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Yes we can . . . cap and trade

Cover Story
|Written By Glenn Kauth

Jurisdictions in the United States and Canada are reaching across the border to tackle climate change, but the fate of regionally-based programs like the Western Climate Initiative following the victory of U.S. president-elect Barack Obama is something companies across the continent are eager to know.

The WCI is an agreement between seven states and four provinces to cut greenhouse gas emissions by 15 per cent from 2005 levels by 2020. The reduction would be through a cap-and-trade program that represents a clear departure from current Canadian and American federal climate change plans. With an incoming U.S. administration signaling its readiness to take more aggressive action, some observers argue the WCI is more hot air than a plan for concrete action.

For Pamela Lacey, senior managing counsel with the American Gas Association, the WCI remains relevant even if a national framework eventually replaces the patchwork of climate change laws developing across the U.S. “We will have eventually, and I hope sooner rather than later, a uniform national law that will address what we’re doing on climate change. On the other hand, the states are working out a lot of ideas that are going into the congressional draft bills.”

As a result, her organization, which represents natural gas utilities across the country, has been busy lobbying at consultations for the WCI, which will begin capping emissions in 2012. Lacey notes the WCI is particularly relevant since no one yet knows when any federal rules would come into play.

For his part, Obama has already laid out plans to deal with what he called a lack of leadership by the U.S. federal government on climate change. While he praised state governors for taking action, he lamented the policies of U.S. President George W. Bush during a Nov. 18 Internet posting.

“That will change when I take office,” he said. “My presidency will mark a new chapter in America’s leadership on climate change that will strengthen our security and create millions of new jobs in the process. That will start with a federal cap-and-trade system. We’ll establish strong annual targets that will set us on a course to reduce emissions to their 1990 levels by 2020 and reduce them an additional 80 per cent by 2050.”

During the November Speech from the Throne the Canadian federal government laid out specific promises on what it plans to do about climate change, including a vow to have 90 per cent of the country’s electricity come from so-called low-emitting sources such as hydro, wind and nuclear power by 2020.

More controversially, the pledge included clean coal as one option for reaching that goal. The government also talked about joining the cap-and-trade system mentioned by Obama under a North American framework.

Companies in Canada have tended to have a wait-and-see, and perhaps somewhat skeptical, approach to the WCI pact between the seven western states and four provinces.

“The WCI is planning to roll itself out in 2012, which is exactly the time when the U.S. feds are likely to have their program ready to go. So, in the U.S., the federal government can simply pre-empt state programs — they don’t have this constitutional problem that we have in Canada,” says Gray Taylor, leader of the climate change and emission trading practice group at Bennett Jones LLP. He believes the WCI is largely a “political ploy” to force the federal, Alberta, and Saskatchewan governments into tougher standards.

Rick Hyndman, the senior policy adviser for climate change at the Canadian Association of Petroleum Producers, also doubts the WCI, which will allow companies that exceed their allowances to buy credits from less polluting businesses, will come together.

“It seems to us that it is extremely ambitious to try and do an allocation that applies to the wide range of jurisdictions that have signed up for the WCI," asking why a state or province that exceeds its targets would voluntarily choose to purchase credits elsewhere. He suspects the four provinces involved all believe they’ll benefit since they have significant hydro resources or, particularly in the case of Ontario, have plans to shut down coal-fired electricity plants. But for the system to work, someone has to pay. “Everybody can’t be a seller of permits under this scheme. I don’t think it’s a done deal yet.”


In its proposed design recommedations for the cap-and-trade program released in September, the WCI sought to cover an extensive range of businesses, including electricity generators, industrial facilities, and oil and gas emissions. The plan so far is to make facilities spewing more than 10,000 metric tonnes of carbon dioxide a year track and report their emissions by 2011, something that has Taylor apprehensive, asthe WCI could represent an onerous new set of regulations for business.

While it’s true that Canada’s federal government is aiming for a 20-per-cent cut in emissions by 2020, the hard caps and low reporting thresholds under the WCI could make it a much more challenging target to meet. “I have heard consultants say that a building the size of First Canadian Place [in downtown Toronto] would be required to report emissions under the WCI’s 10,000 metric-tonne-per-year limit. So one of the comments that have been made about the WCI’s proposals is that, that’s going to put a huge burden on lots of small- and middle-sized businesses.”

The extent to which the WCI is reaching the desks of corporate counsel across Canada varies. At the forestry company Tembec Industries Inc. in Montreal, officials hope its experience with cap-and-trade programs in France, along with its efforts to sell voluntarily earned credits through the Chicago Climate Exchange, will help it adapt to new Canadian regulations.

For the moment, senior litigation and compliance counsel Marie-Claude Bellemare says the company is more focused on the federal system taking shape. “Obviously, one of the things we’re still trying to figure out is what the federal regulations that will be put in place will be. Although we do have an idea of where the federal government is heading, we don’t know all the details.”

At the same time, some companies say while the WCI remains fuzzy on details, it does serve to get businesses to start preparing themselves for prospective greenhouse gas rules.

For Adele Malo, executive vice president and general counsel at energy retailer and producer Direct Energy Marketing Ltd., the proposed rules put an onus on in-house lawyers to get up to speed. “I think the message with the WCI that we’ve been getting is that it is indeed coming to a theatre near you, that people are going to have to get up the curve and understand this fairly arcane universe and understand how it operates because their companies will be buying and selling these credits.”

And as Bellemare points out, the legal questions can get complicated. At Tembec, where the company is currently dealing with the Chicago Exchange to get its emission credits audited before sale, issues range from the long-term validity of carbon sinks to the ownership of the permit itself.

“Obviously, the federal government is looking into offset mechanisms. There’s a legal question that could come up with respect to forestry sinks [relating to] how they will be dealt with in terms of ownership, considering that a lot of the forestry activities take place on Crown land.”

Also, the company has to consider how to allocate a credit if a subsidiary has generated it or when a facility is a joint-owned venture. Issues like the mountain pine beetle epidemic in British Columbia can also affect the validity of an offset. The epidemic has wiped out 13.5 million hectares of pine forest. Warmer winters are credited for the beetle's survival.

“At the same time as those trees disappear, your reduction also disappears,” says Bellemare. “So, there’s the question of whether it’s a permanent effect versus a temporary effect of the carbon sink.”


Nevertheless, Bellemare notes that with Tembec having reduced its greenhouse gas emissions by 30 per cent between 2003 and 2007, in part through a switch to using biomass fuels at its facilities, the company hopes to benefit from emissions trading, either through voluntary exchanges or regulatory schemes like the WCI.

But at Direct Energy, Malo says although the “bad news” is that a cap-and-trade system will mean added costs, action is necessary. “I guess the good news is we’ll be living in a cleaner environment, one which to be honest I personally believe is very fragile and very threatened and worryingly so.”

Still, as at Tembec, Malo says her company has begun taking advantage of its green activities, which include investments in wind power in Texas. It has a team of traders involved in selling “renewable energy certificates” but, as she points out, who will buy them depends on the criteria that jurisdictions regulating greenhouse gas emissions have set out. “Now, in the WCI, they’ll be making their own rules as to what qualifies and what doesn’t."

Ironically, in Canada it’s the oil rich province of Alberta that likely has the most experience dealing with carbon credits, since that province’s Specified Gas Emitters Regulation took effect last year. It requires companies that fail to reduce the intensity of their emissions to either purchase offset credits or pay a $15-per-metric-tonne fee into a so-called technology fund.

In Edmonton, city-owned Epcor Utilities Inc. has since stepped up its carbon trading activities, particularly through the purchase of credits from farmers who sequester carbon in the soil and from landfill gas recovery projects. Epcor buys credits “over the counter” directly from whomever is behind the project rather than through an exchange, something Oliver Bussler, the company’s manager of commercial environment, says carries some uncertainty.

“There are risks associated with the credits because the government could come back and find fault with them at some point," noting sellers of credits offer varying levels of guarantee into the contracts. Nevertheless, Bussler says rigorous auditing of the projects, along with the discounted price that offset credits usually sell for, make them worthwhile. “The way you hedge that risk is by ensuring that you follow the Alberta rules, and [that] the independent verifier has confirmed the farmer has in fact changed their practices and the emission reductions are taking place.”

It’s farmers like the ones Bussler deals with who could benefit significantly from the WCI, which under its draft rules would permit companies to meet up to 49 per cent of their compliance obligations on purchases of offset credits. While Taylor has doubts about the future of the WCI, he says it nevertheless sends a signal for companies to get serious about their greenhouse gas profiles by, for example, getting a handle on the sources of their emissions.

“The second thing is that if you’re not covered by the federal government’s program but you might be covered by the WCI program, I would think you’d want to get in the offset business because the offsets that you generate to reduce your greenhouse gas emissions will be the very same things that will help bring you in compliance with a capped system. So, if it turns out that the WCI doesn’t go forward, which won’t surprise me . . . you’ve got the ability to generate revenue if only the federal system comes in.”

For its part, B.C. says although the federal government plans to bring in its own rules, its expectation is that Canadian Prime Minister Stephen Harper’s Conservatives will accept the WCI as equivalent to a national system.

“We all have been saying that we would like to enter into a formal equivalency that would allow us to proceed with the WCI cap-and-trade system because it will have a better outcome for the environment,” says Graham Whitmarsh, the head of the B.C. government’s climate action secretariat.

He’s advising businesses to get ready for the WCI, whose participants say they hope to finalize the reporting regulations by 2009.

“You can get ahead of the game in terms of measurement, and I think for a corporate perspective, this [has] a lot to do with managing future risk. Carbon emissions are going to become a risk factor for business going forward.”

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