Members of Congress are considering several bills designed to
combat climate change. Chief among them is Senate bill
2191--America's Climate Security Act of 2007--spearheaded by
Joseph Lieberman (I-CT) and John Warner (R-VA). This bill would set
a limit on the emissions of greenhouse gases, mainly carbon
dioxide from the combustion of coal, oil, and natural gas.
Since energy is the lifeblood of the American economy, 85
percent of which comes from these fossil fuels, S. 2191 represents
an extraordinary level of economic interference by the federal
government. For this reason, it is important for
policymakers to have a sense of the economic impacts of S.
2191 that would go hand in hand with any possible
environmental benefits. This Center for Data Analysis (CDA)
reportdescribes and quantifies those economic impacts.
Our analysis makes clear that S. 2191 promises extraordinary
perils for the American economy. Arbitrary restrictions predicated
on multiple, untested, and undeveloped technologies will lead to
severe restrictions on energy use and large increases in energy
costs. In addition to the direct impact on consumers' budgets,
these higher energy costs will spread through the economy and
inject unnecessary inefficiencies at virtually every stage of
production and consumption--all of which will add yet more
financial burdens that must be borne by American taxpayers.
S. 2191 extracts trillions of dollars from the millions of
American energy consumers and delivers this wealth to permanently
identified classes of recipients, such as tribal groups and
preferred technology sectors, while largely circumventing the
normal congressional appropriations process. Unbound by the
periodic review of the normal budgetary process, this de
facto tax-and-spend program threatens to become
permanent--independent of the goals of the legislation.
The recent experience with ethanol mandates illustrates some of
the costs and risks created when a government imposes significant
new regulations on the energy market. ethanol production has been
bedeviled by unintended impacts on world food prices, unexpected
environmental degradation from expanding acres under cultivation,
and frustratingly slow progress in commercializing cellulosic
ethanol production. In spite of tremendous expense, the production
goals set for ethanol are unlikely to be met, and the hoped-for
environmental improvements are even less likely to occur. Yet
the challenges posed by the ethanol program are a small fraction of
those posed by S. 2191.
S. 2191 imposes strict upper limits on the emission of six
greenhouse gases (GHGs) with the primary emphasis on carbon
dioxide (CO2). The mechanism for capping these emissions requires
emitters to acquire federally created permits (allowances) for each
ton emitted. The cost of the allowances will be significant and
will lead to large increases in the cost of energy. Because the
allowances have an economic effect much like the effect of an
energy tax, the increase in energy costs creates correspondingly
large transfers of income from private energy consumers to
Implementing S. 2191 will be very costly, even given the most
generous assumptions. To put a firm floor under the cost estimates,
we assume that all of the problems of meeting currently enacted
federal, state, and local legislation are overcome. A further
unlikely condition is added; namely, that a critical but unproven
technology--carbon capture and sequestration--will be ready for
full-scale commercial use in just 10 years. Making a more
reasonable assumption about just this one technology leads to
dramatically higher (but by no means worst-case) costs. We use
these two cases to bracket our cost projections of S. 2191:
- Cumulative gross domestic product (GDP) losses are at least
$1.7 trillion and could reach $4.8 trillion by 2030 (in
inflation-adjusted 2006 dollars).
- Single-year GDP losses hit at least $155 billion and
realistically could exceed $500 billion (in inflation-adjusted 2006
- Annual job losses exceed 500,000 before 2030 and could approach
- The annual cost of emission permits to energy users will be at
least $100 billion by 2020 and could exceed $300 billion by 2030
(in inflation-adjusted 2006 dollars).
- The average household will pay $467 more each year for its
natural gas and electricity (in inflation-adjusted 2006
dollars). That means that the average household will spend an
additional $8,870 to purchase household energy over the period 2012
Our analysis does not extend beyond 2030, at which point S. 2191
mandates GHG reductions to 33 percent below the 2005 level.
However, it should be noted that the mandated GHG reductions
continue to become more severe and must be 70 percent
below the 2005 level by 2050.
In addition to taking a bite out of consumers' pocketbooks, the
high energy prices throw a monkey wrench into the production
side of the economy. Contrary to the claims of an economic
boost from "green investment" and "green-collar" job creation,
S. 2191 reduces economic growth, GDP, and employment
Though there are some initial years during which S. 2191 spurs
additional investment, this investment is completely undermined by
the negative effects of higher energy prices. Investment
contributes to the economy when it increases future productivity
and income. The greater and more effective the investment, the
greater the increase in future income. Since income (as
measured by GDP) drops as a result of S. 2191, it is clear
that more capital is destroyed than is created. The cumulative
GDP losses for the period 2010 to 2030 fall between $1.7 trillion
and $4.8 trillion, with single-year losses reaching into the
hundreds of billions.
The hope for "green-collar" jobs meets a similar fate. Firms are
saddled with significantly higher energy costs that must be
reflected in their product prices. The higher prices make
their products less attractive to consumers and thus less
competitive. As a result, employment drops along with the drop
With S. 2191, there is an initial small employment increase
as firms build and purchase the newer more CO2-friendly plants and
equipment. However, any "green-collar" jobs created are more than
offset by other job losses. The initial uptick is small compared to
the hundreds of thousands of lost jobs in later years. Table 1
shows the high and low projections of the employment and income
effects of S. 2191.
A less prominent part of S. 2191 subjects all imported goods to
GHG emission rules. An understandable attempt to limit our loss of
international competitiveness, this provision opens yet
another area of uncertainty. For all imported goods, it will be
necessary to measure the GHG footprint, compare the relative
aggressiveness of national GHG limiting programs, and assign a
possible emissions tariff. The inherent imprecision involved
with such calculations leaves international trade vulnerable
to bureaucratic caprice and increased trade tensions.
Description of the Legislation
S. 2191 is a cap-and-trade bill. It caps greenhouse gas
emissions from regulated entities beginning in 2012. At first,
each power plant, factory, refinery, and other regulated entity
will be allocated allowances (rights to emit) for six greenhouse
gases. However, only 40 percent of the allowances will be allocated
to these entities. The remaining 60 percent will be auctioned off
or distributed to other entities. Most emitters will need to
purchase at least some allowances at auction. For instance, firms
that reduce their CO2 emissions in order to meet the S. 2191
targets will still have to purchase 60 percent of the needed
allowances in 2012 and an even higher fraction in subsequent
Emitters who reduce their emissions below their annual allotment
can sell their excess allowances to those who don't--the trade part
of cap-and-trade. Over time, the cap is ratcheted down from a
freeze at 2005 emissions levels in 2012 to a 70 percent reduction
below those levels by 2050. In addition, the fraction of allowances
that are given to the emitters is reduced, and a larger
fraction is auctioned to the highest bidder. The primary man-made
greenhouse gas is carbon dioxide and is the main focus of this
Distribution of Auction Proceeds
S. 2191 specifies how the distribution of the auction proceeds
will be spent, with constant percentages from 2012 to 2036. The
auction process depends on the creation of a new nonprofit
corporation called the Climate Change Credit Corporation to
initiate and complete the auctioning of allowances.
Eleven percent will be allocated to an advanced-technology
vehicles-manufacturing incentive. While 44 percent is to be spent
on low-carbon energy technology, advanced coal and sequestration
programs, and cellulosic biomass ethanol technology programs, 45
percent is to be spent on assisting individuals, families, firms,
and organizations in the transition to a low-carbon regime. This
includes 20 percent allocated to an Energy Assistance Fund, 20
percent allocated to an Adaptation Fund, and 5 percent allocated to
a Climate Change Worker Training Fund.
Specifically, the training fund would attempt to provide quality
job training to workers displaced by this bill, provide temporary
wages and health care benefits to those who are displaced, and
provide funding for state-managed worker-training programs.
Especially given the very wide range of projected auction
proceeds, earmarking them for decades into the future risks
creating additional de facto entitlement programs.
Proponents of cap and trade describe it as a flexible and
market-based approach that allows the private sector to find the
most cost-effective means of reducing greenhouse gas emissions.
They expect the program to motivate fossil energy producers and
users to reduce their carbon dioxide emissions through
improvements in energy efficiency, expanded use of energy sources
with fewer or no carbon emissions, or new carbon capture and
sequestration (CCS) technologies that allow such emissions to be
stored underground rather than released into the atmosphere.
In contrast, critics fear that many of the necessary advances
are decades away from being technologically and economically
viable and that, in the interim, the caps in S. 2191 can be met
only with severe reductions in energy use, which would drive up
energy costs significantly--and would be, in effect, a massive
Proponents of these reductions point to the success of a similar
cap-and-trade program in the 1990 Clean Air Act amendments to
restrict sulfur dioxide emissions from coal-fired power plants.
This program led to emissions reductions at a cost lower than
anticipated. Critics question the success of this program as well
as its relevance to the far more difficult task of regulating
The comparison has a more fundamental flaw, however. In contrast
to the undeveloped and speculative state of current CCS
technology, the technology for reducing sulfur dioxide emissions
was already commercialized and widely implemented before the 1990
Clean Air Act amendments were passed.
Critics also point to the substantial difficulties that the
European Union has faced since implementing its greenhouse gas
cap-and-trade program in 2005 in order to comply with the Kyoto
Protocol, the multilateral treaty on emissions that the United
States declined to ratify.
The cap-and-trade specifics of S. 2191--the overall targets and
timetables, the types of emissions and economic sectors
covered, the method of allocating allowances, the measures designed
to add flexibility, the provisions affecting trade, and many other
factors--will determine the extent and distribution of the costs
and, indeed, whether the goals are realistically achievable. These
specifics are explained in more detail below.
In addition to the provisions of the bill, the many baseline
assumptions about the future also affect the projected costs of S.
2191. They include assumptions about the pace of technological
advances, especially those regarding the CCS breakthroughs that
will be necessary for the continued use of coal, the energy source
with the highest CO2 emissions per unit of energy. Continued use of
coal is critical because it provides half of the nation's
Assumptions about America's economic growth and concomitant
energy needs are also of great importance, as are assumptions about
the effect of previously enacted energy legislation, particularly
the Energy Independence and Security Act of 2007.
This CDA report discusses three different views of this
country's economic future, each shaped by different policies
designed to reduce atmospheric carbon dioxide and, presumably, to
reduce the warming trend in global climate change.
Policymakers and others who follow the climate change debate
closely should find each of these three views helpful in
understanding the policy alternatives currently before us.
These three views are:
- The current-law baseline. Presented here is a highly
detailed, 30-year economic forecast that incorporates the principal
elements of energy and climate change policies signed into law last
- Simulation of S. 2191, America's Climate Security
Act of 2007, sponsored by Senators Joseph Lieberman (I-CT) and John
Warner (R-VA). The simulation builds on the detailed baseline and
assumes that critical technologies are fully developed.
- An alternative, more realistic scenario in which
critical technology does not materialize over the 20-year forecast
Key Assumptions. The baseline for the
Lieberman-Warner simulations builds on the Global Insight (GI)
November 2007 long-term-trend forecast. The GI model assumes
[T]he economy suffers no major mishaps between now and 2037. It
grows smoothly, in the sense that actual output follows potential
output relatively closely. This projection is best described as
depicting the mean of all possible paths that the economy could
follow in the absence of major disruptions. Such disruptions
include large oil price shocks, untoward swings in macroeconomic
policy, or excessively rapid increases in demand.
The GI long-term model forecasts the trend of the U.S. economy.
"Trend" means the most likely path that the economy will follow if,
for instance, it is not disturbed by a recession, extremely high
oil prices, or the collapse of major trading partners. One way
to think about the long-term trend is to imagine a pathway through
the cyclical patterns of our economy, as well as the effects
of cyclical patterns in foreign economies on the U.S. economy.
Given the fiscal and economic challenges facing the United
States (particularly the mounting federal deficits stemming from
the long-expected explosion in Social Security, Medicare, and
Medicaid outlays), the long term already has significant risks. The
baseline assumes that the economy successfully avoids any
sharp drops. At the same time, there is no inclusion of
similarly large, potentially positive, shocks to the economy.
Energy prices, patterns of use, and supply change continuously
in response to legislation and market conditions. To evaluate
the economic impact of S. 2191, we must establish what would be the
expected levels of emissions and available technology over the
bill's proposed lifetime in the absence of its passage. Only with
the baseline situation determined can the costs of meeting the
goals and constraints of S. 2191 be estimated.
Two fundamental trends establish the baseline path of CO2
emissions. First, aggregate income growth leads to greater demand
for power across all sectors of the economy. Most of this power is
generated by burning fossil fuels.
Partially offsetting the associated increase in CO2 emissions is
the second trend of increasing carbon efficiency in the energy
sector. The improved efficiency comes from a variety of changes in
both production and consumption, including power-generating
technology that increases the yield of useable power for each ton
of CO2 emitted; continual improvements in the energy efficiency of
appliances, new homes, and light vehicles; more use of renewable
fuels; and greater generation and use of nuclear power.
Government mandates--federal, state, and local--continue to
force additional energy efficiency and limit CO2 emissions,
which helps to achieve the goals of S. 2191. These mandates may
work in parallel with S. 2191, and they create compliance costs,
but since these compliance costs are already in force without the
passage of S. 2191, they are not attributable to the
Examples of the baseline costs necessary for meeting the S. 2191
goals but attributable to other legislation include:
- Manufacturing cars and trucks that satisfy the much higher
fuel-economy standards mandated for the next 20 years,
- Producing 36 billion gallons of biofuels including 16
billion gallons of cellulosic ethanol,
- Complying with expensive new building codes, and
- Producing ever more energy-efficient household appliances.
Aggregate Energy Use. Continued gains in energy
efficiency will restrain the growth of energy demand below the
rates of economic growth and below the rates experienced in the
past half-century--roughly 1.5 percent per year. These
efficiencies are driven by both markets and mandates. We
project baseline primary energy demand to grow at 0.5 percent each
year through 2030.
Petroleum. As always, higher prices push back on
quantities demanded. Though petroleum prices should come down from
the current record levels as supply disruptions and bottlenecks
ease, they will remain well above 1990 prices. According to
baseline assumptions, petroleum prices will settle around $70 a
barrel in nominal terms and decline to $46 a barrel (in 2006
dollars) by 2030. Even in the absence of Corporate Average
Fuel economy (CAFE) limit changes, higher prices induce consumers
to move to more efficient vehicles.
On the mandates side, the Energy Independence and Security Act
of 2007 (EISA) raises the bar for vehicle fuel efficiency. The CAFE
standard rises to 35 miles per gallon by 2020 for all light
vehicles. For subsequent years, the EISA mandate reads:
For model years 2021 through 2030, the average fuel economy
required to be attained by each fleet of passenger and
non-passenger automobiles manufactured for sale in the United
States shall be the maximum feasible average fuel economy standard
for each fleet for that model year.
The expected CAFE standards are 47.5 miles per gallon for new
passenger cars and 32 miles per gallon for new trucks by 2030,
and the average for all light vehicles, whether new or old, will be
33 miles per gallon.
Overall, petroleum consumption will grow by 0.6 percent per year
between 2005 and 2030.
Natural Gas. In the baseline scenario, gas prices settle
just below $7 per million British thermal units (Btus). This is
less than the current price but well above the 1990s levels.
Alaskan pipeline deliveries will not start until 2025, at which
point they will help to offset supply reductions in the Lower 48 as
well as imports from Canada.
Nearly 100 gigawatts of old natural-gas-steam capacity is
retired, and 50 gigawatts of the more efficient "natural gas
combined cycle" (NGCC) plants are built. Total natural gas
consumption grows by 0.4 percent per year through 2030.
Coal. In the baseline case, coal use is restrained by
slower growth of energy demand and increasing generation of
nuclear and renewable power. Demand will grow by an average of 0.2
percent each year through 2030.
One hundred gigawatts of old inefficient energy is retired.
Sixty-five gigawatts of new and replacement coal-fired
power-generation plants will be added using the "integrated gas
combined cycle" (IGCC) or advanced pulverized-coal
technologies. These more efficient technologies use less coal
and emit less CO2 per unit of electricity generated and are
ready to be fitted for carbon capture and sequestration.
Because of the additional cost, there is no use of CCS technology
in the baseline case.
Better and more widely adapted scrubbing technology allows
broader use of high-sulfur coal. This will open up more sourcing
options and lower the average cost of coal in the energy
In real dollars, coal prices will settle near the levels
observed in the 1990s.
Nuclear Energy. Though there are no significant CO2
emissions from nuclear power generation, it is not considered
"renewable" for the purpose of meeting existing state-imposed
targets. Nevertheless, federal incentives are already in place
for an additional nuclear power capacity. There will be 12
gigawatts of new capacity built and 3 gigawatts of uprated
additional capacity added at existing plants.
Resolving the problems with waste disposal is a major hurdle in
expanding nuclear power generation. The baseline assumption is
that nuclear power plants will continue to store the waste on site.
Given the already high use of available capacity, electricity
generated by nuclear power is projected to grow by only 0.5
percent per year through 2030.
Renewable Energy Sources. Federal and state initiatives
already in place seek to increase the use of renewable energy
sources. The definition of "renewable" varies from state to
state but generally includes biomass, wind, and solar
Higher fuel prices along with state and federal mandates cause
renewable fuel use to grow at 5.5 percent per year through 2030. We
assume that producers will be able to meet the ethanol (corn-based
and cellulose-based) targets set by the EISA, though experience
thus far suggests otherwise.
Simulations of Lieberman-Warner
Key Assumptions. Responding to concerns about adverse
environmental impacts of anthropogenic greenhouse gas
emissions, S. 2191 sets ever more stringent caps on emissions of
these gases. Using previous emission levels as yardsticks, the
2012 cap is set at the 2005 emission level. The cap drops to 15
percent below the 2005 emission level by 2020 and 33 percent below
by 2030. By 2050, the goal is to have man-made GHG emissions at 70
percent below those of 2005.
Though the main focus for the emissions targets is CO2,
Lieberman-Warner rules apply to six greenhouse gases: carbon
dioxide, methane, nitrous oxide, sulfur hexafluoride,
perfluorocarbon, and some byproduct hydrofluorocarbons (HFCs). All
emissions are measured in terms of the warming potential of carbon
Some of these other gases have much higher greenhouse effects
per ton of emissions than does CO2. However, these gases are
emitted in much smaller volumes by human activity. CO2 creates
about 85 percent of the man-made GHG warming; therefore, this study
examines only the economic impact of constraints on CO2
Under the Lieberman-Warner bill, producers of petroleum
products, producers of natural gas, and consumers of coal must have
CO2 allowances in proportion to the output (or consumption, in the
case of coal) of these fuels. The quantity of allowances available
each year is equal to the cap on CO2 emissions for that year. Some
activities and technologies that reduce emissions of
greenhouse gases can earn allowance credits, which can then be
sold or used to offset required allowances. There are provisions
that allow unused allowances to be saved for future years and,
within limits, to borrow future allowances. The costs of borrowing
are so high and the rewards of saving are so distant and
uncertain that our analysis assumes no borrowing or saving of
S. 2191 creates the Climate Change Credit Corporation to
administer the distribution of allowances and to track their
ownership. In the first phase of implementation, 40 percent of the
allowances are issued to current emitters. This fraction
declines until 2025, at which point emitters receive zero
allowances and must purchase 100 percent of the allowances they
Barriers to trade: Title VI, Global
Effort to Reduce Greenhouse Gas Emissions
Title VI of S. 2191 is part of a global effort to reduce
greenhouse gas emissions and ensures that emitting GHG in other
countries does not undermine U.S. efforts to reduce GHG. The bill's
supporters hope to encourage international action on GHG
To this end, the bill includes the suggestion that the President
establish an interagency group to determine whether or not other
countries have taken similar action to limit their release of GHG.
The interagency group will be responsible for creating a reserve of
international allowances, and any U.S. importer of covered goods
must submit international allowances as a condition for the trade
Thus, importers of covered goods must submit emissions
allowances that are equal in value to those required for those
goods in our system. For instance, if the production of a product
generates two tons of CO2 , importers of this product need two tons
of allowances for each product they import.
An importer must also submit a written declaration to the
administrator of U.S.Customs and Border Protection for each
import. Failure to make a CO2 emissions declaration bars the
importation of a good into the United States. The only exceptions
will be for countries that have taken similar action to reduce GHG
and countries that are identified by the United Nations as the
Though perhaps well-intentioned, Title VI has the potential to
do serious harm to international commerce. Complex and ambiguous,
it could prove to be a loose cannon--destroying trade relations
instead of reducing environmental damage.
Coal Technology. Due to its abundance, coal is the
cheapest source of energy and fuels about half of America's
electricity supply. Carbon capture and sequestration is a promising
but not yet commercialized technology for dramatically
reducing CO2 emissions from coal-powered electricity.
Of course, CCS technology has additional costs, which are higher
when retrofitting existing plants than when building the technology
into new plants. Even with the additional costs, CCS becomes viable
in new plants when allowance costs exceed $50 per ton of CO2
Initial modeling showed that this $50 threshold will be reached
faster than CCS technology is likely to become available.
Therefore, we assume that CCS technology is adopted as soon as it
is practical. That date cannot be predicted with any certainty.
The costs of meeting the CO2 reductions mandated by S. 2191
are very sensitive to changes in the rate at which CCS technology
is developed. Our generous scenario operates on the assumption
that any coal-fired plant built after 2018 uses CCS. A second
scenario assumes that the significant technological and
political hurdles prevent CCS adoption before 2030.
Natural Gas. Because of its higher cost, natural gas is
not competitive with coal in the baseline case of zero CO2
restrictions. Though natural gas generates less CO2 per Btu
than does today's coal, it is not competitive when coal generators
use CCS. In the in-between case, with some CO2 restrictions and no
CCS, high allowance prices make coal more expensive and
natural gas relatively more attractive. The in-between case drives
up natural gas prices and is the most costly of all for the
For carbon-allowance prices in the $30 to $40 range, replacing
old steam plants with combined-cycle natural gas plants makes
sense. When allowance prices exceed $50, coal plants with CCS
are more competitive. Regional price differences and the long lag
times in replacing power plants ensure that electricity will be
generated by both coal and gas for the foreseeable future.
Nuclear Energy. The projection is for no additional
nuclear power beyond the base case.
Allocation of Allowances
(Required Permits for Emitting CO2)
The largest initial allocations go to two covered entities:
power (electricity producers) and industry (such as manufacturers).
- Allocation to power includes new entrants, rural electric
cooperatives, and incumbents.
- Allocation to industry includes new entrants, incumbents, and
revocation of distribution upon facility shutdown.
If a facility is permanently shut down, it must return the
difference of carbon dioxide equivalents emitted and the number of
allowances received from the Environmental Protection Agency (EPA).
For both of these covered entities, allocation equals 20 percent of
allowances from 2012 to 2016 and then decreases by 1 percent per
year until it reaches zero in 2036.
Ten percent of allocated allowances would go to load-serving
entities, such as electric and gas distributors and demand-side
management programs. Entities receiving allowances would be forced
to pass the value of the allowance on to their customers in an
attempt to mitigate the economic impact on lower-income and
middle-income families. More specifically, the proceeds can
mitigate the economic impact on low-income and middle-income users
by reducing transmission charges and issuing rebates. On the other
hand, the proceeds can be used to promote energy efficiency on the
part of the consumer.
Under S. 2191, the EPA would be responsible for allocating
emission allowances and distributing auction proceeds. The EPA
would allocate up to 9 percent of allowances to states between 2012
and 2050 for rates reflecting efficiency measures, building
efficiency compliance, enactment of stringent measures, Low Income
Home Energy Assistance Plan (LIHEAP), population size, and the
local economy's carbon intensity. States will receive a minimum of
5 percent and an additional 1 percent to 4 percent based on the
measures they take to reduce emissions.
Mitigating the economic impact on low-income families is only
one of 12 ways the proceeds can be used. Others include:
- Reducing use of electricity and natural gas, minimizing waste,
- Investing in non-emitting electricity technology;
- Improving public transportation and rail services;
- Using advanced technology to reduce or sequester GHG;
- Addressing local and regional impacts-- including relocation of
communities affected by climate change;
- Mitigating obstacles to electricity investment by new
- Providing assistance to displaced workers;
- Mitigating impacts on energy-intensive industries in
internationally competitive markets;
- Reducing hazardous fuels and preventing and suppressing
- Funding rural, municipal, and agricultural water projects.
Other Allowances. Eight percent of allocated allowances
are designated for agriculture and forestry sequestration programs,
while another 4 percent is generically allocated to support the
development of CCS as well as geological sequestration. Five
percent of allowances are awards for early action for covered
entities, including facilities attempting to lower GHG emissions
since 1994, and would decline by 1 percent each year until they
reach zero in 2017.
Auction of Allowances. By 2012, 18 percent of the
allowances will be auctioned as part of the annual auction program.
This number will increase by 3 percent per year until 2017 and then
increase by 2 percent per year until 2035, when it reaches 67
percent. From 2035 to 2036, it will jump to 73 percent and remain
at that level until 2050, the sunset date for S. 2191.
Additionally, the Lieberman-Warner bill requires an "early
auction" within 180 days of enactment of the bill. At this time, 6
percent of the 2012 allowances, 4 percent of the 2013 allowances,
and 2 percent of the 2014 allowances will be auctioned. The total
cost of allowances will be passed on to energy consumers and
represents an unprecedented tax hike. The annual cost of this tax
(adjusted for inflation to 2006 dollars) will be at least $100
billion and could well exceed $300 billion per year by 2030.
Renewable Energy Sources. Current state and federal
legislation calls for more than tripling the amount of renewable
energy in power generation and increasing transport biofuels by
more than 1,000 percent. This includes 16 billion gallons per year
of corn-based ethanol and biodiesel and 20 billion gallons per
year of cellulosic ethanol and biodiesel. Again, our
assumption is that cellulosic biofuels become commercially feasible
in time to meet the mandates that are already planned.
While S. 2191 has no additional mandates for biofuels, the costs
of allowances for fossil fuels lead to greater use of biofuels. At
this time, there is no commercially feasible cellulosic ethanol
production. If this technology fails to deliver as
projected, energy prices will have to rise enough to reduce
the quantity of energy demanded by the amount of missing cellulosic
Economic Costs of the Lieberman-Warner
The Lieberman-Warner bill affects the economy directly through
higher prices for carbon-based energy, which reduces quantity
demanded and, thus, the quantity supplied of energy from carbon
sources. Energy prices rise because energy producers must pay a fee
for each ton of carbon they emit. The fee structure is
intended to create an incentive for producers to invest in
technologies that reduce carbon emissions during energy production.
The bill's sponsors and supporters hope that the fees are
sufficiently high to create a strong incentive and demand for
cleaner energy production and for the widespread adoption of carbon
capture and sequestration technology.
The economic model we use to estimate the bill's broad economic
effects treats the fees like a tax on energy producers. Thus,
energy prices increase by the amount of the fee or tax. The demand
for energy, which largely determines the consumption and, thus, the
taxes collected, responds to higher energy prices both directly and
indirectly. The direct effect is a reduction in the consumption of
carbon-based energy and a shift, where possible, to substitutes
that either do not require the fee or require a smaller one.
The indirect effects are more complex. Generally speaking, the
carbon fees reduce the amount of energy used in producing goods and
services, which slows the demand for labor and capital and reduces
the rate of return on productive capital. This "supply-side" impact
exerts the predictable secondary effects on labor and capital
income, which depresses consumption.
These are not unexpected effects. Carbon-reduction schemes
that depend on fees or taxes attain their goals of lower
atmospheric carbon by slowing carbon-based economic activity. Of
course, advocates of this approach hope that other energy
sources will arise that can be used as perfect substitutes for
the reduced carbon-based energy.
Our first simulation of S. 2191 attempts to make everything
happen just as the authors of the legislation envision. We
call this simulation the "generous assumptions" simulation, as
discussed above in our assumptions section. That is, assuming the
carbon-reduction targets discussed above, the implementation
of CCS as well as expanded and new low-carbon fuels occurs
just as planned and on time. The process is assumed to be
unhampered by lawsuits or bureaucratic inefficiencies in the
deployment of technology grants and consumption subsidies.
Everything is "by the book."
Our second simulation relaxes the assumption that CCS technology
is implemented and increases the value of carbon fees by
approximately 30 percent each year after 2018. We call this
simulation the "reasonable assumption" simulation. Every other
assumption of our first simulation is retained.
Table 3 shows the carbon fees per ton at five-year intervals in
our two simulations. Displayed alongside these values are the
fees determined in other simulations of S. 2191.
If we have succeeded in these two efforts, then policymakers can
expect something like the following economic effects:
Economic Output Declines. The broadest measure of
economic activity is the change in GDP after accounting for
inflation. GDP measures the dollar value of all goods and services
produced in the United States during the year for final sale to
consumers. In the generous-assumptions simulation, GDP
increases slightly during the first few years as, for instance,
energy producers decommission power plants and build new ones that
are capable of accommodating CCS.
This investment-driven burst of GDP subsides after 2018. Higher
energy prices decrease the use of carbon-based energy in
production of goods, incomes fall, and demand for goods subsides.
GDP declines in 2020 by $94 billion, in 2025 by $129 billion, and
in 2030 by $111 billion (all, again, after inflation). When CCS is
not implemented, the higher carbon fees produce more adverse
economic effects. GDP is $330 billion below its baseline levels by
2025 and $436 billion below its baseline levels by 2030.
This slowdown in GDP is seen more dramatically in the slump in
manufacturing output. Again, manufacturing benefits from the
initial investment in new energy production and fuel sources, but
the sector's declines are sharp thereafter.
Indeed, by 2020, manufacturing output in this energy-sensitive
sector is 2.4 percent to 5.8 percent below what it would be if S.
2191 never becomes law. By 2030, the manufacturing sector has lost
$319 billion to $767 billion in output when compared to our
baseline; that is, when compared to the economic world without
Number of jobs Declines. The loss of economic output
is the proverbial tip of the economic iceberg. Below the surface
are economic reactions to the legislation that led up to the drop
in output. Employment growth slows sharply following the boomlet of
the first few years. Potential employment (or the job growth
that would be implied by the demand for goods and services and the
relevant cost of capital used in production) slumps sharply.
In 2025, nearly a half-million jobs per year fail to materialize.
The job losses expand to more than 600,000 in 2026.
Indeed, in no year after the boomlet does the economy under
Lieberman-Warner outperform the baseline economy where S. 2191
never becomes law.
For manufacturing workers, the news is grim indeed. That sector
would likely continue declining in numbers thanks to increased
productivity: Our baseline contains a 9 percent decline between
2008 and 2030. Lieberman-Warner accelerates this decrease
substantially: Under our generous-assumptions simulation,
employment in manufacturing declines by 23 percent over that same
time period, or more than twice the rate without
Other, less energy-intensive sectors, however, do not suffer
such decreases. Employment in retail establishments ends the
22-year period 2 percent ahead of its 2008 level, despite
significant cutbacks on household consumption levels. Employment in
information businesses grows by 29 percent over this same time
Because the distribution of energy-intensive jobs across the
country is unequal, some states and congressional districts
will be hit particularly hard. Notable among the most adversely
affected states are Wisconsin, New Hampshire, Illinois, and
Energy Prices Rise. Higher energy prices, of course, are
the root cause of the slower economy. As Chart 7 shows, consumer
prices for electricity, natural gas, and home heating oil increase
significantly between 2015 and 2030. Indeed, by the last year
of our simulation, the total energy bill for the average American
consumer has gone up $8,870 from 2012.
Incomes and Consumption Decline. Declining demand for
energy-intensive products reduces employment and incomes in the
businesses producing these products. Workers and investors
earn less, and household incomes decline. Reductions in income in
these sectors spread and cause declines in demand for other sectors
of the economy.
Our simulation captures this effect of higher energy prices.
Under the generous-assumptions simulation, the income that
individuals have after taxes declines by $47 billion (after
inflation) in 2015 and by $50.7 billion in 2030. Our
reasonable-assumptions simulation contains worse news:
Disposable personal income falls $120 billion below baseline
in 2015 and averages $68 billion below baseline over the entire
period of 2008 to 2030.
Consumption outlays by individuals and households follow
the pattern of lower income. In 2020, consumption expenditures are
$52 billion lower than they would be in an economic world in which
S. 2191 is not the law. Personal consumption outlays (after
inflation) are $67 billion lower by 2030 and average $54 billion
below baseline over the entire 22-year forecast period. Under a
more reasonable assessment of the likelihood of standard use of
CCS, consumption expenditures by individuals average $113 billion
lower over the 22-year forecast period.
These declines in consumption are particularly dramatic in those
parts of the economy that are sensitive to economic shocks:
consumer durables, financial services, and discretionary
medical services, among others. Chart 8 shows the effects of the
decline in personal consumption outlays.
The Lieberman-Warner climate change bill is, in many respects,
an unprecedented proposal. Its limits on CO2 and other greenhouse
gas emissions would impose significant costs on virtually the
entire American economy. In addition, complicated tariff
rules, dependent on evaluating the GHG restrictions of all trading
partners, add another unknowable dimension to the costs, fueling
the overall uncertainty.
The problems for our economy are increased by S. 2191's reliance
on complex and costly technologies that have yet to be
developed. The fact that this large-scale transformation of the
economy must occur over relatively tight timeframes only amplifies
the costs and uncertainties. The impacts would be felt by every
Even under a fairly optimistic set of assumptions, the
economic impact of S. 2191 is likely to be serious for the job
market, household budgets, energy prices, and the economy overall.
The burden will be shouldered by the average American. The
bill would have the same effect as a major new energy tax--only
worse. In the case of S. 2191, increases in the tax rate are set by
forces beyond legislative control.
Under a more realistic set of assumptions, the impact would be
considerably more severe. More significant than the wealth
destroyed by S. 2191 is the wealth transferred from the
energy-using public to a list of selected special interests.
Overall, S. 2191 would likely be--by far--the most expensive
environmental undertaking in history.
William W. Beach is
Director of the Center for Data Analysis; David W. Kreutzer, Ph.D.,
is Senior Policy Analyst for Energy Economics and Climate
Change in the Center for Data Analysis; Ben Lieberman is Senior
Policy Analyst in Energy and the Environment in the Thomas A. Roe
Institute for Economic Policy Studies; and Nicolas D. Loris is a
Research Assistant in the Roe Institute at The Heritage
Analysts at The Heritage Foundation and Global Insight, Inc.,
employed a wide array of analytical models to produce the micro-
and macroeconomic results reported in this paper. This section
describes the models and the major steps taken by these
analysts in shaping the modeling results.
U.S. Energy Model (Long-Term)
Global Insight's U.S. Energy Model has been designed to analyze
the factors that determine the outlook for U.S. energy markets. A
staff of more than 15 energy professionals supports the model and
forecasting effort. The model is constructed as a system of several
models that can be used to assess intra-market issues independently
of each other. The integrated system is used to produce Global
Insight's baseline Energy Outlook and allows users to simulate
changes in domestic energy markets.
The U.S. Energy Model is an integrated system of fuel and
electric power models and the End-User Demand Model. The solution
is achieved through an iterative procedure. Also, monthly models of
petroleum and natural gas prices use the framework of the long-term
forecast with additional weekly and monthly information to analyze
seasonal fuel prices and update the price forecasts on a monthly
basis. The major models of the Energy Model and their
interrelationships are described below.
End-Use Demand Model. Demand for final-use energy is
modeled by sector, fuel, and census region, based on the
competitive position of each fuel in its end-market. The total
demand for energy is estimated as a function of the stock of energy
equipment, technology change, prices of competing final energy
sources, and economic performance. The initial demand profile by
region of the U.S. for each fuel is then integrated with the U.S.
Petroleum, Natural Gas, Coal, and Electric Power Models, each of
which consists of three major sub-modules--a supply and
transformation module, a
transportation/transmission/distribution module, and a
wholesale/retail price module.
Petroleum Model. The U.S. Petroleum Model uses the world oil
price projection from Global Insight's Global Oil Outlook. The
model then determines refined petroleum product prices to end-users
by adding refining markups, inventory, and transportation costs.
For selected products, federal, state and local taxes are also
accounted for in the model.
The U.S. Petroleum Model also provides a baseline
projection of U.S. crude and natural gas production that is
based on an annual review of data and literature on U.S. reserves,
production, and technological progress.
A simulation block for investigating the supply response under
alternative assumptions is part of this model. Imported supplies of
crude and petroleum products are developed by the difference
between domestic production and the sum of the direct consumption
of petroleum by consumers and the transformation demand for
petroleum by the power sector.
Model. The Natural Gas Model consists of three major
sub-modules: a supply module, a transmission/distribution
module, and a spot-pricing module.
The supply module projects production based on analysis
of U.S. reserve data, exploratory and development drilling, and
technological progress. A simulation block for investigating supply
responses under alternative assumptions is part of this module.
The transmission/distribution module projects cost by
The spot-pricing model integrates the results of the
End-User Demand Model, the natural gas demand by the power sector
from the Electric Power Model, and the embedded supply and
transmission/distribution modules to determine producer prices by
basin. A conclusive solution is developed through an interactive
Model. The Coal Model is a simulation model designed to
replicate the market response of this sector under alternative
scenarios. Finalized through the interactive process, the baseline
market analysis is provided by JD Energy (an affiliated coal and
power consulting firm) that includes analysis and forecasts of coal
production, rail costs, coal flows, and coal prices.
Model. The U.S. Electric Power Model is a detailed,
regional (census region) model of the power-generation sector
combined with a more aggregate module of the regional transmission
and distribution sector.
The preliminary demand for regional generation is determined as
a function of the demand for electricity determined in the
End-User Demand Model, transmission losses, and trade. Generation
requirements are met through the capacity module, which
projects capacity decisions based on fuel prices, operating and
maintenance costs, and technological progress. Usage is projected
as a function of load and marginal production cost. Through this
analysis, a preliminary demand for a certain fuel by the power
sector is developed that is finalized in the iterative process.
Model. The Energy Balances Model completes the process.
This model provides national and regional summations of energy use
across all fuel types and customer classes.
Operation of the Energy Models. Lieberman- Warner sets
very aggressive carbon-reduction targets between 2012 and 2050
for the covered sectors. Using the energy models described
above, simulation resulted in carbon dioxide allowances rising
swiftly from $20 per metric ton in 2012 to $50 in 2020 and $70 in
2030 (all in 2006 prices). These allowances significantly raise
energy prices for consumers. Allowed offsets were applied to the
targets, which influenced the estimation of required fees.
In addition, Lieberman-Warner lays out two other mechanisms for
achieving the carbon-reduction targets: increasing energy from
non-carbon sources and implementation of carbon capture and
The absolute gains from additional non-carbon energy sources are
relatively small, given the significant incentives already in
place for this growth from EISA. For CCS, we assumed that its use
in energy production became competitive with energy produced with
natural gas only when the allowance fee rose above $50 per ton. For
the generous-assumption simulation, we also assumed that the
technology of carbon capture and storage was available for
widespread use when the fee rose to this level. We also took into
account the new-build and retirement and replacement options, which
were inputs to the energy models that estimated the allowance
Global Insight Long-Term U.S.
The Global Insight long-term U.S. macroeconomic model is a
large-scale 30-year (120-quarter) macroeconometric model of the
U.S. economy. It is used primarily for commercial forecasting.
Over the years, analysts at The Heritage Foundation's
Center for Data Analysis have worked with economists at Global
Insight to adapt the GI model to policy analysis. In simulations,
CDA analysts use the GI model to evaluate the effects of policy
changes not just on disposable income and consumption in the short
run, but also on the economy's long-run potential. They can do so
because the GI model imposes the long-run structure of a
neoclassical growth model but makes short-run fluctuations in
aggregate demand a focus of analysis.
The Global Insight model can be used to forecast over 1,400
macroeconomic aggregates. Those aggregates describe final demand,
aggregate supply, incomes, industry production, interest rates, and
financial flows in the U.S. economy. The GI model includes such a
wealth of information about the effects of important changes in the
economic and policy environment because it encompasses detailed
modeling of consumer spending, residential and non-residential
investment, government spending, personal and corporate incomes,
federal (and state and local) tax revenues, trade flows, financial
markets, inflation, and potential gross domestic product.
Consistent with the rational-expectations hypothesis, economic
decision-making in the GI model is generally forward-looking. In
some cases, Global Insight assumes that expectations are largely a
function of past experience and recent changes in the economy. Such
a retroactive approach is taken in the model because GI believes
that expectations change little in advance of actual changes in the
economic and policy variables about which economic
decision-makers form expectations.
Operation of the U.S. Macroeconomic
The policy changes contained in Lieberman- Warner and
implemented in the U.S. Energy Model (as described above) resulted
in over 71 changes in the U.S. Macroeconomic Model. These changes
ranged from energy-source variables (such as the price of West
Texas Intermediate crude oil, an industry benchmark price series)
to the carbon tax rate per ton of coal. These energy
model results were introduced into the macro model in the
Energy Price Effects. Heritage analysts used the market
price changes in the refiner's acquisition price for oil (West
Texas Intermediate) and in natural gas prices at the wellhead
(Henry Hub) directly from the energy model.
The macro model contains a host of producer prices that are
changed through their interaction with other variables in this
model. However, the policy changes in Lieberman-Warner affect
producer prices in the energy sectors directly. Thus, the
energy model's settings for these producer prices were used instead
of those in the macro model. Technically, energy producer prices
were exogenous and driven by corresponding prices from the energy
model. The following producer price categories were affected: coal,
natural gas, electricity, natural gas, petroleum products, and
residual fuel oil.
We employed a similar procedure in implementing changes in
consumer prices. In this case, the variables affected were all
consumption-price deflators. Once again, we substituted
energy-model settings for these variables for their
macro-model counterparts. The following consumption price deflators
were affected: fuel oil and coal, gasoline, electricity, and
Energy Consumption Effects. Both the energy model and the
macro model contain equations that predict changes in demand for
energy, given changes in energy prices, but the energy model
contains a more detailed treatment of demand. Preferring details
over generality, we lined up the demand equations in both models
and substituted settings from the energy model for those in the
macro model. Specifically, we lined up these demand equations:
- Total energy consumption,
- Total end-use consumption for petroleum,
- Total end-use consumption for natural gas,
- Total end-use consumption for coal, and
- Total end-use consumption for electricity.
One key transformation that took place dealt with the differing
demand units used between the two models in calculating residential
consumption. The energy model expresses demand in trillions of
British thermal units, while the macro model projects demand in
billions of constant dollars.
Another key transformation focused on consumer spending on
gasoline. The energy model does not contain a separate forecast for
spending on gasoline or other motor fuels. To overcome this, we
projected the change in consumer spending on gasoline based on
the energy model's change in total highway fuel consumption.
Revenue Estimates. The energy model produces estimates of
carbon emissions and of the carbon fee in dollars per metric ton.
It is a simple matter to multiply emissions by the carbon fee to
obtain the "revenue" from the emissions permits.
Heritage analysts assumed that the revenue value of permits
equals the entire value of these permits as government revenue,
whether or not they are formally auctioned. If the government
chooses to transfer ownership of the permits to other
entities, then that would be reflected as a transfer payment in the
national income accounts. The macro model permits allocation of
permit revenues to the states, which was accomplished by
multiplying total permit revenue by the statutory state percentage
for each year.
These revenues then were allocated to various specified
functions as follows:
- Revenues for general state needs other than low-income
- Revenues for low-income support administered by the
- Revenues allocated to electricity and gas distributors for
- Revenues allocated to covered entities, and
- Revenues for federal government consumption.
Capital Spending. The energy model calculates capital
spending by electric utilities in the base case and in the
Lieberman-Warner case. Spending is higher (at least initially) and
costlier in the Lieberman-Warner case because higher-cost
power plants are built or because old plants are refurbished. The
change in spending was applied to the macro model variable for real
spending on utility investment after conversion to the appropriate
The analysts then calculated what amount of spending would have
been required to produce the same level of electricity capacity had
the mix of spending been the same as the baseline. The purpose
here is to measure the extra resources that had to go into utility
construction simply because of the introduction of the resources
related to the carbon fee that will produce lower emissions but
which will not produce extra GDP.
Operation of the U.S. Macroeconomic
Model for Lieberman-Warner with Reasonable Assumptions
The Lieberman-Warner simulation with reasonable assumptions
builds on the generous-assumptions simulation by relaxing the CCS
implementation schedule. As discussed in the assumptions
section of this report, there are many reasons to doubt that CCS
will be implemented over the forecast period.
Relaxing the CCS implementation schedule provides policymakers
with an alternative that increases the economic costs of S. 2191
without significantly altering the legislation's other key
assumptions. That is, the alternative or reasonable simulation
attempts to portray the economic effects of carbon fees that are
higher than in the generous-assumptions simulation while leaving
nearly all of the other policy assumptions untouched.
We have calculated that carbon fees would have to increase $20
per metric ton, from $68 to $88 (adjusted for inflation), by 2030
to compensate, through decreased energy consumption, for carbon
reductions that otherwise would be attained through carbon capture
and sequestration. These higher carbon fees would begin in
2015, or about the time that CCS implementation is projected to
result in a slowing of carbon-fee growth in the
generous-assumptions simulation. For example, with CCS, carbon
fees would be $50 in 2020 instead of $65.
To implement the assumption of higher carbon fees, analysts
adjusted the settings of the generous-assumptions simulation
described above. We left in place the energy input prices (oil,
natural gas, coal, and so forth) that were used in the basic, or
generous, simulation. Likewise untouched were all of the
assumptions about energy production and demand contained in the
State-by-State Employment Losses