Initial comments by legislative leaders in the Senate suggest that the Environment and Public Works Committee may consider ACES as early as July 2009, with the aim of securing Senate passage of the bill by fall 2009.

On June 26, 2009, the U.S. House of Representatives passed the American Clean Energy and Security Act (ACES), also known as the Waxman-Markey Bill, by a vote of 219 to 212, sending it to the U.S. Senate for action. ACES would create a comprehensive, economy-wide cap-and-trade program to reduce greenhouse gas (GHG) emissions, along with significant new programs to encourage renewable energy production and use together with a new federal market for renewable energy certificate trading. ACES provides for new authorizations to regulators in order to regulate these activities, and also includes a last-minute addition to reshape regulation of trading over-the-counter (OTC) commodities, particularly energy derivatives. All of these ambitious proposals must now be considered by the Senate, where significant changes can and likely will be made.

Landmark Legislation

The House’s approval of ACES was a history-making vote that marks the most ambitious federal action ever to mitigate the effects of climate change due to GHG emissions. The bill is more than 1,200 pages long, and builds upon, but goes far beyond the 2008 Lieberman-Warner Climate Security Act that was briefly debated, but never received a full Senate vote. Passage of ACES was the culmination of intensive lobbying by the bill’s advocates in Congress and the administration. Compromises contained in the final version greatly increased the GHG regulatory role of several federal agencies, particularly the Federal Energy Regulatory Commission (FERC), the Environmental Protection Agency (EPA) and the Department of Agriculture. Yet the bill also sets out complex, and sometimes unclear, regulatory responsibilities for a number of other regulatory bodies, leaving many questions on implementation and oversight yet to be resolved.

Cap and Trade

ACES will cover approximately 85 percent of all greenhouse gas emissions in the United States and will assist reductions through the “cap-and-trade” program. An overall cap on GHG emissions is established, and a declining number of emissions allowances are issued each year. Covered entities must obtain, either by purchasing or receiving as a free allocation, an allowance or offset for each metric ton of carbon dioxide equivalent emitted. Allowances, offsets and their derivatives will be traded on the new carbon markets.

Under ACES as currently drafted, GHG emissions are capped starting in 2012 at 97 percent of 2005 levels for 2012. The cap is gradually reduced to 83 percent of 2005 levels for 2020, 58 percent of 2005 levels at 2030, and finally 17 percent of 2005 levels at 2050. Each year, covered entities must submit an allowance or an offset for each metric ton of carbon dioxide equivalent emitted. A covered entity that fails to fully account for its annual emissions will be subject to penalties. Emissions for certain stationary industrial sources and natural gas local distribution firms become subject to the cap in 2014 and 2016, respectively.

Renewable Energy

ACES sets a Renewable Electricity Standard (RES) that requires retail electricity suppliers to meet an increasingly higher percentage of their load with electricity from “renewable” electricity sources (including certain other eligible resources) and energy efficiency savings. Beginning in 2012, 6 percent of electricity is to come from renewable sources and efficiency, gradually rising to 20 percent by 2020. Suppliers must meet at least 75 percent of the yearly compliance obligation with electricity generated from renewable resources (up to 25 percent of the yearly compliance obligation can be met through energy efficiency). State governors may petition to have the proportion of the target that may be met with energy savings increased to 40 percent.

Similar to the GHG emissions program, retail electric suppliers must submit an amount of federal renewable electricity credits (RECs) and demonstrated electricity savings equal to the annual percentage target multiplied by the supplier’s retail sales. Generators of renewable electricity will receive one federal REC per megawatt hour of renewable electricity generated that can be sold separate from the power generated to those who need the RECs for compliance purposes. RECs may be used for compliance in the year issued, or sold, or banked for use in any of the three immediately subsequent compliance years. It is envisioned that RECs will be traded in a competitive marketplace. Overall, trading of emissions allowances and offsets and RECs will create significant financial activity in these new commodity markets.

Regulatory Issues

A late modification in the final ACES language greatly changed the way that offsets (i.e., voluntary GHG emissions reductions that take place outside of the regulatory “cap”) can be treated in terms of qualifying projects. The U.S. Department of Agriculture would be given oversight of forestry and agricultural offset projects to reduce or sequester GHG emissions in uncapped sectors of the economy. Although the EPA still has general authority over the emissions allowances and the offset program, including the authority to certify offset projects, new language expressly prohibits EPA from considering indirect land use changes triggered by the use of food crops to produce biofuels when analyzing the GHG intensity of the fuels for five years.

The complex regulatory structure covering emissions allowances and offsets and RECs also involves roles for the FERC and the U.S. Commodity Futures Trading Commission (CFTC). The FERC is responsible for enforcing the anti-manipulation regulations of the new GHG markets. As currently drafted, ACES appears to also give the CFTC authorization to monitor the carbon markets. There will be regulatory ambiguity as to which agency is regulating which aspects of these programs, and confusion for those subject to the rules and market participants, if ACES is enacted as it is currently drafted.

In another last-minute change, ACES incorporates new restrictions on the trading of OTC energy derivatives. These include making all OTC derivatives subject to centralized clearing in order to meet the Commodity Exchange Act OTC exemptions, removing energy commodities from the exemptions altogether, making “naked” credit default swaps illegal and giving the CFTC initial jurisdiction to regulate the markets for regulated allowance derivatives (unless the president directs otherwise). It is expected that these provisions may be repealed upon passage of anticipated subsequent legislation addressing comprehensive financial sector regulation.

Senate Prospects

Initial comments by legislative leaders in the Senate suggest that the Environment and Public Works Committee will consider ACES as early as July 2009, with the aim of securing Senate passage of the bill by fall 2009. However, this is an ambitious timetable, and the level of skepticism and opposition to ACES in the Senate is even greater than in the House (where the bill passed by only seven votes). Moreover, the Senate has a full docket of other matters to consider and act upon, so the timing of a vote on ACES remains uncertain.