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Public Interest Groups First to Challenge California Cap-and-Trade Rules

April 16, 2012

Two public interest groups have sued to overturn elements of California’s recently approved cap-and-trade rules. In Citizens Climate Lobby and Our Children’s Earth Foundation v. California Air Resources Board,[1] which was filed on March 27, petitioners specifically challenge the proposed use of carbon offset credits to meet emissions reduction requirements established under regulations enacted by the California Air Resources Control Board (“CARB”).

CARB’s regulations implement the California Global Warming Solutions Act of 2006, more commonly known as Assembly Bill (AB) 32. AB 32 requires CARB to develop a comprehensive plan to reduce GHG emissions on a statewide basis to 1990 levels by the year 2020. The law directed CARB to conduct major rulemaking activities to implement the plan and to have its new rules and market-oriented control mechanisms ready to take effect by January 1, 2012. Some of the most significant components of CARB’s regulatory program – including a broad-based scheme for the issuance and trading of GHG emissions allowances – have been delayed and will not be fully in place before 2013. Meanwhile, opponents of the program are pursuing an evolving mix of litigation strategies to block implementation of some of its key elements.

Development of the Compliance Offset Concept in California

Offset credits are defined in terms of a verifiable quantity of emissions reductions from projects involving activities that are not otherwise regulated, covered under an emissions cap, or result from government initiatives. An example would be a credit given to a forest preservation project that could help capture and retain atmospheric carbon. By acquiring and using offset credits under CARB’s regulation, facilities covered by the state-wide emissions cap could achieve compliance with the regulation without reducing emissions from the facility itself or by acquiring emissions allowances available in the open market.

AB 32 does not specifically address the use of offset credits as a way of achieving compliance with statewide GHG emissions reduction requirements. Indeed, AB 32 did not actually require the adoption of a market-based cap-and-trade regulation. Rather, the statute simply stated that CARB “may adopt a regulation that establishes a system of market-based declining annual aggregate emission limits for sources or categories of sources that emit greenhouse gas emissions . . . that [CARB] determines will achieve the maximum technologically feasible and cost-effective reductions in greenhouse gas emissions, in the aggregate, from those sources or categories of sources.” [2] The focus in these provisions on market-based emission limits for GHG emission sources does not clearly envision that compliance with an overall emissions cap could be achieved, even in part, by giving credit to offset projects that do not themselves entail source-specific emissions reductions.

The prospect that offset usage might become part of an overall cap-and-trade regulation was formally introduced by CARB in its June 2008 Discussion Draft of a proposed Scoping Plan for implementation of AB 32. There, CARB suggested that any rulemaking would “need to establish appropriate rules for the use of offsets,” which were necessary to “provide an outlet to relieve cost pressure” on future pricing of emission reductions allowances.[3] The draft Scoping Plan also recognized that offsets used for compliance purposes would present some significant challenges. Among other things, reductions from offset projects would have to be “real, additional, verifiable, enforceable, and permanent,”[4] although what might be required to meet these criteria was not made entirely clear. Indeed, the draft Plan explicitly acknowledged, among other things, that “[e]stablishing that reductions are additional [i.e., beyond what would have happened in the absence of an offset project] is one of the major challenges in establishing the validity of particular offset projects.”[5]

Despite these challenges, CARB has proposed that facilities covered under California’s cap-and-regulation may be allowed to use offsets to meet up to eight percent of its triennial compliance obligations. Taking into account the planned reductions of GHG emissions over time, an argument can be made that offset allowances could account for up to 85 percent of anticipated GHG emissions reductions, at least in the early years of the state’s emissions reduction program.[6] As a practical matter, offset utilization anywhere close to the limit of 85 percent is unlikely, given regulatory constraints in the overall cap-and-trade program and the likely limited availability of qualified projects to generate future offsets. Nevertheless, it is clear that offsets have the potential to play a substantial role in achieving California’s overall GHG emissions reduction targets.

Specific provisions governing the generation and use of offsets are set out in Subchapter 13 of CARB’s cap-and-trade regulation. In addition to meeting the general requirement that they must be associated with GHG emission reduction or GHG removal enhancement projects that are “real, additional, quantifiable, permanent, verifiable, and enforceable,” qualified offsets must originate from the use of a compliance offset protocol that is approved and adopted by CARB.[7] To date, CARB has approved four offset protocols under the regulation (for Livestock Projects, Ozone Depleting Substances Projects, Urban Forest Projects, and U.S. Forest Projects),[8] although protocols for other project categories currently are under consideration. In addition to conformance with approved compliance protocols, the regulations require offset project operators (or project designees to whom compliance obligations are delegated) to verify GHG emissions reductions or removal enhancements using CARB-accredited verification service providers. [9]

Citizens Climate Lobby v. CARB

The Citizens Climate Lobby case challenges both the offset provisions of CARB’s cap-and-trade regulation and the individual offset protocols adopted to implement those provisions. Petitioners claim that the offset rules are incompatible with both the letter of AB 32 and its overarching goal of reducing GHG emissions in California on a state-wide basis. They point out that while AB 32 authorized the use of “market-based compliance mechanisms” to meet the requirements of the statute, the state legislature did not clearly intend that those mechanisms would include offsets from projects that achieve emissions reductions that are not in addition to reductions otherwise required by law or regulation or that otherwise would occur in any event.[10]

CARB’s rules seek to incorporate the concept of additionality by allowing offset credits only for emissions reduction or removals that go beyond what would occur in a “conservative business-as-usual scenario,” namely a “set of conditions reasonably expected to occur within the offset project boundary in the absence of the financial incentives provided by offset credits, taking into account all current laws and regulations, as well as current economic and technological trends.”[11] However, this approach relies heavily on the subjective assessments of investors in offset projects as to whether or not individual projects make economic sense in the absence of financial subsidies provided by offsets. Those assessments could easily differ from one investor, or one project, to another.

CARB has sought to limit the degree of subjectivity inherent in this process by incorporating the use of “performance standards” in the four individual offset protocols it has developed. CARB has stated that the purposed of these performance standards is “to establish a threshold that is significantly better than average GHG production for a specified activity, which, if met or exceeded by a project developer, satisfies the criterion of ‘additionality.’ If the project meets the threshold, then it exceeds what would happen under the business-as-usual scenario and generates surplus/additional GHG reductions” that could qualify for the issuance of an offset. Petitioners in Citizens Climate Lobby, however, argue that even the use of performance standards is still so fundamentally subjective and uncertain as to create a high likelihood of producing large numbers of qualified projects for which emissions reductions or removals cannot be considered truly additional.

That may be. As the Citizens Climate Lobby petitioners point out, the difficulty in establishing additionality is one of the principal reasons for criticizing proposals to use offsets for compliance purposes in any market-oriented program to address climate change concerns.[12] Just because something is hard, however, does not make it illegal. Petitioners in Citizens Climate Lobby contend, for example, that CARB’s offset protocols violate AB 32 because they allow non-additional GHG reductions to qualify as offsets. But this contention ignores the fact that CARB’s rules require compliance with an additionality standard. Petitioners may be able to demonstrate, on a case by case basis, that reductions from individual projects will not meet this standard. If so, shouldn’t the remedy be that the projects are not entitled to offsets under the regulations, not that the regulations themselves must be thrown out as invalid under the law?

From this perspective, the arguments made by petitioners in the Citizens Climate Lobby case might best be viewed more as policy statements rather than substantive (and substantial) legal claims. The most appropriate place to debate the petitioners’ views was in the administrative proceedings leading up to the adoption of CARB’s offset rules, not in the courts. No one is suggesting that petitioners were denied a full opportunity to present their views to CARB during the course of those proceedings, or that CARB’s final rules were arbitrary, capricious, or lacking support from substantial evidence in the administrative record. Indeed, CARB almost certainly will attempt to show that petitioners actively participated in relevant administrative proceedings, that the agency recognized the challenges raised by petitioners’ concerns, and that it made a good faith effort to craft a regulatory proposal that meaningfully responds to those challenges.

Regardless of the merits of specific claims made in the Citizens Climate Lobby case, the offset program, like the rest of CARB’s cap-and-trade regulation, almost certainly will face continuing statutory and potentially constitutional challenges before going fully into effect later this year, when the first round of auctions of California GHG emissions allowances under the regulation is scheduled to begin.[13] Parties affected by the rules should be thinking hard now about the options they have for engagement in these challenges, if only to assure their place at the table as the litigation begins to take off.

For more information, contact Kevin Haroff or any member of Marten Law’s Climate Change or Litigation practice groups.

[1] Citizens Climate Lobby and Our Children’s Earth Foundation v. California Air Resources Board, No. ______ (San Francisco Sup. Ct., filed March 27, 2012). See http://www.peer.org/docs/epa/3_28_12_Cal_GHG_Complaint.pdf.

[2] Cal. Health & Safety Code § 38562(c).

[3] CARB, Climate Change Draft Scoping Plan (June 2008 Discussion Draft), p. 19.

[4] Id., p. 43.

[5] Id.

[6] See, “Offsets Could Make Up to 85% of Calif.’s Cap-And-Trade Program,” N.Y. Times Online Ed. (Aug. 8, 2011).

[7] Title 17, Cal. Code of Regs. (“17 CCR”) § 95970(a)(1)-(2).

[8] 17 CCR § 95973(a)(2)(C).

[9] 17 CCR §§ 95976-95977.

[10] Cal. Health & Safety Code § 38562(d)(2). AB 32 defines “market-based compliance mechanisms” to mean either “[a] system of market-based declining annual aggregate emissions limitations for sources or categories of sources that emit greenhouse gases,” and “[g]reenhouse gas emissions exchanges, banking, credits, and other transactions … that result in the same greenhouse gas emissions reduction … as direct compliance with a greenhouse gas emission limit or emission reduction measure” adopted by CARB. Id. § 38505(k). Offsets are not specifically mentioned in this definition, although that does not mean their use is necessarily precluded by the law.

[11] 17 CCR § 95802(a)(3), (36).

[12] In their original petition and complaint, the Citizens Climate Lobby petitioners cite a March 2009 report by the U.S. General Accounting Office entitled “Climate Change, Observations on the Potential Role of Offsets in Climate Change Legislation,” which states that “it is impossible to know with certainty whether any given [offset] project is additional,” and ‘the use of offsets can compromise the integrity of programs designed to reduce greenhouse gas emissions.” Petition ¶ 56.

[13] Under the regulation as originally approved by CARB, the first round of auctions was scheduled for August 15 and November 14. See 17 CCR § 95910(a)(1). However, CARB recently announced that the initial round would be delayed by at least three months.

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