Federal Clean Energy Standard: Designing Markets For Clean Power

Federal Clean Energy Standard: Designing Markets For Clean Power

Sheldon Kimber

Not all clean energy is created equal and not all of it will help solve climate change. It’s a hard truth that will likely land me in trouble with some in my own industry, but it needs to be said if we are serious about combating climate change. While there are other policy approaches such as a carbon tax that we could employ, one of the more ambitious elements President Biden is proposing in his clean infrastructure package is a federal Clean Energy Standard (CES) requiring progressively lower carbon emissions from all generators of electricity until the electric sector is carbon free by 2035. This is a phenomenally aggressive timetable, but it is not completely unrealistic in the context of a well designed policy and it is certainly the goal we should set even if we are a few years late in achieving it.  

Given my experience developing and building renewables under various Renewable Portfolio Standards (RPS), Feed In Tariffs (FIT) and voluntary Renewable Energy Credit (REC) markets, to me, the business requirements for a successful CES are clear and apparent. Reaching the zero carbon electricity sector goal by 2035 will require an enormous amount of private capital and the points below represent “must have” elements if policy designers want to harness such capital to achieve their goals.   

First, the theory. Most clean energy requirements have been implemented through the use of some type of credit or instrument such as a REC. These have also been called ZECs, credits, offsets, etc., but for our purposes we’ll refer to them as RECs. Often, RECs sold to consumers are from the cheapest sources of clean electricity, such as renewable power plants in remote locations with good wind and sun but far from most population centers. If they buy RECs to offset their emissions, they are more often than not decarbonizing electricity that is being generated potentially thousands of miles away at likely a completely different time of day from when they use it.

This arrangement worked in the early days of renewable energy, when the new wind farm in the middle of the country was displacing actual coal generation when the wind blew late in the evening or early in the morning. It was clear that there was a certain amount of MWh that would otherwise have been generated from coal that would now come from wind and therefore a certain amount of carbon avoided. As renewables grew to a certain volume, wind and solar farms in certain locations produced more energy than was needed in those locations at the time they produced it. 

The end result is that some power markets with lots of renewable resources and very little load have wound up with enormous surpluses of electricity generation with no good way to “deliver it” to the right locations at the right times. Essentially, by allowing a REC buyer to pay for their externalities with RECs from electricity that can’t be “delivered” to them at the time of their use, we erroneously accept that over-generating large quantities of clean electricity purely to produce RECs somehow displaces the need for dirty electricity in unrelated geographies at different times of day. Said a different way, if all the nation’s renewable electricity were generated in one location, and the RECs were applied to coal plants in another, we would still have tons of carbon emitted despite succeeding in massive renewable deployment. The results for society are suboptimal, especially in the context of achieving our climate goals. 

Under this current construct, there is little to no incentive to build the battery storage and transmission lines required to eventually decarbonize the whole electric sector in geographies with few renewable resources and coal plants still providing the majority of power to the region. These problems get bigger, and the inefficiency of poorly designed RECs grows larger, with the higher the percentage of renewable energy we demand under this system. The issues are much more complex than what I’ve outlined above, but hopefully this captures the gist of the problem. 

This brings us to the key design elements for any CES credit or REC. Recall that our goal is to most efficiently internalize the externalities of carbon emissions from electricity generation. In order to do this, we must ensure that our CES policy incentivizes renewables to be built in the “right place” with appropriate storage resources and transmission lines. This is the only way to ensure that when zero carbon generators are the only source on the grid, they can still provide electricity in the locations and times that we are used to consuming it. 

Physical Deliverability and Time of Use Requirements Are Critical

It is critical that we create credits or policy instruments that represent not only the avoided carbon emissions, but the physical deliverability and time of such avoided emissions. In other words, my REC might represent one MWh of avoided carbon emissions during the evening hours from 5pm to 10pm in the NYISO territory (a physically interconnected area of the grid in the Northeastern United States). If I am a buyer, I’d match the RECs not just by the total volume I needed to offset, but also by the time and location of my own electricity usage.

Requiring users to purchase RECs that align with both physical deliverability and time of use provides further incentive to build solar or wind where it is needed, like in the Southeast, as opposed to only building where it is cheaper to build like the Southwest or Central US. Likewise, unless we make this shift, there will not be an incentive to build transmission from renewable-rich regions to ISO/RTOs needing additional renewable capacity or store energy from renewable resources for later use.  

Time of use and physical deliverability are by far and away the most important elements of policy or instrument design that must be added to our current concept of RECs. Beyond these are more subtle but still important elements of policy design that will dramatically impact the response of private capital to any new CES policy. 

Additional Considerations for Faster Adoption

High level basics are as follows: 

1. Physical deliverability of electricity to user-claiming the RECs. For example, a data center in Utah must use RECs that are generated within the same ISO/RTO.

2. Time of use must match with the hour or other relevant block of time that the REC was generated to ensure developers are targeting 24/7 availability of zero-carbon energy.

3. Tradability of green attributes (RECs) unbundled from energy must be allowed to enable maximum liquidity and financing flexibility, but regional and time of use attributes must remain with the credit. 

4. Tenor of Program vs Credits: The tenor of the credit dictates how projects are financed and whether early actors are able to “bank” credits. Excessively long tenors used to be absolute requirements for financing, but that is less and less the case, which is a good thing because shorter tenors actually distort future clean energy markets far less. 

5. Competitive but Thoughtful Solicitations: The progress needed to reach zero carbon for a particular region depends on the historical resource mix and state-policy efforts that encourage the use of carbon-free resources. This will differ across regions. Those with large energy usage and a greater existing carbon intensity will need to adopt a faster pace than regions with a smaller delta. To ensure this new generation shows up and can reliably power our economy we must carefully design solicitations to ensure project viability. This includes:

           I) Minimum Viability Criteria are a critical component of successful competitive solicitations. These thresholds ensure projects are ripe for selection. Such minimum criteria include landowner permission, permitting and interconnection thresholds, and significant collateral postings to insure against project failure. 

           II) No feed-in tariffs: Feed-in tariffs did their job, but in today’s mature renewables market they are massively distorting, inefficient, and favor inexperienced, unsophisticated developers and projects that oftentimes wouldn’t or shouldn’t be built. 

6. Flexible Compliance: Allow for individuals and corporations, with the limitations described above, to voluntarily purchase and tender credits for their own load or to effectively take on the role of being the “compliance entity” in lieu of their utility. This allows generators and others to sell credits directly to end users, like big tech companies, or through LSEs themselves. Voluntary markets currently far outpace compliance obligations and enable healthy “climate competition” that encourages companies and regulators to do more.  

I also think it is important to note that beyond these more technical considerations, there are other elements worth clarifying in the design of a Federal CES. Firstly, a Federal CES cannot be all things to all people. There are important issues of equity and social justice that must be addressed, including relief from rate increases for low income households, support for frontline communities impacted by the energy transition, labor standards, and many others. 

Other policy tools must accompany a Federal CES in order to address these issues. The CES itself cannot seek to do so. Fines or “alternative compliance payments” from a CES may provide funding for such programs, but the design of the CES will become almost unworkable if one attempts to layer on too many priorities in the design of the instrument itself. 

Finally, a Federal CES in no way replaces the need for other policies. As the Biden Build Back Better plan makes very clear, the transition to zero carbon electricity will require tax credits for renewables, transmission and storage, direct pay of all such tax credits, and domestic manufacturing support, just to name a few. All of these policies will make the transition cheaper for energy consumers, faster, and more equitable. 

It will take every bit of this to get anywhere close to zero emissions electricity by 2035, but it is absolutely possible assuming we take into account the points delineated above. Or we could just put a rapidly escalating price on carbon at the source with a full dividend back to US taxpayers. That would work too! 

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