Power Companies’ Generation Mix May Determine Their Financial Outcome Under CO2 Allowance Allocation

Implications:     All of the various regulations being discussed in the U.S. Congress to slow, stabilize, and then reduce CO2 emissions nationally include some type of cap and trade system.  Each of these programs have a portion of the CO2 emissions allowances being allocated for free to the U.S. electric generators.  The allocation methodology and the power companies’ generation mix could determine companies’ financial outcome under the program.

Analysis:      A CO2 program would have a reduction in CO2 emissions below a baseline, with the use of CO2 allowances to allow the market to determine the method of compliance with the program.  Under the various proposals being considered, a CO2 allowance would be required for each ton of CO2 emissions.  In the various cap and trade programs being discussed, a portion of these CO2 allowances would be allocated to the electric utility sector for free.
 
     The two methods are based on historical generated electrical output or historical CO2 emissions levels.  Generation output would be denominated in mega watt hours (MWh) produced in the baseline year and historical CO2 emissions levels would be denominated in tons of CO2 emitted during a baseline year.  In both methodologies, the CO2 allowances would be given pro rata to the rest of the nation’s electric generators.
 
     A utility with a higher proportion of zero emissions generating resources, such as hydroelectric and nuclear, would come out favorably under a generation output-based CO2 allocation because it would not need the CO2 allowances to generate on these resources and would be free to sell the excess CO2 allowances to those utilities short the allowances.  On the other hand, those utilities with a high proportion of coal to other generating resources would be at a disadvantage under this allocation methodology.
 
     Companies such as American Electric Power have a high percentage of coal-fired generating resources and would be at an economic disadvantage under a generation output-based CO2 allocation system versus a historical emissions based CO2 emissions-based CO2 allocation system.  Conversely, a company such as Exelon with its high percentage of nuclear generating capacity would be at an economic advantage under a generation output-based CO2 allocation system because the company’s nuclear fleet does not emit CO2 and the company would be able to sell those allocated CO2 allowances based on generation to other utilities short the allowances.