Enforcement of California’s pioneering cap-and-trade program for controlling greenhouse gas emissions will be delayed one year to give the California Air Resources Board (CARB) additional time to fine tune its implementation regulations, establish mechanisms to prevent gaming of the system, and better evaluate economic impacts.

Board Chairwoman Mary Nichols announced the policy change on June 29, at a legislative hearing chaired by Senator Fran Pavley, author of the Global Warming Solutions Act of 2006, commonly known as AB 32. Nichols testified that the board still intended to implement the program by January of 2012, but would take no compliance actions until 2013. Nichols also told legislators that the board will revise its rulemaking process to include at least one public workshop in July and an extended period for public comment on the draft regulations.

Cap-and-trade is designed to achieve the final 20 percent of reductions needed to bring greenhouse gas emissions from state sources back to 1990 levels by 2020. Although not a required element of AB 32, the outgoing Schwarzenegger Administration pushed hard for the inclusion of a market-based carbon trading program even as other states and the federal government were backing away from the idea. California manufacturers are urging Governor Jerry Brown to reconsider the program over fears that it could hold back the state’s economic recovery by acting as a tax on production.

Environmental justice groups, claiming that cap-and-trade would permit polluters to continue to disproportionately harm low income communities, obtained a temporary stay of implementation of the program after a court ruling in a lawsuit¹ that the board had not properly considered alternative approaches as required by the California Environmental Quality Act (CEQA).² On June 24, the First District Court of Appeals allowed the board to go forward with its cap-and-trade rulemaking, pending action on a revised analysis of alternatives. Board staff continues to recommend a cap-and-trade program as the preferred approach and the board is expected to approve the staff recommendation at its August meeting.

Beginning in 2012, the cap-and-trade program will cover electric power plants, oil refineries, cement manufacturing, and large industrial facilities emitting more than 25,000 metric tons of carbon dioxide equivalent gases. In 2015, the program expands to cover transportation fuels, natural gas, and other fuels. Approximately 600 facilities in California will ultimately be subject to emission caps.

As presently envisioned, facilities exceeding the emission threshold will be grouped by industrial or manufacturing sector and assigned an average efficiency benchmark for that sector. Each facility will then receive a free emission allowance, initially set at 90 percent of the sector benchmark, but declining by 2 to 3 percent a year, with a true up every three years until reaching a cumulative 15 percent reduction by 2020. A highly efficient facility that was already at or below its sector benchmark could bank the allowances for future use or sell them at the market price. Less efficient facilities would be required to reduce emissions by installing cleaner technology equipment or purchasing emission allowances offered for sale by other covered facilities. A facility could also exceed its emission cap by purchasing independently verifiable offsets that reduce greenhouse gases from sources outside of the program. Offsets are subject to rigorous board-approved protocols and will initially be limited to California-based projects and specified projects within the United States involving carbon sequestration from forestation and urban forestry projects, livestock manure/methane management, and reductions of existing stocks of ozone-producing chemicals. Allowances and offsets are more or less equivalent rights to emit greenhouse gases above a facility’s cap, but few offsets are expected to be available in the early years of the program.

Major unresolved issues remain for covered facilities. How will sectors be grouped? Will sector emissions caps be based on the average thermal efficiency of each facility or emissions per unit of production? How will the capand-trade regulations deal with businesses looking to build new manufacturing facilities in the state or expand production at existing facilities? How can a cap-and-trade program that puts aggregate greenhouse gas emissions on a downward glide path accommodate natural growth in production, adjust for variability of production demand among individual manufacturing facilities, and avoid “leakage” of production and jobs to out-of-state facilities?

Businesses with large manufacturing facilities in California should closely monitor how the cap-and-trade program will apply to their particular circumstances. Because the board must adopt cap-and-trade regulations in time to take effect by January 2012, opportunities to influence the rulemaking process may be limited to the next 2-3 months.

¹Association of Irritated Residents v. California Air Resources Board, Superior Court of California (San Francisco County), Case No. CPF-09-509652.

²Cal. Pub. Res. Code, Secs. 21000 et seq.