AB 32’s Carbon Market Rounding Into Shape

Seems like only yesterday that those following AB 32 were anticipating the release of the California Air Resources Board’s (CARB’s) initial view of the AB 32 Cap and Trade program. That initial version, known as the Preliminary Draft Regulation (PDR), was made public in the fall of 2009. It was a document that laid out in broad strokes the basic structure of the program, but it left many policy calls for future versions.  We are now only about a month away from the CARB Board taking final action to approve the fully detailed program. What a strange trip it’s been.

CARB has overcome many hurdles to get to this point.

In what was eventually to become Proposition 23 on the fall 2010 ballot, papers were filed the day after the PDR was released, thus beginning the initiative process. By mid-2010, Proposition 23 was officially on the ballot and casting a shadow over the program. It eventually failed in November only a week after the Cap and Trade Regulation was officially released for public comment. Soon after that storm passed, another dark cloud emerged in January with the tentative ruling of a California judge that ordered a halt to the Cap and Trade rulemaking process. This legal decree was never really enforced, but the threat hung over the program for the first half of 2011 and prevented CARB from hosting a series of announced public meetings aimed at working out the program’s vast details. It wasn’t until a June ruling on the stay by the Court of Appeals that CARB could publicly resume the Cap and Trade regulatory process.

Over these past two years, CARB’s commitment to this market-based approach has been demonstrated as they have continued to revise and refine the regulation. Their latest set of revisions came out on September 12, and due to an unmovable regulatory adoption deadline, this version becomes the final version of the regulation prior to the Cap and Trade program officially starting next year. (The October Board vote is a yes/no vote on the administrative package; changes to the regulation are not an option.)

So what does the final program look like?

Though changes have been made, in the final program CARB held true to the original design outline of the PDR: there will be three compliance periods between now and 2020 (2013-2014, 2015-2017, 2018-2020); statewide emissions must be returned to 1990 levels; only industry and electrical generation will initially be subject to the program; in 2015 the scope of the cap will be broadened to include transportation fuels and natural gas; most allocations will be freely distributed in the early years of the program; offsets are an important aspect of the program; and the goal of linking to other programs is still alive.

So what happens now?

CARB is accepting comments on this version and will present the responses, along with the other comments from the rest of the regulatory process, to the CARB Board on October 20/21, 2011. Assuming the Board certifies the associated environmental document, the regulation will be sent to the Office of Administrative Law (OAL)—the state agency tasked with ensuring that California regulations are adopted according to established law. Assuming OAL approves the regulatory package, the program can begin with its redesigned softer start at year’s end. (The first year of the program was revamped in July’s changes so as to not require compliance in 2012 and to ensure that all the mechanisms associated with the program are working properly).

The program will ease into a full-blown market by the end of next year, with the first two allocation auctions to be held on August 15 and November 14, respectively. The first set of compliance requirements begin with an entity’s 2013 emissions. By then, CARB will be holding quarterly compliance auctions. The amount of allowances up for bid will grow each subsequent year as the number of free allowances is reduced and the scope of the program is increased.

Even though the program design is locked down for its opening act, many changes are likely over the course of the next few years. CARB has already announced three additional offset protocols are under consideration and that a review of other programs considered for linkage will occur in mid-2012. But any changes to the program from this point forward will require a completely new rulemaking process to be initiated.

California’s Cap and Trade program is still considered by some to be a bold move, but everybody concurs that it is being watched by interested parties on both side of the climate change issue from all over the world. The billion-dollar question is, will it be a success?  If the next two years are anything like the last two, it will be a ride worth watching.

Jon Costantino is a Senior Advisor at law firm Manatt, Phelps & Phillips, LLP, in the Sacramento Government practice group. He manages complex political and regulatory issues for clients in the area of climate change, clean energy and environmental issues and previously served as Climate Change Planning Manager within the Office of Climate Change at the California Air Resources Board. Mr. Costantino can be reached at (916) 552-2365 or [email protected].

This column is the eighth in a series of articles by law firm Manatt, Phelps & Phillips, LLP’s Energy, Environment & Natural Resources practice. Earlier columns discussed Green Marketing Regulation, Corporate Sustainability, Green Chemistry Regulation, Renewable Project Failures in California, Promoting Recycled Water, Environmental Liabilities in Bankruptcy Reorganizations, and California Renewable Policy.