EPA emissions rules add to decarbonization tailwinds

News Analysis 16 May

EPA emissions rules add to decarbonization tailwinds

Regulations on power plant emissions proposed by the EPA go hand in hand with decarbonization incentives in the Biden administration’s signature renewable energy legislation, adding momentum to investment trends in carbon capture, clean hydrogen, and renewable generation assets.

Proposed rules by the US Environmental Protection Agency (EPA) to limit greenhouse gas (GHG) emissions from fossil fuel power plants would add to accelerating tailwinds for investments in the decarbonization sector, including renewable energy and carbon capture and sequestration (CCS).

The draft rules issued last week by the EPA to impose strict restrictions on natural gas and coal emissions are still subject to a public comment period and could undergo some changes, including resolution of a small number of open questions included in the proposal, before they are issued as a finalized rule. But the net impact of the proposal as presented would be a more cost-competitive environment for renewable energy projects and strong incentives for investments in CCS and clean hydrogen infrastructure.

Those regulatory incentives come as the Biden administration works to implement provisions of the Inflation Reduction Act (IRA) that will open a floodgate of public funding into those same sectors set to benefit from the new regulations, experts tell Infralogic.

As written, the proposal would set CCS and clean hydrogen co-firing as the standard benchmarks for emission reductions from gas and coal-fired power plants, while giving owners of new and existing baseload facilities roughly a decade of lead time to develop systems to meet the new standards.

Rising tide for CCS, hydrogen and renewables

An obvious direct result of the proposed regulations would be increased investment in CCS infrastructure, one of two paths laid out in the proposal for tamping down GHG emissions from gas-fired plants, Allan Marks, a partner with Milbank LLP’s global project, energy and infrastructure practice said.

But the increase in development costs for gas plants associated with the need to add CCS systems or develop hydrogen infrastructure to serve both new and existing facilities will also improve the cost competitiveness of renewables by comparison, likely stimulating investments in wind and solar sectors, Marks said.

Notably, the rules would impose less onerous caps on emissions from gas and coal plants with lower capacity factors and those that operate infrequently, including so-called “peaker” facilities that operate only during times of unusually high electricity demand.

A pathway in the proposal to decarbonization based on adoption of clean hydrogen as a fuel source at new and existing gas plants could also be a boon to the nascent clean hydrogen sector, noted Stan Meiburg, executive director of Wake Forest University’s Center for Energy, Environment and Sustainability. But the contours of the CCS sector at present are more defined.

That could change by 2030, when the earliest proposed GHG caps based on hydrogen-mixing or CCS systems would go into effect. Gas-fired plants that pursue a decarbonization strategy based on burning clean hydrogen would be required under the rules to shift to a fuel mix of at least 30% clean hydrogen by 2030. That requirement would increase to 96% by 2038.

By that time, the federal government is expected to deploy billions of dollars in tax incentives aimed at spurring development of clean hydrogen production and transportation capacity. That includes USD 9bn in funding for regional hydrogen hubs and a new production tax credit for clean hydrogen facilities. At the same time, a turbocharged production tax credit for CCS is also slated to go into effect.

The significant implementation time provided asset owners to develop systems to meet the new requirements appears to be aimed at ensuring current investments in the sector don’t run outsize risk of creating stranded assets once the more stringent caps go into effect, Meiburg said.

As last week’s proposal makes clear, the EPA has not yet decided whether the final rule should commit to a single set of benchmarks for baseload gas plants based on either hydrogen mixing or CCS, or whether asset owners should be allowed to choose between the two options.

Coal gets burned

While the rules build on new CCS, clean hydrogen and renewable energy policy incentives, they could also accelerate the US transition away from coal power, Marks said.

Large coal facilities would be subject to new emissions caps beginning in 2032 that become significantly more burdensome for plants that continue operating after 2040, Marks said.

“All existing coal-fired power plants retired before 2032 are effectively grandfathered under the proposed rule, as are coal-fired power plants that operate infrequently and are retired before 2035,” Marks noted.

Of particular note, for the coal sector, the proposal would effectively require application of CCS systems at all baseload coal plants intended to operate beyond 2040. As previously reported by Infralogic the aging nature of the existing US coal fleet and a decline in investor appetite for exposure to the coal sector create significant challenges to developing CCS facilities at existing plants. By 2040, the average remaining US coal facility will be around 60 years old, according to the US Energy Information Administration.

Threading the needle on West Virginia vs. EPA

Given the Supreme Court’s decision last year that struck down the Obama-era Clean Power Plan, which would have placed state-level caps on GHG emissions from the power sector, questions about the durability of the EPA’s proposal are inevitable.

In recrafting its regulatory framework for power sector GHG emissions under the Biden administration, the EPA appears to have taken the high court’s ruling in West Virginia v. EPA to heart, Meiburg said.

The new rules hue much closer to traditional interpretations of the EPA’s mandate under the Clean Air Act (CAA) to place limits on power sector emissions based on its determination of the “best system of emission reduction” available, Meiburg said.

The Obama-era rules determined the best pollution control “system” to be state-level caps on power sector GHG emissions aimed at driving a shift in reliance from coal generation to cleaner energy sources.

But the Supreme Court found that interpretation of the law to be overly broad in a decision that struck down the rules after years of political and legal delays to their enactment.

The new proposal’s reliance on inside-the-fence-line emissions control systems, either through CCS or hydrogen-mixing, are more or less in tune with previous EPA regulations requiring adoption of technologies to reduce air pollutants targeted by the agency in the past, agreed Marks.

“To me, the rule is specifically crafted to fit within the structures imposed by the U.S. Supreme Court (particularly in the 2022 West Virginia v. EPA case) that take a very narrow view of the EPA’s statutory authority,” Marks said.

The new regulations could of course still face legal challenges. But in the context of broader energy sector orientation toward decarbonization, the new rules are likely to inform investment activity, even if litigation delays their enactment, Marks said.

That’s largely because the proposals reflect trends that are already in motion.

While the Obama-era rules proposed a dramatic overhaul of how power plant emissions are regulated to meet EPA emissions targets, the Biden rules come at a time when the energy sector’s momentum is already moving toward decarbonization, he added.

“I think that the EPA’s draft rule now reflects this prevailing shift to decarbonize power generation more than it results in any radical change, in contrast to the earlier, more ambitious plan that the Obama administration attempted,” he said.

Even with the prospect that a future Republican White House might seek to water down the regulations before the most significant new emissions caps go into effect, Meiburg said developers are likely to bake the new rules into investment decisions going forward, rather than attempting to wait out the current administration or a lengthy litigation process.

Given the lengthy development timeline for large generation projects, Meiburg agreed that developers are likely to embrace the certainty associated with abiding by the rules while taking advantage of IRA incentives to implement the required emissions reduction systems.

This article is just one example of the many articles published daily by Infralogic’s global news and analysis team. For more information and to request a trial of our full news service – including our extensive databases of transactions, funds, investors, advisors, lenders and industry rankings – visit Infralogic.com

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