Energy and the Environment New Source Review Is Still Anything but Routine Jonathan A. Lesser T he question of what constitutes “routine maintenance” continues to bedevil electric utilities. Most recently, Cinergy Corporation found itself on the losing end of a jury trial that hinged on the scope of the maintenance activities for the company’s fleet of coalfired power plants and whether those activities fall under the New Source Review (NSR) component of the Clean Air Act.1 On the heels of last year’s U.S. Supreme Court decision in Environmental Defense Corp. v. Duke Energy,2 the jury’s decision in the Cinergy case represents another setback for generators. The general idea behind NSR is to ensure that new stationary pollution sources, or those that undergo “major” modifications, are equipped with the most up-to-date pollution control devices so as to ensure no degradation in local air quality. NSR incorporates two concepts: Prevention of Significant Deterioration (PSD) and New Source Performance Standards (NSPSs).3 Duke argued that the modifications it made to its coal plants did not fall under the PSD provisions, because none of the modifications increased the hourly emissions rates at those plants. In fact, the modifications were designed to improve the efficiency of the plants, thus reducing hourly emissions. The Court rejected Duke’s argument, reasoning that what matters are a plant’s total, not hourly, emissions. Thus, to use an automotive analogy, tuning up your car to improve its gas mileage is all well and good, as long as you do not drive it any additional miles. The jury in the Cinergy case took a similar view, rejecting the company’s claims that modifications made to its Wabash River Generating Station constituted routine maintenance (but accepting the company’s claims for other generating plants). Ironically, on May 8, 2008, just a few weeks prior to the verdict, the Environmental Protection Agency (EPA) released its final rule for NSR implementation to address changes in emissions of fine particulates, which would possibly have made the lawsuit unnecessary.4 Having determined that pollutants such as sulfur dioxide (SO2) and oxides of nitrogen (NOx) are precursors to fine particulate emissions, the new EPA rule states that NSR will be triggered only if aggregate emissions for SO2 and NOx increase by 40 tons or more per year, providing much-needed clarification to what has been a case-by-case approach.5 No doubt, one can drone on endlessly about what “routine maintenance” and “major modifications” entail. In a previous decision in this same case, for example, the U.S. District Court judge ruled that the costs of the “maintenance” projects, relative to average operation and maintenance expenditures, the fact that many of these costs were capitalized and not expensed, and the duration of the repairs, all distinguished them from “routine maintenance” as claimed by Cinergy.6 The EPA’s decision to adopt threshold emissions increases, therefore, provides long-overdue clarification: rather than an NSR being triggered by endless debate over the specifics of repairs and their costs, an NSR now will be triggered by actual emissions changes. ECONOMIC CONSEQUENCES Jonathan A. Lesser, PhD, is a partner with Bates White, LLC, an economic and litigation consulting firm in Washington DC. He can be reached at (202) 747-5972, or via e-mail at jonathan.lesser@bateswhite.com. AUGUST 2008 NATURAL GAS & ELECTRICITY Even with the EPA’s new rule, NSR remains an anachronism that serves little purpose, other than to raise further the cost of electricity. Given the staggering increases in fossil fuel prices since the year 2000 and the upward pressure those prices are placing on DOI 10.1002/gas / © 2008 Wiley Periodicals, Inc. 31 electric utility rates, one could be forgiven for thinking that larding on additional expenses might not be a good strategy. Congress added NSR as part of the 1977 Clean Air Act Amendments, when “command and control” regulation was de rigueur. When, in 1990, the Clean Air Act was amended again, this time adopting a market-based approach that capped aggregate emissions nationwide and established a market for emissions allowances, the rationale for NSR dissolved. If aggregate emissions are capped—and if that cap decreases over time—why must all utilities that make “major” modifications to their plants be forced to install new state-of-the-art pollution control measures? Environmentalists may answer that such requirements are needed to ensure that electric generating plants and other large emissions sources do not increase emissions that pollute air in nearby national parks and such. Fair enough. Of course, that does not prevent increases in emissions from mobile sources like automobiles, which may be more significant contributors to air pollution. But the cap-and-trade programs for SO2 and NOx introduced under the Clean Air Act—programs that even environmentalists admit have been hugely successful (hence the lobbying for a greenhouse gas cap-and-trade program in the United States)7—force generating plant owners to weigh the benefits of improved operating efficiency (and lower costs) against the high costs of new and improved air pollution control measures. Thus, NSR is likely to increase overall electricity costs and reduce economic well-being. Why, when politicians and ratepayers alike are screaming about rising electricity costs, is that a good thing? From an economic standpoint, generation plant owners will always weigh the costs and benefits of continued operation versus shutting down. Just as you would while maintaining a car, generation plant owners will always ask, “Are the repairs worth it?” Even when overall emissions levels are capped, by requiring expensive pollution control upgrades at individual plants should the generating plant exceed an arbitrary threshold, costs will increase relative to benefits. If the plant owner decides to make the repairs anyhow, two things will happen. First, if the plant is part of an integrated utility, the additional pollution control expenditures will be flowed through to rate base, and customer rates will increase that much more. Second, if the plant is owned by a competitive wholesale supplier, the net effect will be to shift the market 32 © 2008 Wiley Periodicals, Inc. / DOI 10.1002/gas supply curve upward, resulting in higher market clearing prices. Again, customers will ultimately pay a higher electric price. At the same time, total emissions will not have decreased, owing to the nationwide caps under the Clean Air Act. Instead, the price of emissions allowances will fall, and emissions elsewhere in the country will increase. Thus, local consumers will experience slightly lower emissions, but higher electric prices. More distant consumers will only experience more pollution. If, instead, the plant owner decides to forgo the improvements in order to avoid the additional capital investment for the pollution control measures, the plant’s operating efficiency will be lower than it otherwise would be, or the owner will decide to shut down the plant sooner. For an integrated utility, that will mean needed investment in new generation capacity sooner, and higher rates. Similarly, the owner of the plant in the wholesale market will suffer reduced output, higher outage rates, and premature retirement. Again, the effect will be reduced electric supplies and higher prices, but no change in overall pollution levels. Nevertheless, some will argue that NSR is a bargain because the benefits of preserving local air quality always exceed the costs of additional pollution controls. Perhaps NSR is a bargain. But as electric prices soar, is it not possible that consumers will value avoiding further price increases more than they value the small reductions in local air pollution that NSR provides? NOTES 1. United States of America, et al. v. Cinergy, United States District Court, Southern District of Indiana, Indianapolis Division, May 23, 2008. 2. Slip. Op. 05-848, April 2, 2007. 3. NSPSs incorporate not only new pollution sources, but also major modifications to existing sources. 4. U.S. Environmental Protection Agency, Final Rule for Implementation of the New Source Review (NSR) Program for Particulate Matter Less Than 2.5 Micrometers (PM2.5), May 8, 2008, (“PM2.5 NSR Rule”). Available at: http://www.epa.gov/NSR/documents/20080508_rule.pdf. However, the rule did not take effect until July 8, 2008, 60 days after publication. 5. PM2.5 NSR Rule, p. 46. 6. United States v. Cinergy Corp., 495 F. Supp. 2d 909; 2007 U.S. Dist. LEXIS 51820; 65 ERC (BNA) 1585 (7th Cir. Indiana 2007), June 18, 2007. 7. In a previous column, I explained why, unlike for SO2 and NOx, a cap-and-trade program for greenhouse gases would not work. See (2007, December). Control of greenhouse gases: Difficult with cap-and-trade or control-and-spend. Natural Gas & Electricity, pp. 28–31. NATURAL GAS & ELECTRICITY AUGUST 2008 Copyright of Natural Gas 6: Electricity is the property of John Wiley Sons, Inc. Business and its content may not be copied or emailed to multiple sites or posted to a listserm:r without the copyright holder's express written permission. However, users may print, download, or email articles 'For individual use.