The California Air Resources Board (“CARB”) held its second auction of greenhouse gas allowances on February 19, 2013. Entities covered by California’s greenhouse gas “cap and trade” program must acquire a sufficient number of allowances and offset credits to match their emissions of greenhouse gases. The February auction sold all of the 12,924,822 vintage 2013 allowances offered for sale at a price of $13.62 per allowance. This compares to the allowance price of $10.09 established at CARB’s first allowance auction on November 14, 2012. A total of 4,440,000 vintage 2016 allowances (about half of the amount offered) were sold at the February auction at a price of $10.71 (which was also the auction reserve price). CARB’s next allowance auction will be held on May 16, 2013, when 14,522,048 vintage 2013 allowances, and 9,560,000 vintage 2016 allowances, will be offered. CARB’s notice of the auction does not provide the auction reserve price; CARB will provide that price prior to the auction.

In addition to allowance auctions, which are generally open to any qualified bidder, CARB’s regulations provide for four percent of the available allowances to be set aside in a strategic reserve to be sold for cost-containment purposes. These reserve allowances may be purchased only by emitters covered by the cap and trade program and opt-in entities with compliance accounts. As set by the regulations, the reserve price for reserve allowances ranges from $40 to $50 per allowance.CARB cancelled its first reserve sale, which had been scheduled for March 8, 2013.

While the auctions continued, a new action was filed on April 16, 2013 challenging the auctions as an unconstitutional state tax. Morning Star Packing Co. et al. v CARB et al., Sacramento County Superior Court, Case No. 34-2013- 80001464. The complaint alleges that the underlying statute, AB 32, does not authorize the creation of an auction process to sell emission allowances, and that the auction of allowances constitutes a tax that must, under the California Constitution and Propositions 13 and 26, be enacted by two-thirds majorities in both houses of the state legislature. As described in a Special California Update to The Climate Report, the allowance auctions were challenged on similar grounds in California Chamber of Commerce et al. v. CARB et al., Sacramento County Superior Court, Case No. 34-202- 80001313, an earlier action filed in November 2012. A hearing on the California Chamber action is set for August 28, 2013.

In another development, CARB approved linkage between the California and Quebec cap and trade programs on April 19, 2013, to be effective on January 1, 2014. Under the linked programs, each jurisdiction will accept the other’s allowances and approved offsets for purposes of compliance with their respective cap and trade obligations.

Future amendments to California’s cap and trade program are also being considered. CARB staff have released a summary of 15 aspects of the regulations that CARB will evaluate for amendment during 2013. CARB held a workshop to discuss the first group of issues, including potential amendments to the regulations related to universities, combined heat and power facilities, and the holders of “legacy contracts” related to energy production on May 1, 2013. Other areas identified by CARB and its staff for potential amendment include resource shuffling, emission leakage, offset program implementation, cost containment, allowance allocation, and establishment of benchmarks for new and existing products.

CARB is also considering approval of two new offset protocols. Greenhouse gas reduction or removal projects that meet the requirements of an approved protocol can generate “offset credits” that may be used by a covered source to meet a certain percentage of its compliance obligations. On March 28, 2013, CARB held a workshop to discuss the addition of protocols for coal mine methane and rice cultivation projects to its existing list of four approved protocols. Drafts of the two protocols are scheduled to be released this summer, followed by CARB consideration in fall 2013.

The rice protocol would apply to rice cultivation projects located in California and states in the mid-south, and it would recognize methane reduction practices related to management of straw residue, the schedule of flooding and draining rice fields, seeding techniques, and other factors. The coal mine protocol would apply to coal mine projects in the United States and would recognize the capture and destruction of methane gas that would otherwise be vented to the atmosphere. The draft protocols will draw upon rice cultivation protocols previously adopted by the American Carbon Registry and the Climate Action Reserve, as well as the coal mine protocols adopted by the Climate Action Reserve and Verified Carbon Standard.