Colorado regulators seize the climate fight in landmark ruling on carbon costs
The PUC's March decision is the first application of the federal social cost of carbon in utility planning processes
Just as the federal government is hitting the brakes on climate change mitigation, a number of states are stepping up their efforts.
State efforts to expand renewable energy through mandates and incentives are well known, as are attempts to save nuclear generation from early retirement through subsidies. But in the middle of the country, one state is taking climate mitigation a step further through integrating a price on carbon into utility planning processes.
This spring, Colorado utility regulators issued a landmark decision requiring Xcel Energy to include the health and environmental costs of greenhouse gas emissions in its integrated resource plans.
On March 23, the Public Utility Commission (PUC) ordered Xcel to use the federal social cost of carbon (SCC) to measure harms from CO2 emissions in its 2016 Energy Resource Plan (ERP), which will guide utility investments through 2024.
The ink barely had time to dry on the order before President Trump issued an executive order on March 28 withdrawing the SCC guidance developed under the Obama administration as “no longer representative of governmental policy.”
The divide between federal and state policy goals is a worry for Xcel, which argues the politics of the SCC and its underlying calculations are too tenuous to be the basis for utility investments.
“The range of potential outcomes is huge for the calculation of the social cost of carbon because the uncertainties are huge,” said Jack Ehle, Xcel’s director of environmental policy. The Obama administration “came up with values ranging from $13/ton [of carbon emitted] to $129/ton in 2022.”
But federal backtracking on the SCC does not bother the clean energy and environmental advocates who pushed for its inclusion in the planning process. They say the PUC’s order and the underlying calculations of the SCC are clear, even if the Trump administration halts further analysis.
“Like most things in the best utility regulation, this is a mix of policy, economic, and legal questions,” said Erin Overturf, attorney at Western Resource Advocates (WRA). “But the ruling explicitly states that Xcel is to use a $43/ton value in 2022 and escalate that to $69/ton in 2050.”
The Colorado decision builds on previous externality planning procedures used by utilities in Minnesota, as well as nuclear support schemes based on the SCC in New York and Illinois.
If the Colorado decision proves workable, it could pave the way for other states to integrate the SCC into their power mix planning.
The social cost of carbon
The federal social cost of carbon was developed by an inter-agency working group during the Obama administration made up of federal science and economic agencies. The calculations are based on three assessment models that cover four sets uncertain and interdependent factors, according to CarbonBrief, an environmental media outlet that chronicled the development of the SCC.
The first set of factors involves socioeconomic projections, like population and economic growth. Another includes environmental changes, like sea level rise and extreme weather. The third involves climatic impacts on things like the cost of living and wildlife habitat.
The last factor is the discount rate, or the present cost of long-term harms. It is “one of the most contentious and consequential aspects” of the SCC, CarbonBrief reports. “The effects of climate change will be felt over many hundreds of years, whereas cutting emissions costs money now.”
Those uncertainties mean that the SCC “is not a good tool for resource planning,” Ehle said. The PUC, however, disagreed in its 2-1 decision.
“Xcel’s arguments were rejected because the commission saw that externalities could be translated to direct costs that people incur every day,” said Roger Freeman, attorney for the Colorado Solar Energy Industries Association (COSEIA), whose testimony was referenced in the decision.
The Colorado PUC is not the first state commission to take on the carbon externality question. Minnesota utilities have been required to include environmental externality costs in resource planning since 1993, said Chris Villarreal, an independent consultant and former policy director for the Minnesota PUC.
Last year, Administrative Law Judge (ALJ) LauraSue Schlatter recommended the PUC “adopt the federal social cost of carbon as reasonable and the best available measure to determine the environmental cost of CO2.”
The recommendation came in a proceeding specifically designed to assess whether the federal SCC should be the externality value used by Minnesota utilities. J. Drake Hamilton, science policy director for the clean energy advocate Fresh Energy, was among those who petitioned regulators to open the docket back in 2013.
“The ALJ ruled on several years of robust, evidence-based testimony from about a dozen parties,” she said of Schlatter’s recommendation. “Xcel argued against using the SCC.”
The cost Xcel has used for externalities in Minnesota has reached as high as $21.50/ton, Hamilton said. “Updating to the federal SCC value of about $36/ton to $37/ton would make a big difference.”
The commission has two obligations, Hamilton said — to ensure utilities meet environmental regulations, and to only approve the utility’s lowest-cost resource plan.
“It cannot do that without a science-based value for externalities,” she said. “That is what the ALJ ruled.”
The Minnesota PUC is expected to rule this summer on whether to integrate the SCC into formal utility planning. But already two states are using it as justification for payments to support nuclear plants.
Last August, the New York Public Service Commission unanimously approved zero-emission credits to support the continued operation of three upstate nuclear plants. In crafting their program, regulators used the SCC to help estimate the value of the emission credits, along with expected power costs and other factors.
In December, the Illinois legislature followed suit, crafting a similar program to support a group of nuclear plants under pressure. That law, the Future Energy Jobs Act, also uses the SCC to calculate credit value, calling it “an appropriate valuation of the environmental benefits provided by zero emission facilities.”
The Colorado commission’s ruling
The Illinois program represents the first time the federal social cost of carbon was used by state legislators to value greenhouse gas externalities. But it and its New York counterpart focus the analysis squarely on one resource — nuclear energy — while the Colorado commission’s ruling would affect the entire utility planning process.
The Colorado decision is “the clearest direction yet provided that the PUC can use its discretion to consider such costs,” COSEIA wrote in a blog post after the ruling.
The construction of the Colorado ruling could set a precedent for other commissions in three areas, stakeholders told Utility Dive.
First, it endorses a specific value for the federal SCC as representative of externalities costs. Second, it affirms Xcel’s proposal to use a $0 carbon valuation as its base case for externality calculations. And third, it is conclusive and specific on the discount rates to be used for Xcel’s ERP.
The base case
Regulated resource planning seeks “cost-effective portfolios” that give “the fullest possible consideration” to new clean energy, the commission notes. To accomplish that, utilities are required to submit “a range of input sensitivities” that test the economic “robustness” of their plan “under various parameters.”
“There is little likelihood of federal carbon regulation in the near term,” the order adds, but Xcel’s practice of using a proxy price for carbon can be replaced by “sensitivity analyses under alternative pricing assumptions for carbon emissions.”
A sensitivity analysis, or "sensitivity," evaluates how a specific set of resources would perform under a specific set of factors like interest rate and assumed load.
In its selection of sensitivities to be used for the 2016 ERP, the order accepts a key Xcel argument.
“We are persuaded that establishing a base modeling case with a $0 value for carbon, when combined with sensitivity analyses of substantially higher prices for carbon, provides the Commission with the most useful comparative data for decision-making.”
In addition to the $0-for-carbon base case, Xcel must provide “sensitivities in which costs are applied to carbon emissions and the various resource combinations are re-priced accordingly.” The commission will compare these alternatives to determine Xcel’s resource mix.
Using the FSCC
WRA and COSEIA asked the commission to require a sensitivity using the SCC. According to WRA, statute permits the commission to consider the possibility that new environmental regulations could result in “higher future costs associated with the emission of greenhouse gases such as carbon dioxide.”
Xcel argued the commission can only act if “higher future costs” will result from the "likelihood" of new regulation.
Agreeing with WRA, the commission ruled it has the authority “to consider externalities in resource planning proceedings” even if rates will be unaffected.
Using the SCC as a proxy for externalities costs is consistent with the Commission’s responsibilities for “environmental protection” and “risk mitigation” in evaluating resources, the order adds.
More significantly, the SCC is “a reasonable quantification of the potential cost of externalities in ERP sensitivities,” it adds. As initially submitted, the two alternative Xcel ERP sensitivities using carbon proxy prices do not account for “the full costs for externalities,” the commission concluded.
The SCC, the order reports, represents “a comprehensive estimate of climate change damages and includes changes in net agricultural productivity, human health, property damages from increased flood risk, and changes in energy system costs, such as reduced costs for heating and increased costs for air conditioning.”
Regulators therefore required Xcel to “run a third carbon price sensitivity” using the SCC. It pegged values to rates presented in Freeman’s testimony that start at $43/ton in 2022 and increase to $69/ton in 2050.
The commission rejected Xcel’s argument that running new sensitivities based on the FSCC are “burdensome." Xcel witness James Hill testified that “sensitivities typically aren’t that difficult to run” and “can be run fairly fast,” the order notes.
The discount rate
The third important debate resolved by the order was about the discount rate Xcel will use in its sensitivities. FSCC advocates argued the rate can be a crucial factor in resource planning.
The commission found, in what may be an important precedent, that Xcel’s proposed 6.78% rate “unfairly discounted the future cost of fossils.”
Two generating assets may have similar upfront capital costs, Freeman said. If one is a natural gas plant that requires expenditures for fuel and the other is a renewables installation that does not, the renewables project has an economic advantage.
But if the discount rate is high enough and the cost of natural gas is low enough, the natural gas plant might remain competitive. COSEIA and WRA asked that Xcel be required to use a 3% and a 0% discount rate for its analyses, along with the rate has used in previous ERPs.
Xcel argued that if the discount rate for fuel-supplied plants is changed, the rate should also be changed for renewables so the comparison would be “apples-to-apples.”
The commission agreed with Xcel that different resources should not have different discount rates. It therefore ordered the utility to use all three rates – 6.78%, 3%, and 0% – in its sensitivities. It also ordered Xcel to deliver its ERP, with the new sensitivities, within 120 days.
Objections and observations
Colorado Commissioner Wendy Moser concurred with Commission Chair Jeffrey Ackermann and Commissioner Frances Koncilja on all elements of the decision except for the SCC ruling.
The SCC was developed to evaluate “a rule or regulation that impacts cumulative global emissions” and not “to justify the selection of resources for utilities,” Moser wrote. The SCC is not Colorado-specific and there is “no evidence” it discriminates against fossil fuels. It is a “garbage in, garbage out” analysis,” she wrote.
There is no evidence using the SCC improves Xcel’s sensitivities based on “carbon proxy prices,” Moser concluded. And it could result in higher customer utility bills.
Ehle said Xcel will fully comply with the order.
“We will also ask the commission for a discussion around what an appropriate externality value might be for future resource plans,” he said.
Xcel agrees with using carbon values in resource planning, Ehle said. But, along with Commissioner Moser, he thinks using the FSCC could impose “real costs” on Xcel customers.
“We prefer resource planning based on realistically potential policy,” Ehle said. “Proxy carbon pricing identifies the likely cost of carbon we face, if and when policy imposes it. We have found that to be more appropriate for resource planning.”
WRA’s Overturf said the debate with Xcel is not about the science of climate change but about the best policy mechanisms to address it.
“That is a good thing,” she said. “We need a robust conversation about the best policy tools.”
“The big question is what it means to make a decision in the public interest because that is what the commission is charged with,” Overturf added. “What customers pay on their utility bills is critical but the public interest is a lot more complicated. It should include all the costs and benefits, including direct costs and externalities.”
Whether the SCC will end up guiding Xcel’s investments remains to be seen. Regulators still need to evaluate the new carbon cost estimates alongside Xcel’s old sensitivities in the new ERP, due by July 21. But COSEIA’s Freeman said the decision shows the PUC is open to considering broad public interest questions like climate change — a perspective that could be a model for other states.
“This ruling shows that the word public in public utilities commission has meaning,” he said.