A major outstanding concern with the legal viability of one aspect of California’s climate change regulatory regime was addressed this past Wednesday, when the 9th U.S. Circuit Court of Appeals ruled that California’s Low Carbon Fuel Standard (LCFS), which mandates increasing use over time of low-carbon transportation fuels, is neither facially discriminatory in violation of the Commerce Clause nor does it impermissibly regulate extraterritorial activities. Rocky Mtn. Farmers Union v. Corey , No. 12-15131 (9th Cir. Sept. 18, 2013). The court found that rules implementing the LCFS relating to calculating lifecycle greenhouse gas (GHG) emissions for out-of-state fuels are not void on their face and lifted the injunction against the program imposed by the federal district court. Emissions from the transportation sector constitute 40 percent of California’s total GHG emissions.

The ruling is based on challenges that the LCFS is unconstitutional and is preempted by the Clean Air Act’s Renewable Fuel Standard, 42 U.S.C. § 7545(o) (2013). Two different industry groups challenging had contended that LCFS violated the dormant Commerce Clause because it “(1) facially discriminated against out-of-state ethanol; (2) impermissibly engaged in the extraterritorial regulation of ethanol production; (3) discriminated against out-of-state crude oil in purpose and effect; and (4) was not saved by California’s unique preemption waiver in the Clean Air Act.” Slip op. at 11. A U.S. district court judge had agreed in part with the law’s challengers.

The LCFS was set up by the California Air Resources Board (ARB) to account for emissions produced in the entire “well-to-wheel” supply chain: production, refining and transportation of the fuel or fuel component. The rules require transportation fuel providers to reduce the carbon intensity of their fuels by 10 percent by 2020 — either by blending with low-carbon ingredients or by purchasing credits.

With respect to ethanol, the challengers argued that because the LCFS regulatory scheme generally assigned higher carbon-intensity values to out-of-state ethanol (due to emissions generated from the transportation of corn to California), the standard itself was facially discriminatory in violation of the Constitution’s dormant Commerce Clause. The Commerce Clause’s “dormant” or “negative” power prohibits states from unjustifiably impinging on incoming commerce from other states.

The 9th Circuit began its analysis by stating that the Commerce Clause prohibits states from enacting regulations “designed to benefit in-state economic interests by burdening out-of-state competitors.” Slip op. at 31. As to ethanol, the court concluded that the district court erred because it did not consider the full statutory scheme to account for all sources of greenhouse gas emissions when assigning carbon intensity values, stating that “[a]ll factors that affect carbon intensity are critical to determining whether the Fuel Standard gives equal treatment to similarly situated fuels.” Slip op. at 34. The court then concluded that, as to ethanol, the LCFS “does not base its treatment on a fuel’s origin but on its carbon intensity.” Id. at 35-36. Under the LCFS, an out-of-state fuel’s carbon intensity would not necessarily be greater than an in-state fuel’s, if the refining and production of the in-state fuel were significantly more carbon intensive than that for the out-of-state fuel.

The court rejected arguments that California was wrongly projecting its police power beyond its borders. The court concluded that the regulations are in effect in only the California market and that firms “may elect to respond to the incentives provided by the [LCFS] …, but no firm must meet a particular carbon intensity standard, and no jurisdiction need adopt a particular regulatory standard for its producers to gain access to California.” Slip op. at 58-59.

Lastly, the court addressed, but did not decide, whether the federal Renewable Fuel Standard, which prohibits states from enacting laws “respecting any characteristic or component of a fuel or fuel additive,” 42 U.S.C. § 7545(c)(4)(A), applies to the LCFS. The Renewable Fuel Standard’s general prohibition against states making laws about fuels may not apply because there is a specific provision that exempts California from that prohibition. See 42 U.S.C. § 7545(c)(4)(B).

In unusually expansive language, the court concluded by stating that the state “should be encouraged to continue and to expand its efforts to find a workable solution to lower carbon emissions, or to slow their rise.” Slip op. at 70. It is not yet clear whether the challengers will seek en banc review from the 9th Circuit or appeal it to the U.S. Supreme Court. Regardless, the 9th Circuit decision should be viewed as providing initial support for the imported electricity provisions contained in California’s GHG cap-and-trade (C&T) regulation.