Commodity Market Impacts of EPA’s Clean Power Plan

June 2, 2014 the Environmental Protection Agency (EPA) released its draft Clean Power Plan (CPP), a proposed rule to regulate carbon dioxide from the nation’s existing fossil fuel-fired generation facilities. As the central pillar of the Obama Administration’s strategy for addressing climate change, the draft rule’s release was both highly anticipated and contentious. New York-based economic research firm Rhodium Group (RHG) and Washington, DC-based think tank the Center for Strategic and International Studies (CSIS) have partnered to analyze the energy sector implications of the proposed rule. This note focuses on potential commodity market impacts, particularly coal and natural gas. Full energy market impact analysis is available on the CSIS web site.

Understanding the CPP:  Under EPA’s proposal, states would be required to reduce carbon dioxide emissions from existing power plants between 2020 and 2030. While EPA sets the targets, states choose how they will comply. Once the EPA’s rule is finalized this summer, states will have one year to develop implementation plans, or up to three years if submitting a plan in coordination with other states. The earliest the rule could take effect is January 1, 2020, though legal challenges could result in delays.

What the CPP means for commodity markets:  While natural gas-fired power plants are regulated under the proposal, the level at which the emission standards are set would incentivize more natural gas generation, not less. The exact impact of the CPP on the country’s generation mix will depend on any changes between now and the final and implementation decisions made by the states, but under any foreseeable scenario, natural gas demand will increase, with potentially significant upside for domestic gas producers. On the flip side, coal-fired power generation will likely take a hit, as will domestic coal production.

What market developments could mean for the CPP: Given the rapidly changing nature of US energy markets, we stress-tested our findings against alternative natural gas resource scenarios, as well as a scenario in which US LNG exports exceed current expectations. In all scenarios, increased natural gas generation remains the most cost-effective way to meet the CPP targets within the electric power sector, provided the gas can be delivered on time and in sufficient quantities. This highlights the need for additional natural gas pipeline infrastructure.

What comes next: EPA is working through the 1.6 million comments they received on the CPP proposal and is still targeting a summer release of the final rule. Significant modifications are expected, including the timing and level of the interim goals (the average emissions level states need to hit between 2020 and 2029) and the methodology for setting state targets. While these changes will no doubt alter the commodity market impact of the rule, we still expect the CPP to significantly increase US natural gas demand.

PowerPoint presentation available here (PDF, 0.8 MB)