that a 20% reduction in gross greenhouse gas 
        emissions means that H.R. 2454 fundamentally does not 
        decarbonize our economy? What alternative climate policies 
        might accelerate decarbonization of the economy?

    Answer. The claim that H.R. 2454 results in, ``just a 20 percent 
reduction in actual gross CO2 equivalent emissions . . . in 
2050 from 2005 levels,'' is not an accurate interpretation of EPA's 
analysis. Depending on which emissions abatement sources you include, 
there are different ways of calculating emissions reductions in 2050 
relative to 2005 (2005 GHG Emissions = 7,109 MtCO2e). The 
following calculations are from in EPA's H.R. 2454 analysis, ADAGE 
scenario 2.

   Total U.S. GHG emissions in 2050, accounting for all sources 
        of reductions (e.g. including domestic covered and non-covered 
        GHG abatement, the HFC cap, international and domestic offsets, 
        forest set-asides, and discounted international offsets) would 
        be 2,468 MtCO2e, 65.3% below 2005 levels.
   Total U.S. GHG emissions in 2050, accounting for all sources 
        of reductions except forest set-asides and discounted 
        international offsets would be 2,797 MtCO2e, 60.6% 
        below 2005 levels.
   Total U.S. GHG emissions in 2050 accounting for all domestic 
        abatement (e.g. including domestic covered and non-covered GHG 
        abatement, the HFC cap, and domestic offsets, but excluding all 
        international abatement attributed to the bill) would be 4,018 
        MtCO2e, 43.5% below 2005 levels.
   Total U.S. GHG emissions in 2050 accounting for all domestic 
        emissions abatement (e.g. including domestic covered and non-
        covered GHG abatement, and the HFC cap, but excluding all 
        domestic sinks related offsets and all international abatement 
        attributed to the bill) would be 4,617 MtCO2e, 35.0% 
        below 2005 levels. This is the number that would be consistent 
        with the U.S. GHG inventory calculation.
   Total U.S. GHG emissions in 2050 accounting for only 
        domestic covered emissions abatement (e.g. including domestic 
        covered, but excluding non-covered GHG abatement, the HFC cap, 
        all domestic sinks related offsets and all international 
        abatement attributed to the bill) would be 5,351 
        MtCO2e, 24.7% below 2005 levels.

    EPA's analysis of H.R. 2454 shows that the bill would transform the 
structure of energy production and consumption, moving the economy from 
one that is relatively energy inefficient and dependent on highly-
polluting energy production to one that is highly energy efficient and 
powered by advanced, cleaner, and more domestically-sourced energy. 
Increased energy efficiency and reduced demand for energy resulting 
from the policy mean that energy consumption levels that would be 
reached in 2015 without the policy are not reached until 2040 with the 
policy. The share of low-or zero-carbon primary energy (including 
nuclear, renewables, and CCS) would rise substantially under the policy 
to 18% of primary energy by 2020, 26% by 2030, and to 38% by 2050, 
whereas without the policy the share would remain steady at 14%. 
Increased energy efficiency and reduced energy demand would 
simultaneously reduce primary energy needs by 7% in 2020, 10% in 2030, 
and 12% in 2050. Petroleum primary energy use declines by 0.4 million 
barrels per day in 2020, 0.7 million barrels per day in 2030, and 1.6 
million barrels per day in 2050.

   How long, on average, do these models assume that businesses 
        are saving allowances in order to accumulate 20 billion 
        allowances by 2030 and how much otherwise productive capital do 
        you estimate that might tie up?

    Answer. In EPA's H.R. 2454 analysis, the bank of allowances is 
built up over the period between 2012 and 2029, and then drawn down to 
zero between 2030 and 2050. In the IGEM model, the size of the bank in 
2030 is 20 GtCO2e with a total value of $524 billion. In 
ADAGE, the size of the bank in 2030 is 14 GtCO2e, with a 
total value of $373 billion.
    Because of the option to bank allowances, the rate of return for 
holding allowances is expected to equalize with the rate of return from 
other available investments. If instead the allowance price were rising 
faster than the interest rate, firms would have an incentive to 
increase abatement in order to hold onto their allowances, which would 
be earning a return better than the market interest rate. This would 
have the effect of increasing allowance prices in the present, and 
decreasing allowance prices in the future. Conversely, if the allowance 
price were rising slower than the interest rate, firms would have an 
incentive to draw down their bank of allowances, and use the money that 
would have been spent on abatement for alternative investments that 
earn the market rate of return. This behavior would decrease prices in 
the present and increase prices in the future. Because of these 
arbitrage opportunities, the allowance price is expected to rise at the 
interest rate. Allowing banking increases the flexibility in respect to 
when emissions abatement takes place, which reduces price volatility 
and decreases the overall cost of the program.
    Question 8. EPA's analysis of H.R. 2454 shows that there is no 
reduction in U.S. petroleum consumption through 2040. Is this 
assessment accurate? If so, how can this projection be reconciled with 
the fact that the policy's goal is to reduce overall greenhouse gas 
emissions from energy use?
    Answer. In scenario 2 of EPA's analysis of H.R. 2454, the ADAGE 
model showed that relative to the reference scenario, petroleum use 
would fall by 0.4 million barrels per day in 2020, 0.7 million barrels 
per day in 2030, and 1.0 million barrels per day in 2040. This 
projection is consistent with the policies goal to reduce greenhouse 
gas emissions. The cap-and-trade system is designed to achieve 
greenhouse gas abatement where it is most cost-effective, instead of 
mandating specific reductions from greenhouse gas emissions from 
petroleum use and other specific sources.
    Question 9. Under EPA's analysis of H.R. 2454, what is the total 
volume, in gigatons, of international offsets purchased between 2012 
and 2050? What is the total monetary value of these international 
offsets?
    Answer. In scenario 2 of EPA's analysis of H.R. 2454, the IGEM 
model showed that cumulative international offset purchases (before 
applying the 5 to 4 turn-in-ratio) from 2012 through 2050 are equal to 
approximately 51 gigatons. The total value of these international 
offsets over the entire 2012 through 2050 time period is $1.3 trillion 
(2005 dollars).
    Question 10. Under EPA's analysis of H.R. 2454, what is the total 
volume, in gigatons, of domestic offsets purchased between 2012 and 
2050? What is the total monetary value of these domestic offsets?
    Answer. In scenario 2 of EPA's analysis of H.R. 2454, the IGEM 
model showed that cumulative domestic offset purchases from 2012 
through 2050 are equal to approximately 12 gigatons. The total value of 
these international offsets over the entire 2012 through 2050 time 
period is $0.5 trillion (2005 dollars).
    Question 11. Assuming the United States adopts cap-and-trade 
legislation such as those currently under consideration in Congress, 
are there any alternative cost containment options if verifiable 
international offsets are not available in sufficient quantity?
    Answer. Various legislation and conceptual papers have proposed 
different means of containing costs within the context of a cap-and-
trade scheme. A July 2008 RFF working paper provides a good 
introduction to a number of alternatives:

          Tatsutani, Marika and William Pizer (2008). ``Managing Costs 
        in a U.S. Greenhouse Gas Trading Program.'' Discussion Paper, 
        Resources for the Future, July 2008.

    Question 12. Do you believe consumers need to feel a price signal 
in order to undertake energy efficiency investments and make the 
behavioral changes necessary to reduce national fossil fuel use? Do 
measures meant to reduce the burden of higher electricity prices, such 
as the significant share of emissions allowances allocated to local 
electricity distribution companies (LDCs) under H.R. 2454, effectively 
dampen the carbon price signal and thus consumers' incentives to make 
choices and behavioral changes that will be needed to decarbonizes the 
economy?
    Answer. A carbon price signal will lead to increased investment in 
energy efficiency by consumers as well as behavioral changes (e.g., 
adjusting the thermostat setting at home) that together will reduce 
national energy demand. The degree to which the price signal is 
dampened by allowance allocations to electric LDCs depends upon how 
that value is used. If used exclusively to reduce fixed charges (not 
tied to the level of energy consumption) to consumers then the 
dampening effect should be minimal. If used exclusively to reduce 
charges based upon the level of energy consumption (e.g., to reduce 
costs per KWh of electricity demand) then it would have a dampening 
effect on energy efficiency investments and behavioral changes that 
would otherwise tend to reduce energy demand.

                                    

      
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