The Cost of Reducing SO2 (It?s Higher Than You Think)

Fortnightly Magazine - May 15 1998

LAST YEAR, IN JUSTIFYING THE PROPOSED NEW NATIONAL AMBIENT Air Quality Standards (NAAQS) for particulate matter and ozone, Environmental Protection Agency Administrator Carol Browner testified that: "During the 1990 debates on the Clean Air Act's acid rain program, industry initially projected the costs of an emission allowance¼ to be approximately $1,500¼ Today those allowances are selling for less than $100." %n1%n

Later in 1997, at the White House briefing announcing President Clinton's Global Climate Change Plan, Katie McGinty, chairwoman of the Council on Environmental Quality, said of the plan to reduce greenhouse gas emissions in the U.S.: "We've reduced the emissions that cause acid rain by more than 40 percent of what was required¼ for less than a tenth of the price that was predicted¼ We will put [the same] market forces to work to help us take on this [climate change] objective." %n2%n

Statements like these attempt to justify some of the most ambitious air quality initiatives ever considered. However, the initial cost projections never ran as high as those cited today by the White House or the EPA. Initial cost estimates for achieving the sulfur-dioxide emissions reductions envisioned under the fully implemented Phase II cap in the acid rain provisions of Title IV of the Clean Air Act ranged much lower (em from $225 to $500 per ton. Further, costs were projected even lower during the period preceding the date of full compliance with the Phase II cap, and we are still in that period.

These discrepancies stem from inappropriate comparisons. It is no longer possible with market-based regulations to directly compare costs just because they are all expressed in "dollars per ton." It is now essential to understand whether a cost is an average or a marginal cost, short-run or long-run, a capital investment, current expenditure or a market price, or even ex ante or ex post. Sound confusing? It is. The quotes above are evidence of just how far off-base policy prescriptions can go if one doesn't take care to avoid comparing numerical values that are like apples and oranges.

Title IV capped annual emissions at 9 million tons, to be achieved in two phases. Phase I began in 1995, and required only 110 power plants with 263 generating units to balance their emissions with allowances. About 182 additional units opted in. Phase II will begin in the year 2000, when essentially all major fossil units must obtain allowances to operate; only about 9 million allowances will be distributed each year.

Utilities were given the option in Phase I of "banking" unused allowances. Allowances not used in Phase I could be banked for use in Phase II, smoothing the transition to the ultimate cap of 9 million tons.

Banking strategies encouraged early compliance with emissions reductions targets, whereby the units covered by Phase I reduced emissions more than required. This overcompliance is what the CEQ's McGinty was referring to when she cited reductions of 40 percent more than what was required by law. However, that 40-percent overcompliance reflects only the early years of a multi-year phase-in (see Figure