News Analysis

With a nascent emissions market, U.S. companies may not be so grateful they're out of the club.

Domestic energy companies may have breathed a sigh of relief last March when the United States pulled out of the Kyoto Protocol. Gone was the specter of expensive compliance with emissions reduction targets set by the treaty. So long as they don't care about expanding globally or entering emerging emissions trading markets, they probably have a reason to think they've dodged the emissions bullet. For now, at least.

There is that pesky matter of multi-pollutant legislation, either in the form the Clean Power Act of 2001, S. 556, proposed by Sen. James Jeffords, or the proposal the Bush administration is expected to unveil in early 2002. Yet, even assuming passage before year's end, compliance with any new law is well over a year away. The real effect of the Kyoto treaty for U.S. utilities may turn out to be not what they must do, but what they're not allowed to do-participate in nascent worldwide emissions markets created by the international, sans-United States agreement.

Despite the U.S. pullout from negotiations last March, the Kyoto Protocol effort has not collapsed, as some had predicted it would. In November, the parties-55 countries, representing over half of global emissions producers in 1990-met in Marrakesh, Morocco, to work out remaining differences. Though the parties announced an 11th-hour agreement on a variety of issues, including an enforcement mechanism for countries that do not reach their emissions goals and eligibility requirements for engaging in emissions trading, the details remain sketchy. As Mary Gallagher, spokeswoman for AEP Energy Services Ltd. in London, says, "the agreement was signed with great fanfare ... [but] there's not a lot of explanation" of how compliance mechanisms will work under the treaty.

The immediate effect of Kyoto on U.S. companies will be negligible, even for those with international holdings. The treaty regulates emissions based on the geography of a facility, rather than the citizenship of the facility's owner. U.S. companies with operations abroad are accustomed to dealing with different regulatory regimes, says Frank Maisano, spokesman for Global Climate Change, an industry trade group that opposed United States participation in the Kyoto Protocol. And Gallagher seems to agree. "We'll follow the rules of the UK and Europe," she says, without mentioning any hardship that AEP might face to comply with such regulation.

Despite their apparent comfort with various countries' regulatory schemes, one likely response to Kyoto is that companies with significant overseas holdings will establish company-wide environmental compliance policies, according to John Palmisano, a managing director with Evolution Markets. "It's much easier if companies have one set of standards" for things such as environmental management programs, he explains.

Indeed, at least one international company with large U.S. holdings, Royal Dutch/Shell, has adopted a company-wide policy that bans ownership of interest in coal-fired generation, according to Steve Piper, a senior consultant with RDI Consulting/Platts. He says that Shell, an RDI client, adopted its policy of not holding interests in coal-fired generation due directly to Kyoto concerns.

To Market, To Market- But Not the U.S.

Palmisano foresees a good-sized emissions marketplace developing in the next five years, with Kyoto in place. What is not clear is the extent to which some U.S. companies will be able to participate in those markets. When a company participates in a credit-based trade, Palmisano explains, they must identify the parties involved. Under the Kyoto Protocol, parties are countries, not companies. Any greenhouse gas credit would flow from one country's greenhouse gas emissions account to another country's account. Since the United States is not a party to the Kyoto Protocol, a U.S. company may not be able to participate in some emissions markets created by Kyoto. U.S. companies may be able to get around this problem by establishing a joint venture with a company in a Kyoto signatory country-but Palmisano says he would not be surprised if participation by U.S. companies is somewhat hobbled. It wouldn't be out of malevolence, he says, but simply as a question of how a domestic company can participate in such a market if the United States itself is not party to the underlying agreement.

At the moment, there are a lot of relatively inexpensive emissions credits available for trading, courtesy of the collapsed economies of Russia and Eastern Europe in particular. However, since the United States is not a Kyoto signatory, those credits cannot be purchased by U.S. companies as a means to buy their way into compliance cheaply, as was expected when the treaty was being negotiated. Instead, those credits now can be snapped up by Europeans. If and when the United States joins Kyoto or a successor agreement, it is not clear that those "cheap tons" still will be available, and at what price, according to Pam Milmoe, a managing director with E Source.

It appears, then, that U.S. companies will, in many ways, be shut out of a developing emissions-trading market-a rather ironic situation, given that the United States was a prime proponent during the Kyoto negotiations of market-based solutions to reduce emissions.

U.S. companies with international operations still will be able to participate in emissions markets-for their facilities located in Kyoto signatory countries. Absent Kyoto adherence by the United States, those companies that had invested in sequestration or clean development mechanism (CDM) projects in anticipation of garnering credits in emerging global transmissions markets may only be reaping goodwill, at least for now. The Kyoto treaty certainly doesn't preclude participation by U.S. companies in, for example, carbon sink projects in developing countries. While the benefits of such good will might be substantial, especially in places with severe environmental problems, at the moment U.S. utilities are in a holding pattern with such projects. Current tree planting and other biomass projects are not being shut down, says Jayne Brady, media representative for Edison Electric Institute, but they are not being expanded, either. "There is not a lot of pushing forward" on sequestration and CDM projects right now, she says.

Kyoto would have represented a distinct economic motivation for U.S. companies to participate in CDM-type projects. Without United States participation in Kyoto, "there's a risk that easier, cheaper projects will be gone" by the time the country joins any worldwide emissions reduction agreement, says Milmoe. There is a further risk that at least some U.S. energy companies will lack necessary skills, knowledge, and patents to compete effectively in such a changed market, according to Alex Farrell, executive director of the Carnegie Mellon Electricity Industry Center.

Both Palmisano and Farrell raise the specter of potential World Trade Organization (WTO) actions against the United States, since it is not bound by Kyoto emissions standards. Subsidies are frowned on generally by the WTO, Palmisano notes. Under treaties such as NAFTA, the absence of strong environmental standards is considered a type of subsidy. If Kyoto embeds greenhouse costs, a.k.a. carbon costs, and those carbon costs consequently add to the price of cars via increased electricity costs to produce tires and steel, there may be an argument that not adhering to Kyoto is an indirect government subsidy of U.S. automakers, he explains.

The year 2001 went down as the warmest year ever recorded. Global climate change is an issue that's here to stay-the main challenge appears to be how, not whether, to implement changes that will slow or reverse global warming in the coming decades. U.S. energy companies may not need to comply with the Kyoto protocol, but it would profit them to keep an eye on their counterparts abroad who do have to meet emissions standards. Otherwise, they may find themselves lead-footed when they need to get quickly into the global emissions marketplace.

Articles found on this page are available to Internet subscribers only. For more information about obtaining a username and password, please call our Customer Service Department at 1-800-368-5001.