The American Clean Energy and Security Act 2009 (Waxman-Markey bill) received approval from just over half of the US House of Representatives on 26 June 2009 on a vote of 219 - 212. The bill sets out a comprehensive framework to: (a) cut global warming pollution; (b) deploy clean energy resources; (c) increase energy efficiency; and (d) transition to a low carbon economy. Action in the US on climate change would not only generate a substantial new market for carbon trading, but it would make a considerable contribution towards international efforts to reduce emissions in order to prevent anthropogenic climate change. This article focuses on the bill’s proposals to tackle global warming through the introduction of a national cap-and-trade scheme for emissions.

What are the proposed targets and for what GHGs?

The proposed targets are to reduce emissions from covered sources in relation to emission levels in 2005 by: (a) 3 per cent by 2012; (b) 17 per cent by 2020; (c) 42 per cent by 2030; and (d) 83 per cent by 2050. The GHGs subject to the restrictions will be: CO2, methane, nitrous oxide, sulphur hexafluoride, hydrofluorocarbons emitted as a by-product, perfluorocarbons, and nitrogen trifluoride. The Administrator of the Environmental Protection Agency (EPA) may designate additional anthropogenic GHGs by rule. The emissions units are expressed as CO2 equivalents.

Who will be required to meet the targets and when?

The targets are being phased in across different industries. Emissions from electricity generators, liquid fuel refiners and importers and fluorinated gas manufacturers are covered from 2012. Emissions from industrial sources that emit more than 25,000 tons of CO2-e per year, as well as stationary sources in a number of other industrial sectors (e.g. cement production, petroleum refining and soda ash production), are covered from 2014. Emissions from local distribution companies that deliver natural gas are covered from 2016.

How will emission allowances be issued?

The distribution of allowances has been one of the more controversial measures in the bill. The current draft provides for a majority of allowances being distributed for free with a small portion being auctioned. The distribution programme to the electricity, natural gas and home heating oil and propane sectors is to phase out over a five-year period from 2026 to the end of 2029. The greatest amount of allowances will go to the electricity sector with 43.75 per cent of allowances being distributed in 2012.

Can allowances be banked or borrowed from year to year?

The bill permits unlimited banking of allowances for use during future compliance years. There is also a two-year rolling compliance period which permits covered entities to borrow their full amount of allowances from one year into the future. Covered entities may also satisfy up to 15 per cent of their compliance obligations by submitting emission allowances from two to five years in the future, although there is an 8 per cent premium payable in allowances to do so.

What will happen to “State allowances” already existing in the US?

The bill sets out measures that enable allowances issued before 31 December 2011 by the State of California, the Regional Greenhouse Gas Initiative and the Western Climate Initiative to be exchanged for allowances issued under the framework of the bill. However, the exchange will not be one to one: a quantity of allowances will be provided that will compensate the holder of a State allowance for the costs of obtaining and holding it.

Offsets: general inclusion within the cap-and-trade scheme

The Waxman-Markey bill permits covered entities to use a specified percentage of domestic and international offsets which have been approved by the EPA to meet their compliance obligations. A maximum of 2 billion tons of emissions offsets will be permitted to enter the system, though the President may recommend an adjustment to the overall amount. This figure is split evenly between international and domestic offsets; however, if the amount of domestic offsets is likely to be less than 0.9 billion tons, the EPA must increase the amount of international offsets permitted in the system (and decrease the domestic credits by the same amount) from 1 billion up to a total of 1.5 billion international offset credits. The overall use of offsets by a covered entity will be equal to approximately 30 per cent of its compliance obligation at the outset of the program, increasing to up to 40 per cent in 2035 and over 60 per cent in 2050.

The bill currently gives powers to both the EPA and the US Department of Agriculture (USDA) in establishing an offset programme, though the USDA has specific powers in relation to agricultural and forestry sources. The EPA and the USDA must determine an initial list of eligible project activities within the scheme. For international offset credits, as a minimum, the country in which a project activity is being carried out must be (a) a developing country; and (b) a party to a bilateral or multilateral agreement or arrangement with the US which, amongst other things, ensures that the requirements of the international offsets programme apply and provides for the appropriate distribution of any international offset credits issued. Additional restrictions will apply to international forestry projects.

In relation to credits issued under the UNFCCC, these may be exchanged for US international offset credits if: (a) they meet the above requirements; and (b) the EPA determines that the international body that issued the original credits has implemented substantive and procedural requirements for the relevant project type that are equal to or provide greater protection than the requirements under the US international offsets programme. The International Emissions Trading Association has expressed support for the ability of the EPA to increase the amount of international offset credits. It also lobbied for and supports the fact that an offset credit is worth the same as an allowance. The Discussion Draft of the bill had proposed requiring covered entities to submit five tons of international offset credits for every four tons of emissions being offset (equivalent to a 20 per cent reduction in the value of international offset allowances). This requirement still exists in the legislation, but it is turned off until 2018.

Market regulation

The financial crisis has led to a call for greater regulation of over the counter (OTC) derivatives, in particular the regulation of so called “naked credit-default swaps” (where the investor has no ownership of the credit instrument which is insured by the credit-default swap (CDS)). This debate has now found itself a legislative showcase within the Waxman-Markey bill which introduces “default rules” that will apply to carbon trading in the absence of regulations to the contrary. One of these default rules includes a requirement for OTC derivative transactions to be executed on a designated exchange, thereby eliminating off-market trading of OTC contracts within the US (going even further than the proposals from the Obama Administration which sought only to require standardised OTC contracts to trade on exchange). The bill also introduces a much wider requirement on CDS trading by making it unlawful to purchase a CDS unless an investor (a) has ownership of the underlying credit instrument; (b) would experience financial loss as a result of an event covered by the CDS; and (c) meets minimum capital adequacy standards.


The future of the Waxman-Markey bill is uncertain. Whilst passage in the House is a tremendous achievement by the bill’s architects, it must still be passed by the Senate before it can become law. Although the Obama Administration has encouraged Congress to pass new climate change legislation in advance of the international climate change negotiations this December in Copenhagen, many political insiders do not expect this will happen. Nonetheless, the work of US legislators in this area will provide a bellwether for the extent of what is achievable on climate change in the US. As other countries develop their own cap-and-trade schemes (eg, Australia), the US will come under increasing pressure to act. Even if the bill does not pass this year, its contents will undoubtedly be resurrected as a blueprint for the future. Companies with existing or potential interest in the US emissions market are advised to keep a watch on developments in this area.