New Nuclear Capacity

The nuclear power sensitivity case examines the role of nuclear generation in reducing carbon emissions. In AEO98, electricity generation from nuclear plants declines significantly over the forecast period. It is assumed that 65 units, about 51 percent of the total nuclear capacity available in 1996, will be retired by 2020. Twenty-four units are assumed to be retired before the end of their 40-year operating licenses, based on Industry announcements and analysis of the age and operating costs of the units. No new nuclear plants are constructed by 2020.

In all the carbon reduction cases, nuclear plants are lifeextended if economical; however, in this sensitivity case, new nuclear plants can be built if they are economically competitive with other generating technologies. In the 1990+9% case, nuclear plants are not projected to be economically competitive with other plants. They do become competitive, however, with the higher carbon prices projected in the 1990-3% case. Therefore, this sensitivity case is analyzed against the 1990-3% case.

Use of Models for Analysis

The reference case projections in both AEO98 and this analysis represent business-as-usual trend forecasts, given known trends in technology and demographics, current laws and regulations, and the specific methodologies and assumptions used by EIA. Because EIA does not include future legislative and regulatory changes in its reference case projections, the projections provide a policy-neutral baseline against which the impacts of policy initiatives can be analyzed.

Results from any model or analysis are highly uncertain. By their nature, energy models are simplified representations of complex energy markets. On the other hand, models provide a structured accounting framework that allows analysts to capture the interrelationships of a complex system in a consistent manner. Also, the assumptions and data underlying a model can be explicitly cited, in contrast to a more ad hoc analysis. The results of any analysis depend on the specific data, assumptions, behavioral characteristics, methodologies, and model structures included. In addition, many of the factors that will influence the future development of energy markets are inherently uncertain, including weather, political and economic disruptions, technology development, and policy initiatives. Recognizing these uncertainties, EIA has attempted in this study to isolate

and analyze the most important factors affecting future carbon emissions and carbon prices. The results of the various cases and sensitivities should be considered in terms of the relative changes from the baseline cases with which they are compared.

It has been suggested that models may be inherently pessimistic in analyzing the potential impacts of policy changes. For example, in the Annual Energy Outlook 1993 (AEO93), the first EIA analysis of CAAA90 compliance, the cost of a SO, allowance was projected to be $423 a ton in 2000, in 1996 dollars, rising to $751 a ton in 2010. Currently, the cost of an allowance is $95 a ton, and AEO98 projects that the cost will be $121 a ton in 2000 and $189 in 2010. Projected coal prices in AEO98 are 34 and 48 percent lower in 2000 and 2010, respectively, than those projected in AEO93, reflecting recent improvements in mine design and technology, economies of scale in the mining industry, and lower transportation costs induced by rail competition. There has been more fuel switching to low-sulfur, low-cost Western coal than previously anticipated (it was initially assumed that many eastern coal-fired plants would not be able to burn western coal without considerable loss of performance). There has also been downward pressure on short-run allowance costs because generators have taken actions to comply with the SO, limitations earlier than anticipated. Finally, technology improvements have lowered the costs of flue-gas desulfurization technologies, or scrubbers, from $313 per kilowatt for scrubber retrofitting as assumed in 1993 to $191 per kilowatt in 1998. The cost of SO, compliance was overestimated to a large extent because compliance relied on scrubbing, a relatively new technology with which there was little experience. On the other hand, the current analysis of carbon reduction does not rely on a single technology but rather on fuel switching and efficiency improvements, both issues of long experience in energy markets.

In contrast, however, analyses of policies can also be too optimistic. As noted earlier, reductions in greenhouse gas emissions as a result of CCAP have been overestimated. In addition, some early analyses of the potentially beneficial impacts of price controls on oil and natural gas proved in error because of the negative effects on production and competition in the industry. A number of uncertainties may affect the costs of achieving emissions reductions. As previously noted, the interpretation and implementation of many provisions of the Kyoto Protocol are undetermined at this time. The flexibility allowed by the international activities may consid erably lower the costs of the Protocol.

The availability and costs of technology remain one of the more significant factors in determining the cost of emissions reductions, and this analysis seeks to quantify that uncertainty to some degree with low and high technology sensitivity cases. Although it is sometimes hypothesized that more cost-effective technologies are developed once the requirements are established, it must be noted that the cost and availability of some of the more advanced technologies in the reference case are not certain, and even the reference assumptions may be optimistic.

Although the Kyoto Protocol specifies reduction targets, signature and ratification by the United States would need to be followed by the formulation of policies and programs to achieve the carbon reductions. This analysis has chosen one possible mechanism, the imposition of a carbon fee with revenue recycling by two alternative methods. Other programs-voluntary initiatives, mandatory standards, or other nonmarket policies-could result in higher or lower costs. Even with a carbon fee, other fiscal policies for recycling the revenues, including not recycling, are likely to have different impacts on the U.S. economy.

The timing of policy initiatives may also be an important factor in the cost of emissions reductions. Given that the Kyoto Protocol includes a specific timetable for reducing emissions, policies and initiatives that begin earlier may allow for more gradual adoption and a less costly transition, particularly if consumers react with foresight of anticipated price increases and emissions restrictions. Consumer response to anticipated or realized price increases and other policy initiatives is likely to be another significant determinant of the cost of the Kyoto Protocol. Finally, other energy policies formulated for purposes other than the Protocol, such as electricity industry restructuring and other emissions controls, may have ancillary impacts on carbon emissions.

In the next chapter, Chapter 2, the results from the carbon emissions reduction cases and the sensitivity cases are summarized. Chapters 3 through 6 present more detailed analysis of the results for the end-use demand sectors, electricity generation, fossil fuel markets, and the macroeconomy, respectively. Chapter 7 concludes with a comparison of this analysis and similar studies of the costs of carbon emissions reductions.

In analyzing the carbon emissions reduction targets, the carbon prices are incorporated as an added cost of consuming energy, that is, as an increase in the delivered price of energy. The added cost is in direct proportion to the carbon permit price and the carbon content of the fuel consumed. As a result, energy consumers face higher energy costs-both for the fossil fuels they consume directly, such as gasoline, and for the indirect use of fossil energy used to generate electricity. The higher energy costs also affect the cost of producing goods and services throughout the economy and, as a result, have macroeconomic effects beyond the impacts on the energy sector.

As indicated in Figure 1, some carbon reductions occur before 2005, based on anticipatory behavior, primarily as a result of forward-looking capacity planning decisions assumed in the electricity industry. For the electricity industry, where fossil fuel purchases are a predominant operating cost, planners are assumed to Incorporate future fuel costs in their economic evaluation of generating plant alternatives." As a result, some capacity choices reflected in the reference case before 2005 are altered in the carbon reduction cases based on carbon prices beginning in 2005, thus lowering carbon emissions before the assumed start of carbon permit trading.

Table 2 presents a summary of the key results in 2010 and 2020 for the reference case, the 24-percent-above1990 (1990+24%) case, the 9-percent-above-1990 (1990+9%) case, and the 3-percent-below-1990 (1990-3%) case. Tables of the complete results for all the carbon reduction cases are included in Appendix B.

Figure 2 depicts the estimated carbon prices, in constant 1996 dollars, necessary to achieve the carbon emissions reduction targets. Generally, the highest permit price occurs early on in the commitment period. The carbon price declines over time as cumulative investments in more energy-efficient and lower-carbon equipment, particularly in the electricity generation industry, tend to reduce the marginal cost of compliance in later years.

For most of the cases, the trend of carbon prices includes some relatively minor year-to-year fluctuations. Also, particularly in the more stringent reduction cases, the carbon price generally peaks in 2008, the first year of the commitment period, because of the 3-year phase-in period. A longer adjustment period might reduce the price; however, early reductions do not count toward the required reductions in the commitment period. In some cases, 1- to 2-year declines in prices occur as

2000 Source: Offics of Integrated Analysis and Forecasting National Energy Modeling System runs KYBASE.D080398A, FD24ABV.D0803988, FD1998 DOB03968, FOOBABV.D0803988, FD1800.00803988, FD038LW.D0803988 and FD07BLW.D0803088

electricity generators complete construction of lowcarbon replacement plants. The new plants allow generators to shift from coal to lower-carbon energy sources, reducing their need to purchase carbon permits and holding down carbon prices. Because the additions of replacement capacity occur in discrete amounts, the year-to-year changes in carbon prices can be somewhat uneven. The short-term fluctuations in projected carbon prices are consistent with, but probably understate, the degree of short-term price movements that would be expected in a market for carbon permits.

The carbon prices from 2008 to 2012 average $159 per metric ton in the 1990+9% case, which represents a carbon reduction averaging 325 million metric tons a year relative to the reference case (Figure 3). In the more stringent 1990-3% case, the average carbon price from 2008 to 2012 is $290 per metric ton, achieving an average annual carbon reduction during that period of 485 million metric tons. In the 1990+24% case, carbon prices average $65 per metric ton in the compliance period, with average carbon reductions of 122 million metric

tons.

Carbon prices decline in most of the cases after 2012, despite continued growth in the demand for energy as the carbon target is held constant. While Increased energy demand would be expected to exert upward pressure on carbon prices over time, downward pressure results from the cumulative effect of investments to improve energy efficiency and switch to lower-carbon energy sources. These long-lived