Federal Coal Leasing Reform Options: Effects on CO2 Emissions and Energy Markets Executive Summary February 2016 Spencer Reeder Vulcan Philanthropy | Vulcan, Inc. James H. Stock Department of Economics and Harvard Kennedy School Harvard University Vulcan Analysis of Federal Coal Leasing Program: Executive Summary Approximately 40 percent of U.S. coal production is from federal lands, primarily surface mines in the Powder River Basin (PRB) of Wyoming and Montana. The goals of the federal coal program have long included promoting economic development and energy security through the environmentally responsible development of a reliable source of domestic fuel for electricity generation.1 But recent studies suggest that the taxpayer is not receiving a fair return for federal coal. 2 Moreover, mining and burning this coal emits greenhouse gases that impose increasing costs of climate change on current and future generations. On January 15, 2016 the Department of the Interior announced plans for a comprehensive review of federal coal leasing and placed a pause on new federal coal leases until the review is complete.3 An important part of evaluating any reforms to federal coal policy is estimating their effect on greenhouse gas emissions, coal production, and energy markets. The interactions can be complex and difficult to estimate. A reform that makes federal coal more expensive, such as increasing royalty rates, could lead to substitution by non-­‐federal (mainly eastern) coal, diminishing the net climate benefits of the reform. Also, because these reforms would affect the supply of coal, they would interact with demand-­‐side policies, in particular the Clean Power Plan (CPP). To understand such interactions, Vulcan Inc. commissioned a forward-­‐looking analysis using ICF International’s (ICF) Integrated Planning Model (IPM®). IPM is used extensively to model the response of energy markets to changes in policy and market conditions, and was used by the Environmental Protection Agency (EPA) in its Regulatory Impact Analysis (RIA) of the CPP.4 This study reveals that introduction of higher royalties, phased-­‐in over a ten year period, would reduce overall CO2 emissions, even with the CPP in place. The study also shows that ramping down of coal production could achieve a similar emissions benefit, but with diminished revenue implications for states and the federal treasury. While there would be partial substitution of non-­‐federal coal for federal coal, the modeled reforms also induce substitution by renewables and natural gas resulting in CO2 emissions decline. 1
30 USC §21(a). U.S. Government Accountability Office, Coal Leasing: BLM Could Enhance Appraisal Process, More Explicitly Consider Coal Exports, and Provide More Public Information, December 2013, GAO-­‐14-­‐140; U.S. Department of the Interior, Office of the Inspector General, Coal Management Program, U.S. DOI, June 2013, CR-­‐EV-­‐BLM-­‐0001-­‐2012; N. Thaker and M. Madowitz, “Federal Coal Leasing in the Powder River Basin,” Center for American Progress, July 29, 2014; M. Lee-­‐Ashley and N. Thakar, “Cutting Subsidies and Closing Loopholes in the U.S. Department of the Interior’s Coal Program,” Center for American Progress, January 6, 2015; Headwaters Economics, “An Assessment of U.S. Federal Coal Royalties: Current Royalty Structure, Effective Royalty Rates, and Reform Options,” January 2015; Taxpayers for Common Sense, “Federal Coal Leasing: Fair Market Value and a Fair Return for the American Taxpayer,” September 2013. 3
https://www.doi.gov/pressreleases/secretary-­‐jewell-­‐launches-­‐comprehensive-­‐review-­‐federal-­‐coal-­‐program 4
IPM is a multi-­‐region model that endogenously determines capacity expansion plans, unit dispatch and environmental and policy compliance decisions, fuel switching, as well as power and fuel price forecasts, all of which are based on power market fundamentals. ICF provided modeling guidance to Vulcan, helping to identify specific data needs, modeling inputs and run structures, and ran the IPM model. However, Vulcan had final responsibility for the selection and approval of all input assumptions and for identifying modeling runs that were completed for this study and their underlying parameters. 2
v3.16feb2016 P a g e | 1 Vulcan Analysis of Federal Coal Leasing Program: Executive Summary Base Cases, Policy Scenarios, and Modeling Assumptions The study uses several base cases, which differ in their economic assumptions and assumptions about implementation of the CPP (see Chapter 1: Introduction of the report for details). These base cases are then used to assess the effect of potential reforms to the federal coal program, specifically phased-­‐in increases to the royalty rate and, separately, a ramp-­‐down of federal coal production through a phased-­‐
in tonnage production limit. The effect of the potential reforms on power sector CO2 emissions, coal production, and energy markets are estimated as the differences between the policy case and the relevant base case. Base Cases The base cases reflect two sets of base economic assumptions (Base Case A and B) and three sets of assumptions about the implementation of the CPP. (i) Economic assumptions. Base Case B approximates the economic assumptions (including costs of different types of electricity generation, energy efficiency, and aggregate demand) in the EPA’s final Regulatory Impact Assessment of the Clean Power Plan. Base Case A has the same assumptions concerning total demand and energy efficiency, but has different fuel cost assumptions than Base Case B, mainly lower costs of coal and higher costs of renewables. These two sets of economic assumptions permit the analysis of the sensitivity of the results to changes in input fuel costs. (ii) Assumptions about CPP implementation. States have yet to decide which of the multiple CPP compliance options they will use, and the CPP is facing multiple court challenges. The study therefore examines the effect of coal royalty reform under three CPP cases. The first, “CPP-­‐
mass,” assumes that all states use mass-­‐based standards with regional emissions allowance trading to comply with the CPP. The mass-­‐based scenario covers new and existing fossil fuel sources. The second, “CPP-­‐rate,” assumes that states use rate-­‐based standards with regional trading to comply with the CPP. The third, “no CPP,” models a future without the CPP.5 Policy Scenarios The study examines the effect of reforms to federal coal policy that result in increases in the federal coal royalty, or alternatively the ramping down of federal coal production through a tonnage production cap. These policies are modeled as applying to new, renewed, or modified leases, not to existing leases by ramping in the effect of these policies over a 10-­‐year window.6
5
The mass-­‐based scenario is modeled on compliance option 1 in the final rule (80 FR 64888), which includes new sources with the new source complements in Table 14. Rate-­‐based regulation excludes new fossil sources which are regulated under §111(b). 6
Federal coal leases are granted for an initial 20-­‐year period and are subject to renewal every subsequent 10-­‐year period. v3.16feb2016 P a g e | 2 Vulcan Analysis of Federal Coal Leasing Program: Executive Summary The study considers four changes to federal coal royalties. The first, an increase in royalties of $2.50 per ton, is an increase that is large relative to current royalties7 and reflects federal action to receive a higher return to the taxpayer for federal coal, but does not include a component that reflects the climate costs of burning federal coal. The remaining three royalty rate scenarios incorporate carbon “adders.” The carbon adder directly incorporates a carbon price into the royalty paid on federal coal sales, reflecting its climate costs (i.e., climate externality).8 The monetized value of the climate costs of emitting an additional ton of CO2 is estimated by the social cost of carbon (SCC). Because the CPP, when implemented, will either explicitly or implicitly place a price on power sector carbon emissions, the economically appropriate additional carbon adder on federal coal would generally be less than the full SCC value. Because of uncertainty associated with CPP implementation, the study considers three royalty carbon adders, assessed at 20%, 50%, and 100% of the U.S. Government value of the SCC.9 At 2016 values of the SCC, these would correspond to royalty increases of $15.30, $38.30, and $76.70 per ton, respectively. The study simulates a policy of instituting a ten-­‐year phase-­‐in of these royalty increases, which moderates the rate increase in the total cost of federal coal and models the application of the royalty increase to only new, renewed, or modified leases, not to existing leases. Thus, the carbon adder in 2016 is only 10% of the corresponding SCC, or $1.5, $3.8, and $7.7 per ton, respectively. In each subsequent year of the ten-­‐year phase-­‐in, the adder is increased by another 10% of the target value (in year 2026, the full target value is in place). The remaining two policy scenarios are tonnage production caps (i.e., no direct change in royalty rate), in which coal production on federal lands is ramped down to 50% of current levels, or ramped down entirely, with a 20-­‐year phase-­‐in.10 7
The current royalty rate on surface coal is 12.5%, and in 2013 the average sales price of Wyoming coal was $14.24/ton (EIA Annual Coal Report 2013, Table 28) 8
A.J. Krupnick et. al., “Putting a Carbon Charge on Federal Coal: Legal and Economic Issues”, Resources for the Future Discussion Paper 15-­‐13, 2015; C. Moser, J. Mantell, N. Thakar, C. Huntley, and M. Lee-­‐Ashey, “Cutting Greenhouse Gas from Fossil-­‐Fuel Extraction on Federal Lands and Waters,” Center for American Progress and The Wilderness Society, March 19, 2015; J.F. Hein and P. Howard, “Illuminating the Hidden Costs of Coal,” New York University School of Law, Institute for Policy Integrity, December 2015; D. Hayes and J. Stock, “The Real Cost of Coal,” The New York Times, March 24, 2015. 9
http://www.whitehouse.gov/sites/default/files/omb/assets/inforeg/technical-­‐update-­‐social-­‐cost-­‐of-­‐carbon-­‐for-­‐
regulator-­‐impact-­‐analysis.pdf 10
These scenarios were evaluated under the following additional assumptions, which are discussed more fully in the report. Following the EPA’s use of IPM for its final RIA, electricity demand is exogenous for all cases and the policy cases induce no additional energy efficiency beyond that in the relevant base case. The federal coal policy simulations were implemented by modifying the IPM coal supply module at the level of the logical mining unit, which (consistent with practice) comingles federal and nonfederal coal within a mine for the purpose of royalty assessment. The federal policy changes were modeled for Montana, Wyoming, Colorado, and Utah only, which in FY 2014 comprise 94% of coal produced on federal and Indian lands (EIA Sales of Fossil Fuels Produced from Federal and Indian Lands FY 2003 through FY 2014, Table 14). v3.16feb2016 P a g e | 3 Vulcan Analysis of Federal Coal Leasing Program: Executive Summary Main Findings The study has the following main findings: 1. CO2 emissions from the power sector would be reduced significantly by a substantial increase in the royalty rate on Western federal coal. These declines are shown in Figure ES-­‐1 and Table ES-­‐1 for Base Case B. Figure ES-­‐1 illustrates emissions under a scenario with various levels of coal adders and the two alternative CPP implementation scenarios. Table ES-­‐1 illustrates the reductions in emissions due to the increased royalty charge relative to a CPP-­‐only case in 2030. Under the Clean Power Plan with regional mass-­‐based trading that covers new sources, a carbon adder of 20% of the SCC would further reduce emissions by 25 million metric tons in 2020 and by 10 million metric tons in 2030. For typical western federal coal, a carbon adder of 20% of the SCC corresponds to a royalty increase of $15.30 per short ton in 2016. v3.16feb2016 P a g e | 4 Vulcan Analysis of Federal Coal Leasing Program: Executive Summary Table ES-­‐1
Estimated Reductions in 2030 Power Sector CO2 Emissions from Federal Coal Royalty Increases
Base case B with three CPP implementation cases
Royalty Adder
Percent of SCC
Change in CO2 emissions
million metric tons
percent
Changes in 2030, relative to CPP/mass-­‐based case
20% SCC
-­‐10
-­‐0.6%
50% SCC
-­‐37
-­‐2.3%
100% SCC
-­‐90
-­‐5.5%
Changes in 2030, relative to CPP/rate-­‐based case
20% SCC
-­‐39
-­‐2.4%
50% SCC
-­‐95
-­‐5.7%
100% SCC
-­‐126
-­‐7.6%
Changes in 2030, relative to no CPP base case
20% SCC
-­‐54
-­‐2.7%
50% SCC
-­‐155
-­‐7.7%
100% SCC
-­‐260
-­‐13.0%
Source: I PM s i mul a tions b y I CF for Vul ca n Phi l a nthropy
2. In all reform scenarios with royalty increases, there is partial substitution of non-­‐federal for federal coal (Figure ES-­‐2). This substitution is greatest at low levels of the carbon adder. For example, under Base Case B with the CPP and mass-­‐based trading case, the 20% SCC carbon adder decreases PRB coal production by 92 million tons but increases coal production in other basins by 58 million tons, for a net national reduction of 34 million tons. This substitution of non-­‐PRB for PRB coal decreases as a percentage as the adder increases and non-­‐coal alternatives become more economically attractive. v3.16feb2016 P a g e | 5 Vulcan Analysis of Federal Coal Leasing Program: Executive Summary 3. Despite the ten-­‐year phase in of the carbon adder to federal royalties, the study estimates that considerable reductions in CO2 emissions would be realized by 2020. These early reductions arise because anticipated future increases in the price of federal coal incentivize early investment in renewables and natural gas. 4. With a fixed $2.50 royalty adder, there is a small decrease in PRB coal production in 2030, which is largely offset by increased production of non-­‐Western non-­‐federal coal in the CPP mass and rate cases. The climate effects of the $2.50 adder are very small in the mass and rate CPP cases. As a comparison, an increase in Federal surface coal royalty rates from 12.5% to 18.75% would increase royalties by just under $1.00 if applied to $15.00/ton coal, so this royalty rate hike would have proportionately even smaller effects on PRB coal production, CO2 emissions, and energy prices than the $2.50 adder. 5. The effect on CO2 emissions of a given increase in federal coal royalties is larger under rate-­‐
based CPP compliance than under mass-­‐based compliance. Under the final CPP with regional rate-­‐based trading, a carbon adder of 20% of the SCC would further reduce emissions by 59 million metric tons in 2020 and by 39 million metric tons in 2030, compared with reductions of 25 million metric tons in 2020 and 10 million metric tons in 2030 under mass-­‐based compliance. 6. In the royalty adder cases, total royalty receipts for federal coal rise even though production declines. In the 20% and 50% SCC cases, gross royalties, and the state share of royalties, increase over the non-­‐adjusted royalty base cases. For example, in 2025 annual royalty receipts v3.16feb2016 P a g e | 6 Vulcan Analysis of Federal Coal Leasing Program: Executive Summary in WY increase to nearly $3 billion for the 20% SCC case, compared to just over $300 million in the CPP base case, even though production declines by nearly one-­‐quarter compared to the CPP base case. Increases in royalty receipts in Wyoming, Montana, and Utah are sustained through 2050 (see Figures ES-­‐3 and ES-­‐4). Figure ES-­‐3 State Revenues vs. Production Levels 20% SCC policy run, Base Case A with Mass-­‐Based CPP v3.16feb2016 P a g e | 7 Vulcan Analysis of Federal Coal Leasing Program: Executive Summary Figure ES-­‐4 State revenues, $ millions (2012 dollars) Effect of 20%, 50% p olicy scenarios on state coal royalty revenues, Base Case A WY*Royalty*Revenues
MT*Royalty*Revenues
4500.0
2000.0
4000.0
1800.0
3500.0
1600.0
1400.0
3000.0
1200.0
2500.0
1000.0
2000.0
800.0
1500.0
600.0
1000.0
400.0
500.0
200.0
0.0
no*CPP
CPP
no*CPP*+*$2.50 CPP*+*$2.50
WY*2016
WY*2020
no*CPP*+*
20%SCC
WY*2025
CPP*+*20%SCC
no*CPP*+*
50%SCC
0.0
CPP*+*50%SCC
no*CPP
CPP
WY*2040
UT*Royalty*Revenues
no*CPP*+*
$2.50
CPP*+*$2.50
MT*2016
MT*2020
no*CPP*+* CPP*+*20%SCC
20%SCC
MT*2025
no*CPP*+* CPP*+*50%SCC
50%SCC
MT*2040
CO*Royalty*Revenues
300.0
350.0
250.0
300.0
250.0
200.0
200.0
150.0
150.0
100.0
100.0
50.0
50.0
0.0
0.0
no*CPP
CPP
no*CPP*+*$2.50 CPP*+*$2.50
UT*2016
UT*2020
no*CPP*+*
20%SCC
UT*2025
CPP*+*20%SCC
no*CPP*+*
50%SCC
CPP*+*50%SCC
no*CPP
UT*2040
CPP
no*CPP*+*
$2.50
CO*2016
CPP*+*$2.50
CO*2020
no*CPP*+* CPP*+*20%SCC
20%SCC
CO*2025
no*CPP*+* CPP*+*50%SCC
50%SCC
CO*2040
7. The production limit cases, in which federal coal production is ramped down by half or entirely, have long-­‐run effects on coal production and power sector CO2 emissions that are similar to increasing the royalty rate. Because royalty rates do not change under this policy option, gross royalties decline, relative to the no-­‐reform base case, as less federal coal is mined. 8. The effect of an increase in federal royalties is much larger absent the CPP than with either a rate-­‐ or mass-­‐based CPP in place. In simulations that model a future without the CPP, a carbon adder equal to 50% of the SCC would reduce CO2 emissions by 155 million metric tons in 2030, or more than 40% of the estimated reductions projected in 2030 for the CPP under mass-­‐based trading relative to the no-­‐CPP Base Case B. Without the CPP, a carbon adder equal to 100% of the SCC leads to CO2 reductions exceeding 70% of those achieved by the CPP in 2030. v3.16feb2016 P a g e | 8