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C- ^ ///,,^ t. / ^
(3/28/94)
EPA
410/
1994.1
United States
Environmental Protection
Agency
Air And Radiation
March 1994
Analysis Of The Impact
Of Environmental
Compliance On Plant
Operations
Draft Final Report
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{3/28/94)
Analysis Of The Impact Of
Environmental Compliance
On Plant Operations
Draft Final Report
United States Environmental Protection Agency
Office Of Air And Radiation
Office Of Policy Analysis And Review
March 1994
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Disclaimer
The analysis in this report is based on information derived from publicly available sources,
including government publications, previous analyses conducted by the Environmental Protection
Agency, and commercial data bases. Although the Agency believes that the information presented in
this report provides a reasonable basis for evaluating the overall effects of environmental compliance
under the Clean Air Act, as amendmended in 1990, the conclusions in this report are based on
industry aggregate data, which may not provide a valid basis for estimating the likelihood of closure of
any particular plant. A decision on whether or not to continue operating an individual plant is often
made on the basis of a complex set of plant-specific economic, financial, and strategic factors, the data
for which are not available from public sources. This document is in draft, should not be quoted or
cited, and has not been subject to required policy or technical reviews. Mention in this document of
trade names, products, or services does not convey, and should not be interpreted as conveying,
official EPA approval, endorsement, or recommendation.
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Preface
Analysis of the Impact of Environmental Compliance on Plant Operations has been developed
by the Environmental Protection Agency's Office of Air and Radiation, Office of Policy Analysis and
Review, to provide information on the characteristics of plants in industries affected by the Clean Air
Act, as amended in 1990. This document presents the results of research conducted by ICF
Incorporated and its subcontractor, Industrial Economics, Inc., under EPA contract 68-DO-0102. This
document describes the economic and financial characteristics of plants and firms in industries affected
by the Clean Air Act Amendments of 1990, including factors that contribute to decisions to locate or
close plants affected by environmental regulations.
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CONTENTS
EXECUTIVE SUMMARY ES-1
1. INTRODUCTION 1-1
1.1 BACKGROUND 1-1
1.2 CONTENTS OF THIS REPORT 1-2
2. COAL INDUSTRY 2-1
2.1 INTRODUCTION 2-1
2.1.1 Summary of Findings 2-1
2.2 INDUSTRY CHARACTERISTICS 2-2
2.2.1 Types, Sources and Uses of Coal 2-2
2.2.2 Methods for Mining Coal 2-3
2.2.3 Processing Coal Prior to Transportation 2-5
2.2.4 Industries that Use Coal 2-6
2.3 ECONOMIC AND FINANCIAL CONSIDERATIONS 2-7
2.3.1 Financial Health of the Coal Mining Industry 2-7
2.3.2 Annual Coal Production and Prices 2-8
2.3.3 Productivity Improvements and Technological Innovation 2-9
2.3.4 Employment Trends 2-9
2.3.5 Capacity Utilization 2-11
2.3.6 Effect of the Clean Air Act on the Coal Mining Industry 2-12
2.3.7 Other Issues Affecting Mine Closure Decisions 2-14
2.4 DETERMINING THE EXTENT TO WHICH A GIVEN MINE CLOSURE
MAY BE ATTRIBUTABLE TO THE CLEAN AIR ACT 2-17
3. ELECTRIC UTILITIES 3-1
3.1 INTRODUCTION 3-1
3.1.1 Summary of Findings 3-2
3.2 INDUSTRY DESCRIPTION 3-3
3.2.1 Overview of Process and Products 3-3
3.2.2 Utility Regulation 3-5
3.2.3 Financial Health 3-6
3.2.4 International Trade and Competitiveness 3-7
3.2.5 Electricity Demand 3-9
vii
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CONTENTS (continued)
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3.2.6 Capacity Excess or Shortfall 3-11
3.2.7 Aggregate Employment Trends 3-13
3.2.8 Geographical Trends 3-13
3.2.9 Economies of Scale and Industry Cost Trends 3-15
3.2.10 Technological Diversity 3-16
3.3 PLANT LOCATION AND CLOSURE CRITERIA 3-18
3.3.1 Locality Review 3-18
3.3.2 Closure Criteria 3-20
4. AUTOMOBILE MANUFACTURING 4-1
4.1 INTRODUCTION 4-1
4.1.1 Summary of Findings 4-1
4.1.2 Caveats 4-2
4.1.3 Organization of Chapter 4-3
4.2 INDUSTRY CHARACTERISTICS 4-3
4.2.1 Overview of Manufacturing Process 4-3
4.2.2 Economic and Financial Conditions 4-3
4.3 CAA AMENDMENTS THAT AFFECT MOTOR VEHICLE DESIGN AND
PRODUCTION 4-iO
4.3.1 Automobile Design Provisions 4-10
4.3.2 Motor Vehicle Manufacturing Provisions: Paint Applications 4-11
4.4 EFFECT OF THE 1990 AMENDMENTS ON THE AUTOMOBILE
INDUSTRY 4-12
4.4.1 Cost of Compliance 4-12
4.4.2 Cost of Manufacturing Process Changes 4-14
4.4.3 Likelihood of Plant Closures 4-14
4.4.4 Implications of Plant Closures 4-16
4.5 NEW MARKET OPPORTUNITIES RESULTING FROM THE CAA 4-18
5. WOOD FURNITURE 5-1
5.1 INTRODUCTION 5-1
5.1.1 Summary of Findings 5-1
5.1.2 Caveats 5-2
5.1.3 Organization of Chapter 5-3
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CONTENTS (continued)
5.2 INDUSTRY CHARACTERISTICS 5-3
5.2.1 Products 5-3
5.2.2 Processes 5-3
5.2.3 Economic and Financial Conditions 5-4
5.3 CAA REGULATIONS THAT AFFECT THE WOOD FURNITURE
INDUSTRY 5-10
5.3.1 Volatile Organic Compounds 5-11
5.3.2 Hazardous Air Pollutants 5-11
5.3.3 Regulatory Negotiation 5-11
5.4 EFFECT OF THE 1990 AMENDMENTS ON THE WOOD FURNITURE
INDUSTRY 5-12
5.4.1 Reducing VOC and HAP Emissions 5-12
5.4.2 Cost of Compliance 5-14
5.4.3 Likelihood of Plant Closures 5-14
5.4.4 Implications of Plant Closures 5-16
5.4.5 Uncertainties 5-16
5.5 NEW MARKET OPPORTUNITIES RESULTING FROM THE 1990
AMENDMENTS 5-16
6. PETROLEUM REFINING 6-1
6.1 INTRODUCTION 6-1
6.1.1 Summary of Findings 6-1
6.1.2 Caveats 6-3
6.1.3 Organization of Chapter 6-3
6.2 INDUSTRY CHARACTERISTICS 6-4
6.2.1 Products and Processes 6-4
6.2.2 Economic and Financial Conditions 6-5
6.2.3 Diversity within the Refining Industry 6-11
6.3 REGULATIONS AFFECTING THE PETROLEUM REFINING INDUSTRY .. 6-13
6.3.1 Oxygenated Fuels 6-14
6.3.2 Reformulated Gasoline 6-14
6.3.3 Other CAA Fuel Requirements 6-14
6.3.4 Air Toxics Provisions 6-17
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CONTENTS (continued)
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6.4 EFFECT OF CAA REGULATIONS ON THE REFINING INDUSTRY 6-17 I
6.4.1 Cost of Compliance 6-17
6.4.2 Likelihood of Plant Closures 6-18 M
6.4.3 Implications of Plant Closures 6-19 9
6.4.4 Uncertainties 6-21
6.5 NEW MARKET OPPORTUNITIES RESULTING FROM THE 1990 CAA 6-22 {
7. STEEL AND METALLURGICAL COKE 7-1 m
7.1 INTRODUCTION 7-1
7.1.1 Summary of Findings 7-1 ^
7.1.2 Caveats 7-3 •
7.1.3 Organization of Chapter 7-3
7.2 INDUSTRY CHARACTERISTICS 7 A I
7.2.1 Products and Processes 7-4 *
7.2.2 Economic and Financial Conditions 7-6 ^
7.3 REGULATIONS AFFECTING THE STEEL INDUSTRY 7-13 *
7.3.1 Hazardous Air Pollutants 7-13
7.3.2 Acid Rain Provisions 7-15 f
7.3.3 Nonattainment Areas 7-15 if
7.3.4 Permitting 7-16
7.4 EFFECT OF REGULATIONS ON THE STEEL INDUSTRY 7-16 I
7.4.1 Cost of Compliance 7-16
7.4.2 Likelihood of Plant Closures 7-18 j|
7.5 NEW MARKET OPPORTUNITIES RESULTING FROM THE CAA 7-20
8. CHEMICALS 8-1 |
8.1 INTRODUCTION 8-1 _
8.1.1 Summary of Findings 8-1 £
8.1.2 Caveats 8-3
8.1.3 Organization of Chapter 8-4 ^
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8.2 INDUSTRY CHARACTERISTICS 8^ "
8.2.1 Products and Processes 8-4
8.2.2 Market Segmentation 8-6 •
8.2.3 Economic and Financial Conditions 8-8 *
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CONTENTS (continued)
Page
8.3 REGULATIONS UNDER THE 1990 CAA AMENDMENTS AFFECTING
THE CHEMICAL INDUSTRY 8-18
8.3.1 Hazardous Air Pollutants (HAPs) 8-18
8.3.2 Title I Nonattainment Areas 8-19
8.3.3 Stratospheric Ozone Protection 8-20
8.3.4 Permitting 8-20
8.3.5 Mobile Source Controls 8-20
8.3.6 Acid Deposition Control 8-20
8.4 EFFECT OF REGULATIONS UNDER THE 1990 CAA AMENDMENTS ON
THE CHEMICAL INDUSTRY 8-21
8.4.1 Cost of Compliance 8-21
8.4.2 Likelihood of Plant Closures 8-22
8.4.3 Implications of Plant Closures 8-25
8.4.4 Uncertainties 8-25
8.5 NEW MARKET OPPORTUNITIES RESULTING FROM THE CAA 8-25
9. METHODOLOGY FOR PROSPECTIVELY ASSESSING POTENTIAL PLANT
CLOSURES 9-1
9.1 INTRODUCTION 9-1
9.2 METHODOLOGY 9-1
9.2.1 Cost of Regulation 9-2
9.2.2 Ability to Shift the Costs of Regulation to Other Parties 9-4
9.2.3 Ability to Bear Regulatory Costs Without Plant Closure 9-5
9.2.4 Summary 9-7
9.3 SUMMARY OF INDUSTRIES EXAMINED IN THIS ANALYSIS 9-7
9.4 APPLICATIONS OF THREATENED PLANTS FRAMEWORK TO THE RIA
PROCESS 9-8
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EXHIBITS
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2-1: Coal Mining Sectors 2-3
2-2: Profitability and Related Financial Ratios for Bituminous Coal Mining Finns 2-7
2-3: Improvements in Coal Mine Productivity, 1975-1992 2-10
2-4: Coal Mining Employment, 1975 - 1992 2-11
2-5: Forecasted Coal Production in 2000 With and Without the Clean Air Act Amendments
(CAAA), Compared to Historical Coal production: Selected Regions and National
Total 2-13
2-6: Forecasted Regional Coal Production in 2000 Without and With the Clean Air Act
Amendments 2-15
3-1: Electricity Generation By Owner - 1990 3-4
3-2: Earned Return on Equity vs. Required Return on Equity for the Electric Utility
Industry, 1960-1985 3-7
3-3: Weighted Average Market Prices of the Electric Utility Industry: 1965-1990 3-8
3-4: Producer Price Index for Electric Utilties and Fuel Imports: 1965-1990 3-8
3-5: Electricity Demand by Sector - 1990 3-9
3-6: Actual and Forecated Electricity Demand Growth 3-10
3-7: Total Summer Capability at Peak Load, Peak Demand, and Reserve Margin: 1965-1990 3-11
3-8: Number of Coal-Fired Units and Coal-Fired Capacity By On-line Date 3-12
3-9: Total Planned Capability By Fuel Type, 1991-2000 3-13
3-10: Number of Employees at Investor-Owned Electric Utilities Compared to the Amount
of Energy Sales From the Total Electric Utility Industry, 1965-1989 3-14
3-11: Energy Sales By Census Region, 1975-1990 3-15
3-12: Capacity By Census Region, 1975-1990 3-16
3-13: Planned Additions at Electric Utilities, 1991-2000 3-17
3-14: Average Real Electricity Prices: 1965-1990 3-18
3-15: Electricity Generation by Technology - 1990 3-19
3-16: Electricity Generation by Fuel Type - 1990 3-20
3-17: VOC and NOX Emission Thresholds and Offset Ratios for Sources Located In or
Impacting Ozone Nonattainment Areas 3-21
3-18: Number and Total Capacity of Coal-Fired Units By Size and Age 3-22
4-1: Auto Capacity Utilization Compared to All Industries 4-4
4-2: Import Penetration Into the U.S Car Market 4-5
4-3: U.S. Light Vehicle Sales In 1991 4-6
4-4: Financial Information for GM, Ford, and Chrysler 4-8
4-5: Motor Vehicles and Car Bodies: Pollution Abatement Capital Expenditures Relative to
Total Capital Expenditures 4-8
4-6: Geographic Concentration SIC 3711 4-9
4-7: Incremental Costs of LEVs and ZEVs 4-13
4-8: Annual Costs of HAP Requirements SIC 3711 - Motor Vehicles 4-15
4-9: Location of Automobile Assembly Facilities Relative to Ozone Nonattainment Areas ... 4-17
XII
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EXHIBITS (continued)
5-1: Wood Furniture Sectors 5-4
5-2: Wood Furniture Industry Capacity Utilization By SIC Code 5-5
5-3: Wood Furniture Industry Employment By Sector 1991 5-7
5^: Wood Furniture Industry Profitability and Leverage by SIC Code 5-7
5-5: Wood Furniture Industry Pollution Abatement Capital Expenditures Relative to Total
Capital Expenditures 5-8
5-6: Wood Furniture Industry Pollution Abatement Operating Costs 5-8
5-7: Number of Wood Furniture Manufacturing Firms 1987 5-9
5-8: Wood Furniture Industry Geographic Location by SIC Code 5-10
6-1: Product Yield By Type of Refining Capacity 6-4
6-2: U.S. Energy Consumption Relative to GNP 6-6
6-3: U.S. Petroleum Product Composition 6-7
6-4: U.S. Petroleum Refinery Output and Capacity 6-8
6-5: Exports and Imports of Petroleum Products 6-9
6-6: Refinery Output and Employment 6-10
6-7: Capital Expenditures SIC 29: Petroleum and Coal Products 6-12
6-8: January 1993 Summary of U.S. Petroleum Refining Capacity 6-13
6-9: States With Serious and/or Moderate Carbon Monoxide Nonattainment Areas 6-15
6-10: Standards For Reformulated Gasoline 6-16
6-11: Summary of Small Refineries In States With Severe/Extreme Ozone
Non-attainment Areas and/or Petitioning Opt-In Areas 6-20
7-1: Steel Industry Sectors 7-6
7-2: U.S. Steel Consumption, Production and Capacity 7-7
7-3: Domestic Raw Steel Production By Technology 7-7
7-4: U.S. Consumption and Production of Coke 7-8
7-5: U.S. Exports and Imports of Steel Mill Products 7-9
7-6: U.S. Exports and Imports of Coke 7-10
7-7: Median Profitability and Leverage by SIC Code In 1991 7-11
7-8: Steel Industry Pollution Abatement Costs Relative to Total Costs In 1989 7-12
7-9: U.S. Concentration of Steel Industry By Size 7-13
7-10: Total Estimated CAAA Compliance Costs For Coke Ovens 7-17
8-1: Chemical Production Flow Chart 8-5
8-2: Market Segmentation in the U.S. Chemical Industry 8-7
8-3: Apparent U.S. Demand For Industrial Organic And Inorganic Chemicals Excluding
Pigments 8-8
8-4: Capacity Utilization In Industrial Chemicals 8-9
8-5: Trade In Organic And Inorganic Chemicals, 1992 8-10
8-6: U.S. Exports In 1992 8-11
8-7: U.S. Imports In 1992 8-12
8-8: Financial Statistics On The Basic Chemicals Industry 8-15
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EXHIBITS (continued)
8-9-
8-10:
8-11:
8-12-
8-13:
8-14:
9-1-
9-2 •
9-3-
9-4-
9-5'
9-6-
9-7'
9-8-
Financial Statistics On The Specialty Chemicals Industry
Pollution Abatement And Control Expenditures For Industrial Chemical Producers,
1990
Concentration Of Inorganic And Organic Chemicals Production In 1987, By Corporate
Size
Industry Employment By State . . . .
EPA's Estimate of Chemical Production Cost Increases Due To The Proposed RON
Rule . .
Electricity As A Share Of Energy Demand For Heat And Power In Industrial Chemical
Production 1991 . .
Coal Minin° and Processin° . .
Electric Utilities . .
Automobile Manufacturin°
Wood Furniture
Petroleum Refining •
Steel and Metallurgical Coke . ,
Commodity Chemicals Industry . .
Specialty Chemicals Industry . .
xiv
Page
8-15
8-16
8-17
8-17
8-21
8-22
9-10
9-12
9-14
. 9-16
. 9-18
. 9-20
. 9-22
, 9-24
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EXECUTIVE SUMMARY
ES.1 INTRODUCTION
Section 321 (a) of the Clean Air Act directs the Environmental Protection Agency (EPA) to
evaluate potential losses of employment or shifts of employment that may result from implementation
of the CAA. Under section 321 (a), EPA is required to investigate threatened plant closures or
reductions in employment alleged to result from enforcement of the CAA. This report presents the
results of a study undertaken by EPA to assess the characteristics of firms in industries likely to be
affected by the CAA, including financial and economic information on firms in the industry and
identification of key trends that may influence the response of firms to implementation and
enforcement of the CAA. In addition, EPA has developed recommendations for analyses that may be
appropriate for studying the effects of future regulations intended to implement the CAA.
In this report, EPA is providing the results of a study of the overall financial and economic
characteristics of firms in seven industries:
Coal Mining
Electric Utilities
Automotive
Furniture
Petroleum Refining
Steel and Metallurgical Coke
Chemicals.
This study has relied on publicly available information, including information available through
commercial data bases, to (1) develop summaries of the economic and financial condition of firms in
the industries, (2) identify industry trends (as reported in the literature), and (3) identify instances of
alleged plant closures resulting from the CAA. In addition, EPA has summarized the provisions of the
CAA that are likely to affect each industry. In addition to the relatively detailed discussions of each
industry, the report also provides a summary chapter presenting the industry-by-industry effects of the
CAA, along with a consideration of specific approaches that may be used to quantify the effects of
environmental regulations in future analyses.
This Executive Summary outlines the different factors that managers consider when (1)
locating a new facility and (2) closing an existing facility. The purpose of this discussion is to place
the effect of environmental regulation on plant location and closure decisions within the context of all
ES-1
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factors considered by a firm in locating or closing a facility. This discussion draws on the analyses of
specific individual industries to describe how these location/closure criteria vary across different
industries; since the detailed analyses addressed heavy manufacturing industries, the focus of this
Executive Summary is on location/closure criteria for manufacturing establishments. In addition, we
present potential job loss as a result of the CAA in the context of overall frictional job loss in the
economy.
ES.1.1 Summary of Findings
There are a variety of factors behind firm location and closure decisions that are tied to the
particular characteristics of the firm as well as the economic and regulatory environment in which the
firm operates. In deciding where to locate a facility, managers compare key characteristics of the
facility's operation against the characteristics of the locations under consideration. For instance, if the
firm produces a product for which a particular raw material represents a large share of the cost of
production, then managers will focus on locations with low-cost access to this raw material. Other
criteria often evaluated by firm managers, to a greater or lesser degree depending on the facility's
product, include: proximity to the marketplace for the firm's products; the cost of energy; the
availability of low cost and/or skilled laborers; the cost of capital; and the government and regulatory
environment in which the facility will operate.
Plant closures are commonly based on detailed analyses that evaluate the financial viability of
the facility, with a focus on the anticipated net income and cash flow performance of the facility.
Factors that directly or indirectly influence these financial decisions include the economic outlook for
the facility's product, technological advances occurring in the industry, and locational characteristics of
the type described in the previous paragraph. Further, firm-specific strategic factors often come into
play; for instance, single-facility firms are often more reluctant to close a facility than multi-plant
facilities, as certain benefits resulting from the closure of a facility (e.g., reduced competition for the
firm's other plants and increased firm-wide capacity utilization) are not realized by these firms.
Estimates of the total number of jobs that could be lost as a result of plant closures or layoffs
attributed to the CAA have been proffered by several analysts. These estimates are generally
expressed as ranges, reflecting uncertainty in the exact nature and cost of future CAA requirements.
In discussing job loss due to any given factor, it is useful to compare the relative magnitude of such
loss to overall job creation and loss in the economy. In 1992 alone, about 5.6 million workers lost
their jobs (Bureau of Labor Statistics, U.S. Department of Labor). One study (Hahn and Steger, 1990)
estimated the effects of the CAA to be about 20,000 jobs lost and 2,000,000 jobs adversely affected.
Assuming a 10-year implementation period, this is equivalent to annual impacts of between 2,000 and
200,000 jobs lost or adversely affected. In comparison, then, the job losses in 1992 were between 30
and 3,000 times greater than the estimated equivalent average annual rate of the job loss estimated by
Hahn and Steger to occur as a result of the CAA. The CAA is also creating market opportunities for
new products and services that are expected to result in the creation of new jobs. One study that
evaluated competing proposals for amending the Acid Rain provisions estimated that Acid Rain
controls alone would lead to the net creation of 100,000 to 200,000 jobs by 1995 (MISI). In addition,
EPA believes that compliance with CAA will lead to increased efficiency and competitiveness of U.S.
firms in export markets, and will lead to the development of advanced technologies that can be
exported in the growing foreign pollution control market.
ES-2
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Chapter 9 of the report provides capsule summaries of the estimated effects of the CAA on
each of the seven industries analyzed, along with a discussion of specific factors that could be
considered in future assessments of the impacts of specific environmental regulations. EPA has
identified three key factors that determine whether plants will close:
• the cost of the regulation, including the relationship between how the costs of the
regulation are imposed and the cost structure of the industry;
• the ability of the industry to shift costs to other parties, which is a function of the
availability of substitutes, the extent of industry concentration, and the existence of
foreign competition; and
• the ability of firms to bear regulatory costs without closure, which is determined by
the financial and economic condition of the industry, the extent of variability within
the industry, and barriers to exit.
ES.1.2 Organization of this Summary
The Executive Summary is divided into three sections. First, we discuss factors that firms
commonly consider when deciding on a location for a new facility. Second, we describe a variety of
factors that may cause a firm to close a facility, including financial, strategic and economic
considerations. Finally, we consider potential job loss as a result of the CAA within the context of
overall fiictional job loss in the economy due to all factors.
ES.2 PLANT LOCATION CRITERIA
Firm managers consider a wide range of factors in locating a new facility or in relocating an
existing facility. The emphasis placed on these factors varies widely, depending on the product to be
produced. Locational characteristics often considered in this decision-making process include:
site location relative to markets served by the firm;
• site location relative to sources of raw materials;
ease of access to and cost of energy;
labor costs in the region and/or access to sufficiently skilled laborers;
• relative cost of capital in the region or country; and
government and regulatory environment of the area.
We discuss each of these characteristics individually in this section, providing examples of industries
for which each characteristic is particularly important. These examples are predominantly drawn from
ES-3
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heavy manufacturing industries, reflecting the industries investigated in the detailed chapters presented
in the report.
ES.2.1 Access to Markets Served
In many industries plants need to be located either near the major markets that they serve or
have access to relatively inexpensive transportation to those markets. This factor is particularly
important for products that are expensive to ship relative to the value of the product, such as finished
petroleum products. Another example is the production of metal cans ~ it is relatively expensive to
ship empty cans compared to the cost of shipping the raw materials to produce the can (i.e., flat steel
or aluminum). Electric utilities also tend to locate plants with reasonably good access to their markets,
due to transmission energy losses and regulations that limit the distribution of power.1
For other industries access to markets served is relatively unimportant as a factor in
determining facility location. In the automobile industry, for instance, labor, raw material and energy
characteristics of a particular location will outweigh the importance of access to a particular market, as
the cost of transporting autos to their final destination is of secondary importance when compared to
these other factors.
ES.2.2 Access to Raw Materials
Delivered raw material costs can represent a major cost factor in many industries. Thus,
access to raw materials, either directly or indirectly through an inexpensive source of transportation, is
often a critical factor in a plant siting decision. This characteristic is particularly important for
products that have higher raw material shipping costs than finished product shipping costs. In these
cases raw materials may be consumed in the manufacture of the final product but are not included in
the finished product. For instance, in the integrated steel industry, low cost access to iron ore and
coking coal are important factors in plant siting decisions. Similarly, access to timber supplies is an
important characteristic in locating wood furniture facilities, particularly facilities that mass
manufacture low-end wood furniture products.
ES.2J Energy and Utilities
Energy requirements for manufacturing facilities vary, both in terms of the importance of low-
cost energy to the facility and in terms of the energy source that is required. Finns in industries such
as electric furnace steel production and aluminum smelting require low-cost, predictable electricity
supplies. Electricity costs are significantly constrained by the regulatory environment of particular
jurisdictions, by the choice of generating capacity by a particular utility, and by environmental costs
associated with different types of electricity generating capacity.
Other industries are heavily dependent on low-cost natural gas supplies, including steel
manufacturers using direct reduction of iron ore (DRI) process, some chemicals manufacturers (e.g.,
those manufacturing ammonia) and fertilizer manufacturers. Many of these industries have a strong
incentive to locate outside the U.S. in oil/gas producing areas that have insufficient domestic demand
for the natural gas, such as Venezuela. Less expensive natural gas is one reason that a recent analysis
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that compared development of a greenfield refinery in Venezuela to the development of a refinery on
the U.S. Gulf Coast concluded that the Venezuelan refinery would be more profitable (OGJ 1993).
Finally, many industrial operations require a significant amount of water. The ability to obtain
sufficient supplies of water, and restrictions regarding the disposal of the treated wastewater, are
important for industries such as pulp and paper producers and metal finishers.
ES.2.4 Labor Costs and Skills
In many industries, the availability of low-cost labor or well-educated labor (or some
combination of the two) is an important consideration in plant siting decisions. Industries requiring
low cost, unskilled workforces are increasingly siting new plants overseas, although domestic plants
may survive with trade protection or if barriers to entry are high. However, the productivity of
workers in developed countries is significantly higher than those in the developing world, particularly
for industries in which work skills and educational requirements are higher. With the expected return
of some political stability to Eastern Europe, this region could develop a significant competitive
advantage relative to developed nations for labor-intensive industries requiring a well-educated,
relatively inexpensive workforce.
ES.2.5 Cost of Capita]
While capital costs do not vary significantly within the U.S., capital costs in developing
countries are often higher than in the U.S., unless some para-government agency such as the World
Bank provides financing. This differential can often offset the labor cost advantage of the developing
world. Thus, firms locating facilities with high capital expenditures relative to labor costs are more
likely to site facilities in the U.S., all else being equal.
ES.2.6 Government and Regulatory Environment
When evaluating alternative plant location possibilities, managers assess the political and
regulatory environment of each alternative. This assessment can cover a wide array of factors, the
importance of which will vary from industry to industry. In addition to environmental regulations
(discussed below), issues that managers may consider include:
the local business and real estate tax burden;
• location specific-regulatory requirements relating to labor (e.g., plant closing
requirements); and
• special incentives, such as tax breaks, to locate at particular sites.2
Environmental regulations are a key factor in determining plant location for firms in many
U.S. industries. Managers must consider the impacts of environmental regulation when deciding
whether to site a facility in the U.S. If they are deciding among different locations within the U.S.,
managers must consider the relative importance of federal regulations that have differential effects
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(e.g., locations with different ozone nonattainment designations), as well as existing or potential local
and state regulations. In addition to the actual regulations, firms will attempt to evaluate how
cooperative or confrontational relationships between themselves and the regulators are likely to be.
ES.3 PLANT CLOSURE CRITERIA
Most firms resist closing existing plants, as closures impose financial costs (e.g., shutdown
costs, lost operating flexibility), have significant negative effects on employee morale, and often
impose heavy emotional costs on managers. Plant closure decisions are generally made by company
executives based on detailed financial analysis and strategic considerations. There are fundamental
economic and technological factors that "drive" the financial analysis which are important to
understand when evaluating the impacts of various regulatory options.
In considering plant closures, it is important to differentiate closures from divestitures. Some
companies decide to divest facilities by selling them to a new owner, who operates pan or all of the
existing plant. Divestitures can eliminate some of the negatives associated with closing a facility,
since a portion of the original jobs are kept. However, our primary focus in this section is on
decisions to close, rather than to sell a facility.
ES.3.1 Financial Factors Causing Closure
Firms usually conduct detailed financial analyses before deciding to close a facility. These
analyses focus on the facility's net income and cash flow performance, as discussed below.
Net Income Performance
In general, most plants are managed on an "income" basis. If a plant is generally profitable, or
is coming reasonably close to the corporate goals for profitability, serious consideration of plant
closure will not occur. It is only following unacceptable financial performance, usually over a period
of years for major facilities, that serious consideration is given to plant closure.
Serious consideration of closure of a weak performer is often triggered by a large capital
investment requirement. If a weak performing plant must make a significant investment, a detailed
look at the plant's financial future is undertaken. For example, several facilities in the petroleum
refining industry are closely examining their future prospects in light of the significant capital
expenditures required by the reformulated fuels provisions of the CAA. In addition, integrated steel
manufacturers will likely consider potentially large capital costs associated with the risk-based HAP
standards when evaluating whether to rebuild existing coke-making facilities.
Cash Flow Performance
If net income is poor, a company will usually undertake a detailed cash flow analysis to
determine whether the plant is financially viable. In this analysis, the actual cash flows for new
investment and new operating costs are used in the analysis. "Sunk costs" such as depreciation,
corporate administration, past service employment costs, and interest on existing debt are excluded, as
these costs will be incurred regardless of the plant's operating status. Thus, it is not uncommon for
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plants with high sunk costs to be viewed favorably after a cash flow analysis is conducted, particularly
if the incremental capital requirements needed to keep the facility open are relatively small.
The cash flow analysis must also include all exit (or "shutdown") costs faced by the firm.
These costs are often a significant disincentive to closure. Many of these costs are employment
related, including incremental unfunded pension costs, incremental retiree health care costs,
supplemental unemployment benefits, increases in state unemployment taxes, and severance pay.3
Exit costs also include site remediation costs, which can be significant for plants that have been at an
industrial site for an extended period. Of the industries examined in this report, exit costs in the
integrated steel and auto industry are typically higher than those in the other industries considered, due
in large part to higher labor-related exit costs in these industries.
The cash flow analysis must also include the benefits of plant closure, including asset sales
and improved operating rates at any other facilities owned by the company. For example, a major
consideration for plants located in urban areas is that the value of the real estate is often significant.
In these cases a facility may relocate simply to allow the firm to liquidate the property, or to reduce
their property tax burden.
ES.3.2 Strategic and Organizational Considerations in the Plant Closure Decision
Single-facility firms are often more reluctant to close plants than multi-plant companies, for a
variety of reasons. Firms with only one plant that are considering closure will be deciding not only on
the future of a facility, but on whether to remain in a business altogether, which often means that they
have a greater emotional attachment to the facility. Further, closing a single facility will not result in
certain benefits that often occur when a multi-facility firm decides to close a plant; for instance, no
volume is transferred to other facilities, potentially boosting the performance of the remaining
facilities. The reluctance of small, single facility firms to close their only facility may be one reason
that such a large number of unprofitable wood furniture makers remain in business.
Multi-facility firms are more likely to close a facility for strategic reasons. For instance, if a
company feels that a particular product line is (1) not in an attractive overall market and/or (2) not a
product that the company is particularly good at producing, it may choose to close or sell the facility.
For example, a number of refineries considered in an earlier closure analysis were in the process of
closing existing lubricant lines, since demand for lubricants was expected to remain weak. If the plant
represents a distinct product line for the firm, it will be more likely to sell the facility than close it, as
the company will be exiting that particular business and is not worried about selling the facility to a
potential competitor.
ES.3.3 Economic Factors Contributing to Plant Closure
In addition to considering the financial and strategic position of a facility, firms will also
consider the overall economic conditions in an industry when making a closure decision. For instance,
a firm will examine the long-term growth potential in a business when evaluating a facility's viability.
Thus, the decline in fuel intensity in the United States over the past two decades, which is projected to
continue over the next two decades, was an important factor in several recent decisions by petroleum
refiners to close their facilities.
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Excess Capacity
Excess industry capacity is another consideration in evaluating a facility's viability. Excess
capacity often leads to intense price competition and therefore poor profit margins and financial
performance. For example, a significant amount of excess capacity currently exists in the wood
furniture industry, resulting in poor financial performance and a high likelihood that facilities will
close. In industries where excess capacity does not exist, it is much less likely that a particular
regulation will result in plant closures.
Excess capacity is correlated with both entry and exit barriers. Industries that require large
capital start-up costs and which are cyclical in nature can have excess capacity problems during market
downturns (e.g., the auto industry). Persistent excess capacity, in both downturns and in stronger
market periods, is a characteristic of industries with significant exit barriers.4
International Competition
If significant international trade exists for the product manufactured by a particular plant, the
threat of plant closure from a particular regulation is significantly increased. Plants serving a world
market face a world price, and therefore have little ability to pass on the increased costs associated
with a regulatory change. For instance, it is unlikely that automobile manufacturers will have the
ability to pass along higher coatings costs resulting from VOC and HAP regulations, if European and
Japanese regulations are significantly more lax.
One subtle but important distinction exists when the product, rather than the manufacturing
process, is the subject of the regulation (e.g., "clean fuel vehicles"). In instances of this sort, world-
wide competition is not likely to prevent firms from passing on the cost of the regulation to
consumers, as all producers must comply with the "product" regulation. For example, we expect that
the costs of producing clean fueled vehicles are likely to be passed along to consumers, regardless of
the country in which these vehicles are produced.
ES.3.4 Technological Factors Contributing to Plant Closure
The rate of technological change within an industry is often positively correlated with plant
closures. The more rapidly technology changes, the more likely plant closures are, as it is often less
costly to construct a new facility rather than retro-fit an older one. At a minimum, the advantages of
having an existing plant are minimized. The diversity of technology across an industry is another
important indicator of the likelihood of plant closures. Industries where some facilities have a high
degree of technical superiority compared to other facilities (e.g., the petroleum refining industry) are
more likely to experience plant closures compared to industries where technology is uniform across
facilities.
The cost of the new technology is also an important component in plant closure decisions. If
the new technology involves a process change that requires little capital investment, then it is less
likely that firms will be closed than if a large capital investment is required. For instance, if wood
furniture coatings manufacturers can develop water-based processes that meet consumer quality
requirements, the number of small wood furniture facilities likely to close will be smaller than if
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expensive capital equipment (e.g., new spray equipment) must be purchased to meet the CAA
requirements.
ES.3.5 Plant Location
The location of a firm's manufacturing facilities are determined by the plant siting factors
discussed earlier in this summary. To the extent that the manufacturing plants are located in different
areas and environmental regulations are geographically differentiated, plant closures are more likely in
areas with more stringent regulations, all else being equal. For instance, the reformulated fuel
provisions of the CAA are likely to have more of an effect on refiners located in or near ozone
nonattainment areas, than on those refiners located in attainment areas.
ES.4 FRICTIONS RESULTING FROM LOCATION/CLOSURE DECISIONS
Decisions on plant closure or relocation made because of the incremental cost of complying
with the CAA have the potential to lead to job losses. Before discussing the potential magnitude of
such job losses, however, it is important to consider that the U.S. economy, even without the Clean
Air Amendments, undergoes significant year-to-year changes in employment and industry structure.
For example, in 1992, 5.6 million workers lost their jobs as a result of a plant or company shutting
operations or moving (52.1 percent of the total), slack work (31.6 percent), or as a result of a position
or shift being abolished (16.3 percent) (Bureau of Labor Statistics, U.S. Department of Labor). The
Bureau of Labor Statistics recently forecasted that total manufacturing sector employment would fall
by three percent from 1990 to 2005. With approximately 19.1 million individuals employed in the
manufacturing sector in 1990, this loss represents nearly 600,000 jobs (Gary and Franklin). The
projected loss in total manufacturing sector employment is compared to an expected gain of nearly 25
million jobs in all sectors over this same period. The degree to which jobs are expected to be created
or lost varies significantly across economic sectors. For example, while agricultural sector
employment is expected to fall by approximately three percent from 1990 to 2005, employment in
retail trade is expected to grow by 26 percent over this same period. Thus, a substantial shift in
employment across all sectors is expected over the next decade, even in the absence of the CAA.
In the context of the overall economy, most estimates of the potential job losses attributable to
the Clean Air Act are relatively minor. Some analysts, however, have predicted substantial job loss as
a result of the CAA. For example, during the CAA reauthorization debates Hahn and Steger (1990)
developed general estimates of expected job loss due to air pollution control provisions:
"Depending on the assumptions, job estimates vary over a range from approximately
20,000 jobs almost surely to be lost to over 2,000,000 jobs adversely affected and
potentially lost. Assumptions for these "scenarios" vary by the degree and severity of
environmental control, the number of industrial sectors and plants considered, and the
reasons underlying the economic (jobs) effect."
Hahn and Steger state that these results are "indicative of the direction and magnitude" of job loss
effects from the 1990 CAA Amendments. Although not explicitly stated in the Hahn and Steger
report, we assume that these estimates reflect job loss over the approximately 10 years that the
proposed requirements will come into effect, suggesting that average annual job losses may range from
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2,000 to 200,000 jobs per year. Thus, estimated annual job losses attributable to the Clean Air Act
range from 0.04 percent to 3.9 percent of the jobs lost in 1992 alone.
Hahn and Steger chose to present a range instead of a point estimate of expected job loss in
part due to the fact that the exact nature of the requirements under the 1990 CAA Amendments were
not known at the time at which their analysis was completed. However, it is important to note that it
is extremely difficult to predict compliance costs and options for many titles of the 1990 CAA
Amendments. For example, at the time that this analysis was performed there were few reliable
estimates of the costs of meeting expected air toxics emissions controls requirements. Thus, we have
chosen to present Hahn and Steger's estimates solely for purposes of discussion, not as a "true"
measure of job loss expected to result from the CAA.
These projected job losses are expected to be offset by the creation of new jobs as a result of
new market opportunities created by the CAA. New jobs are expected in such fields as air pollution
control equipment, cleaner burning and alternative fuels, engineering design and construction, and
instrumentation and emissions monitoring. One EPA study (ICF and SmithBarney) projected that from
25,000 to 40,000 full-time equivalent positions would be created due to the CAA from 1992 to 2000
in just one industry, the stationary source air pollution control equipment industry. An earlier study of
competing proposals for the Acid Rain provisions (i.e., H.R. 4567, the Acid Deposition Control Act of
1986 and S. 2203, the New Clean Air Act) estimated that job losses of 5,000 to 44,000 jobs
(depending on specific provisions adopted) would be offset by the creation of 106,000 to 238,000 new
jobs, for net job creation of 101,000 to 194,000 jobs (M1SI).
In addition, technological innovation as a result of the Clean Air Act translates into an export
edge for U.S. companies. First, non-environmental companies can become tougher international
competitors as they become "smarter" in response to Clean Air Act requirements. A leading expert on
international competitiveness, Michael Porter of the Harvard Business School, has studied the
international response of firms to more stringent pollution controls. Porter notes that "Strict
environmental regulations do not inevitably hinder competitive advantage against foreign rivals;
indeed, they often enhance it. Tough standards trigger innovation and upgrading." Gains in energy
efficiency, which often result from learning to be "smarter" producers, also give companies a cost, and
therefore a competitive edge over their foreign competitors.
Second, in the air pollution control industry, technical leadership paves the way to export
leadership. For example, Joy Environmental Technologies, Inc., and its German partner Gottfried
Bischoff & Co. announced a $155 million contract with Taipower of Taiwan. The venture will install
advanced wet scrubbers in a Taichung power plant that will reduce SO2 more than 90 percent.
This discussion is not intended to minimize the expected job loss effects of the CAA - any
degree of job loss can result in economic hardship at the individual and community level. It is
important, however, to consider such job loss in the context of worker displacement due to all factors,
as well as to consider potential job creation through market and export opportunities. Based on this
review, we conclude that while the number of jobs that could be lost as a result of the CAA is
potentially significant, it is likely that these losses will be relatively small when compared to total
worker displacement due to all causes over the next decade.
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EXECUTIVE SUMMARY ENDNOTES
1. Regulatory changes in electricity markets are slowly allowing utilities more discretion in where
they can distribute power.
2. For instance, southern states were recently involved in a "bidding war" for a new Mercedes
Benz plant The parent corporation for Mercedes Benz recently announced that the facility
will be built in Alabama.
3. Note that these costs are only incremental to the existing sunk costs. For example, a steel
plant closure will cause unexpected, and therefore unfunded, pension liabilities that represent a
shutdown cost, as opposed to the sunk costs associated with existing unfunded pension
liabilities.
4. Exit barriers can be financial, as described above, or political/social. Political/social exit costs
are often higher in the social democracies of Europe and in some developing countries than
they are in the U.S.
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EXECUTIVE SUMMARY REFERENCES
Carey and Franklin. Max L. Carey and James C. Franklin. "Industry Output and Job Growth Continues
Slow into Next Century,' Monthly Labor Review. November 1991, pp. 45-63.
Hahn and Steger. Robert W. Hann and Wilber A. Steger. "An Analysis of Jobs-at-risk and Job Losses
Resulting from the Proposed Clean Air Act Amendments," CONSAD Research Corporation,
Pittsburgh, PA. 20 February 1990.
ICF and SmithBamey. ICF Resources Incorporated and Smith Barney, Harris Upham and
Company, Incorporated, "Business Opportunities of the New Clean Air Act: The
Impact of the CAAA of 1990 on the Air Pollution Control Industry (Draft Report)"
prepared for U.S. Environmental Protection Agency, Office of Air and Radiation,
January 1992.
MISI. Management Information Services, Inc. "The Net Costs to Each State and to the
Nation of Acid Rain Abatement Legislation," Washington, D.C., February 1987.
OGJ 1993. Carol Dahl and Golfgang J. Garcia Barre, "Reformulated Gasoline More Profitable in
Venezuela than in U.S.," Oil and Gas Journal. June 21, 1993, p. 72.
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INTRODUCTION
CHAPTER 1
Section 321 (a) of the Clean Air Act directs the Environmental Protection Agency (EPA) to
evaluate potential losses of employment or shifts of employment that may result from implementation
of the CAA. Under section 321 (a), EPA is required to investigate threatened plant closures or
reductions in employment alleged to result from enforcement of the CAA. This report presents the
results of a study undertaken by EPA to assess the characteristics of firms in industries likely to be
affected by the CAA, including financial and economic information on firms in the industry and
identification of key trends that may influence the response of firms to implementation and
enforcement of the CAA. In addition, EPA has developed recommendations for analyses that may be
appropriate for studying the effects of future regulations intended to implement the CAA.
1.1 BACKGROUND
This report represents the third phase of EPA's effort to identify facilities that may be
threatened with closure due to CAA requirements. In the first phase, which began in mid-1992, EPA
conducted research at the facility level to identify plants that have closed or are threatening to close
and that have publicly announced that CAA compliance costs were a contributing factor in the
decision to close. EPA contacted representatives of industry, labor, and government agencies likely to
be aware of plant closures attributed to the CAA. EPA also reviewed newspapers and trade
association journals for public announcements of plant closings. A total of 43 plants were identified in
this initial screening effort. EPA planned to analyze 10 to 20 of these facilities to develop a factual
basis for evaluating the impact of CAA compliance costs on a specific closure decision.
Only four firms, however, met with EPA to discuss, in general terms, closure decisions
regarding specific facilities and how the costs of complying with the CAA were being used in their
decisions. In addition, only one of the firms was willing to provide the detailed financial information
needed to conduct a more thorough analysis of specific plant closures. The most common reasons
provided for declining to participate was that the closure decision was the result of numerous factors
and that the specific effect of CAA compliance costs on the decision to close could not be isolated. In
addition, some firms were unwilling to release the confidential economic and financial information
required by EPA to conduct the study despite assurances that the information would be treated with
the strictest confidence.
The second phase of the study consisted of a detailed "net present value" (NPV) financial
analysis of the facility that agreed to participate, a small petroleum refinery on the West coast. The
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financial performance of the facility was analyzed under several scenarios, considering the impacts of
the CAA. The analysis showed that, on an NPV basis, the firm would have actually been better off if
it had continued to operate rather than close the facility, even after incurring CAA compliance costs.
The management of the firm did decide to close the facility, however, because of strategic business
considerations and because of difficulty in obtaining the capital needed to upgrade the facility to meet
CAA requirements.1
1.2 CONTENTS OF THIS REPORT
Because of the difficulty in obtaining information on individual facilities (which requires that
the facilities provide detailed, confidential information on their performance), EPA initiated a third
phase of the study, focusing on industries rather than on individual facilities. Publicly available
information has been obtained on seven industries, identifying the general economic and financial
health of firms in the industries and identifying characteristics of firms that are potentially threatened
with closure as a result of CAA and other factors. The seven industries examined are
• Coal Mining
• Electric Utilities
• Automotive
• Furniture
• Petroleum Refining
• Steel and Metallurgical Coke
• Chemicals.
This study has relied on publicly available information, including information available through
commercial data bases, to (1) develop summaries of the economic and financial condition of firms in
the industries, (2) identify industry trends (as reported in the literature), and (3) identify instances of
alleged plant closures resulting from the CAA. In addition, EPA has summarized the provisions of the
CAA that are likely to affect each industry. An overall summary of the findings, including capsule
summaries for each industry, is presented in Chapter 9.
In this study, EPA has assessed the characteristics of each industry that may have the most
influence on how firms react to the implementation and enforcement of the CAA and has developed
recommendations for future analyses of the impacts of regulations to implement specific provisions of
the CAA. The remainder of this report includes nine chapters.
* Chapter 2 presents information on the coal industry.
• Chapter 3 presents information on the electric utility industry.
» Chapter 4 presents information on the automobile industry.
• Chapter 5 presents information on the wood furniture industry.
• Chapter 6 presents information on the petroleum refining industry.
• Chapter 7 presents information on the steel and metallurgical coke industry.
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• Chapter 8 presents information on the chemicals industry.
• Chapter 9 summarizes EPA's overall findings on the implications of the study for
future regulatory impact analyses (RIAs) of regulations to implement the CAA. It also
summarizes the major conclusions about financial and economic performance for each
industry and the factors that are likely to affect decisions on how firms will comply
with the CAA.
Each of the industry chapters provides information on the overall financial and economic structure of
the industry, key provisions of the CAA that are likely to impose costs on the industry, unique
regulatory and competitive factors that may affect the ability of firms in the industry to comply with
the CAA, and an assessment of likelihood of plant closures attributable to the CAA.
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1.
CHAPTER 1 ENDNOTES
The individual analyses were conducted by an EPA contractor using data supplied by the
affected firms as confidential business information. Consequently, the identity of the plants
studied and the specific results cannot be released.
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COAL INDUSTRY
CHAPTER 2
2.1 INTRODUCTION
The coal industry is affected by the the Clean Air Act (CAA), as amended in 1990, primarily
because of the way the CAA will affect demand for different types of coal. Title IV of the 1990 CAA
Amendments requires electric utilities to hold "allowances" for their sulfur dioxide emissions. The
U.S. Environmental Protection Agency (EPA) will allocate allowances to utility companies permitting
them to emit a limited amount of sulfur dioxide. Many utilities currently emit more sulfur dioxide
than their allowances will cover; these utilities will either have to reduce their emissions or purchase
allowances in the amount of their excess emissions. One major strategy for reducing sulfur dioxide
emissions is to switch to lower-sulfur fuels. Title IV is expected to substantially increase the demand
for low-sulfur coal, and to decrease the demand for high-sulfur coal.
Nonetheless, Title IV is not expected to result in the closure of a significant number of high-
sulfur coal mines. Instead, the demand for higher sulfur coals is projected to remain relatively
constant, resulting in continued operation of mines with higher sulfur coal. Constant demand for
higher sulfur coal is expected because an increase in the overall demand for coal (due to growth in the
U.S. economy) is expected to offset the expected shift from higher-sulfur to lower-sulfur coals.
Demand for higher sulfur coal, however, will not be as high with Title IV as it would be without Title
IV. In the absence of Title IV, demand for higher sulfur coal would increase substantially with growth
in the economy, and new mines producing this type of coal would be expected to open.
Although Title IV is not expected to result in the closure of a significant number of coal
mines, other factors could result in the closure of any specific one of the 3,022 coal mines in operation
in 1991. This chapter will identify the factors (primarily factors other than Title IV) that could be
responsible for coal mine closures.
2.1.1 Summary of Findings
EPA's analysis shows that Title IV is expected to result in (1) relatively constant demand for
high-sulfur coal, compared to historical demand in 1991, and (2) less demand for high-sulfur coal than
would be expected in the absence of Title IV. The Agency has projected changes in production of
both high-sulfur and low-sulfur coal in coal-mining regions of the country, and has projected that few
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(if any) mines will close as a result of Title IV. The Agency has identified several other factors that
may contribute to coal mine closures:
* Coal mines, unlike factories, cannot operate indefinitely. Their supplies of
economically recoverable coal are eventually depleted, and every mine will eventually
close. Each year, an estimated 2 to 5 percent of all mines are closed because of
depletion of recoverable coal. New mines are opened to take their place.
• Substantial productivity improvements in the coal mining industry and the opening of
highly productive western surface mines, combined with a modest growth in demand
for coal, have resulted in industry-wide excess productive capacity. This, in turn, has
increased competitiveness within the industry and lowered profitability. Excess
capacity may persist because of continued productivity gains and demand growth that
is expected to remain below two percent per year. Excess capacity may be moderated
if new mines opened each year have less capacity than the mines closed as a result of
depletion. The greater the excess capacity, the more difficult it will be for those coal
mines with the highest production costs to make a profit. Most vulnerable will be
those mines with the highest labor costs per ton of coal mined, because of either
relatively high wages or relatively low productivity.
» Much coal production is governed by long-term supply contracts between mines and
coal buyers. Mines may face the greatest pressure to close when their long-term coal
supply contracts expire. If the buyer is a utility, it may choose not to renew a contract
for high-sulfur coal. If the buyer is a utility or industry that is continuing to use the
same type of coal, it will choose to renew the contract only if the mine currently
supplying it with coal remains the lowest-cost supplier.
« A mine that is located near a coal-burning utility plant or factory, and that has lower
transportation costs to the plant or factory than other mines, may be buffered to some
extent from the pressures of Title IV and industry competition. At the same time, if
the plant or factory closes, such a mine may also have a higher risk of closure.
The remainder of this chapter discusses coal industry characteristics, the economics and
financial health of the industry, and factors that may lead to mine closures.
2.2 INDUSTRY CHARACTERISTICS
Coal mining is a major U.S. industry, employing well over 100,000 people in direct mining
jobs and management and support functions. More than half of the electricity generated in the U.S. is
produced by coal-fired power plants. An understanding of industry characteristics is essential for
understanding the competitive and other pressures faced by individual mines.
2.2.1 Types, Sources and Uses of Coal
There are four basic "ranks" of coal, based upon chemical composition and energy content.
Listed from highest to lowest energy content (British thermal units) per pound, they are anthracite,
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bituminous, sub-bituminous, and lignite. Bituminous and sub-bituminous coal account for almost all
of the coal mined, with lignite a distant third. Production of anthracite has long been in decline and
now accounts for less than one percent of U.S. production. Coal was produced in 27 states in 1991,
but more than half was mined in three states: Wyoming, West Virginia, and Kentucky.
Coal is used for two primary purposes: to create steam for generating electricity and industrial
processes, and in the steel-making process. Coal used in making steel is commonly called
"metallurgical coal." This coal has unique qualities in that, when heated in coke ovens in the absence
of oxygen, it softens and fuses together forming coke, a vital ingredient in blast furnace iron-extracting
technologies. The steel and metallurgical coke market is the subject of a separate analysis.
The locations and sizes of the approximately 3,000 operating coal mines in the U.S. are not
shown in this report. This information, as well as additional data on individual mines and purchasers
of coal, is provided in two data sources that are available for further reference. The first is a database
of (1) coal mines (showing mine name, location, type of coal, employment levels, and long-term
supply contracts) and (2) utility coal-fired power plants (showing plant name, location, types of coal
purchased, delivered prices of coal, and the mines supplying the coal). This database is available from
Resource Data International (Boulder, CO), which obtains the coal data from the U.S. DOL Mine
Safety and Health Administration's mine data, and the utility data from the U.S. Federal Energy
Regulatory Commission's Form 423 utility reports. The second resource is the Keystone Coal Mine
Directory published by McGraw-Hill (New York, NY). This annual directory lists, for each U.S. mine
wishing to be listed, the location, type of mine, mining method, mining equipment in use, type of coal,
daily capacity, annual production, seams mined, coal preparation equipment in use, coal shipment
methods, shipment facilities, and the principal use of the coal (steam or metallurgical).
The coal mining industry has been divided into several Standard Industrial Classification (SIC)
codes, as shown in the following table. Only the first three categories are included in this analysis.
Exhibit 2-1
COAL MINING SECTORS
SIC Code
1221
1222
1231
1241
Industry Sector
Bituminous Coal and Lignite Surface Mining
Bituminous Coal Underground Mining
Anthracite Mining
Coal Mining Services
2.22 Methods for Mining Coal
Mining is the first state of coal production. Coal is mined by either underground or surface
methods. The type of method selected depends mainly on the depth of the coal seam: coal seams that
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are deeper than 200 feet are generally mined by underground methods, shallower seams are usually
mined by surface methods. The best mining method, however, is determined by topographic and
geologic factors specific to a site.
Underground Mining
Underground mines are accessed by one of three types of entries: drift, slope, or shaft. Drift
entries use a horizontal opening dug into a hillside. Slope entries are inclined openings dug to the
coal seam. Shaft entries are vertical accesses, equipped with elevators, to coal seams that are generally
deeper than can be reached by either of the other two methods.
Once the coal seam in an underground mine is reached, it is sectioned into panels or blocks,
typically several hundred feet wide and several thousand feet long. The coal is then removed using
either the room-and-pillar, longwall, or shortwall methods.
Most underground mines in the U.S. use the room-and-pillar method. In this method, the coal
seam is mined by removing coal from a series of "rooms." The rooms are generally 20 to 30 feet
wide, and are separated by "pillars" of coal, extending the entire length of the rooms, that are left in
place to support the mine roof. When the end of a panel is reached, the mining direction is usually
reversed, removing as many of the pillars as possible while maintaining the safety of the mining
operation. Only 50 to 60 percent of the coal can be removed using room and pillar techniques. The
remaining coal must be left in the coal seam as roof supports.
Three techniques used in room-and-pillar mining are hand-cut, conventional, and continuous
mining. In hand-cutting, the coal is undercut, blasted from the face, and then hand loaded onto shuttle
cars. This method has been almost completely replaced in the U.S. by conventional and continuous
mining, which mechanizes the process. In conventional mining, separate machines are used to cut,
drill, and load the coal. Continuous mining uses a continuous miner machine that combines cutting,
drilling, and loading in one operation. This technique does not involve blasting, thereby greatly
increasing the safety of the mining operation.
The second underground mining method is longwall mining. It presently accounts for about
one-third of the underground coal mined. This method uses a cutting machine installed under movable
roof supports; the supports are advanced as the seam of coal is removed. The roof in the mined-out
area is then allowed to fall in. A cutting machine may be either a shearer or a plow; shearers are
more commonly used. A shearer has one or two drums fitted with bits; it cuts up to 36 inches of coal
from the face with each pass. The shearer also cuts the coal into chunks approximately two inches
wide, essentially eliminating the crushing and breaking step of coal preparation. A plow has a blade
fitted with bits or a saw-tooth edge that cuts the coal face into slices.
Productivity at longwall mines (in tons of coal per labor hour) is up to five times that at room-
and-pillar mines. In addition, longwall mines can recover 80 percent or more of the coal in a seam.
The longwall mining technique is not suitable if the thickness or inclination of the coal seam varies
excessively, restricting the wider use of the technique.
In a few cases in the U.S., a shortwall technique has been adopted where continuous miner
machines are used under movable roof supports. The panels of coal mined are usually narrower and
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shorter than in longwall mining, but this method allows greater flexibility because of the smaller
working area.
Surface Mining
At shallow depths, surface raining is generally the least expensive, safest, and most efficient
method of mining coal. Surface mining involves large-scale earth moving operations where the
overburden (rock and soil above the coal seam) is removed, and the coal is extracted. The overburden
is returned to the pit after the coal is removed. Coal recovery rates are typically 80 percent in eastern
surface mines and 90 percent or more in western surface mines.
The productivity and costs of surface mining are principally a function of the amount of
overburden (in cubic yards) that must be excavated per ton of coal; this ratio is known as the
overburden ratio. The lower the ratio, the less costly the coal is to mine. In general, western surface
mines have the lowest overburden ratios (many are less than 2 cubic yards per ton of coal). In
contrast, eastern mines usually have overburden ratios of 15 or greater.
There are three main methods of surface mining: strip mining, open-pit, and contour mining.
Strip mining is used on flat or gently rolling terrains using a large excavation machine called a
dragline. The dragline drags a large bucket, suspended from the end of a high boom by a series of
cables, across the excavation area to scoop up overburden. The overburden is removed in long strips,
with the material excavated from one strip redeposited in an adjacent, previously mined area.
Open-pit mining is often used when the thickness of the overburden or the coal seam is too
great for the dragline to handle in one pass, or when the terrain is steeply inclined. In open-pit mining
method, power shovels and trucks are typically used to excavate both the overburden and the coal,
creating a hole or open pit. As the coal is removed, the overburden is returned to the previously
mined portions.
Contour mining is used mostly in the eastern U.S. where surface mines are located in hilly or
mountainous terrain. This method of surface mining begins with an initial cut in a hillside at a point
where the coal outcrops. Successive cuts are then made into and around the hillside until it is no
longer economically feasible to remove the overburden. At this point, augers may be used to drill 100
feet or more into the coal bed, or a small drift mine may be opened to remove the more deeply buried
coal.
Since 1970, an increasing proportion of the coal mined in the U.S. has come from surface
mines, primarily from newer western surface mines. In 1970, underground mines produced nearly 60
percent of the coal, almost all of it in the East. Now, approximately 60 percent of U.S. coal
production comes from surface mines, and in turn about 60 percent of all the surface production comes
from the West. These changes, both in regional production patterns and in mining methods, have led
to substantial shifts in labor productivity and in regional employment.
2.2.3 Processing Coal Prior to Transportation
The second stage of coal production is processing. Most coal undergoes some form of
processing before it is loaded for transportation. If the chunks of coal are too large, crushers and
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breakers are used. Screens may then be used to separate the coal chunks into different sizes, both to
meet market requirements and to match the specifications of the various cleaning devices if the coal is
to undergo further preparation. The coal may then be washed to remove impurities from the coal, and
dewatered and dried to remove excess moisture prior to shipment. In addition, different coals may be
blended to create a product suited to the customer's requirements. For example, a high-sulfur coal
may be blended with a lower sulfur coal to produce a sulfur level acceptable to the customer. Coking
operations often use coal blends from several sources to meet tight specifications for coal quality and
consistency.
Coal may be cleaned to upgrade its quality and heating value. Coal is cleaned by removing
non-organic sulfur, rock, clay, and other ash-producing material, as well as material introduced during
mining, such as wire and wood. Most coal cleaning is based on the principle that coal is lighter than
rock and other impurities mixed or embedded in it The rock and impurities are removed by various
mechanical devices using pulsating water currents, rapidly spinning water (centrifuging), and liquids of
different densities. Finely sized coal particles can also be cleaned using froth flotation. This is a
chemical and physical process where the coal adheres to air bubbles in a reagent and floats to the top
of the washing device, while the refuse sinks to the bottom.
The amount of preparation required depends on the customer's specifications. Nearly all coal
undergoes, at a minimum, crushing, breaking, and sizing. About two-thirds of the coal mined in the
East for electric power plants is cleaned, whereas most of the western coal is simply crushed and
screened to remove extraneous material before being shipped. Nearly all metallurgical coal undergoes
a high level of cleaning.
Over 700 coal preparation plants are operating in the United States, almost all of them in the
East. They vary widely in the level of cleaning, and range in capacities from 200 tons to 30,000 tons
per day. Most of the preparation plants are located at or near mine sites. Others are centrally located
to service a specific group of mines.
2.2.4 Industries that Use Coal
Over three-quarters of the coal that is mined is used to generate electricity. Demand for coal
for electricity has risen steadily because use of coal is less expensive than use of oil or gas, and
because nuclear power generation has had problems in development.
Industrial demands for coal account for about 8 percent of coal production. Industrial uses
include (1) steam production for space heating or industrial process heat, (2) cement and lime kiln use,
and (3) regeneration (production of both steam heat and electricity).
Coke production represents the third largest use of coal, accounting for 4 percent of
production. The iron and steel industry, foundries, and other industries use coke made from
metallurgical coal. Coke-making was once a larger market for coal, but demand for metallurgical coal
has fallen with the decline of U.S. iron and steel production levels, increased steel imports, improve-
ments in blast-furnace technology, increased recycling of scrap iron, and increased substitution of other
materials in place of steel.
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Minor amounts of coal (about 1 percent of production) are used domestically for transportation
and for residential and commercial heating. Coal exports account for about 10 percent of production.
2.3 ECONOMIC AND FINANCIAL CONSIDERATIONS
Economic and financial considerations are likely to play a major role in the decisions to close
coal mines as a result of the CAA. This section provides information on the trends in the economic
and financial condition of the industry, as well as a brief discussion of how the CAA is likely to affect
the industry.
2.3.1 Financial Health of the Coal Mining Industry
Median profits of coal mining firms have fluctuated in recent years, and in 1992 were lower
than at any time in the past five years, as shown in Exhibit 2-2. (This exhibit shows combined data
for SIC codes 1221 and 1222.) The median ratio of profits before taxes divided by tangible net worth
(tangible assets minus liabilities) was 10 percent in 1991, after ranging up to 20 percent in the
previous four years. The median ratio of profits before taxes as a percentage of total assets was 3.9
percent in 1991, but ranged up to 8.1 percent in the previous four years.
EXHIBIT 2-2
PROFITABILITY AND RELATED FINANCIAL RATIOS
FOR BITUMINOUS COAL MINING FIRMS3
(Median Values)*
Ratio
% Profit Before Taxes/Tangible Net Worth
% Profit Before Taxes/Total Assets
Sales/Total Assets
Debt/Worth
Yearc
1987
13.3
6.5
1.7
1.7
1988
16.1
4.6
2.1
2.4
1989
20.0
8.1
1.8
1.8
1990
18.9
7.9
2.0
1.8
1991
10.0
3.9
1.6
1.7
a SIC Codes 1221 and 1222.
b For each value shown, half of the firms in the sample had a higher financial ratio and half had a lower
ratio.
c Year is year of ending period for most of the financial data included. For example, 1991 includes data
from financial years ending from July 1991 through March 1992.
Source: Robert Morris Associates, RMA Annual Statement Studies 1992 (Philadelphia: Robert Morris
Associates) 1992, pp. 788-789.
Other financial ratios have remained more stable. The median ratio of annual sales to total
assets was 1.6 in 1991, but remained in a narrow range between 1.7 and 2.1 in previous years. The
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relative stability of the sales to assets ratio, combined with profitability ratios that appear to be
trending downward, suggests that coal mining profit margins may be shrinking. The median ratio of
debt to net worth was 1.7 in 1991, similar to values in three of the preceding four years.
2.3.2 Annual Coal Production and Prices
Coal production has increased fairly steadily from 566 million tons in 1974 to a peak of 1,018
million tons in 1990, falling slightly to 996 million tons in 1991.1'2 The present structure of the
industry has its roots in the Arab oil embargo of 1973-1974 and in the natural gas shortages of the
early 1970s. Anticipation of increasing oil prices, continued natural gas shortages and increasing
demand for electricity led to increased reliance on coal. Electric utilities, planning to meet future
needs with coal-fired generation, sought long-term contracts with large coal mining companies, or
created their own coal mining subsidiaries.
In the early 1980s, after oil prices had peaked, the demand for coal increased less quickly than
many firms had anticipated. Coal prices declined because of increased competition from oil and gas,
increased competition among coal suppliers, declining demand from the industrial sector, and a slump
in the steel industry. Many higher-cost mines were closed, and many small coal-mining firms were
forced to close or merge.
Coal Exports and Imports
International trade in coal, although substantial, does not have a dominant effect on the
domestic coal industry. Overall, the U.S. is a net exporter of coal.
Coal exports account for approximately 10 percent of U.S. coal production, with metallurgical
coal representing nearly two-thirds of all exports. Exports of coal to foreign electric utilities, cement
plants, and other industries have risen with widespread conversions from oil to coal prompted by oil
price rises in the 1970s. Canada remains the leading importer of U.S. coal. The U.S. also has
significant markets in Europe and the Pacific Rim. Export tonnages have risen from 81 million tons in
1984 to 103 million tons in 1992.3
The level of coal exports is influenced by a number of factors. Changes in the overall
economic conditions in the coal-importing countries, changes in the world's price of coal and oil, and
changes in international exchange rates have all influenced the levels of U.S. coal exports. During the
late 1970s and early 1980s, international competition increased as countries with coal reserves that are
easily mined, such as Australia, Colombia, South Africa, and China, entered the international coal
market. The result has been that the United States is often a high-cost supplier or on the margin. The
U.S., however, has been able to maintain a significant share of the market for several reasons,
including the stability of the U.S. coal supply, balance of trade and supply diversification considera-
tions, and ocean freight advantages to some destinations (mainly to Europe).
Projection of future coal exports vary considerably depending on the assumptions used. Coal
exports are expected to increase 150 percent by the year 2010, according to an estimate by the Energy
Information Administration (EIA) of the U.S. Department of Energy. EIA has pointed to the
elimination of coal production subsidies in Western Europe and rapidly increasing electricity demand
in Asia as factors in its projection that U.S. coal exports will rise to 250 million tons per year by
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2010.4 If, however, the U.S. remains a relatively high-cost producer, as some analysts expect, the
increase in exports may more modest.
Coal imports are much less important than exports, totalling less than one percent of U.S. coal
production. Total coal imports were less than 4 million tons in 1992. The coal was imported chiefly
from Canada, Colombia, and Australia. Coal imported from Canada went primarily to areas of the
U.S. not easily supplied by domestic sources. Some Colombian and Australian coal was purchased by
southeastern utilities with power plants located on coastlines or near ports.
2.33 Productivity Improvements and Technological Innovation
Coal miner productivity has increased steadily over the last 20 years. The development and
diffusion of improved technology has been a key factor underlying productivity gains. Larger, faster,
and more efficient machines, as well as improved mining methods, have been developed for both
underground and surface mining. Productivity gains have also resulted from an increase in the relative
use of surface mining, which is generally more efficient than deep mining. «
Miner productivity has more man doubled since 1975, from 1.7 tons per direct labor hour to
4.2 tons per hour (see Exhibit 2-3).5 Western surface mines have the highest productivity, with 12.3
tons per hour in 1992. The higher productivity is largely due to western surface mines having thicker
coal beds and less overburden. Western deep mines are also more productive than the national
average, with 5.1 tons per hour in 1992. Productivity in eastern mines is lower than the national
average, ranging from 2.6 tons per hour in surface mines to 3.1 tons per hour in deep mines.
Productivity in an individual mine usually decreases over time. This is because the more
economic seams (i.e., the thicker seams, closer to the surface) are generally mined first. Over time,
new mining operations will progressively move to thinner and deeper seams. This is true for surface
mines as well as deep mines; in surface mines, there is a gradual increase in overburden ratios (i.e.,
the cubic yards of overlying material removed per ton of coal mined).
2.3.4 Employment Trends
The growth in labor productivity has been faster than the growth in coal demand and, as a
result, the size of the coal mining labor force has declined since the 1970s. National coal miner
employment has fallen steadily since 1975 by an average of 4,000 miners per year. Whereas 184,000
"full-time equivalent"6 miners were employed in 1975, employment fell 37 percent to 116,000 in
1992 (See Exhibit 2-4).7'8 These figures include only direct mining employment; professional or
clerical workers at the mine or plant are excluded.
From 1975 to 1992, employment declined the most in the Appalachian region: Ohio (down 64
percent), Pennsylvania (down 61 percent) and West Virginia (down 49 percent). Coal-mining states
that experienced an increase in coal mining employment were western: Texas, Wyoming and
Montana.
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EXHIBIT 2-4
COAL MINING EMPLOYMENT, 1975 - 1992a
(FULL-TIME EQUIVALENT POSITIONS)1*
State
West Virginia
Kentucky
Pennsylvania
Virginia
Illinois
Ohio
Wyoming
Texas
Indiana
Montana
Other States
National Total
Year
1975
50,048
32,768
33,639
12,755
13,935
13,569
2,792
631
3,780
671
19,510
184,098
1980
49,744
40,252
33,552
15,259
18,863
13,463
6,004
2,702
5,705
1,340
30,136
217,020
1985
33,349
31,562
20,819
11,758
15,610
9,082
4,759
3,635
5,537
1,056
22,815
159,982
1990
29,443
30,726
16,193
10,887
11,198
6,503
4,189
3,685
4,561
930
18,820
137,136
1992C
25,605
25,007
13,257
9,521
9,458
4,895
4,279
3,711
3,582
932
15,842
116,089
a The ten states shown accounted for 84 percent of coal production and 90 percent of coal
mines in 1991.
Data on direct labor hours in coal mining were divided by 2,000 to estimate the number of
full-time equivalent positions. Only direct mining employment is shown; professional and
clerical workers at the mine or plant were excluded.
c Because only data from the first three quarters of 1992 were available, data for the third
quarter were counted twice to obtain an estimate of employment for all four quarters of 1992.
Source: United States Department of Labor, Mine, Safety and Health Administration data on
employment as tabulated in ICF Resources, Coal Industry Trends in Production, Union
Participation, and Productivity, 1974-1992 (Fairfax, VA: ICF Resources), January 1993.
Capacity Utilization
The percentage utilization of coal mining capacity has declined substantially in recent years,
from 93 percent in 1986 to 80 percent in 1991, as measured by the U.S. Department of Energy (the
Department did not measure utilization rates in the intervening years).9'10 Figures on coal mining
capacity utilization estimated by the U.S. Federal Reserve Board also show a decline in utilization,
from 87 percent in 1988 to 82 percent in 1992.11
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Capacity utilization has been declining because coal production has leveled off while
productive capacity continues to rise (due to increases in labor productivity and the opening of new
mines). Excess capacity in the coal industry results in competitive pressures to offer coal at a lower
price than competitors and sell more coal.
23.6 Effect of the Clean Air Act on the Coal Mining Industry
Although the 1990 CAA Amendments do not impose any specific regulatory burden on the
coal mining industry, the requirement in Title IV of the Amendments that utilities must hold an
"allowance" for every ton of sulfur dioxide they emit will shift the demand for both high- and low-
sulfur coal. Utilities will demand more low-sulfur coal, and they will be willing to pay a higher price
for it, because they do not need to hold as many allowances if they burn low-sulfur coal. At the same
time, utilities will demand less high-sulfur coal, and they will be willing to pay less for it, because its
use requires them to hold more allowances.
Regional Effects of Shifts in Demand for Low-Sulfur and High-Sulfur Coal
The total amount of coal that will be produced nationwide is projected to remain essentially
unchanged under Title IV, as shown in Exhibit 2-5. This exhibit shows that U.S. coal production in
the year 2000 with Title IV is projected at 1,122 million tons, whereas it would be an estimated 1,112
million tons without Title IV. (Coal production is projected to be marginally higher with Title IV
because of increased demand for Western low-sulfur coal, which has a lower energy content — thus
more of this coal must be burned to produce the same amount of energy.) Although total U.S. coal
production is projected to be essentially the same with or without Title IV, coal production in some
regions will be lower in the year 2000 than it would be in the absence of Title IV, while in other
regions it will be higher than it would be without Title IV, because certain coal-mining regions of the
country have predominantly high-sulfur coal, while other regions have predominantly low-sulfur coal.
In regions where coal production will be lower with Title IV than it would be without Title
IV, coal production is projected to change very little from production levels in 1991, as shown in
Exhibit 2-5. Essentially constant production in these regions implies that if a substantial number of
mines close in these regions due to the exhaustion of economically recoverable coal reserves, other
mines will open to take their place. Moreover, the 1990 CAA Amendments include two provisions to
mitigate the effects on high-sulfur coal producers and regions. First, §404(a)(3) provides for bonus
allowances to be allocated to units in Illinois, Indiana and Ohio - units that in the past have relied
heavily on high-sulfur coal - so that continued use of high-sulfur coal will be more economical for
these units. Second, Section 415 provides incentives for the development of new or emerging clean
coal technologies that would reduce the S02 or NOX emissions from coal combustion. Such
technologies would likewise facilitate the continued use of high-sulfur coal for generating electricity.
Exhibit 2-5 shows the forecasted coal production in the year 2000 with and without Title IV,
as well as historical coal production for the years 1985 and 1991, in three coal producing regioas that
have historically mined substantial amounts of higher sulfur coal, and in the U.S. as a whole. In two
of the three regions, coal production is projected to be lower with Title IV than it would be without
Title IV, but in both of these regions coal production in the year 2000 is little changed from coal
production in 1991, the most recent year for which figures are available.
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EXHIBIT 2-5
FORECASTED COAL PRODUCTION IN 2000
WITH AND WITHOUT THE CLEAN AIR ACT AMENDMENTS (CAAA),
COMPARED TO HISTORICAL COAL PRODUCTION:
SELECTED REGIONS AND NATIONAL TOTAL
(Millions of Tons)
19851
19912
Year
2000
Without
CAAA3
Kort&ess Af^ateefeia ^
Low and Low-Medium Sulfur
Medium to Very High Sulfur
Metallurgical/ Anthracite
Regional Subtotal
162
154
Centra! Appalaebia J' ; ,••
Low and Low-Medium Sulfur
Medium Sulfur
Metallurgical
Regional Subtotal
245
277
9
142
19
170
161
55
67
283
Year 2000
With
CAAA3
Change In
Coal
Production
With
CAAA
13
122
19
154
4
(20)
0
(16)
- ; "
215
28
68
311
JSs&Swgst , - --^ " ,N-
Low and Low-Medium Sulfur
Medium to Very High Sulfur
Metallurgical
Regional Subtotal
133
131
1
172
0
173
1
125
0
126
J^aaS totals ~ '^ " • " '••'".
Low and Low-Medium Sulfur
Medium to Very High Sulfur
Metallurgical/Anthracite
National Total
881
994
239
781
92
1,112
301
729
92
1,122
54
(27)
1
28
'
0
(47)
0
(47)
f
62
(52)
0
10
Note: Numbers in parentheses represent negative values.
1DOE/EIA Coal Distribution January-December 1985, DOE/EIA-0125(85/4Q).
2DOE/EiA Coal Distribution January-December 1991, DOE/EIA-0125(91/4Q).
3Coal and Electric Utility Model "base case" forecasts prepared for the 1994 draft of the Title IV Economic
Analysis (U.S. Environmental Protection Agency, Office of Air and Radiation, Acid Rain Division, Economic
Analysis of the Title IV Requirements of the 1990 Clean Air Act Amendments - Draft, February 1994.)
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As shown in the exhibit, coal production is projected to be lower in Northern Appalachia and
the Midwest under Title IV, compared to production in the absence of Title IV, because production of
higher sulfur coal is markedly lower, and production of lower sulfur coal does not increase to make up
the difference. However, projected coal production in Northern Appalachia in 2000 with Title IV is
the same as historical production in this region in 1991. Similarly, projected coal production in the
Midwest in 2000 with Title IV is only 4 percent lower than historical production in this region in
1991. Thus the forecasted impact of Title IV on coal production in these regions is to hold production
essentially constant at 1991 levels. In other words, these regions will not experience the growth in
coal production that would have been expected in the absence of Title IV. Exhibit 2-5 also shows that
in Central Appalachia, production of medium sulfur coal is also lower under Title IV, but that
production of lower sulfur coal increases markedly, with the result that coal mining in this region is
expected to benefit under Title IV. Exhibit 2-6 graphically shows the expected shift in total coal
production for all regions. Coal production in the year 2000 has been projected to be lower in
Northern Appalachia and the Midwest than it would be without Title IV, but to be significantly higher
in Central Appalachia, Production in the Northwest Great Plains and the Rocky Mountains (not shown
in Exhibit 2-5) is also forecasted to increase. Effects of Title IV on total coal production in other
regions were projected to be less significant.
Impacts on International Trade and Competitiveness
It is possible that implementation of Title IV, in leading to an increase in the price of low-
sulfur coal in the U.S. market, will reduce exports of low-sulfur coal. Conversely, the lower price of
high-sulfur coal may lead to increased exports of high-sulfur coal. EPA has not estimated the
magnitude of these impacts.
Mine Closures Attributed to the Clean Air Act
There have been only limited news reports on coal mine closures attributed to the CAA.
Sixteen Illinois mines were projected to close beginning in 1995 as a direct result of decreased demand
for high-sulfur coal under the 1990 CAA Amendments; the closures will reportedly result in the loss
of up to 23,000 mining jobs.12 This figure appears to be exaggerated, since there are only about
10,000 full-time equivalent coal mining positions in Illinois today. In more general terms, one report
stated that "dozens" of union mines nationwide will close before 1995 as utilities switch to low-sulfur
coal.13 This projection is consistent with EPA's estimate that demand for high-sulfur coal will
decrease somewhat under the CAA.
23.7 Other Issues Affecting Mine Closure Decisions
In addition to profitability, productivity, and the other economic and financial factors described
above, additional factors may affect a decision on whether to close an individual mine. These factors,
which include the mine's location, its long-term contracts, and its costs of production, are briefly
discussed in this section.
Competitive Advantages Due to Location
A coal mine that is closer and has less expensive transportation links to a given coal-burning
utility plant or industrial user is more likely than other mines to win the coal supply contract for the
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plant, all other factors being equal. A coal mine with this advantage, however, may be at greater risk
of closure in the event the plant ceases operation, unless it has competitive transportation links to other
coal users.
Long-Term Coal Supply Contracts
A coal mine often holds one or more long-term supply contracts guaranteeing that it will
supply a certain utility or industrial plant a set amount of coal every year; the plant in turn guarantees
the coal mine that it will pay a set price for the coal. High-sulfur coal mines have higher risk of
closure after its supply contracts expire. When the contracts expire, the buyers may choose to switch
to low-sulfur coal and not renew the contracts. Alternatively, if the buyers continue using high-sulfur
coal, high-sulfur coal mines must be able to supply high-sulfur coal at the new, lower market price or
the buyer will turn to a different supplier. In some cases, utilities negotiate their release from long-
term coal supply contracts by negotiating a payment acceptable to the coal mine operator. In this case,
the contract is voided and the mine may be closed if it cannot make a profit selling coal at the new
market price.
Long-term supply contracts may lead to the opening of new high-sulfur coal mines, even as
other high-sulfur mines are closed. For example, to help meet its long-term supply contracts, the Arch
Mineral company opened a new high-sulfur coal mine in Conant, Illinois in 1992.
Depletion of a Mine's Coal Reserves
Unlike a factory, a mine cannot operate indefinitely. Its reserves are finite, and at some point
they will be exhausted. Moreover, because the coal that is easiest to reach is often mined first, the
labor hours and machinery time required to extract each ton of coal may increase over the life of the
mine. At some point, it becomes uneconomical to continue mining coal, and the mine must close.
The point at which further mining becomes uneconomical depends primarily on the market price for
the type of coal being mined, and to a lesser extent on the costs of transporting the coal to potential
users. A decrease in the market price for high-sulfur coal will advance the time at which continued
mining of a high-sulfur coal mine becomes uneconomical.15
Some news reports have acknowledged that depletion of a mine's reserves can lead to closure
of the mine. Chevron closed a Midwestern mine in 1989 because its reserves were nearly depleted,
while a report on unionized coal miners stated that the average miner works in a mine with only seven
years of production left.16'17 Historically, the lifetime of a mine has generally ranged from 20 to
50 years, suggesting that an estimated 2 to 5 percent of all mines will close each year.
Different Costs of Labor at Different Mines
Mines that are unionized have a higher cost per labor hour than non-unionized mines. Unless
the labor costs are offset by increased productivity, unionized mines may have higher production costs.
When a coal buyer chooses where to buy its coal, it is likely to choose a mine with lower production
costs, if that mine can sell its coal at a lower price. A utility or industrial plant may make a choice
when it is negotiating for a long-term supply contract, or when it owns a mine. For example,
Pennsylvania Power and Light attributed its decision to close jts unionized mines and buy coal from
another firm in part to the high cost of union-produced coal.
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Anticipated Technological Improvements and Productivity Gains
Further gains in coal mine productivity may lead to continued declines in coal miner
employment, even though coal production is expected to increase steadily. Increases in productivity
will likely lead to shifts in production among mines, as well: As improved technology allows some
types of mines to improve their productivity more rapidly, other types of mines may become less
competitive and be forced to close.
The U.S. Bureau of Mines has been directing research to develop technologies to improve the
efficiency and productivity of mining operations, and at the same time to improve the health and
safety of mine workers. The Bureau of Mine's Automation in Mining Research Program is developing
technologies that would enable the relocation of human workers to more protected and healthier work
environments.19 Computer-assisted machines to perform the most hazardous tasks will probably be
introduced in the next 10 to 20 years. Guidance technology and intelligent control systems are being
developed that will navigate autonomous mining vehicles. A computer-assisted continuous mining
machine has been tested by the U.S. Bureau of Mines in an underground coal mine in Pennsylvania.
Competition from Other Fuels, Electricity Generating Technologies
Total U.S. demand for coal is affected largely by the number of coal-burning plants operated
by electric utilities. As prices of oil, coal, and natural gas fluctuate relative to each other, and as new,
more efficient electric generating technologies are developed for some types of fuel, utilities may
increase or decrease their total coal-burning plant capacity. A decrease in their capacity would lower
the demand and the market price for coal, and could force some mines to close.
Shutdown Cost Issues
Operators of surface mines are required to reclaim the lands they have mined after they close
the surface mine. If the cost of reclamation could be deferred until the mine was closed, it could
provide an incentive to continue operating a mine beyond the point when it would ordinarily be
closed. However, operators are required under the Surface Mining Control and Reclamation Act of
1977 to post a reclamation bond with the permitting agency prior to receiving a permit to engage in
coal mining. The bond must be sufficient to assure completion of the reclamation if the mine operator
should fail to do so. Because each operating surface mine has already set aside the costs of mine
reclamation, the costs of reclamation cannot be postponed. Therefore the reclamation requirement
does not provide any incentive to continue operating a surface mine after mining operations become
unprofitable.
2.4 DETERMINING THE EXTENT TO WHICH A GIVEN MINE CLOSURE MAY BE
ATTRIBUTABLE TO THE CLEAN AIR ACT
As discussed above in Section 2.3.7, every coal mine will close eventually as it runs out of
recoverable coal or its costs of production rise above the market or contract price for coal. A sharp
decline in the demand for high-sulfur coal due to the 1990 CAA Amendments will reduce the market
price of high-sulfur coal and lead to closures of high-sulfur coal mines earlier than would be expected
in the absence of the Amendments.
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Factors other than the CAA that could be partly responsible for the closure of a given mine
have been discussed above in Section 2.3.7. Some of these factors may be interrelated; for example, a
mine that is nearing the end of its recoverable coal reserves may also have lower productivity and
lower profits than the average mine. In brief, the factors other than the CAA that may lead to closure
of a coal mine are as follows:
• profits for a given mine may not meet required levels
» productivity for a given mine may be declining
* capacity utilization at a given mine may be too low (this implies that the fixed costs of
maintaining a certain productive capacity are spread over fewer tons of coal produced,
leading to a higher average cost per ton of coal produced)
• an industrial plant supplied with coal from a given mine may close, or switch to
another type of fuel.
In contrast, mines that have Jong-term coal supply contracts or that are located near a major
coal purchaser may remain in operation longer than market conditions would indicate. Finally, the
assumptions underlying the estimates in the EPA analysis of expected demand shifts for coal may need
to be revised over time. For example, more coal mines may close than currently expected if (1)
electric utilities unexpectedly reduce their reliance on coal, (e.g., to react to changing fuel prices or
advances in generation technologies) or (2) coal mining productivity improves more quickly than
currently anticipated. Conversely, fewer mines may close if coal exports increase more than currently
anticipated.
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CHAPTER 2 ENDNOTES
1. ICF Resources, Coal Industry Trends in Production, Union Participation, and Productivity,
1974-1992 (Fairfax, VA: ICF Resources) 1993, p. A-34.
2. U.S. Department of Energy, Energy Information Administration, Coal Production 1991
(Washington, D.C.: U.S. Department of Energy) 1992, p. 18.
3. U.S. Department of Energy, Energy Information Administration, "Quarterly Coal Report,
October-December 1992" (Washington, D.C.: U.S. Department of Energy) 1993, p. 38.
4. "U.S. Coal Exports to Jump by 2010, Says EIA Report," Energy Daily, July 8, 1991.
5. The productivity figures presented here are based on labor hours reported by coal companies to
the U.S. Department of Labor, Mine Safety and Health Administration. Because labor hours
worked by temporary miners are often not reported, and because coal mines reportedly have
hired more long-term temporary help in recent years, the productivity figures shown here may
be slightly overstated.
6. Full-time equivalent employment was estimated here by dividing total direct labor hours by
2,000 (40 hours per week times 50 work weeks per year).
7. ICF Resources, Coal Industry Trends in Production, Union Participation, and Productivity,
1974-1992 (Fairfax, VA: ICF Resources) 1993, Appendix C.
8. The employment figures presented here are based on labor hours reported by coal companies
to the U.S. Department of Labor, Mine Safety and Health Administration. Because labor
hours worked by temporary miners are often not reported, and because coal mines reportedly
have hired more long-term temporary help in recent years, the number of employees shown
here may be slightly understated.
9. U.S. Department of Energy, Energy Information Administration, Coal Production 1986
(Washington, D.C.: U.S. Department of Energy) 1987, p. 96.
10. U.S. Department of Energy, Energy Information Administration, Coal Production 1991
(Washington, D.C.: U.S. Department of Energy) 1992, p. 68.
11. Richard Raddock, Federal Reserve Board, personal communication with William Driscoll, ICF
Incorporated, September 24, 1993.
12. "Undermined: Illinois Coal Workers Face Bleak Future," St. Louis Post-Dispatch, July 6,
1992, p. BP12.
13. "Hanson totally supports Peabody coal," PR Newswire, June 25, 1993.
14. "Arch posts $10 million loss; opens 4th Illinois mine," St. Louis Business Journal, November
3, 1991, p. A9.
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15. "Two midwestem utilities lean toward fuel-switching," Coal, March 1993, p. 21.
16. Chevron Corporation, Annual Report 7959.
17. Ritter, John, "Coal Strike is Critical Battle; Miners Say Key Issue Is Job Security," USA
Today, July 28, 1993, page 3A.
18. Berss, Marcia, "Against the Wall," Forbes, July 5, 1993, p. 43.
19. Fisher, Thomas, "Harnessing High Technology for Miner Safety, Productivity", Landmarc,
July/August 1989, pp. 14-15.
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ELECTRIC UTILITIES
CHAPTER 3
3.1 INTRODUCTION
Air emissions from the electric utility industry have been regulated for decades. The 1970
Clean Air Act and subsequent amendments required electric utilities to reduce their SO2 and
paniculate emissions during the 1970s and 1980s. This was accomplished primarily through state
implementation plans (SBPS) developed to meet National Ambient Air Quality Standards (NAAQS),
which set limits for existing plants, and New Source Performance Standards (NSPS), which set
emissions limits for new units. As a result, the vast majority of national SO2 and TSP (total
suspended paniculate) reductions in the U.S. that have occurred under the Clean Air Act have come
from electric utility sources. Provisions of the CAA that require periodic re-evaluation of the NAAQS
for SOX, NOX, and paniculate matter (PM) emissions could impose new requirements on the electric
utility industry in the future if the re-evaluations lead to more stringent ambient standards. NSPS and
best available control technology (BACT) requirements may also affect new sources or existing
sources, which become subject to the modification or reconstruction rules when refurbishing to extend
the life of power plant units.
The 1990 Clean Air Act (CAA) Amendments contain several provisions that regulate
emissions from electric utilities:
• Tide I. Title I contains provisions related to the national ambient air quality standards
(NAAQS). Tide I will affect electric utilities, especially those located in or near ozone
nonattainment areas (e.g., the Northeast Ozone Transport Region), and near Class I
areas (e.g., national parks). Title I requires the reduction of volatile organic compound
(VOC) and NOX emissions. Title I imposes costs on utilities in two ways. First,
electric utilities emit a large share of the NOX emissions, and thus could be one of the
key targets of NOX Reasonably Available Control Technology (RACT) requirements.
That is, many utilities will be required to install additional control technology at
existing plants to reduce NOX emissions. Second, Title I may increase the cost to
utilities of increasing their generating capacity. Owners of stationary sources
exceeding certain emission thresholds and located in certain areas may not build new
facilities or expand existing facilities unless they obtain emission "offsets"
(corresponding or greater reductions in emissions from other sources in the same area).
That is, the owners must be able to demonstrate that total emissions in an area will
stay the same or decrease.
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• Title III. Title III contains provisions restricting the emissions of toxic air pollutants.
It is uncertain whether electric utilities will be affected by Title III until the results of
a study required by the Act are released. The potential impacts of Title ID
requirements could be substantial.
• Title IV. Title IV contains provisions related to the emission of acid rain
precursors—sulfur dioxide (S02) and nitrogen oxides (NOX). The acid rain provisions
will have the most significant effect by limiting nation-wide SO2 emissions to
approximately 50 percent below 1980 levels and by creating a market-based SO2
allowance system. Electric utilities are allocated a number of SO2 allowances and
must either reduce emissions to equal the number of allowances allocated or purchase
additional allowances. The source may either switch fuels, add control technologies,
reduce emissions by some other method or purchase additional allowances. Most of
these methods will require additional expenditures. Other significant provisions of
Title IV include (1) the requirement that electric utilities install continuous emission
monitors (CEMs) to verify compliance and (2) limitations on emissions of nitrogen
oxide (NOX) at most coal-fired boilers. These provisions are likely to result in
installation of NOX controls at most of these boilers.
• Title V. Title V implements a permitting process. Title V will require electric
utilities to pay emission fees and to apply for operating permits for every emission
source.
The remainder of this chapter provides a background perspective of the electric utility industry
and describes key issues that would need to be analyzed in depth to determine, more specifically,
(1) which units could shutdown as a result of the Clean Air Act requirements, and (2) how plant
location could be affected. Section 3.1 summarizes the likely impacts of the Clean Air Act on
decisions to close or relocate electric generating plants. Section 3.2 provides a description of the
industry followed by the plant location and shutdown criteria in Section 3.3.
3.1.1 Summary of Findings
Requirements under the 1990 CAA Amendments are unlikely to have a major effect on
decisions to close existing plants. For utilities, the most significant part of the 1990 CAA
Amendments — Title IV — is relatively flexible, in that it allows for emissions trading and averaging.
This will tend to allow utilities to avoid very significant costs from specific requirements associated
with installing new pollution control equipment at most older, less efficient units. In addition, most
utilities will be able to obtain approval for rate increases to cover the costs of meeting the Clean Air
Act requirements.
For most older units, the investments needed to extend the life of the unit may make economic
and financial sense compared to the capital investments and total costs of building a new facility. In
general, most utilities have made or plan to make refurbishment investments in the older units. The
costs that are likely to be required to comply with requirements under the 1990 CAA Amendments at
most of these units are unlikely to change most of these incremental decisions.
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In some cases, however, necessary modifications to units may trigger CAA provisions
requiring new source review and require additional controls (e.g., Best Available Control Technology)
and thus additional expenditures. Also, potentially significant "command and control" requirements
under the 1990 CAA Amendments (e.g., NOX controls under Title I or air toxics controls under Title
III) may apply to modified units. These additional costs, coupled with the costs of refurbishing, may
render refurbishment uneconomical, causing the closure of an existing plant. The most likely
candidates to require refurbishment (and hence, the potential candidates for shut down) are smaller
units that will be 40 years of age or older by 2000 (i.e., units on-line in 1960 or earlier). Although the
approximately smaller units that will be more than 40 years old in 2000 account for one-third of all
coal-fired units, they account for only 6 percent of the total coal-fired generating capacity.
3.2 INDUSTRY DESCRIPTION
The electric utility industry differs from typical manufacturing industries affected by the Clean
Air Act in that prices and costs are subject to a high degree of regulation, which historically has
protected the industry from open competition, but which has limited profit potential and has subjected
the industry to significant risks of under-recovering investments. Increasing deregulation in recent
years has subjected utilities to increasing competition for new power markets from independent power
producers and cogenerators and will soon subject them to similar pressures in the wholesale power
markets. The background information discussed below includes a brief overview of the industry,
focusing on the different types of electric utilities, utility regulation, the financial health, international
trade and competition, electricity demand, capacity excess or shortfall, employment trends,
geographical trends, economies of scale and industry cost trends, and technological diversity.
3.2.1 Overview of Process and Products
The electric utility industry includes investor-owned utilities and publicly-owned utility entities
(including municipal systems and federal power entities such as the Tennessee Valley Authority).
Companies within the industry differ in institutional and regulatory arrangements, size, fuel type, and
fuel consumption. These companies are currently highly regulated at both the state and federal levels,
which protected them from open competition. As noted earlier, however, their regulation has recently
been relaxed in some states.
The electric utility industry is comprised of about 3,000 companies with four general types of
owners, as shown in Exhibit 3-1:
• Investor-Owned Utilities (IQUs). Approximately 206 lOUs represent about seven
percent of the total number of companies in the electric utility industry, but represent
about three-quarters of the size of the industry, as measured by electric utility capacity,
total electricity generated, and total dollar sales. Part of this concentration is explained
by the significant economies of scale in the power generation and electric transmission
and distribution businesses.
• Municipally Owned Utilities. The 1,810 municipally owned electric utilities are
generally very small in terms of generation and sales and often only own one or no
power plants. Some municipally owned utilities, however, are large, including the Los
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EXHIBIT 3-1
Electricity Generation By Owner -1990
Investor-Owned
78.4%
State, Public
5.2%
Federal 8.4%
Municipals 3.5%
Cooperatives 4.5%
Sourc*: Editor Bectnc Institute. Statistical Yearbook of *i« Electnc Utility Industry.
Angeles Department of Water and Power, the City of Antonio, and the Jacksonville
Electric Authority.
• Rural Electric Cooperatives. Rural electric cooperatives were established to help
electrify rural areas where transmission and distribution costs are high. Most of the
933 rural electric cooperatives are small and have no generating capacity. A few
cooperatives do have some generation capacity. Both types of rural electric
cooperatives are subsidized by the federal government.
• Federal Public Power Districts. Most of the 77 federally owned utilities are primarily
involved in flood control with electricity as a by-product of the river flow control.
Most federal power plants are hydroelectric except for the Tennessee Valley Authority
(TVA), which is the nation's largest consumer of coal.
As a result of federal regulations requiring utilities to purchase electricity in certain cases, a
significant amount of the electric generation capacity that has come on-line over the last decade is
owned and operated by private developers, rather than by the regulated utilities. These non-utility
generators are comprised of two classes of power producers: qualifying facilities (QFs) and
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independent power producers (IPPs). These non-utilities are important players in the power generation
industry and are likely to play an increased role in the industry in the 1990s. It should he noted that
all parts of the industry, including QFs and IPPs, will be affected by the Clean Air Act. However,
coal-fired power plants in general will be affected the most by the Clean Air Act, especially the Title
IV acid rain provisions of the 1990 CAA Amendments.
3.2.2 Utility Regulation
Most U.S. electric utilities are monopolies (known as franchises) provided by state or local
authorities and are the only supplier of electricity within a given service territory. In exchange for the
advantages of a franchise, the state authorities (generally a state utility commission) regulate the
utility's rates while the utility serves the public's demand for power.
Rates for IOUs, which operate for profit, are theoretically set to allow them to recover all of
their costs as long as the costs are "prudently incurred." The costs that may be recovered include non-
capital cost items (e.g., fuel, O&M, and administration) and the costs of capital investments including
a reasonable profit (or rate of return) on invested capital. This rate-making arrangement is known as
"rate of return" or "cost-of-service" regulation.
Although the cost-of-service model of rate regulation is straightforward in concept, its
implementation in recent years has been complicated by disputes between utilities and the ratepayers.
For instance, substantial amounts of new nuclear and coal capacity came on-line in the late 1970s and
early 1980s, even as electricity demand was slowing. Some of these plants were completed at costs
that substantially exceeded earlier estimates. The "prudence" of incurring these costs was challenged
in many jurisdictions, and regulators in many cases disallowed substantial portions of the costs
incurred. In addition, although many jurisdictions have a more or less automatic pass-through of
changing fuel costs, some jurisdictions have challenged the prudence of utilities that entered into long-
term fuel contracts that, in hindsight, turned out not to benefit ratepayers. Many industry observers
believe that traditional cost-of-service regulations do not appear to provide utilities with the correct
incentives to lower costs and be innovative in providing services. In particular, cost disallowances in
the past have made utilities wary of making investments that may have attendant risks.
Federal authorities also regulate electric utility companies. Federal regulation is primarily
conducted by the Federal Energy Regulatory Commission (FERC) under the authority of the Federal
Power Act (FPA) and is limited to (1) wholesale transactions, and (2) interstate transactions. Along
with industry groups and local authorities, FERC shares responsibility for the regulation of the
electricity transmission grid system, which covers almost the entire U.S. and Canada. In addition, the
Securities and Exchange Commission (SEC) enforces the Public Utilities Holding Company Act
(PUHCA), enacted in 1933, which segregates and protects utility finances from other corporate
ventures.
Other regulations created more competition for utilities and provided opportunities for non-
utilities. The Public Utility Regulatory Policies Act (PURPA) was enacted in 1978 and required
utilities to purchase cogenerated and other categories of power produced by non-utilities. PURPA sets
the price for the electricity at the utility's "avoided cost" (the cost the utility would have incurred to
generate the power itself). As a result of PURPA, non-utilities provided over seven percent of the
electricity generation by 1988. According to analysis conducted for the acid rain regulations,
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independent power producers and qualifying facilities are expected to add 65 to 127 gigawatts of
capacity between 1990 and 2005.]
3.2.3 Financial Health
Analysis of the financial condition of utilities is compb'cated by the high degree of regulation
of utility operations and pricing structures. Further, given the rapid changes expected in the industry,
understanding the status of future utility rate regulation and deregulation may provide more
information about the future health of the industry than will analysis of current financial information.
Nonetheless, current financial statistics do provide an indication of current financial health and recent
historic trends in the industry condition.
As described above, state authorities regulate utilities to allow for the rates to cover costs that
are "prudently incurred." Historically, utilities have, in most cases, been less likely to suffer losses
than the average industrial company because of their ability, in general, to recover its costs through
rates. There have been, however, a number of cases where costs were disallowed for large nuclear and
(some coal-fired) power plants built during the 1970s and 1980s, which has led to significant impacts
on utility profitability. As a result, utilities are currently very reluctant to make major capital
expenditures.
Utilities became increasingly averse to large scale capital investments during the mid 1970s
and early 1980s. Over much of this period, utilities were awarded an inadequate return on their
investment by regulatory commissions. That is, utilities' actual earned returns on equity were below
the returns they required to ensure that shareholders received an adequate return, as illustrated in
Exhibit 3-2. As a result, utilities' financial positions worsened during the late 1970s and early 1980s,
and the market value of stocks declined as shown in Exhibit 3-3. Since the early 1980s, the market
price of utility stocks has fluctuated up and down as a result of uncertainty associated with new
potential environmental regulations and the prospects of increased competition and deregulation.
The electric utility industry also suffered from the high inflation during the 1970s and early
1980s. Utility construction costs soared and fuel costs increased rapidly, but electricity prices did not
keep pace, 'both because of regulatory lags in allowing recovery and because of cost disallowances.
As Exhibit 3-4 shows, the electricity price index lagged the increases in the fuel inputs (coal, gas, and
oil). Since 1983, increases in fuel costs have decreased while electricity prices have leveled out,
leading to improved financial performance for the industry.
Additional environmental and safety regulations and longer siting and permitting procedures
also contributed to rising capital expenditures and financial problems for utilities. These additional
requirements have increased the time required to receive a permit and to construct a facility. Whereas
this process would take only 3 to 4 years in the 1960s and early 1970s, it now takes almost 10 years.
These longer lead times have increasingly exposed utilities to fluctuations in electricity demand,
particularly in the 1980s when demand slowed down.
The future financial health of the electric utility industry appears uncertain. With lower
inflation and interest rates and with more limited capacity additions planned during the 1990s,
financial health has improved. Projections of the electric utility industry's future financial health,
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Exhibit 3-2
EARNED RETURN ON EQUITY VS. REQUIRED RETURN ON EQUITY
FOR THE ELECTRIC UTILITY INDUSTRY
1960-1985
Percent
20
18
16
14
12-
10
8
6
4
Earned Return
on Equity
\
Required Return
on Equity
1960
1965
1970
197S
1980
Source: ICF Incorporated, Impact of Capital Aversion on Utility Supply Planning. An Issue Paper from the
Alternative Electricity Supply Futures Study, prepared for the U.S. Department of Energy, May 1987.
however, are clouded by the prospects of increasing competition and deregulation. These factors will
likely serve to increase the volatility in utility revenue and profit growth in the future.
3.2.4 International Trade and Competitiveness
Unlike many other industries, the electric power industry is not subject to the extensive
international competitive pressures. Electricity trade, even among the U.S. and neighboring countries
(i.e., Canada and Mexico), has been very limited in the past because of constraints and inefficiencies
in transmitting electricity over very long distances. The net imports during the highest demand period
totalled about 50 billion kilowatt hours (bkwh) during the mid 1980s, most of which was imported
from Canada; imports have since declined. Peak imports equaled only about 2 percent of the total
U.S. electricity demand.
In the past, the U.S. has purchased much of Canada's surplus power because the price of
Canada's surplus hydropower is lower than the costs of incremental coal and oil/gas generation in the
U.S. Imports from Canada grew rapidly, from 27 bkwh in 1980 to 44 bkwh in 1987. Imports have
declined recently because of reductions in the amount of surplus power available for sale; drought in
3-7 r-~ , .-
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EXHIBIT 3-3
Weighted Average Market Prices of the Electric Utility Industry: 1965-1990
(1992$/share)
600
500
400
300
200
100
1965
1970
1975
SWUM: EtfKn Ofc'Mf MHUtt. SWfctctf YoMfeMfc el •» B«CMC UWy Mutfry.
1980
1985
1990
EXHIBIT 3-4
Producer Price Index for Electric Utilities and Fuel Imports: 1965-1990
(1982 = 100)
Canada has increased demand and reduced hydropower generation, and Canada's implementation of
acid rain controls has reduced utilization of coal-fired units. The use of Canadian imports is not
expected to increase significantly in the future because the construction of new Canadian hydropower
facilities has been delayed or cancelled for environmental and economic reasons, limiting the amount
of surplus Canadian power that can be sold to the U.S.
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3-2-5 Electricity Demand
Exhibit 3-5 shows that three major sectors demand electricity: residential, commercial, and
industrial. Projections of future electricity demand is uncertain, which complicates electric utility
decisions about future capacity additions. As shown in Exhibit 3-6, electricity demand is forecasted to
increase steadily (about 2.5 to 4.5 percent per year) through 2005. Exhibit 3-6 also shows that
electricity demand had been growing at very high rates (about 5 to 7 percent per year) prior to the
1973 OPEC oil price increase and that the rate of demand growth decreased in the mid-1970s.
EXHIBIT 3-5
Electricity Demand by Sector -1990
Residential 34.1%
Commercial 27.7%
Other 3.4%
Industrial 34.9%
Sourca: Enoigy Information Ag«ncy. Electric Powar Annual.
These changes in the growth of demand, coupled with the increasing lead times for
construction of new generating capacity, have meant that demand has not always met utility
projections. Although utilities are monopolies, their customers are sensitive to rate increases and may
reduce demand. Also, with the changing regulatory climate and increased competition from other
suppliers, large customers may purchase power from an entity other than the franchised utility. In
general, electric utilities will not permanently shut down a facility because of a decrease in demand,
although some units have been put in cold storage. Instead, because of the organization of electric
utilities, the surplus power may be dispatched to another area having increased demand.
3-9
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Exhibit 3-6
ACTUAL AND FORECASTED ELECTRICITY DEMAND GROWTH
(Percent per Year)
6
%/YEAR 4
Actual
Forecast EPA
Low Base Case
Forecast EPA
High Base Case
1968-1973 1974-1979 1980-1986 1986-1980 1990.1995 19954000 2000-2005
Source: ICF Incorporated, Regulatory Impact Analysis of the Proposed Add Rain Implementation Regulations, prepared for
EPA Office of Atmospheric and Indoor Aii Programs, Acid Rain Division, July 30, 1992.
3-10
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Sometimes demand exceeds projections, such as when electricity demand grows in areas where
capacity is not planned. In the short run, utilities will meet these additional demands through power
purchases or bringing units out of cold storage. Over a longer term, electric utilities will meet the
demand either by building additional peaking capacity or by using demand-side management
techniques (i.e., developing programs to encourage customers to use less electricity, especially during
peak periods) or other methods.
3.2.6 Capacity Excess or Shortfall
In the electric utility industry, the concept of "excess" capacity or shortfall is distinctly
different than in most industries. Most basic industries run all their facilities at or near maximum
capacity during economic expansion but idle or lose many facilities during recessions. The utility
industry always maintains a reserve margin to ensure reliability in providing power when needed.
Generally, electric utilities operate with about a 20 percent planning reserve margin. Exhibit 3-7
shows the total capability, which represents the actual generating ability (in megawatts), taking into
consideration maintenance, emergency outages, and operating requirements, compared to peak load (in
megawatts).
EXHIBIT 3-7
Total Summer Capability at Peak Load, Peak Demand, and
Reserve Margin: 1965-1990
800
700
600
500
400
300
200
100
Reserve Margin
Capability
Peak Demand
18.6% ,
1965
1970
1975
1980
1985
1990
Sou rc*»: Editon QccMc Institute, Statistical Ywrbook of the Electric Utility Industry.
Energy Information Administration Electric Power Annual.
3-11
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Exhibit 3-8 presents the amount of coal capacity and number of coal units placed on-line for
given periods. During the 1960s and 1970s, the industry built substantial amounts of capacity
(primarily coal and nuclear units), and continued to plan for growth based on historic growth in
electricity demand. Growth in electricity sales slowed, however, growing by 5 percent per year during
the 1970s and early 1980s versus 8 percent per year during the late 1960s. It has since grown slowly.
As a result, a number of utilities and regions in the U.S. had "excess" capacity (with national reserve
margins on the order of 24 to 26 percent versus only 16 percent in 1970). By the mid-1980s, utilities
responded to declining growth rates by cancelling or indefinitely postponing many planned additions.
Since then, demand and capacity have come into better balance, with about a 20 percent reserve
margin in 1990.
EXHIBIT 3-8
NUMBER OF COAL-FIRED UNITS AND
COAL-FIRED CAPACITY BY ON-LINE DATE
Generator
On-Line Year
1951-1955
1956-1960
1961-1965
1966-1970
1971-1975
1976-1980
1981-1985
1986-1992
Number of Units
263
210
143
145
123
118
91
30
Summer Net
Dependable Capacity
(MW)
24,913
27,176
23,102
44,769
60,479
54,858
44,477
15,388
Source: ICF Analysis of EPA's National Allowance Database, September 1993.
As a result of the excess capacity experienced during the late 1970s and early 1980s, and, in
some cases, related cost disallowances by commissions, regulated electric utilities have been reluctant
to plan much additional capacity. This has led to a movement towards purchasing power (from
independent power producers and cogenerators), greater conservation and demand side management
activities, and the use of low capital cost, "peaking" type additions that can be added more flexibly.
Exhibit 3-9 shows that the largest share of planned capacity uses natural gas as the fuel (i.e., gas
turbines and gas combined cycle). It is possible that there may be capacity shortfalls in some regions
to the extent growth is much higher than expected in the future.
3-12
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EXHIBIT 3-9
TOTAL PLANNED CAPABILITY BY FUEL TYPE
1991-2000
Fuel Type
Petroleum & Gas
Coal
Nuclear
Hydroelectric
Other
Total
Number of
Units
262
35
3
83
28
411
Capability
-------
EXHIBIT 3-10
NUMBER OF EMPLOYEES AT INVESTOR-OWNED ELECTRIC UTILITIES
COMPARED TO THE AMOUNT OF ENERGY SALES
FROM THE TOTAL ELECTRIC UTILITY INDUSTRY
1965-1989
Year
1989
1985
1980
1975
1970
1965
Number of Employees
Total
(thousands)
518.6
524.5
476.6
411.5
384.9
345.4
Annual
Percent
Change
-0.3
2
3
1
2
-0.02
Total Energy Sales
Total
(bkwh)
2,616
2,306
2,130
1,738
1,396
957
Annual
Percent
Change
3
2
4.5
5
9
8
Source: Edison Electric Institute, Statistical Yearbook of the Electric Utility Industry/1989, Washington,
D.C. December 1990.
Note: 1989 data are preliminary.
Western U.S. during the late 1970s and 1980s to serve the rapidly growing California market. This
trend is unlikely to be duplicated in the future because of environmental and other right of way
concerns regarding the siting of transmission lines.) Exhibit 3-11 shows historical regional sales
growth. In general, new plant additions have increased most rapidly in the regions with the most rapid
sales growth (i.e., in the late 1970s and early 1980s in the South Atlantic, West, South Central and
Mountain regions), as shown in Exhibit 3-12. Because of the long lead times needed for installing
new capacity and occasionally rapid change in growth rates (e.g., in the West South Central during the
1980s), capacity was not always added at the same rate as electricity demand growth. Over the long
term, however, regional growth in sales and capacity has been roughly proportional.
During the 1990s, capacity additions are expected to increase less rapidly. However, as the
planned additions suggest in Exhibit 3-13, regions with the most growth—the South Atlantic—are
expected to add the most capacity. With the anticipated need for capacity in the South Atlantic area,
especially Florida, the electric utility industry may experience some narrower reserve margins until
capacity catches up to demand.
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EXHIBIT 3-11
ENERGY SALES BY CENSUS REGION
1975-1990
(million kwh)
Census Region
New England
Middle
Atlantic
East North
Central
West North
Central
South Atlantic
East South
Central
West South
Central
Mountain
Pacific
Total U.S.
1975
66,887
227,080
330,818
115,923
286,302
172,602
207,154
84,026
235,073
1,725,865
1980
77,218
255,554
371,493
144,961
359,578
199,366
291,512
109,918
276,613
2,086,213
1985
88,241
267,059
395,048
164,526
427,855
196,667
332,150
134,307
298,469
2,304,322
1990
104,071
307,806
450,875
186,309
524,922
228,120
360,198
159,639
336,460
2,658,400
Source: Edison Electric Institute, Advance Release of Data for the 1990 Statistical Yearbook of the
Electric Utility Industry, Washington, D.C., May 1991.
Note: Does not include Alaska and Hawaii. 1990 data are preliminary.
3.2.9 Economies of Scale and Industry Cost Trends
The utility industry has historically benefitted from long-term trends towards a lower "real"
cost of generating electricity.2 The trends in average electricity prices in real terms are a good
indicator of effects of trends in the economies of scale in the electric utility industry. As shown in
Exhibit 3-14, electricity prices in real terms either declined or remained level from 1960 until the 1973
oil price shock. Much of this decline was related to (1) the continuing improvements in the efficiency
of electricity transmission and (2) the construction new coal-fired units, which were larger and more
efficient than their predecessors. Between 1973 and 1982, electricity prices rose, primarily as a result
of higher fuel costs and interest rates, but also because power plant capital and O&M costs increased
as the technology matured and additional environmental controls were added to comply with the Clean
Air Act and other environmental regulations.
3-15
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EXHIBIT 3-12
CAPACITY BY CENSUS REGION
1975-1990
(kilowatts)
Census Region
New England
Middle
Atlantic
East North
Genual
West North
Central
South Atlantic
East South
Central
West South
Central
Mountain
Pacific
Total U.S.
1975
20,325
68,465
91,898
36,373
91,718
45,552
64,398
26,595
58,084
503,408
1980
21,143
78,407
107,895
49,026
111,522
53,312
84,672
35,812
69,333
611,122
1985
21,279
80,432
115,416
56,787
128,711
62,033
98,782
44,542
77,795
685,777
1990
23,939
85,212
122,466
58,285
139,637
63,996
107,589
51,924
78,784
731,832
Source: Edison Electric Institute, Advance Release of Data for the 1990 Statistical Yearbook of the
Electric Utility Industry, Washington, D.C., May 1991.
Note: Does not include Alaska and Hawaii. 1990 data are preliminary.
After peaking in 1982, electricity prices fell in real terms because falling fuel prices stabilized
and less new capacity was added.3 Planned capacity includes mainly gas-fired technologies, where
improvements have been made during the 1980s and are expected to continue during the 1990s.
3.2.10 Technological Diversity
The electric utility industry is diverse in both the types of technologies and fuels used. These
technologies include coal-fired, oil-fired, and gas-fired boilers creating steam, gas or distillate turbines,
gas combined cycle, nuclear, hydro and renewables (primarily geothermal but also wind, solar, wood,
and waste). Exhibit 3-15 shows electricity generation by technology. Most electricity generated in the
U.S. is produced at coal-fired power plants. In 1990, 2,808 bkwh were generated by the fuel types
indicated in Exhibit 3-16. As shown, the predominant energy sources are fossil fuels. In addition, the
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EXHIBIT 3-13
PLANNED ADDITIONS AT ELECTRIC UTILITIES
1991-2000
Census Region
New England
Middle Atlantic
East North Central
West North Central
South Atlantic
East South Central
West South Central
Mountain
Pacific
Total
Number of Units
8
21
58
51
103
43
48
48
31
411
Net Summer Capability
(MW)
80
1,575
3,658
3,607
13,328
5,715
9,204
4,916
699
42,782
Source: Energy Information Administration. Electric Power Annual 1990, U.S.
Department of Energy, Washington, D.C.. January 1992.
industry also balances supply and demand through conservation and load management programs
(including demand side management activities), enhanced transmission capabilities, plant life
extensions, and purchasing power from non-utilities.
Significant gains in technology have occurred over the past several decades in coal-fired plants
and more recently in gas turbine and combined cycle technologies. In general, pulverized coal
technology is relatively mature with few gains expected in the future. However, combined cycle and
gas turbine technologies will probably continue to change in part due to improvements in jet engine
technologies. These technologies may also advance because of the lower emissions from gas-fueled
sources.
Current projections suggest that future increases in demand will be met primarily through
construction of new coal and gas-fired plants and new gas-fired combined cycle units, as shown
previously in Exhibit 3-9. In addition, more independent power producers may build facilities free
from cost-of-service regulation. Thus, electric utilities may be forced by utility commissions to
purchase power from the non-utilities instead of adding more capacity.
3-17
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EXHIBIT 3-14
Average Real Electricity Prices: 1965-1990
(1992cents/kWh)
10
!
_L
I
1960 1965 1970
Source: Edison Electric Institute. Statical Ysaitxx* of tti* Bectne Utility Industry
1975
1980
1985
1990
3.3
PLANT LOCATION AND CLOSURE CRITERIA
This section describes additional criteria that are used to make plant closure and siting
decisions. The most important factors include local concerns, the age and size of the unit and
compliance costs.
3.3.1 Locality Review
Local limits on emissions of air pollutants may play a role in where new plants are located.
Because the SO2 and NOX emissions are typically greater at coal-fired units, power plant siting issues
relating to air quality issues primarily concern coal-fired units, although units fueled by gas, oil and
other methods will be affected to a lesser degree. Concerns about meeting NAAQS under Title I and
limitations on toxic air emissions under Title in may be a driving factor in the location of new or
expanded facilities or in the operation of existing facilities. Title IV, the acid rain provisions, will
have a limited affect on the siting of new electric utility units because it is a national program that
allows SO2 allowance trading and NOX averaging.
Under Title I, electric utilities will be affected primarily by the ozone nonattainment
provisions, including the requirement for emission "offsets"—reductions in emissions at existing
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EXHIBIT 3-15
Electricity Generation by Technology -1990
Conventional Steam
69.4%
Hydro 10.0%
1C Engines/
Wind/Solar
0.1%
Nuclear Steam 20.5%
Source: Edison Electric Institute. Statistical Yeaibook of the Electric Utility Industry.
sources. Ozone nonattainment areas have been divided into 5 classifications: marginal, moderate,
serious, severe, and extreme. (Additional requirements have been imposed on certain geographic
areas, including the Northeast Ozone Transport Region and areas around national parks.) Different
requirements apply to each classification. As shown in Exhibit 3-17, the extent of the offsets required
varies depending on the classification of the nonattainment area and quantity of emissions.
Sources intending to expand or locate in areas with moderate nonattainment (or worse) may be
required to obtain offsets that exceed their expected increase in emissions, in order that total emissions
decline.
Sources located outside nonattainment areas may also be affected if the pollutant emissions
cross boundary lines into these areas. For example, a source located in the Northeast Ozone Transport
Region, near a Class I area (e.g., a national park), or in some cases in a PSD (Prevention of
Significant Deterioration) area may be required to obtain offsets. Historically, offsets have cost $600 -
28,000 per ton per year in nominal year dollars, not including additional transaction costs (e.g., broker
commissions and legal fees).4 A utility may attempt to avoid these offset costs by locating in an area
where offsets are not necessary.
Utilities may also be affected by Title I provisions relating Reasonably Available Control
Technology (RACT) for NOX. States are proposing NOX RACT requirements for sources located in
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EXHIBIT 3-16
Electricity Generation by Fuel Type -1990
Oil 4.2%
Coal 55.5%
Other* o.4%
Hydro 10.0%
Gas 9.4%
•Other indudM g»olh«Tmal, wood, waste, wind Kid *dar.
Source: Ediior. ElKtric Intttut*. Statistical Yoartxxjkof the Etetric Utility Industry
Nuclear 20.5%
nonattainment areas. NOX emissions from electric utilities make up the greatest portion of all
stationary source emissions; therefore, electric utilities will probably incur the highest compliance
costs. Because some states may impose more stringent requirements than others, utilities located in
those states may incur higher compliance costs. As discussed previously, cost-of-service ratemaking
will tend to minimize the number of units forced to shut down.
In addition, the National Ambient Air Quality Standards (NAAQS) for other criteria pollutants
(SO2, PM, CO, and Lead) and New Source Performance Standards may influence the placement of
new or modifying units. Because these provisions affect only new or expanding facilities, they will
have little impact on existing facilities. Both EPA and industry groups are currently studying the
potential effects of Title III on the electric utility industry. At this time the potential requirements
under Title III have not yet been determined. Consequently, the costs of these requirements are not
yet known, but it is possible that these costs could be significant
3.3.2 Closure Criteria
The major closure criteria for power plant units is the relative cost of generating electricity.
As a power plant ages and as more efficient units are built, the relative costs of operating older plants
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EXHIBIT 3-17
VOC and NOX Emission Thresholds and Offset Ratios for
Sources Located In or Impacting Ozone Nonattainment Areas
Nonattainment
Classification
Marginal
Moderate
Serious
Severe
Extreme
Emission Threshold for
New Sources
(tons per year)
100
100
50
25
10
Emission Threshold for
Modifying Sources
(tons per year)
40
40
25
25
0
Minimum Offset Ratio
1 to I
1.15 to 1
1.2 to 1
1.3 to 1
1.5 to 1
Source: Various provisions of the 1990 Clean Air Act Amendments.
Note: Sources locating in attainment areas may also be required to obtain offsets if emissions would affect specified areas,
including the Northeast Ozone Transport Region and national parks.
increases. Typically, the amount of fuel required per kwh of electricity (the "heat rate") and operation
and maintenance costs increase over time, while unit availability declines. For most older units,
however, investments to extend the life of the unit may make economic and financial sense compared
to the capital investments and total costs of building a new facility. In general, most utilities have
made or plan to make refurbishment investments in the older units. However, CAA provisions
affecting modifying units place some disincentives on these refurbishments and modifications, for they
may trigger new source review and lead to a requirement to add additional controls (e.g., BACT) and
thus additional expenditures.
The most likely candidates to refurbish or shutdown are smaller units that will be 40 years of
age or older by 2000 (i.e., units on-line in 1960 or earlier). As shown in Exhibit 3-18, units more
than 40 years old generally have capacities of 100 megawatts or less. Although the 441 smaller units
that are more than 40 years old account for one-third of the total coal-fired units, they account for only
6 percent of the total coal-fired capacity.
Other costs that may influence the closure of a facility are the costs of complying with Titles
I, IV, and V (and possibly Tide III) of the 1990 CAA Amendments. These costs could include NOX
controls (especially more expensive controls in nonattainment areas), continuous emission monitors
(CEMS), emission fees, and other costs associated with the operating permits. Generally, the specific
costs of compliance will vary significantly from plant to plant. However, because the costs of
premature retirement are high (because new capacity costs can be substantial), even relatively
significant compliance costs are not likely to result in many unit shutdowns. Compliance costs at
older units could be substantial, depending on the ultimate regulations promulgated under Title I and
Title III (e.g., expensive air toxics controls or post-combustion NOX controls). If the costs of
compliance with Title I and Title III are substantial, this could result in a greater number of plant or
unit closures.
3-21
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Exhibit 3-18
NUMBER AND TOTAL CAPACITY OF COAL-FIRED UNITS BY SIZE AND AGE
Year of
Installation
1950 or
earlier
1951 - 1960
1961 - 1992
Unit Capacity
Under 25 MW
Slimmer Net
Dependable
Capacity
731
1,042
793
Number of
Units
95
76
60
25 to 100 MW
Summer Net
Dependable
Capacity
6,181
10,432
4,329
Number of
Units
115
155
73
More than 100 MW
Summer Net
Dependable
Capacity
744
40,615
237,962
Number of
Units
6
242
517
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Source: ICF Analysis of EPA's National Allowance Data Base, September 1993.
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CHAPTER 3 ENDNOTES
1. ICF Incorporated, Regulatory Impact Analysis of the Proposed Acid Rain Implementation
Regulations, prepared for the Acid Rain Division of the Office of Atmospheric and Indoor Air
Programs, July 30, 1992.
2. "Real" costs are the costs after adjusting for inflation. "Nominal" costs are the actual costs at
the time they are incurred. For example, if the costs of generation rises from 10 mils per kwh
to 10.2 mils per kwh (a 2 percent increase in nominal cost), but inflation over the same period
is 4 percent, the cost of generation in real terms would be seen as declining by 2 percent.
3. Recovery of capital costs is a major component of the rates for electric power. Capital
recovery is primarily determined by the required rate of return and the original cost of the
equipment. If interest rates are stable and no new equipment is added, the capital recovery
component of electricity rates will be stable (in nominal terms), leading to a lower real cost
over time.
4. AER*X, Inc. and Jack Faucett Associates, Analysis of the Nature and Cost of Emission
Offsets, prepared for EPA's Air Quality Management Division of the Ambient Standards
Branch, December 1992.
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AUTOMOBILE MANUFACTURING
CHAPTER 4
4.1 INTRODUCTION
This chapter analyzes the effect of the Clean Air Act (CAA), as amended in 1990, on the
production of new, on-road, motor vehicles.1 We focus on design and manufacturing process
modifications resulting from the CAA and how Chrysler, Ford, and General Motors (GM) are
responding to the challenge of making cleaner cars using cleaner manufacturing processes. In
particular, we identify industry characteristics that may result in plant closures. Analysis of parts and
accessories manufactured by suppb'ers, as well as truck and bus bodies, truck trailers and motor homes,
is outside of the scope of this chapter.2
The 1990 Amendments directly impact automobile manufacturers through several different
channels; three sections of the Amendments could have particularly significant effects. First, the
Amendments require manufacturers to modify automobile design by further restricting tailpipe
emissions and by instituting evaporative emissions standards on all autos sold in the U.S. Second,
manufacturers are required to develop Clean Fuel Vehicles (CFV) to serve vehicle fleets (i.e., ten or
more vehicles fueled at a central location) and the state of California new car market. Third,
automakers will face volatile organic compound (VOC) and hazardous air pollutant (HAP) regulations
that will affect manufacturing processes, particularly the painting and coating of automobile exteriors.
4.1.1 Summary of Findings
The U.S. auto industry represents a substantial portion of the American economy. In 1991,
sales of cars and trucks totalled $189 billion, or 3.3 percent of U.S. gross domestic product (Valueline
1993). This industry is crowded and highly competitive, as a number of foreign producers have
gained significant market share over the last two decades. Further, several foreign-owned automakers
have established U.S. facilities over the last decades.
Several years of negative earnings and substantial employee liabilities (i.e., unfunded health
care and pension costs), have left domestic producers with high levels of debt. Further, an on-going
trend toward streamlining operations to improve competitiveness in the world market has resulted in a
number of recent plant closures. On a more positive note, the "Big Three" domestic producers (GM,
Ford and Chrysler) are having a successful year in terms of sales in 1993, particularly Ford and
Chrysler. These automakers have narrowed and perhaps eliminated the "quality gap" that existed
between foreign and domestic producers in the mid to late 1980s. In addition, American automobile
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exports have risen in each of the last six years. Thus, while competitive pressures from foreign
producers remain strong, the competitive position of domestic producers is currently stronger than in
prior years.
The provisions of the 1990 Amendments that affect the automobile industry are broad and
"technology-forcing."3 Because the auto industry consists of large, research and development-oriented
organizations that already exist in a heavily regulated environment, it appears unlikely that the
provisions of the Amendments will be the predominant factor in plant closures. It is possible,
however, that management will consider CAA requirements in targeting plants to be closed primarily
for competitive reasons.
While the CFV sections of the 1990 Amendments have received considerable public attention,
VOC and HAP regulations pertaining to paint and coatings processes could be as, or even more
significant, to this industry. Because foreign manufacturing facilities are generally subject to less
stringent VOC and HAP regulations, foreign producers may gain a competitive advantage, particularly
in the production of expensive, "high end" vehicles that generally account for a disproportionate share
of automaker profits. The magnitude of this advantage will depend on the ability of coatings
manufacturers to develop high gloss, low-solvent paint and coating substitutes for car finishes and/or
governmental actions taken to restrain imports holding such competitive advantages. Since 23 of the
34 auto assembly facilities are in moderate, serious or severe ozone nonattainment areas, VOC
restrictions could be particularly important to this industry.
4.1.2 Caveats
EPA's ability to estimate the likelihood of automobile plant closures resulting from the CAA is
subject to a number of uncertainties as many provisions under the Amendments will not come into
effect for several years. Given the highly competitive nature of the industry, the situation for domestic
producers could be significantly different in seven to ten years. Specific areas of uncertainty include:
Reasonable Available Control Technology (RACT) standards for VOC
emissions were written in 1977, and have since been made obsolete by more
stringent requirements in many states. While EPA's review of the 1977
standards continues, it is anticipated that the Agency will ultimately be
required by the courts to revisit VOC emissions from auto manufacturers in
nonattainment areas. The outcome of such a review is uncertain.
• Maximum Achievable Control Technology (MACT) standards for HAP
emissions are not due until 1997. Therefore, reliable cost estimates associated
with the reduction of HAP emissions by auto manufacturers are impossible to
obtain at this point.
• Product development costs for CFVs are difficult to estimate in aggregate
because there are a number of different alternatives available to automakers
(e.g., liquid natural gas, hydrogen, electric, etc.) and many of these
technologies are not fully developed.
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Finally, the distinction between foreign manufacturers and domestic producers has been blurred by the
development of foreign-owned "transplant" facilities (e.g., the Honda facility in Marysville, Ohio). As
discussed below, the provisions of the 1990 Amendments affecting the Big Three will also affect these
transplant facilities.
4.1.3 Organization of Chapter
The remainder of this chapter is divided into four sections. The first contains an overview of
the U.S. auto industry, including economic and financial conditions faced by domestic manufacturers.
The second section reviews the provisions of the 1990 Amendments that affect motor vehicle design
and manufacturing and discusses regulatory deadlines and target dates under the Amendments. The
third section explores the estimated cost of provisions of the Amendments to auto manufacturers and
the likelihood that these costs, combined with other industry characteristics, could lead to plant
closures. Finally, we will consider new market opportunities for the technologies developed by me
industry resulting from compliance with the Amendments.
4.2 INDUSTRY CHARACTERISTICS
4.2,1 Overview of Manufacturing Process
The motor vehicle manufacturing process, as defined by SIC 3711, involves constructing
automobile frames from raw materials such as aluminum and steel, body-panel stamping, and
assembling vehicles from other parts and components that are produced by the manufacturer or out-
sourced. Within the industry some firms rely heavily on outside vendors for vehicle parts, while
others predominantly manufacture parts in-house. For instance, GM obtains 70 percent of its parts
from internal sources, while Chrysler buys the same percentage of its components from external
suppliers (Valueline 1993). A detailed description of automobile manufacturing and assembly steps is
outside of the scope of this analysis. We will, however, discuss the processes involved in painting the
assembled motor vehicle, one of the final and most costly manufacturing steps, later in this chapter.
4.2.2 Economic and Financial Conditions
Overview
The automobile manufacturing industry is highly competitive and represents a large portion of
the total U.S. economy. In aggregate, new automobile purchases account for almost four and a half
percent of American disposable income (DOC 1993a). In 1991, U.S. automobile buyers were able to
choose from 618 car and light truck models, offered by 31 major foreign and domestic manufacturers.
That year U.S. automakers shipped $128.5 billion in products, and had combined sales of $208 billion.
In spite of heavy competition from foreign manufacturers, U.S. motor vehicle manufacturers
still rank among the largest producers globally. The largest motor vehicle manufacturer in the world,
GM, produced seven million vehicles in 1991 (14.4 percent of global production). Ford was the
second largest manufacturer with 5.4 million units produced (11.1 percent of the world market), and
Chrysler, with production of 1.5 million units, ranked twelfth.
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Domestic manufacturers of motor vehicles include U.S. owned firms (i.e., the "Big Three"),
foreign owned facilities (e.g.. Honda, Toyota, Nissan), and joint ventures between U.S. and foreign
manufacturers (DOC 1993a). Since the rise in foreign competition in the 1970s, there has been an
increase in "transplants" to the U.S.; Japanese automobile manufacturers have lead this trend toward
U.S.-based production. There are four wholly-owned Japanese assembly plants in the U.S., plus four
joint ventures, two between Japanese firms and two between U.S. and Japanese firms.4 In contrast,
while Ford, Chrysler, and GM have made direct investments in several of their overseas competitors
and participate in a variety of joint ventures, they remain 100 percent American owned (DOC 1993a).
Capacity Utilization
Overall capacity utilization for this industry was comparable to capacity utilization across all
industries, as illustrated in Exhibit 4-1; recent capacity utilization has been poor relative to historical
levels, however. As a result of efforts to trim operations, capacity utilization rates are expected to
improve in the near term. In fact, Ford and Chrysler have undertaken significant efforts to streamline
operations. GM is also in the process of trimming operations, although recent analyses suggest that
GM still lags in this area and would need to cut its workforce by 60,000 blue-collar jobs in order to
bring its labor costs per vehicle in line with its domestic counterparts (Valueline 1993).
International Trade and Competition
Over the past two decades, a fundamental change in the U.S. auto market has been the rise in
sales of automobiles manufactured in Japan. As illustrated in Exhibit 4-2, Japanese-produced auto
sales increased from 313,000 in 1970 to a high of 2,383,000 in 1986. This increase in the sales of
Japanese products came primarily at the expense of domestic producers, although other foreign
manufacturers (e.g., European-based firms) also experienced sales reductions in the U.S. market. Over
the past six years the trade situation has reversed slightly as U.S. auto exports have grown every year
since 1987 and Japanese imports have declined. U.S. exports, projected to be as high as 500,000
vehicles in 1993, are still small relative to Japanese imports, however.
Exhibit 4-1
AUTO CAPACITY UTILIZATION COMPARED
TO ALL INDUSTRIES
Industry Group
3711 Motor Vehicles
Durable Goods Industries
All Industries
1990
72%
73%
76%
Source: DOC 1992a.
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10000-
9000-
8000-
J2 7000-
"c
^_ 6000-
o
w
TJ
CO
W 4000-
O
5000-
3000-
2000-
1000-
1970
Exhibit 4-2
IMPORT PENETRATION INTO THE U.S CAR MARKET
1975
1980
Year
1985
1990
Domestic Sales
Japanese
Other Imports
Source:
MRMA 1991.
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As the rising level of Japanese automobile imports became a sensitive trade issue, Japanese-
owned firms began siting manufacturing facilities in the U.S. Besides providing political relief on a
sensitive trade issue, siting facilities in the U.S. provides Japanese automakers with reduced currency
risk, lower cost and damages associated with delivering motor vehicles to market, and access to skilled
U.S. labor. The significance of these "transplants" to the domestic market is illustrated in Exhibit 4-3.
In 1991, 2.0 million automobiles and light trucks were imported from Japan, while 3.2 million units
were sold in the U.S. by Japanese-owned firms. Thus, nearly 1.2 million cars manufactured by
Japanese-owned businesses were manufactured in the U.S. at "transplant" facilities.
Exhibit 4-3
U.S. LIGHT VEHICLE SALES IN 1991
(Thousands of Vehicles)
United States (1)
Japan (I)
Germany (2)
Other (1)
Total (I)
Sales by Country
of Manufacture
1991
9,743
2,021
221
325
12,310
Sales by National
Nameplate
1991
8,672
3,176
221
241
12,310
(1) Automobiles plus light trucks
(2) Cars only
Source: DOC 1993a.
Another important trend in the international trade arena concerns the "out-sourcing" of parts to
non-assembly facilities. The U.S. maintains a slight competitive advantage in this area, as the U.S.
exported more automotive parts than it imported in 1991 (with $21.8 billion exported and $19.5 billion
imported) (DOC 1993a). While most out-sourcing tends to involve smaller components, GM is
currently using existing domestic capacity for capital intensive operations such as body-panel
stamping, and exporting these parts to Europe where the final products are assembled (Valueline
1993). This trend towards out-sourcing parts is not limited to international trade; U.S. firms are also
shipping parts between domestic facilities to a greater extent than in the past.
The regulatory context within which foreign manufacturers operate is another important factor
vis-a-vis U.S. automaker competitiveness. While all vehicles sold in the U.S. must meet the same
automobile design standards regardless of where they are manufactured, foreign-produced automobiles
are subject to a different set of regulations concerning automobile production. In Germany, VOC
emissions from auto assembly plants are regulated according to whether the coating is metallic or
plain, and are based on mass emissions of organic solvents per square meter of vehicle surface area.
There is no limit per se, however, on the VOC content of coatings. Despite the legality of high VOC
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coatings, a number of European manufacturers use water-based coatings for primers and basecoats. A
1990 study prepared by Energy and Environmental Analysis for EPA estimated that, prior to the 1990
Amendments, there was a similar level of VOC emissions during automobile manufacture in both the
U.S. and Germany (EEA 1990).
Although Japan has no federal regulations for VOC emissions from automobile coatings, the
Energy and Environmental Analysis study concluded that agreements between industry and local
governments have kept VOC emissions from automotive coatings at U.S. levels. This regulatory
approach is based on source-by-source negotiation and relies on the civic-mindedness of the
manufacturer as well as the attitude of local government (EEA 1990).
Trends in Employment and Productivity
Employment in the domestic auto industry has been falling since the strong demand, high
consumer confidence period of the mid-to-late 1980s. In 1985, motor vehicle manufacturing employed
almost 250,000 production workers (DOC 1990). By 1991, production employment had fallen to
178,500 (DOC 1992c). The Commerce Department projects this downward trend in employment to
continue, with occasional short term anomalies.
The drop in auto industry employment has been accompanied by an increase in worker
productivity, as domestic facilities have made efforts to match foreign competitors' levels of
productivity.5 According to the Bureau of Labor Statistics, an average of 31.7 vehicles were
assembled per worker in 1981. In 1991, the average number of vehicles assembled per worker was
38.4 (DOC 1993a).
Financial Position
Exhibit 4-4 summarizes the financial condition of GM, Ford, and Chrysler in recent years.
Weak consumer confidence and intense levels of competition constrained sales of U.S. auto
manufacturers in the late 1980s and in the early 1990s, resulting in losses of $2.9 billion in 1991 and
$23.9 billion in 1992 for these manufacturers. During this same period, long term debt rose steadily
while tangible net worth (capital contributed by owners) fell by more than half. The result is a 1992
"debt-to-worth" ratio of greater than 2.0. In addition, GM and Chrysler currently have unfunded
pension liabilities of $14 billion and $3.9 billion, respectively.
Financial performance in 1993 was improved, as 1993 sales were up in part due to the
development of popular models (e.g., Chrysler/Jeep's Grand Cherokee). Furthermore, with the
exception of GM, excess production capacity has been reduced in recent years. High levels of debt
and other liabilities continue to plague U.S. automakers, however. While the current round of UAW
negotiations may bring some relief (especially for GM), the UAW is unlikely to give up hard-won
healthcare and pension benefits. These benefits remain well above foreign manufacturers' on a cost
per vehicle basis.6
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Exhibit 4-4
FINANCIAL INFORMATION FOR GM, FORD, AND CHRYSLER
Revenues (billion $)
Net Profit (billion S)
Long-term Debt (billion S)
Tangible Net Worth (TNW) (billion S)
Ratio of Long-term Debt to TNW
1988
248.3
6.4
18.0
64.8
0.28
1989
254.3
4.6
55.9
64.9
0.86
1991
240.7
(2.9)
65.2
56.1
1.16
1992
269.5
(23.9)
62.8
28.5
2.2
Source: Valueline 1993.
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Capital Expenditures and Pollution Abatement Costs
The automobile industry has historically allocated about four percent of its total capital costs to
purchases of pollution abatement equipment. As shown in Exhibit 4-5, U.S. industry as a whole
spends nearly twice as much (on a percentage basis) on capital associated with pollution abatement.
Exhibit 4-5
MOTOR VEHICLES .AND CAR BODIES: POLLUTION ABATEMENT CAPITAL
EXPENDITURES RELATIVE TO TOTAL CAPITAL EXPENDITURES
(Billions of Dollars)
SIC Code
3711
All Industries
Total Capital
Expenditures
1991
$3,261.9
$98,916.4
Pollution
Abatement Capital
Expenditures 1991
$130.6
$7,390.1
Pollution Abatement
Capital Expenditures as a
Percentage of Total
Capital Expenditures
1991
4.0%
7.5%
Percentage Air
Pollution
Related
85.1%
50.2%
Source: DOC 1992b/DOC 1993b
The bulk of pollution abatement capital expenditures (85.1 percent) goes toward air pollution
equipment. In 1991, the motor vehicle industry (SIC 3711) spent $111.2 million on capital
expenditures related to controlling air pollution emissions, while $15 million and $4.4 million were
spent on water and solid waste pollution abatement equipment, respectively.
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Location of Firms
Motor vehicles are assembled at 34 plants in the U.S., with 26 of these facilities belonging to
the Big Three. As illustrated in Exhibit 4-6, twelve of these facilities are located in Michigan. In
addition, Ford, Chrysler, and GM have a total of six plants in Canada and four in Mexico (Automotive
News 1993c). When parts facilities are included, Michigan and California tie for the most facilities,
with 51 each. In fact, these two states account for 25 percent of motor vehicle parts and automobile
manufacturing facilities in the United States. Given the relative populations of these two states,
Michigan's share is particularly notable.
Exhibit 4-6
GEOGRAPHIC CONCENTRATION
SIC 3711
Selected States
Michigan
California
Indiana
Ohio
Pennsylvania
Total
Number of
Assembly
Facilities (1993)
12
1
1
4
0
34
Total Number of
Facilities,
Including Parts
Facilities (1990)
51
51
35
22
20
413
Source: Automotive News 1993c and DOC 1990.
Shutdown Costs
Plant shutdown costs for the motor vehicle manufacturing industry are significant. Three of
the major cost categories are related to obligations to workers:
• pension liability triggered by early unemployment and not planned for in
actuarial predictions;
health care costs for unemployed workers and their families; and
• supplemental unemployment benefits.
Because the UAW has carefully negotiated past contracts with substantial worker protection, the labor
costs associated with plant closures are likely to be large. A fourth potential cost associated with
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closing a motor vehicle manufacturing facility is related to potential environmental site cleanup costs.
In instances where serious environmental problems are known to exist at a site, it is possible that
operating with minimal margins or at a loss would be preferable to incurring the costs associated with
site cleanup.
4.3 CAA AMENDMENTS THAT AFFECT MOTOR VEHICLE DESIGN AND
PRODUCTION
In this section we describe the provisions of the 1990 Amendments that affect the motor
vehicle manufacturing industry. This discussion is divided into two sections: (I) automobile design
provisions addressed in the Amendments; and (2) provisions that effect auto manufacturing processes.
4.3.1 Automobile Design Provisions
Emission Standards
Title II of the 1990 Amendments calls for stricter national emission standards for non-methane
hydrocarbons (NMHCs), carbon monoxide (CO), and nitrous oxides (NOx) from cars and light trucks.
There are two potential tiers to these emissions reductions required by these provisions:
Tier 1; New standards for NMHCs (0.25 grams per mile (GPM)), and CO
(3.4 GPM) will be phased in between 1994 and 1998. New standards for NOx
(0.4 GPM, equal to a 60 percent reduction from current assumed levels) will
be put in place between 1994 and 1995. EPA must also set standards for air
toxics that, at a minimum, will include benzene and formaldehyde.
Tier II: If EPA finds tighter standards are necessary to protect public health,
additional requirements will become effective between 2003 and 2006. If EPA
does not take necessary actions, then Tier II standards will automatically be
activated (equal to half the emission levels represented by the Tier I standards)
in 2003.
Further, EPA promulgated regulations in January 1994 requiring the use of onboard vapor
recovery systems to reduce emissions from non-tailpipe sources. The auto industry must implement
these systems within four years. In addition, Emission Control Diagnostics (BCD) systems are now
required (as of model year 1994). These on-board computer devices are intended to alert the vehicle
owner to any malfunctions that result in increased emissions. The units also facilitate repair and
vehicle performance data collection.
Clean-Fueled Vehicles
Fleet vehicle requirements apply to all cars and trucks in serious, severe, and extreme ozone
nonattainment areas. A fleet is defined as ten or more vehicles that are owned by a single operator
and can be fueled at a central location. These vehicles will be subject to emissions standards that
require the use of government-defined "clean fuels" like methanol, ethanol, methanol/ethanol/ gasoline
mixes, reformulated gasoline, natural gas, liquified petroleum gas, and electricity. Between 1998 and
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2000 the percentage of each fleet that must meet the clean fuels standards will rise to 70 percent of
new fleet cars and 50 percent of heavy trucks.
The California pilot program will take the low emission vehicle (LEV) concept one step
further by mandating that an increasing number of LEVs must be produced for sale in California. The
quota starts at 150,000 in 1996, and increases to 300,000 per year by 1999 and thereafter. Other key
points of the California program include:
the use of reformulated gasoline in all vehicles;
the establishment of an ultra-strict inspection and maintenance program that
uses both onboard diagnostic equipment and sensitive emissions testing
machines to make sure that motor vehicles achieve, and stay in, compliance;
• a four step plan that requires new vehicles to meet progressively more
stringent emissions levels for various pollutants; and
• the production and sale of zero emission vehicles (ZEVs). A minimum of two
percent of every automaker's fleet must consist of ZEVs by 1998. By 2003,
ZEVs must make up 10 percent of every fleet. Currently, only electrically
powered vehicles qualify as ZEVs.
Under the 1990 Amendments, states may choose to adopt California's stricter standards, as
environmental regulators from 12 Northeastern states did in February 1994 (Suns 1994). Stiff
opposition to the adoption of these standards outside California has come from the AAMA,7 however,
which primarily opposes the sales mandates for ZEVs. AAMA has already filed suits against New
York and Massachusetts, which adopted the California standards prior to February 1994. Alternative
standards proposed by the AAMA that focus on ultra-low emissions vehicles in lieu of ZEVs have
been rejected by regulators.8
4.3.2 Motor Vehicle Manufacturing Provisions: Paint Applications
Because of restrictions on emissions of VOCs and HAPs under Titles I and HI of the 1990
Amendments, motor vehicle production activities are affected by the Amendments as well as motor
vehicle design. In this section we focus our discussion on the primary source of VOCs and HAPs
generated during motor vehicle emissions — those emitted from solvent-based coatings during painting.
The paint shop is the most capital intensive portion of the motor vehicle production process,
reflecting between 30 and 50 percent of total facility cost. During the paint and coating process, as
many as five layers of coatings are applied to an automobile, as described below.
• A thin phosphate coating is left on the bare steel, following submersion in a
phosphating tank, which enables subsequent layers to adhere to the metal.
• An electrode-position primer, or "E-Coat", protects the metal from corrosion —
since the E-Coat bath and the vehicle parts being coated have opposite charges,
the metal attracts the primer to all surfaces, including difficult-to-coat crevices.
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• An intermediate coating, referred to as "primer-surfacer" or "surfacer", is
applied to improve the quality and durability of the basecoat.
• A "basecoat" or "color coat" adds color to the vehicle finish.
• A "clearcoat", a transparent layer, is added to enhance the luster and durability
of the basecoat.
Between each of these steps, the coated autobody is baked. Traditionally, most coatings used by
automakers contain volatile organic solvents that are lost to the atmosphere during application, drying,
and curing of these coatings. The majority of these organic solvents are classified as VOCs (EEA
1990).
In 1977 EPA issued control techniques guidelines (CTGs) containing reasonably achievable
control technologies (RACTs) for coatings processes in existing motor vehicle assembly plants located
in nonattainment areas. These CTGs, like the new source performance standards (NSPSs) of the same
era, suggested maximum VOC contents for each coating. Although the CTGs and the NSPSs were
based on existing but not commonly used technologies, paint shops could not meet the required VOC
reductions and still achieve quality and performance standards demanded by consumers. Therefore,
the industry complied with EPA's VOC limits on an "equivalency" basis by improving the transfer
efficiencies of coatings and incinerating VOC emissions (EEA 1990). The 1990 Amendments called
for a review of the 1977 CTGs by November 1993, and this review is ongoing. To date, EPA has not
formally revised the earlier guidelines; however states like Michigan have since gone beyond EPA's
suggested standards and adopted more stringent requirements for new sources and for existing sources.
While RACTs apply only to facilities located in ozone nonattainment areas, federal restrictions
on the emissions of the 189 HAPs designated by the 1990 Amendments will apply to all
manufacturers regardless of geographic location. The deadline for the issuance of maximum
achievable control technology (MACT) standards for HAPs by EPA is not until 1997. According to
the AAMA, many within the industry would like to see this deadline moved forward in order to
eliminate uncertainty over the next four years.
Today, most automobile paint shops use a combination of high transfer efficiency applicators,
such as electrostatic applicators, drying and curing ovens that feed VOC emissions to incinerators, and
coatings with minimal amounts of VOCs. Furthermore, to meet lowest emissions achievable
requirements (LAER) and emission offset requirements, new and modified facilities have integrated
water-based solvents and powder coatings into their processes. Generally speaking, however, these
non-solvent coatings are only used on less visible portions of the auto body because they tend to be
less glossy than solvent-borne coatings. Likewise, while several plants have adopted waterborne
primary coats, ihey have been slow to abandon solvent-borne clearcoats due to quality concerns.9
4.4 EFFECT OF THE 1990 AMENDMENTS ON THE AUTOMOBILE INDUSTRY
4.4.1 Cost of Compliance
Motor vehicle manufacturers will incur several categories of costs due to the 1990
Amendments. Costs related to permitting of manufacturing facilities and marketing new products will
be significant, but relatively predictable over time. However, costs related to CFV design and costs
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associated with the reduction of VOCs and HAPs from coatings operations are less certain and depend
largely on the success of on-going research and development efforts.
Clean Fuel Vehicle CFV Design Costs
Research on the technologies needed to make reliable and cost-effective mass produced LEVs
and ZEVs has already been undertaken by U.S. automakers, both individually and through cooperative
agreements. The precise costs of bringing new low and zero emission vehicles to market will vary
from manufacturer to manufacturer. These costs will consist of one-time, up-front research and
development costs, as well as an additional incremental cost of production of each LEV and ZEV. In
its notice of public rule-making (FR 1993), EPA estimated the incremental cost of acquisition of
various types of CFVs. These estimates, presented in Exhibit 4-7, should approximate the upper
bound of the incremental cost of production of each of these vehicles.10 EPA's data indicate that the
technologies more closely related to conventional gasoline-fueled vehicles (e.g., alcohol-fueled cars)
are less costly to produce than the more advanced technologies (e.g., electric cars).1' Since the 1990
amendments created a market for these vehicles by requiring fleets operators to
Exhibit 4-7
INCREMENTAL COSTS OF LEVs AND ZEVs
Type of Vehicle
Reformulated gasoline
Alcohol-fueled
Gaseous-fueled (propane,
compressed natural gas, etc.)
Electric
Incremental Cost
S170
S300
52,000
$3,000
Source: FR I993a.
purchase CFVs, it is likely that automakers will recover some or all of the higher costs of production
through the price of the product. Production volumes and product prices will also be significantly
influenced by the number of other states that successfully "opt-in" to the California program.12
Other CAA Vehicle Emission Regulations
As discussed earlier in this chapter, motor vehicle manufacturers are required to reduce tailpipe
emissions of NMHCs, CO, and NOx from vehicles sold beginning in model year 1994. EPA estimates
that implementing Tier I standards will cost $152 per car and $57 per light truck (NRC 1992). Also
beginning in model year 1994, manufacturers must install onboard emission control diagnostic systems
to monitor vehicle operations for any malfunction that may cause a violation of an emission standard.
EPA estimates that the total cost to manufacturers of this requirement will be $65 per vehicle (FR
19935). Finally, the Agency's rule for onboard vapor recovery systems, promulgated in January 1994,
is projected to cost $10 per car and $13 per light truck (NRC 1992). Taken together, the addition of
Tier I emission controls, onboard emission control diagnostic systems, and onboard vapor recovery
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TFT- — • •£.-.:.;'
• •' -v - .. ••>,-..
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systems are expected to cost manufacturers $227 per car, and $135 per light truck. Estimates provided
by Ford and GM are considerably higher, however; these producers project the total cost of
compliance to be between $1,125 and $1,600 per vehicle (NRC 1992).
Assuming EPA's cost estimates prove to be correct, the 1990 Amendments will modestly
increase manufacturers' costs of production for conventional vehicles. Based on EPA cost estimates,
the controls under the 1990 Amendments represent approximately 1.4 percent of the average 1991
dealer-buyer transaction. Even this modest increase will likely effect the profitability of automobile
manufacturers for the following reasons:
• if some or all of the cost increase is absorbed by the manufacturers, per unit
profits will decrease; and
• if some or all of the increased cost is passed through in terms of product price,
then certain "marginal" consumers will postpone or eliminate planned car
purchases (this will be particularly true if the actual cost of compliance is
greater than that projected by EPA).
Given the fact that all manufacturers (foreign and domestic) must meet these design requirements, it is
likely that a substantial percentage of these additional costs could be passed through to consumers.
4.4.2 Cost of Manufacturing Process Changes
EPA must develop MACT standards for the HAPs relevant to the auto and light-duty truck
industry by 1997. For the most part these standards will apply to surface coating operations. Because
EPA's deadline for the development of standards for HAPs is still several years away, only
preliminary cost estimates are available. As a rough estimate of the cost of complying with HAP
requirements, EPA examined different types of HAP emissions from facilities in SIC 3711 that emitted
more than ten tons per year of HAPs. According to these estimates, the maximum cost of complying
with HAP requirements will be $146 million per year. This annualized dollar amount is equivalent to
0.1 percent of the industry's estimated 1991 value of shipments (see Exhibit 4-8).
The AAMA's estimated cost of compliance with stationary source provisions of the 1990
Amendments are significantly higher. The AAMA estimates that capital costs for the Big Three
automobile producers, between 1992 and 2000, will approach $3.0 billion, and that operating costs
during this same period will be an additional $600 million (AAMA 1993a). Since the MACT
regulations are not scheduled to be completed before 1997, it is impossible to determine the actual
costs of compliance with the 1990 Amendments.13
4.43 Likelihood of Plant Closures
The 1990 Amendments have implications for auto makers with respect to the design of motor
vehicles and the manufacturing processes used. These implications are broad and technology-forcing
in several respects. However, the auto industry is comprised of large, research and development-
oriented firms that already exist in a heavily regulated environment. The 1990 Amendments are likely
to be a significant factor in corporate decisionmaking, but are unlikely to be the sole reason that plants
are shut down. Below we describe how the different CAA provisions could potentially result in plant
closures and the uncertainty surrounding these impacts.
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Exhibit 4-8
ANNUAL COSTS OF HAP REQUIREMENTS
SIC 3711 - MOTOR VEHICLES
Acids and bases
Chlorinated hydrocarbons
Other hydrocarbons
Particulates
Total
Emissions
(tons/yr)
119
2,109
30,113
396
Source: Energy and Environment Analysis Inc.'s
Controls Under HJR. 3030, H.R. 2585, £
Control Costs
(per ton)
$100-500
$500-700
S5CKKOOO
525,000
Total Control Costs
(Thousands)
$12-59
$1,055-15,818
$15,057-120,454
$9,907
526,030-146,238
> Analysis of Costs of Hazardous Air Pollutant
md S. 816, January 1990 as cited in EC 1991.
Vehicle Design Provisions
As discussed above, the Tier I emission control regulations are expected to increase the cost of
vehicle production. These cost increases could result in a slight decrease in vehicle sales as certain
consumers delay or forgo vehicle purchases, which could translate to a small employment reduction
within the industry or the closure of marginal facilities. Since the technology required to implement
these changes is fairly uniform and applies to all vehicles, regardless of the point of manufacture (i.e.,
they apply to foreign as well as domestically produced vehicles), the differential impacts across
different manufacturing facilities are likely to be small. Thus, we find it unlikely that these provisions
would directly result in plant closures in this industry.
Similarly, we do not foresee that the CFV program will directly result in plant closures. The
CFV provisions currently affect only a portion of the U.S. auto market, focusing on the California
market and fleets located in nonattainment areas. Further, the design standards apply to all major
manufacturers selling autos to these markets, regardless of the point of manufacture.14 It is possible
that domestic or foreign firms that develop a clear technological advantage in the production of these
CFVs could benefit at the expense of other manufacturers. The likelihood of this occurring is
relatively low, however, as the Big Three have opted to enter into cooperative agreements to jointly
work on developing components for these vehicles.15
Regulations Affecting Painting Processes
As discussed above, paint and coatings operations will be affected by both VOC and HAP
regulations. The relationship between the regulation of VOCs and HAPs creates a complicated
situation for automakers, with potentially important consequences for plant closure and siting
decisions. As certain states strive to reduce VOC emissions to meet ozone standards, they may require
more stringent point source controls of VOCs in their SIPs, including further controls on emissions
from automotive paint and coatings operations. This could result in a competitive disadvantage for
U.S. producers relative to foreign producers; in addition, domestic producers in nonattainment areas
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may be at a disadvantage relative to domestic facilities located in attainment areas. As illustrated in
Exhibit 4-9, 23 of the 34 assembly facilities are located in areas categorized as moderate, serious or
severe for ozone; 11 of these facilities are located in the state of Michigan. The magnitude of this
competitive disadvantage will be dependent on the stringency of the emission control limits and the
ability of automakers and coating suppliers to develop low emission coatings.
The regulation of HAPs later in the 1990s could also affect paint and coatings operations. The
effect of these regulations could result in a competitive disadvantage for U.S. manufacturers relative to
foreign producers, but would not result in differential impacts within the U.S. as the MACT standards
would apply to all facilities.
Speculating on the potential impacts of these HAP regulations is very difficult; as discussed
above, preliminary industry and government estimates of compliance costs vary significantly. It is
conceivable, however, that foreign manufacturers could begin to slow the development of "transplant"
facilities so as to not be subject to VOC/HAP coatings regulations. To do so would require these
firms to forego the many positive features of building these transplant operations, including reduced
risk of currency fluctuations and political relief on the sensitive issue of international trade.
Summary
A variety of factors affect plant closure and siting decisions in the highly competitive
automobile industry. In the late 1970s and early to mid-1980s Big Three producers lost a sizeable
portion of the domestic marketplace to foreign firms. These losses, combined with attempts to
streamline operations to become more competitive, led to a number of plant closures. Efforts to
improve productivity have begun to pay-off, however, as U.S. automakers have regained a portion of
lost market share and are increasing auto exports. At the same time, continuing attempts to boost
productivity and flat domestic sales projections makes the likelihood of future closures for competitive
reasons likely.
Based on the discussion above, we do not believe that domestic automakers are likely to base
plant closure decisions on CAA regulations in the near term. It is conceivable, however, that a
manufacturing facility may be selected from a list of plants targeted for possible closure because of
anticipated CAA compliance costs, particularly for firms located in nonattainment areas. One major
factor in avoiding closures in these areas rests on the development of water-based coatings that meet
the quality standards consumers are accustomed to with solvent-based coatings.
4.4.4 Implications of Plant Closures
The closure of an automotive assembly plant has economic ramifications beyond job losses
associated with the assembly facility. Many firms, often small businesses, supply assembly facilities
with parts.16 Thus, the closure of an assembly facility affects many businesses, usually located in
the same geographic region of the facility, through this "multiplier" effect. State economies that are
heavily dependent on the auto industry, such as Michigan's, could be particularly vulnerable to
additional plant closures.
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Exhibit 4-9
LOCATION OF AUTOMOBILE ASSEMBLY FACILITIES RELATIVE TO
OZONE NONATTAINMENT AREAS
Level of Nonattainment
Severe
Serious
Moderate
Marginal
In Attainment
Firm
Chrysler
Ford
Ford
General Motors
Chrysler
Chrysler
Ford
Ford
Ford
Ford
General Motors
General Motors
General Motors
General Motors
General Motors
General Motors
General Motors
General Motors
Auto Alliance International
Honda
Geo Prizm/Toyota Corolla
Nissan Altima: Sentra
General Motors
Honda
Toyota Canary
Chrysler
Ford
General Motors
General Motors
General Motors
General Motors
Diamond-Star Motor Corp.
Subaru Legacy
Facility
Belvedere, IL
Chicago, IL
Atlanta, GA
Doraville, GA
Detroit, MI
Sterling Heights, MI
Dearborn, MI
Lorain, OH
Wayne. MI
Wixom, MI
Arlington, TX
Bowling Green, KY
Defroit, MI
Flint, MI (2 facilities)
Lake Orion, MI
Spring Hill, TN
Wentzville, MO
Willow Run, MI
Flat Rock, MI
East Liberty, OH
Freemont, CA
Smyrna, TN
Lordstown, OH
Marysville, OH
Georgetown, KY
Newark, DE
Kansas City, MO
Fairfax, KS
Lansing, MI
Oklahoma City, OK
Wilmington, DE
Normal, IL
Lafayette, IN
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4.5 NEW MARKET OPPORTUNITIES RESULTING FROM THE CAA
To meet provisions of the 1990 Amendments that affect automobile design and.manufacture,
the automobile industry is in the process of researching and developing a number of new technologies.
These technologies include:
• the development of batteries for use in electric cars;
• low emission VOC paint and coatings; and
lightweight plastic components to improve fuel efficiency and reduce air
emissions.
The development of these technologies could provide U.S. manufacturers with a competitive advantage
if other countries adopt similar design and/or manufacturing standards for automobiles. In addition,
the technologies developed for automotive purposes may prove useful in other industries. For
instance, the battery technology developed for electric cars may have applications in other products.
Organizations such as the United States Council for Automotive Research (USCAR) are coordinating
Big Three efforts on a number of this issues in an attempt to bring new products to the market in a
cost-effective fashion.
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8.
9.
CHAPTER 4 ENDNOTES
The industry sector discussed in this chapter has been designated as 3711, according to the
Census Bureau's standard industry classification (SIC) system.
According to the Department of Commerce, the motor vehicles and car bodies sector (SIC
3711) is comprised of establishments principally engaged in manufacturing and assembling
complete passenger automobiles, trucks, commercial cars and buses, and special purpose motor
vehicles that are for highway use (emphasis added). These establishments may also
manufacture motor vehicle parts. However, operations primarily engaged in manufacturing
vehicle parts are classified under a different SIC. Likewise, firms primarily engaged in
manufacturing truck and bus bodies and assembling them on purchased chassis also fall
outside this SIC.
The term "technology forcing" is used to describe regulations that require manufacturers to
develop or adopt newer, less polluting technologies as opposed to regulations that can be met
through existing and commonly used pollution control equipment.
As a result of these factors, the domestic content of Japanese nameplate cars sold in the U.S.
now stands at 75 percent (Valueline 1993).
According to Valueline, several Ford assembly plants have recently achieved productivity
levels equal to Japanese plants.
GM's health care costs are especially high, as they spend $1,500 on health care per vehicle,
compared to $750 per vehicle at Ford and $700 per vehicle at Chrysler (Valueline 1993).
Provisions of the Clinton health care proposal would, if passed, shift some of these costs to the
government.
The AAMA consists of GM, Ford, and Chrysler. The AAMA has replaced the Motor Vehicles
Manufacturer's Association (MVMA) as the major trade association for domestic automobile
producers; the MVMA included both domestic automobile manufacturers and foreign-owned
manufacturers with production facilities in the U.S.
The AAMA has also argued that some Northeastern states, such as Massachusetts, have
adopted only part of the California standards, forcing automakers to build a "third car" in order
to comply with this state's requirements, which is prohibited by the CAAA. That is,
automakers claim they will need to build one model to meet federal clean air standards, one to
meet California standards, and a third to meet the Northeastern state standards. However, the
automakers' claim that partial adoption of the California regulations will force them to produce
a "third car" has been contested by the states, and the issue is currently being litigated (BNA
1993).
The combination waterborne/solventborne approach is called a "waterborne basecoat,
solventborne clearcoat" system.
10. The estimated costs presented in Exhibit 4-7 are currently being reviewed by the EPA.
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11. According to the AAMA, uncertainty surrounding the technology requirements prevents the
extrapolation of exact increases in vehicle costs under the CAAA's CFV program. However,
the industry agrees with studies that show that the estimated cost will be well over $1,000 per
car (AAMA 1993b).
12. Currently the cost of ZEVs are considerably higher than the estimates presented in this section
indicate, as automakers spread high development costs over a small production base. For
instance, the 1993 and 1994 Chrysler/Dodge Caravan electric minivan models are priced at
$120,000 apiece. The price of the 1996 model year electric minivan is expected to fall to
$100,000 (Bonn 1993).
13. A direct comparison of the two sets of cost estimates is difficult, as the AAMA costs are not
annualized.
14. Automakers that sell less than 35,000 cars annually in the California market are exempt from
the CFV requirements until 1998.
15. This conclusion could change if several eastern states are successful in "opting in" to the
California car provisions.
16. This "outsourcing" of parts has become more popular as the Big Three have attempted to cut
production costs.
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CHAPTER 4 REFERENCES
AAMA 1993a. The Effect, of Air Pollution Control Laws on the International Competitiveness of U.S.
Automobile Manufacturers, the American Automobile Manufacturers Association, January ,
1993.
AAMA 1993b. Letter to Bruce S. Carhart, Executive Director, Northeast Ozone Transport
Commission, from Marcel L. Halberstadt, Director, Vehicle Environment Department,
American Automobile Manufacturers Association, September 10, 1993.
Automotive Executive 1993a, "The NADA Report", Automotive Executive. May 1993.
Automotive Executive 1993b. "The NADA Report", Automotive Executive, August 1993.
Automotive News 1993a. "Who Pays?", cover story, Automotive News, June 7, 1993.
Automotive News 1993b. "The Green Plan", Automotive News. August 2, 1993.
Automotive News 1993c. "1993 Market Data Book", Automotive News. 1993.
BNA 1993. "Court Denies Automakers' Injunction Request in Suit Over California Emission
Standards," Environment Reporter. November 12, 1993.
Bonn 1993. Joseph Bonn, "Chrysler Plans 5,000 Electrics", Automotive News. September 20, 1993.
DOC 1990. 1987 Census of Manufacturers. "Motor Vehicles and Equipment", U.S. Department of
Commerce, Bureau of the Census, May 1990.
DOC 1992a. Current Industrial Reports: Survey of Plant Capacity. 1990. U.S. Department of
Commerce, Economics and Statistics Administration, Bureau of the Census, March 1992.
DOC 1992b. 1991 Annual Survey of Manufacturers, Value of Product Shipments. U.S. Department of
Commerce, Bureau of the Census, November 1992.
DOC 1992c. 1991 Annual Survey of Manufacturers, Statistics for Industry Groups and Industries,
U.S. Department of Commerce, Bureau of the Census, December 1992.
DOC 1992d. 1987 Census of Manufacturers. Concentration Ratios in Manufacturing. U.S. Department
of Commerce, Bureau of the Census, February 1992.
DOC 1993a. U.S. Industrial Outlook 1993. "Motor Vehicles and Parts", U.S. Department of
Commerce.
DOC 1993b. Current Industrial Reports: Pollution Abatement Costs and Expenditures. 1991. U.S.
Department of Commerce, Economics and Statistics Administration, Bureau of the Census,
January, 1993.
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DOC 1993c. 1991Annual Survey of Manufacturers. Geographic Area Statistics. U.S. Department of
Commerce, Bureau of the Census, February 1993.
DOC 1993d. Import/Export data provided by U.S. Department of Commerce, Bureau of the Census,
August 1993.
Diem 1993. William R. Diem, "California Dreaming: Consumer Survey Confirms Automakers'
Market Fears About Electric Car Acceptance", Automotive News. June 7, 1993.
EEA 1990. Comparison of Air Emissions Regulations In the U.S., Japan, and West Germany
(REVISED DRAFT), prepared for the Office of Policy Analysis and Review, Office of Air
and Radiation, U.S. Environmental Protection Agency, prepared by Energy and Environmental
Analysis, November 1990.
FR 1993a. "Clean Fuel Fleet Emission Standards, Conversions, and General Provisions and Amended
Heavy-Duty Averaging, Banking, and Trading Credit Accounting Regulations", EPA, Notice of
Public Rulemaking. Federal Register. Vol. 58, No. 110, Thursday, June 10, 1993, p.32475.
FR 1993b. "Control of Air Pollution from New Motor Vehicles and New Motor Vehicle Engines;
Regulations Requiring On-Board Diagnostic Systems on 1994 and Later Model Year Light-
Duty Vehicles and Light-Duty Trucks", Federal Register. Vol. 58, No. 32, Friday, February 19,
1993, p.9468.
Frame 1993. Phil Frame, "Big 3 Expect Decision On Joint Venture For Electric Car By June",
Automotive News. May 10, 1993.
lEc 1991. Memorandum to EPA, Office of Policy Planning and Evaluation from Industrial
Economics, Inc., "Effect of Clean Air Act Amendments on Production Costs and International
Trade", December 19, 1993.
Inside EPA 1993. "OTC Considers Seeking Mandatory Low Emission Vehicle Adoption", Inside
EPA. August 20, 1993.
Jackson 1993. Kathy Jackson, "Alternative Pioneer: Roberta Nichols Blazes A Trail With Ford
Programs", Automotive News. April 5, 1993.
Keebler 1993. Jack Keebler, "Cleaner Engines Also Quieter, More Durable", Automotive News. June
28, 1993.
Lowell 1993a. Jon Lowell et al, "Hazardous Waste: The Auto industry's $500 Billion Mess?",
WARD'S Auto World. July 1993.
Lowell 1993b. Jon Lowell, "USCAR Picking Up Speed As Big 3 Cooperation Grows", WARD'S
Auto World. May 1993.
McCann 1993. Hugh McCann, "NGV's Natural Gas Nears Lead In Alternate Fuel Race", WARD'S
Auto World. June 1993.
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MVMA 1991. "Economic Indicators, The Motor Vehicle's Role in the U.S. Economy", Motor Vehicle
Manufacturers Association of the United States, Inc., Detroit, Michigan, Second Quarter 1991.
Moyer 1991. Craig A. Moyer and Michael A. Francis, Clean Air Act Handbook: A Practical Guide
to Compliance, Clark Boardman Company, 1991.
NRC 1992. National Research Council, Committee on Fuel Economy of Automobiles and Light
Trucks, Energy Engineering Board, Commission on Engineering and Technical Systems,
Automotive Fuel Economy, How Far Should We Go?. National Academy Press, 1992.
Percival 1992. Robert V. Percival et al, Environmental Regulation: Law. Science, and Policy. Little,
Brown and Company, 1992.
Pietrangelo 1992. Joel D.Pietrangelo, "Behind the CAFE Scene: Exotic Answers to New Rules",
WARD'S Auto World. June 1992.
Quarles 1993. John Quarles and William H. Lewis, Jr., The NEW Clean Air Act. A Guide to The
Clean Air Program As Amended in 1990. Morgan, Lewis & Bockius, 1990.
Salman 1993. Conversations with David Salman, Office of Air and Radiation, Environmental
Protection Agency, August 25 and September 20, 1993.
Shreve 1993. Mary Anne Shreve, "What Dealers Face When Other States Adopt California's
Emissions Standards", Automotive Executive. May 1993.
Smith 1992. David C. Smith and Marjorie Sorge, "The State of the Industry 1993, Ford Motor,
Clinton Will Balance Environment and Jobs", WARD'S Auto World, December 1992.
Suris 1994. Oscar Suris, "Northeast States Endorse Tough Emissions Rules," The Wall Street Journal.
February 2, 1994.
Valueline, 1993. Valueline, "Auto and Truck Industry", Value Line Publishing, September 17, 1993.
WARD'S Automotive Report 1993. "Low-Emissions Tieup Set for Long-Term", WARD'S
Automotive Report. March 1, 1993.
WARD'S Auto World 1993. "1993 Market Data Book - Production, U.S. and Canada", WARD'S
Auto World. 1993.
Winter 1992. Drew Winter, "The Greening of Cars and ... Paint Shops", WARD'S Auto World.
September 1992.
Winter 1993. Drew Winter, "Re-Engineering: The Most Complex Component", WARD'S Auto
World. May 1993.
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WOOD FURNITURE
CHAPTER 5
5.1 INTRODUCTION
This chapter examines the effect of the Clean Air Act (CAA), as amended in 1990, on
domestic manufacturers of wooden home and office furniture, and kitchen cabinets (referred to in this
report as "wood furniture"). Industry-wide emissions from wood furniture manufacturing facilities are
estimated to be 60,000 tons per year (in nonattainment areas) of volatile organic compound (VOCs)
and 90,000 tons per year of hazardous air pollutants (HAPs) (EPA 1993a). EPA's analysis identifies
industry characteristics that may, in conjunction with requirements under the CAA, result in the
closure of facilities that make wood furniture.
Regulations under the 1990 Amendments will affect wood furniture manufacturers by limiting
emissions of VOCs and HAPs that result from wood furniture manufacturing operations. VOC
regulations will only affect those facilities in ozone nonattainment areas; HAP restrictions will apply to
all firms that qualify as "major" sources.1 In order to comply with the forthcoming regulations,
furniture makers will be forced to re-evaluate finishing, cleaning and gluing processes. The use of
ozone depleting solvents in adhesives and cleaning fluids has been an issue for many industries for a
number of years and thus will not be addressed in this analysis.2 Instead, two crucial aspects of the
furniture manufacturing process will be closely scrutinized: (1) the use of solvent-based coatings, and
(2) traditional coatings applications techniques and equipment.
5.1.1 Summary of Findings
As defined in this analysis, the wood furniture manufacturing industry contained more than
8,400 firms in 1987, with plants located throughout the United States, employing more than 450,000
workers. Although there are a number major producers in the industry ~ 22 percent of total product
sales are accounted for by the top four firms -- there are over 3,000 low volume facilities with less
than four employees. The range of technical sophistication within the industry is related to size, as
larger firms tend to employ more sophisticated assembly and coatings processes while the smaller
firms rely on more labor-intensive assembly and coatings methods. The recent economic performance
of this industry has been poor, resulting from weak domestic demand and excess industry capacity.
A regulatory negotiation (reg-neg) jointly addressing VOC and HAP emissions from wood
finishing processes has been underway for a number of months; EPA's final standards for emissions of
VOCs and HAPs are not expected until November 1994. Since the regulation has yet to be developed,
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it is not possible to fully determine how regulations resulting from the CAA will affect the industry.
However, several implications are likely and can be inferred from an analysis of the wood furniture
industry and the reg-neg discussions to date. These implications are summarized below.
• Wood furniture manufacturers will likely shift some or all of their coatings
materials from traditional solvent-based stains, paints, and varnishes to
waterborne and/or other alternative coatings. The industry is also expected to
switch to coating application equipment that is more efficient and results in
lower VOC and HAP emissions.
* Due to the poor financial performance of firms in this industry over the past
five years, many firms are projected to go out of the business even in the
absence of CAA regulations. For example, one recent study estimates that
over 1,400 firms have negative profit to sales margins before factoring in CAA
compliance costs (ENSR 1992). At modest VOC reduction levels (e.g., up ,to
20 percent), the marginal increase in the number of firms forecast to go out of
business due to CAA compliance costs is minimal.
• The likelihood that the regulations will require small producers to make capital
or process changes is uncertain. To the extent that small firms are subject to
the regulations, a significant number could be threatened if they are required to
adopt extensive capital equipment or process changes, due to the lack of
capital availability and due to poor market conditions in the furniture industry.
Since use of alternative coalings is likely to be the least capital intensive
compliance strategy, the development of high quality, reasonably priced
alternative coatings that meet the regulations is fundamental to minimizing
small business closures.
Segmenting the regulation by different finishing processes and/or adopting
standards that provide facilities with different compliance options could reduce
the number of threatened plants by reducing the cost of compliance.
In light of these issues, it is possible that the CAA could contribute to further consolidation of the
wood furniture industry. Separating the effect of the CAA from the economic pressures being placed
on the industry due to over capacity and weak demand is difficult, however.
5.1.2 Caveats
Our analysis and findings are subject to the following limitations. First, since the regulatory
negotiation is on-going and the rules affecting this industry are not yet final, estimates of regulatory
costs and potential employment losses presented here are preliminary and may change once final rules
are issued. Second, projecting compliance costs and employment losses of the rule as currently
structured is difficult, due to disagreement between EPA and industry groups regarding costs of
process and coatings modifications. Third, VOCs and HAPs are addressed in two distinct titles of the
1990 Amendments. However, it is estimated that of the 15 different solvents commonly used by
furniture manufacturers, about two-thirds are both VOCs and HAPs (EPA 1993a). As a result, this
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analysis treats VOCs and HAPs as one issue for wood furniture makers. In reality, however, there is
not complete overlap across these two categories of air pollutants.
5.13 Organization of Chapter
The remainder of this chapter is divided into four sections. The first section contains a
description of the wood furniture manufacturing industry, including products, processes, and economic
and financial considerations. The second section provides a summary of the requirements under the
1990 Amendments that are relevant to furniture makers and the deadlines associated with these
requirements. In the third section, we look at the potential technology and cost implications of
reducing VOC and HAP emissions and consider what this implies with respect to potential plant
closures. Finally, we briefly examine the development of new environmental control technologies and
other factors that may lead to the creation of jobs associated with the 1990 Amendments.
5.2 INDUSTRY CHARACTERISTICS
5.2.1 Products
The furniture manufacturing industry can be divided into a number of smaller categories:
mattresses and bedsprings; drapery hardware, blinds and shades; wood household furniture; metal
household furniture; wood kitchen cabinets; office furniture except wood; and so forth. There are
distinct differences in the -markets for the various products and how they are manufactured, and yet
among several sectors there are similarities in how the final products are finished. Wood products,
whether they are assembled first and then finished (most U.S.-made, high-end furniture pieces), or
finished first and assembled later 0ow-end furniture and some cabinets), require a common series of
finishing steps. Higher end furniture items may have more coats of finish than lower end pieces, but
in both instances the manufacturer must apply initial coatings to a porous, wood surface.
The sectors listed in Exhibit 5-1 were selected for this analysis because they are wood-based,
and will follow the same basic finishing steps involving stains, washcoats, sealers and topcoats and
will therefore face similar challenges under the 1990 Amendments.
5.2.2 Processes
Wood furniture manufacturing can be divided into two stages: (1) construction and assembly;
and (2) finishing.3 Within the wood furniture industry there are a number of ways that products are
constructed and assembled. Generally speaking, smaller manufacturers use less equipment and more
labor, while larger, more sophisticated firms use less labor and more technology. Examples of
equipment that allow larger operators to achieve consistency of product quality in larger volumes
include:
• carving machines that operate with multiple blades and have the ability to
produce matched and turned pieces with a single operator;
* power fastening tools such as automatic nailers and staplers; and
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Exhibit 5-1
WOOD FURNITURE SECTORS
SIC Code
2511
2512
2521
2434
Industry
Household Furniture,
Household Furniture,
Sector
Wood
Upholstered
Office Furniture, Wood
Kitchen Cabinets, Wood1
1 Standard Industrial Classification (SIC) 2434 does not cover
custom cabinet making, but does include bathroom cabinets.
• continuous production lines that move the furniture item between various
finishing processes (Joyce 1987, ENSR 1992).
The type of assembly process used by furniture manufacturers has little direct effect on their ability to
comply with the CAA. Therefore, discussions of process technologies in the remainder of this chapter
will focus on finishing steps.
The wood furniture finishing process begins with the application of one or more coats of stain,
followed by a washcoat. Washcoats are used to seal in the stain and also raise the grain for sanding,
which occurs prior to the application of a wiping stain or filler. This step makes the wood surface
smooth by filling in the pores. A sealer protects the color coats once again before the topcoat(s) is
applied. Drying ovens can be used between steps to speed up the process. For assembled furniture,
these coatings are usually applied with spray guns, which mix the coating material with air and spray
the mixture on the wood product.4 Flat furniture components that are not yet assembled can be
finished using spray guns, rollcoating, curtain coating or by dipping.5'6
5.2J Economic and Financial Conditions
In the sections below, we examine a number of factors that reflect key economic and financial
characteristics of this industry. Major findings of these sections include:
• the wood furniture industry is comprised of a large number of small to
medium sized manufacturers, and a lesser number of large producers;
• facilities are located in all regions of the U.S. with a slight concentration of
wood furniture manufacturers in the southeastern U.S.;
• sales of wood furniture products have declined markedly since the mid-1980s;
* the wood furniture industry has significant excess manufacturing capacity;
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• wood furniture exports grew by 26 percent in 1992, but imports are still more
than twice as large as exports;
• employment in the wood furniture industry peaked in 1987, but has fallen to
early-1970s levels as a result of the 1990-1991 recession; and
pollution abatement capital expenditures (PACE) have historically been a
relatively small percentage of the industry's total capital costs. Air pollution
abatement equipment has represented the majority of these pollution abatement
expenditures.
Recent Industry Performance
The 1988 through 1992 period has been the worst five-year period for the furniture business in
more than forty years, according to industry analysts (Valueline 1993). The potential for stronger sales
in the near term will be linked to increasing housing starts and other fundamental signs of a
strengthening economy. There is a great deal of uncertainty over the timing and strength of the
current recovery and furniture purchases are easily deferred by tentative consumers. However, recent
national disasters (e.g., the flooding this summer in the Midwest) are a potential source of increased
demand in the next twelve months.
Capacity Utilization
One measure of the health of an industry is the utilization rate (or capacity rate) at which the
industry is operating. Exhibit 5-2 presents utilization rates for the SICs included in this analysis, as
well as the utilization rate for all U.S. industry for 1990. As illustrated in this exhibit, utilization rates
for three of the four SICs which make up the wood furniture industry were below the U.S. average.
Excess capacity is particularly striking for the wood office furniture segment, where manufacturing
capacities expanded with high demand during the 1980s (Valueline 1993).
Exhibit 5-2
WOOD FURNITURE INDUSTRY CAPACITY
UTILIZATION BY SIC CODE
SIC Code
2434
2511
2512
2521
Industry
Kitchen Cabinets, Wood
Household Furniture, Wood
Household Furniture, Upholstered
Office Furniture, Wood
All U.S. Industry
1990 Capacity
Utilization
69%
70%
79%
58%
76%
Source: DOC 1992d.
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International Trade and Competition
In the household furniture sector, exports grew an estimated 26 percent to $1.2 billion in 1992
as U.S. producers looked to international markets to make up for weak domestic demand. The two
largest foreign markets were Canada and Mexico, with 47.5 percent and 12.5 percent export shares,
respectively; Japan came in a distant third. The Commerce Department anticipates that the North
American Free Trade Agreement (NAFTA) could bolster exports, especially with respect to Mexico.
In fact, during the 1992 NAFTA negotiations the furniture industry lobbied in favor of eliminating all
North American tariff barriers (DOC 1993b). If NAFTA is adopted, however, it is conceivable that
there could be increased U.S. and Canadian ownership of furniture production facilities in Mexico and
a shift in production of low end furniture to Mexico (DOC 1993b).
Domestic furniture imports grew by nine percent to almost $3 billion in 1992. Imports now
account for 14 percent of American furniture purchases. Taiwanese furniture accounts for about a
third of the imports, with Canada supplying about 12 percent. Italian firms supply approximately half
of all imported upholstered furniture.
Trends in Employment
The employment numbers for the entire furniture and fixtures sector (SIC 251) peaked in 1987
at 522,600 workers as a result of strong demand for furniture during the 1980's. By 1991, however,
employment had dropped by more than 10 percent to a level roughly equivalent to industry
employment in the early 1970s. Since wood furniture manufacturing remains labor intensive relative
to other industries, especially in the case of smaller operations, we do not anticipate large-scale
reductions in employment in this industry from technological advances in the near future.
Within the industry segments included in this analysis, employment is primarily concentrated
in the wood and upholstered furniture sectors (SICs 2511 and 2512). As illustrated in Exhibit 5-3,
nearly 83 percent of total employment in the sector under analysis are included in these two sectors.
Exhibit 5-3
WOOD FURNITURE INDUSTRY EMPLOYMENT
BY SECTOR 1991
SIC
Code
2434
2511 and 2512
2521
Total
Total Employment
57,100
379,900
22,500
459,500
Percentage
of Total
12.4 %
82.7 %
4.9%
100.0 %
Source: DOC 1992a.
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Financial Position
Exhibit 5-4 presents two financial indicators for this industry; both indicators represent the
median for all firms within each SIC code.8 As reflected by the ratio of profits before taxes to total
assets, profit levels in the wood furniture industry were low in 1991, as one would expect based on the
excess capacity present in the industry. Further, furniture manufacturers are carrying a sizeable
amount of debt relative to their total net worth (TNW); this ratio is equal to or above 2.0 for three of
Exhibit 5-4
WOOD FURNITURE INDUSTRY
PROFITABILITY AND LEVERAGE BY SIC
CODE
SIC Code
2434
2511
2512
2521
Profits Before Taxes/
Total Assets
3.6%
2.9%
3.8%
5.9%
Debt/
TNW
2.1
1.5
2.0
2.0
Source: RMA 1992.
the four SIC codes presented in Exhibit 5-4. While these debt levels do not necessarily imply serious
financial difficulties, they reflect the fact that firms in this industry are financing operations
predominantly through debt financing (e.g., bank loans), which make them more susceptible to failure
than less highly leveraged firms.
It is interesting to note that the profits of firms producing office furniture (SIC 2521) as a
percentage of TNW are more than twice as high as the percentage for firms producing household
furniture (SIC 2511). This is perhaps due to the fact that standard office furniture is likely to be made
out laminated materials. As a result, the wood office furniture being sold today tends to be of higher
quality and more expensive than most household furniture, thus allowing for higher margins.9
Capital Expenditures and Pollution Abatement Costs
As illustrated in Exhibit 5-5, the four wood furniture segments analyzed in this chapter made
capital investments totalling $298.9 million in 1991. Pollution abatement capital expenditures
represent a relatively small fraction of total capital expenditures for each segment, with the exception
of wood office furniture (SIC 2521). Over 80 percent of PACE were for air pollution abatement
equipment. Pollution abatement operating costs represented a greater percentage of total costs (as
shown in Exhibit 5-6), as wood furniture manufacturers spent $75.8 million on pollution abatement
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Exhibit 5-5
WOOD FURNITURE INDUSTRY POLLUTION ABATEMENT CAPITAL
EXPENDITURES RELATIVE TO TOTAL CAPITAL EXPENDITURES
1991
SIC
Code
2511
2512
2521
2434
Total
Total Capital
Expenditures
(million $)
$166.1
49.9
22.4
60.5
298.9
PACE
(million $)
$8.3
1.0
3.1
1.3
13.7
PACE as a
Percentage of
Total Capital
Expenditures
5.0%
2.0%
13.8%
2.1%
4.6%
Air Pollution
Abatement
Expenditures as
a Percentage of
Total PACE
73.5%
100.0%
96.8%
76.9%
81.0%
Source: DOC 1992b/1993b.
Exhibit 5-6
WOOD FURNITURE INDUSTRY POLLUTION ABATEMENT
OPERATING COSTS
1991
SIC Code
2511
2512
2521
2434
Total
Total Gross Annual
Operating Costs for
Pollution Abatement
(million $)
S50.6
4.6
10.4
10.2
75.8
Air Pollution
Abatement
Operating Costs
as a Percentage
of Total
44.8%
30.4%
47.1%
30.4%
423%
Solid Waste
Management
Operating Costs
as a Percentage of
Total
46.4%
47.8%
30.8%
60.9%
463%
Source: DOC 1993b.
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operating costs in 1991. Operating expenditures for air pollution equipment accounted for
approximately 42 percent of these expenditures.
Firm Size and Concentration
A distinguishing characteristic of wood furniture manufacturing is that the industry contains a
large number of small to medium-sized firms. For example, as illustrated in Exhibit 5-7, very small
Exhibit 5-7
NUMBER OF WOOD FURNITURE
MANUFACTURING FIRMS 1987
SIC Code
2511
2512
2521
2434
Total
Total Number
of Companies
2,948
1,150
649
3,713
8,460
Number of Firms
with Less than
Four Employees
1,214
261
191
1,589
3,255
Percentage with
Less than Four
Employees
41.2%
22.7%
29.4%
42.8%
38.5%
Source: DOC 1990a, b, c and DOC 1992c.
firms (less than four employees) account for nearly 40 percent of all firms in this industry. As a result
of the large number of firms manufacturing wood furniture products, the percentage concentration of
sales in the largest firms is low in comparison to other industries. On average, the four largest
companies account for only approximately 22 percent of the value of shipments. By contrast, in the
more highly concentrated motor vehicle manufacturing industry, the four largest companies make-up
90 percent of the value of shipments (DOC 1992c).
Location of Firms
Exhibit 5-8 lists the five states with the greatest number of facilities for each SIC. The
number in parenthesis next to each state represents the total percentage of facilities for each sector. As
illustrated in this exhibit, the wood furniture industry is not concentrated in one region of the U.S., as
large numbers of firms are located in California, New York, North Carolina, and Florida.
Shutdown Costs
Shutdown costs are unlikely to be a significant factor in most decisions to close wood furniture
manufacturing operations. Based on a review of existing unfunded pension liabilities held by publicly
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Exhibit 5-8
WOOD FURNITURE INDUSTRY
GEOGRAPHIC LOCATION BY SIC CODE
2511
CA (15.0%)
NY (8.4%)
NC (7.7%)
FL (7.5%)
PA (4.3%)
2512
NC (23.0%)
CA (16.9%)
MI (8.2%)
TN (5.7%)
NY (5.5%)
2521
CA (20.6%)
NY (8.3%)
FL (7.4%)
NC (6.0%)
IN,MI,TX (4.8%)
2434
CA (17.0%)
FL (10.2%)
NY (5.4%)
TX (5.2%)
PA (4.4%)
Source: DOC 1990s, b, c.
traded firms in this industry, we do not believe that unfunded pension or retiree health plan liabilities
will represent a significant incentive for wood furniture to avoid closure.
In some cases the value of the property on which an industrial or commercial facility is
located is a significant factor in the closure decision. In the most extreme case, the value of the land
may be greater than the present value of expected return from facility operations. In these cases a
facility might close (and relocate) a facility simply to liquidate the property. In cases in which a site
requires substantial and costly remediation, however, the opposite may be true. In these cases a
marginally profitable operator might continue to operate to avoid closure costs, or to allow for the
formulation of an alternative management strategy. While we do not expect environmental
remediation costs to be a significant factor in a large number of closure decisions in the wood
furniture manufacturing industry, this factor could be important for a small number of firms and thus
should be included in any plant-specific closure analysis.
5.3 CAA REGULATIONS THAT AFFECT THE WOOD FURNITURE INDUSTRY
Determining whether or not the 1990 Amendments will result in wood furniture plant closures
requires an understanding of the rules under the Amendments that will target this particular industry.
Manufacturers are presently concerned with the outcome of the regulatory negotiations for VOCs and
HAPs, which will affect how furniture makers apply coatings. These regulations will also affect the
coatings and glues used by industry. Eighty percent of VOCs and HAPs emitted by this industry
come from finishing operations, while ten percent from gluing and another ten percent come from
clean-up (EPA 1993a). This analysis focuses primarily on the major sources of VOC and HAP
emissions, namely coatings and coatings applications processes.
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5.3.1 Volatile Organic Compounds
It is estimated that the furniture industry contributes between 0.5% and 1.0% of total VOC
emissions nationwide (ENSR 1992). As mandated by the 1990 Amendments, EPA is in the process of
designing control techniques guidelines (CTGs) which will establish reasonably achievable control
technology (RACT) for the wood furniture manufacturing sector to facilitate a reduction of VOCs
emissions in states that contain ozone nonattainment areas.10 States are not required to implement
RACTs proposed by EPA's CTGs. However, state budget, personnel and technical constraints
generally result in states' adoption of EPA's proposed technology-based regulation. In any case,
whether it be through EPA-proposed RACT or other methods called for in each state implementation
plan (SIP), total VOC emissions for nonattainment areas must be reduced so that compliance with the
federal ozone standard Gess than 0.121 parts per million) is achieved.
5.3.2 Hazardous Air Pollutants
The 1990 Amendments also require the EPA to set standards for 189 hazardous air pollutants
that are specifically named in the legislation. These standards will apply to all "major" sources.
Major sources emit ten tons per year of any single HAP, or 25 tons per year of a combination of
HAPs. All but the smallest furniture manufacturers fall into this category.11 Area sources are
stationary sources that are not classified as major and may be regulated to some degree once national
emission standards for hazardous air pollutants (NESHAPs) are in place for major sources.
Rather than regulate HAPs on a substance-by-substance basis, the Amendments call on EPA to
control emissions by source category (i.e., industry sectors). Under Title III of the Amendments, the
development of maximum achievable control technology (MACT) standards for 40 source categories
was required by November 1992. The wood furniture industry falls into a second group of source
categories, for which MACT standards must be established by November 1994.12
5.33 Regulatory Negotiation
Because of the overlapping nature of VOCs and HAPs, as well as the potential for
incompatible RACT and MACT, EPA chose to address both of these CAA mandates in a single on-
going reg-neg involving EPA, industry representatives, environmental groups and state representatives.
The reg-neg officially began in June 1993, but discussions with industry were in progress even before
development of the CTG was initiated. The initial formation of the Reg-Neg Committee took place in
the latter part of 1992. CTG and MACT standards are expected in November 1994. Reg-neg
participants are attempting to stay on, or ahead of, schedule in order to provide states that have
nonattainment areas with CTGs that will enable them to achieve the first round of required reductions
in VOC emissions by 1996. Industry officials are concerned that if the reg-neg process were to fall
behind schedule, states might develop their own VOC reduction plans. This would mean that
manufacturers would be more likely face different technological standards in each state, potentially
increasing the cost and technical difficulties of meeting these requirements (CDR 1993, Strum 1993).
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5.4 EFFECT OF THE 1990 AMENDMENTS ON THE WOOD FURNITURE INDUSTRY
The effect of regulations under the 1990 Amendments on this industry will be a function of
several factors. In this section we first describe the types of technologies that firms may be able to
employ to meet the still to be proposed regulations, and the expected cost of adopting these new
technologies. Second, we assess the likelihood that these technological changes could result in plant
closures, utilizing information presented earlier in this chapter on the characteristics of this industry.
5.4.1 Reducing VOC and HAP Emissions
There are several different ways that HAP and VOC emissions can be reduced from furniture
coatings operations, including: (1) switching from solvent-borne coatings to alternatives; (2)
increasing the efficiency of coatings applications Gess coating and therefore less solvent per square
inch); and/or (3) incinerating the vapors generated and collected during the furniture coating process.
Each method is discussed below.
Alternative Coatings
Use of substitutes for solvent-borne coatings can reduce VOC emissions by eight percent to 82
percent, depending on both the type of coating and the sophistication of the manufacturing facility
(ENSR 1992). In many cases, the use of these coatings requires modifications to a facility's coating
equipment. Furthermore, depending on the wood type and product specifications, some low/non-VOC
alternatives will be more appropriate than others. For instance, waterborne coatings tend to be less
durable and can cause "grain raising" when coats are applied directly to bare wood (ENSR 1992).
Alternative coatings include:
• Full or Hybrid Waterborne Coatings: Full waterborne coatings processes
reformulate all of the finishing layers with water instead of solvent for the
volatile portion of the coating. With hybrid systems, usually only the
clearcoats (post-stains) are water-based (ENSR 1992).
High SoUds Coatings: High solids polyester and high solids polyurethane
coatings are almost 100 percent solids with almost no VOCs. These finishes
are thick, durable, and ultra high gloss (ENSR 1992). High solids
nitrocellulose finishes have double the solids content (30-40 percent) of
conventional nitrocellulose, thereby reducing VOCs (Strum 1994).
• Powder-based Coatings: This spray technology uses 100 percent solids, no
VOCs, and is non-hazardous and nonflammable. However, powder-based
finishes currently must be cured at temperatures close to 450 degrees. Since
wood usually cures between 180 and 200 degrees, this method is presently
only used for coating metals. Future technological developments may make it
possible to cure powder-based coatings at less extreme temperatures (Herman
Miller 1993).
• Radiation Curable Coatings: Unlike other alternative coatings, radiation
curable systems work with solvent-based substances. Curing is accomplished
by exposing the finish to ultraviolet, electron beam, or infrared energy. VOC
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emissions can be reduced because radiation-cured finishes can have a lower
VOC-content. In the case of infrared-based processes, the heat from the curing
ovens destroys the VOCs driven off from the coating (ENSR 1992).
Use of these alternative coatings may require process changes at many facilities. For instance thicker
coatings such as polyester/polyurethane finishes may require increased curing times, and therefore
potentially greater use of drying equipment.
Alternative Methods of Applying Coatings
Conventional spray guns are the standard means of applying coatings in the furniture finishing
industry. Air guns mix the coating material with air as part of the vaporization process. As a result,
large quantities of air are contaminated with the volatile solvents in the finish, which are then either
released to the environment or must be incinerated. Newer application technologies increase the
transfer efficiency of the coating process, thereby reducing the amount of coating material required as
well as overall VOC emissions. These alternative methods include:
Airless Spraying: The liquid coating is vaporized by forcing it through a small
opening under high pressure. The coating is not mixed with air.
• Air Assisted Airless Spraying: This process combines conventional air guns
with the airless technology by forcing liquid coating through the sprayer nozzle
at moderately high pressures. To complete the atomization process, the
coating is combined with a lower pressure air stream.
High Volume Low Pressure (HVLP) Spraying: Also known as "turbine
spraying", this method uses high volumes of heated air at low pressure, instead
of low volumes of air at high pressure. HVLP spraying is much more efficient
than conventional methods.
• Airless Electrostatic: This method requires grounding the workpiece and
giving the paint particles a negative charge. In this way the paint is attracted
to the target surface. Airless Electrostatic only works well if the wood
contains adequate moisture or is pre-treated to give it a positive charge (ENSR
1992).
For facilities that do not currently utilize these technologies, capital expenditures to purchase new
equipment or retro-fit existing equipment may be required. For larger firms that use capital to
improve manufacturing efficiency, many of these technologies would be beneficial even without the
CAA requirements, since reducing the amount of coatings used (on a per furniture item basis) in a
large volume operation can result in significant cost savings.
Incineration
Incineration is a capital and energy intensive means of eliminating VOC and HAP emissions.
According to industry sources, it is not cost-effective to develop on-site incineration facilities if the
furniture manufacturing facility is not a modern, large volume producer (Murray 1993). In order to
burn VOCs and HAPs, emissions need to be collected and concentrated. Therefore, manufacturers
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who have many small spray booths and finishing lines face logistical barriers to incineration.
Furthermore, running an incinerator that reduces emissions of VOCs and HAPs may require a
substantial amount of energy (Murray 1993), which may be neither economically practical, nor
ecologically beneficial. The net result is that incineration may not really be an option for small
operators, or for large firms with many smaller facilities.
5.4.2 Cost of Compliance
Both the EPA and the Joint Industry Steering Committee have estimated the cost to the wood
furniture industry of reducing VOC emissions. In the 1991 draft CTG, the Agency developed nine
different RACT options ranging from reformulation to full waterborne/hybrid waterborne coatings, to
the use of add-on pollution control devices. According to EPA's estimates, U.S. control costs would
range from $147.3 million per year for a nationwide switch to hybrid waterborne coatings (yielding a
56 percent reduction in VOC emissions), to $418.0 million per year if all manufacturers adopted one
of two incineration technologies (yielding a 49 percent reduction in emissions) (EPA 1991). These
EPA cost estimates include annualized capital costs as well as annual operating costs. The higher of
these two estimates is equal to 1.2 percent of 1991 wood furniture shipments. Since EPA's draft CTG
was developed the price of the UNICARB13 system has fallen, lowering the cost of emissions
reductions (Strum 1993). The JISC estimates that total capital costs of reducing VOC emissions will
range from $309 million to $2.4 billion, depending on the percent of required reductions below current
levels (ENSR 1992). The same study further estimated that annual operating costs would be between
$53 million and $624 million, or about 16 percent of 1991 wood furniture shipments.
5.4.3 Likelihood of Plant Closures
This section discusses the likelihood that wood furniture manufacturing facilities will close as
a result of the CAA. While it is possible that many facilities could close as a result of the CAA
(combined with other factors), it is impossible to predict the number of facilities threatened by CAA
requirements for several reasons, including the fact that the regulatory development process for the
1990 Amendments is on-going. We have identified several interesting issues that relate to the
likelihood of plant closures, however, including:
• poor industry performance may force hundreds of facilities to close even in the
absence of CAA regulations;
even with one coordinated reg-neg for HAPs and VOCs, firms located in states
with ozone nonattainment areas will likely face higher compliance costs than
firms located in states that do not contain ozone nonattainment areas; and
• depending on how small-business exemptions are set, many small, less
technically sophisticated wood furniture shops could be affected
disproportionately by the 1990 Amendments.
These issues are discussed in more detail below.
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Likelihood of Closures Under Baseline Conditions
As discussed earlier in this chapter, wood furniture industry performance has been poor for the
past several years, resulting in significant excess capacity. As a result, it is likely that many firms are
on the brink of going out of business based on factors unrelated to the CAA. In fact, a close
examination of the study conducted for the JISC shows that 1,489 firms are estimated to have profit to
sales ratios that are worse than negative two percent and 550 are estimated to have profit to sales
ratios worse than negative five percent, under baseline conditions (ENSR 1992). These profitability
ratios were used in the JISC study to predict firm closures under different VOC reduction scenarios.
Based on this decision criteria, several hundred firms are likely closure candidates even in the absence
of CAA compliance costs.
Importance of Facility Location
Combining the regulation of HAPs and VOCs in one reg-neg is likely to reduce the effect of
location as a determining factor in closure decisions.14 However, the reg-neg does not completely
eliminate the possibility of different VOC standards across states, as states are not required to
implement the RACTs proposed by EPA. Many California counties have already developed a number
of regulations governing VOC emissions from facilities in their jurisdictions, as have New York City
and the states of Illinois, New Jersey, Indiana, and Pennsylvania (EPA 1991). The relative stringency
of these state and local regulations could lead to differential impacts.
Importance of Facility Size
The effect of the Amendments will be most severe on small manufacturers, given their general
lack of technical sophistication and more limited access to capita! to meet CAA requirements. Recent
reg-neg workgroups have included discussions on the development of a de minimus cutoff for small
businesses. A critical aspect of these discussions surrounds the definition of a "major" source of HAP
and VOC emissions. On behalf of small businesses, the Architectural Woodwork Institute has
proposed adoption of a 25 ton per year VOC emission cutoff for firms qualifying as major sources;
that is, firms with emissions below this threshold would be exempt from the reg-neg provisions. The
potential problem with this proposal is that, under the CAA, major sources are defined differently
according to the severity of ozone nonattainment in the area in which they do business. For instance,
in "extreme" nonattainment areas, the major source cutoff is set at 10 tons per year of VOC emissions.
Thus, the small business proposal appears to be inconsistent with this component of the CAA.
According to workgroup notes, a typical firm that emits 25 tons per year of VOCs will have
from 20 to 25 employees and will have on the order of $2 million in annual sales (CDR 1993). Based
on 1987 data, there are over three thousand firms with less than 20 employees in this industry. Thus,
the absence of de minimus cutoff could result in the regulation of several thousand additional firms.
One fundamental factor in the effect on small businesses is the ability of these businesses to
achieve compliance without incurring major capital expenditures. The likelihood of this occurring
hinges on the development of alternative coatings that meet the CAA regulations and maintain the
quality of the finished product, as these substitute coalings will require lower capital expenditures
relative to other compliance strategies. For example, many waterborne coatings have already been
developed, but not all are widely accepted by industry.
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5.4.4 Implications of Plant Closures
As discussed above, the burden of plant closures associated with the CAA has the potential to
fall most heavily on smaller wood furniture manufacturers. In instances where smaller operations were
"feeders" to large manufacturers, it is conceivable that the work (and jobs) would be integrated with
the bigger firms, as many small manufacturers in this industry are under contract to larger producers.
Thus, it is possible that the number of total firms will decrease measurably as a result of the CAAA,
but that total employment will only fall modestly. Differential impacts across different regions of the
U.S. are likely to be modest for the reasons outlined above.
5.4.5 Uncertainties
The technologies required to reduce emissions of VOCs and HAPs as required under the CAA
have been developed and tested by several firms. However, there has not been widespread use of
alternative coatings and applications technologies to date. For this reason, industry representatives still
perceive a fair amount of uncertainty associated with the viability of these technologies. Moreover, it
is possible that the "best" combination of VOC/HAP prevention and destruction has not yet been
commercialized. Knowing that there is a chance that newer, better product or process will be
developed makes it difficult for manufacturers to commit capital and man-hours to today's methods of
CAA compliance.
The 1990 Amendments, however, have created a strong market for waterborne coatings and
other technologies that will enable furniture makers to achieve VOC and HAP emissions targets. This
should further enhance the coatings industry's efforts to develop quality products as alternatives to
traditional, solvent-based finishes.
5.5 NEW MARKET OPPORTUNITIES RESULTING FROM THE 1990 AMENDMENTS
Forthcoming regulations of the wood furniture industry under the 1990 Amendments have
created an incentive for coatings suppliers to develop new products that provide furniture
manufacturers with durable, glossy finishes that emit no, or few, VOCs and HAPs. Several products
already make it possible to eliminate solvent-based coatings from certain finishing steps for some types
of furniture pieces, and industry representatives expect future advances in product quality (Murray
1993). To some extent, the development of these coatings does not represent a market advantage for
coatings manufacturers, as they are simply replacing their own solvent-based coatings. However, as
other nations adopt more stringent air pollution regulations, U.S. producers may find expanded markets
for high quality, low VOC wood furniture coatings. Similarly, wood furniture manufacturers which
develop technologies or work practices that maximize product quality using these alternative coatings
may find a market for these practices and technologies overseas.
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CHAPTER 5 ENDNOTES
1. "Major" HAP sources emit more than 10 tons per year of one HAP or more than 25 tons per year
of a combination of HAPs.
2. Some ozone depleting chemicals are included in our analysis if they are also HAPs.
3. The standard "assembly followed by finishing" order is generally reversed for cabinets and other
furniture pieces that are comprised of flat, uniform parts.
4. Assembled furniture (as well as unassembled parts) can also be dipped in coating, or the finish
can be applied by brush.
5. Rollcoating uses a roller, or series of rollers, to transfer the coatings to flat,surfaces. Curtain
coating passes the furniture piece through a cascade of coating (EPA 1991).
6. More expensive furniture pieces generally have more coatings, while less expensive items tend
to have fewer finishing layers.
7. Four digit SIC code trade statistics were unavailable for these industries. Therefore, we used
figures for SIC 251, which includes household wood and upholstered furniture as well as metal
furniture, mattresses, and boxsprings.
8. These ratios are for the fiscal year ending March 31, 1992.
9. According to Herman Miller's Environmental Manager Paul Murray, wood veneer office products
are expensive because their finish requires four steps (sanding, prep, finishing and incineration of
VOCs), compared to laminated products' one step finishing process.
10. According to the Federal Register (Vol. 57, No. 2, p. 3946), VOCs are defined as any compound
of carbon, excluding carbon monoxide, carbon dioxide, carbonic acid, metallic carbides or
carbonates, and ammonium carbonate, which participates in atmospheric photochemical reactions.
11. According to the Joint Industries Steering Committee (JISC) report, prepared by ENSR Consulting
and Engineering and NERA, Inc., any facility applying "average wood furniture finishes" to its
products that uses more than 14,140 gallons of finish per year would be classified as a major
source. This quantity is less than the amount used by the smallest model plant analyzed by the
EPA in their draft CTGs document.
12. The major HAPs emitted during the wood finishing process are: toluene (31.8% of the total),
xylene (26.1%), methanol (17.1%), and methyl ethyl ketone (10.7%).
13. The UNICARB system reduces VOC emissions by replacing the fast-evaporating solvents in the
coating with supercritical CO2 (ENSR 1992).
14. The HAP regulation allows the substitution of non-hazardous VOCs for HAPs. This may reduce
the cost of compliance for facilities located in attainment areas relative to those in nonattainment
areas who will not be able to make such a substitution.
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CHAPTER 5 REFERENCES
CDR 1993. Meeting Summaries for the Wood Furniture Regulatory Negotiation, CDR Associates,
Boulder, Colorado. March 1993 - August 1993.
DOC 1990a. U.S. Department of Commerce, Bureau of the Census, Census of Manufacturers,
Household Furniture. 1987. Washington, D.C., January 1990.
DOC 1990b. U.S. Department of Commerce, Bureau of the Census, Census of Manufacturers.
Millwork. Plywood, and Structural Wood Members, Not Elsewhere Classified. 1987.
Washington, D.C., April 1990.
DOC 1990c. U.S. Department of Commerce, Bureau of the Census, Census of Manufacturers. Office,
Public Building, and Miscellaneous Furniture; Office and Store Fixtures. 1987, Washington,
D.C., March 1990.
DOC 1992a. U.S. Department of Commerce, Bureau of the Census, Annual Survey of Manufacturers.
Statistics for Industry Groups and Industries, 1991. Washington, D.C., December 1991.
DOC 1992b. U.S. Department of Commerce, Bureau of the Census, Annual Survey of Manufacturers,
Value of Product Shipments. 1991, Washington, D.C., November 1992.
DOC 1992c. U.S. Department of Commerce, Bureau of the Census, Census of Manufacturers.
Concentration Ratios In Manufacturing. 1987. Washington, D.C., February 1992.
DOC 1992d. U.S. Department of Commerce, Economics and Statistics Administration, Bureau of the
Census. Current Industrial Reports. Survey of Plant Capacity. 1990. Washington, D.C., 1992.
DOC 1993a. U.S. Department of Commerce, U.S. Industrial Outlook 1993. "Household Consumer
Durables", Washington, D.C.
DOC 1993b. U.S. Department of Commerce, Economics and Statistics Administration, Bureau of the
Census, Current Industrial Reports. Pollution Abatement Costs and Expenditures. 1991.
Washington, D.C., January 1993.
ENSR 1992. An Evaluation Of VOC Emissions Control Technologies For The Wood Furniture and
Cabinet Industries. ENSR Consulting and Engineering, and National Economic Research
Associates, Inc., January 1992.
EPA 1991. U.S. Environmental Protection Agency, Guideline Series: Control of Volatile Organic
Compound Emissions from Wood Furniture Coating Operations - DRAFT', Office of Air and
Radiation, Office of Air Quality Planning and Standards, Emission Standards Division,
October 1991.
EPA 1993a, U.S. Environmental Protection Agency, "Wood Furniture Manufacturing 1994 NESHAP
and 1993 CTG Fact Sheet". Prepared for the Emission Standards Division Retreat, May 6,
1993.
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EPA 1993b. U.S. Environmental Protection Agency, Office of Air Quality Planning Standards,
Emission Standards Division, Chemicals and Petroleum Branch, "The Clean Air Act of 1990",
1993.
FR 1992. "Requirements for Preparation, Adoption and Submittal of Implementation Plans; Approval
and Promulgation of Implementation Plans," Federal Register, February 3, 1992. V. 57, #22,
p. 3946.
Herman Miller 1993. "Environmental Initiatives", Herman Miller Inc., Zeeland, Michigan, 1993.
Inside EPA 1993. Inside EPA. Inside Washington Publishers, August 13, 1993.
Joyce 1987. Ernest Joyce, Encyclopedia of Furniture Making. Sterling Publishing Co., Inc., 1987.
Moyer 1991. Craig A. Moyer and Michael A. Francis, Clean Air Act Handbook: A Practical Guide to
Compliance. Clark Boardman Company, New York, 1991.
Murray 1993. Personal Communication with Paul Murray, Environmental Manager, Herman Miller
Inc., September 13, 1993.
Rice 1993. Faye Rice, "Who Scores Best On The Environment", Fortune. July 26, 1993.
RMA 1992. RMA Annual Statement Studies 1992, Robert Morris Associates, 1992.
Strum 1993. Personal Communication with Madeleine Strum, EPA Project Lead Engineer, August 17
and August 30, 1993.
Strum 1994. Personal Communication with Madeleine Strum, EPA Project Lead Engineer, March 2,
1994.
Valueline 1993. Valueline. "Furniture/Home Furnishings Industry", Value Line Publishing, July 23,
1993.
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PETROLEUM REFINING
CHAPTER 6
6.1
INTRODUCTION
This chapter analyzes the effect of the Clean Air Act {CAA), as amended in 1990, on the
approximately 200 active petroleum refineries in the United States, identifying characteristics of
refineries that may make refineries vulnerable to closure as a result of the CAA. Several provisions of
the CAA will affect petroleum refinery operations, including ozone and carbon monoxide
nonattainment, mobile sources, and air toxics. Mobile source requirements, which will have the
greatest impact on the industry, include:
minimum oxygenate levels for gasoline, required during winter months in 39
carbon monoxide nonattainment areas as of November 1992;
sulfur content restrictions for diesel fuel as of late 1993; and
• reformulated gasoline requirements for the nine worst ozone nonattainment
areas by January 1995, with further requirements by 2000.
Provisions for stationary sources, such as limits on volatile organic compounds (VOC) emissions and
restrictions on hazardous air pollutant (HAP) emissions will also require this industry to invest in
capital and process changes.
6.1.1 Summary of Findings
The petroleum refining industry is dominated by large, complex refiners. These large refiners
will be more able than smaller refiners to vary their production flows in order to meet new regulatory
requirements. Meeting the requirements of the CAA will be expensive for the industry. In
conjunction with soft demand for petroleum products and the poor financial conditions of some
refiners, a number of refineries may close or reduce operations at least in part due to the CAA
requirements. Small refineries located in severe or extreme ozone nonattainment areas that do not
have a market niche, and that cannot effectively serve attainment areas, will be at the greatest risk of
closure. Industry characteristics that support this conclusion are described further below.
* Demand for fuels, the primary products of refiners, has been weak over the
past five years. While improved economic conditions may strengthen demand
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in the short-term, the continued increase in energy efficiency - and thus a
corresponding decrease in "energy intensity" (the ratio of energy consumption
to economic activity) — is likely to restrain the growth in demand for fuels
over the next ten to twenty years.
Profit margins for refiners have been low for the past several years, as weak
demand and excess capacity have combined to keep prices low. While
industry average capacity utilization has recently improved, margins are not
expected to recover in the short term without a significant improvement in
economic conditions. Recent low margins may make it difficult for refiners,
especially independents, to raise the capital to meet the new requirements.
Uncertainty regarding future product prices is an additional factor in the
difficulties these refineries face in obtaining required capital financing.
Refineries with sophisticated technologies in place face lower costs, per unit of
capacity, to meet CAA requirements; these refineries are typically larger than
refineries using less sophisticated technologies.
Many small refineries that are disadvantaged by employing less sophisticated
technologies are also potentially disadvantaged by primarily serving local
markets; if these markets are within nonattainment areas, then these refineries
will have to switch over entirely to reformulated gasoline, or else seek new
markets. The cost and other barriers associated with either option is likely to
be high enough to force some of the 30 small refineries located in or near
nonattainment areas out of business.
There are, however, mitigating circumstances that, in the absence of a detailed market analysis,
make it difficult to predict closure probabilities:
many small refineries do not manufacture gasoline, do not ship a significant
portion of their gasob'ne output to affected markets, or can readily serve
conventional gasoline markets;
many small refineries serve (or could serve) markets outside of ozone
nonattainment areas;
some small refineries have market niches, such as proximity to an Air Force
base; and
• some small refineries can sell intermediate feedstocks to other, larger refiners
for blending (SCI 1992).
As discussed below, refinery closures are most likely in areas that are categorized as serious or
extreme for ozone nonattainment, as the reformulated fuel provisions currently apply only to those
areas.
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While the closure of some smaller, less sophisticated refineries is possible, such closures will
not significantly affect industry capacity to produce fuels. In fact, overall domestic refining capacity
could even increase slightly as: (1) fuel price increases associated with the CAA are not expected to
cause a significant decline in demand; and (2) foreign producers are not likely to gain market share in
any significant way, as they essentially face the same fuel requirements as domestic refiners.
Furthermore, while European regulators currently lag behind the U.S. in clean air fuel requirements,
more stringent European standards are expected. Thus, domestic refiners could find themselves better
positioned on the "learning curve" and with the ability to produce a better product than their European
counterparts. This would allow domestic producers to market new technology, practices, and cleaner
fuels overseas, and possibly to capture some share of the newly evolving European reformulated
gasoline market.
6.1.2 Caveats
Many uncertainties and confounding factors affect any analysis of the likelihood of plant
closures due to environmental regulation. Foremost among these for the petroleum industry are
several factors that are occurring at the same time CAA standards are being put into place, making it
difficult to separate out the effects of CAA requirements from these other factors. The previous
section noted the importance of the ongoing reduction in energy intensity of the U.S. economy,
restraining growth in petroleum products demand. Other factors include the impact of state
environmental regulations and (he trend in crude oil toward more heavy and "dirty" grades (which
entail greater costs for the refining of high-end products). These factors are independent of any
impacts from the CAA. Alternatively, in one case CAA impacts could be even greater than expected.
Since some states have the option of adopting the reformulated gasoline requirements imposed on
other areas, the scope of the reformulated gasoline provisions could be wider than expected. Such
"opt-ins" could lead to the closure of additional small and technologically unsophisticated refiners
serving local markets in these areas.
6.1.3 Organization of Chapter
The remainder of this chapter is divided into four sections. First, we provide an overview of
petroleum refinery industry characteristics that are important in analyzing the total effects of the CAA
on this industry. Relative to other industries presented in this report, we place particular emphasis on
the diversity of refinery location and capacity, as small refineries located in nonattainment areas are
likely to be particularly affected by the CAA regulations. Second, we describe in detail the provisions
of the CAA that will affect the petroleum refining industry and the timing of these provisions, with
emphasis on the reformulated gasoline standards. Third, we discuss the technical and cost implications
of these provisions and resulting regulations, and what potential these implications have for plant
closures. Fourth, we address the potential for the spread of reformulated gasoline products and new
refining technologies and practices outside of the U.S., focusing on markets in the European
Community.
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6.2 INDUSTRY CHARACTERISTICS
6,2.1 Products and Processes
Modern petroleum refining is a complex manufacturing process, as sophisticated techniques are
utilized to convert crude oil into a variety of different products, including fuels (e.g., gasoline),
building materials (e.g., asphalt) and petrochemicals (e.g.. ethylene). While the finer points of
manufacturing intermediate and final products are beyond the scope of this analysis, an understanding
of certain aspects of the process is necessary for evaluating the impacts of CAA compliance. Two
basic components of the refining process are distillation and cracking. Distillation is accomplished by
heating the crude oil and separating out of liquid and gas products according to their boiling
temperatures. Because the demand for lighter products such as gasoline and jet fuel has often
exceeded the amount produced by distillation, engineers have developed processes to increase gasoline
yields from crude oil. These processes, called cracking, occur when the temperature of the crude is
increased to the extent that complicated hydrocarbon molecules crack into two or more smaller
molecules. Once cracked, the smaller molecules can be used to manufacture gasoline and other lighter
fuels in the presence of a catalyst Additional sophisticated "downstream" processes have been
developed (e.g., coking) to further convert crude oil residuals into lighter fuels such as gasoline and jet
fuel (Leffler 1979, Bland 1967, McKetta 1992).
The level of sophistication of a refinery has a significant effect on the amount of gasoline and
jet fuel that it can produce. As illustrated in Exhibit 6-1, typical yields from a "very complex"
refinery run as high as 65 percent and 20 percent for gasoline and jet fuel, respectively, whereas a
"simple" refiner (i.e., one primarily reliant on distillation) typically has yields of 30 and 10 percent,
respectively, of these two products. As discussed later in this chapter, these more sophisticated
technologies are also more amenable to producing the CAA required reformulated gasolines.
Exhibit 6-1
PRODUCT YIELD BY TYPE OF REFINING CAPACITY
Product
Gasoline
Jet Fuel
Distillate Fuel
(diesel fuel, furnace oil)
Residual Fuel
(low quality, heavy fuel)
Fuel (gain)1
Simple
Refiners
30%
10%
20%
35%
5%
Complex
Refiners
50%
19%
17%
20%
(6)%
Very Complex
Refiners
65%
20%
25%
0%
(10)%
1 This item reflects the fact mat the densities of most final products are less than the density
of crude oil; thus a gain in total volume occurs during the refining process at "complex" and
"very complex" refineries.
Source: Johnston 1992.
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Another component of the modern gasoline manufacturing process, directly linked to federal
and state air pollution control regulations, is the production of oxygenates. The CAA Amendments
specify minimum levels of oxygenates in gasoline sold during the winter in moderate and serious
carbon monoxide nonattainment areas. The result has been a dramatic increase in the production of
methyl tertiary butyl ether (MTBE), the gasoline component that is the primary means of complying
with this requirement. Refineries have therefore needed to upgrade their facilities to increase
production capacities for MTBE, which previously had been used only as an octane enhancer (OD
1991, OGJ 1993d). The implications to industry of this change are discussed in detail later in this
chapter.
6.2.2 Economic and Financial Conditions
In this section we discuss a range of economic and financial indicators that relate to the ability
of petroleum refiners to meet CAA requirements. The purpose of this section, as well as the following
section on the diversity of firms within the industry, is to examine key issues that affect the likelihood
of plant closures within the industry. In many cases, data presented in this section are based on the
Bureau of the Census's Standard Industrial Classification (SIC) system. The petroleum refining
industry is categorized by the Census as SIC 2911, which includes all establishments primarily
engaged in the production of intermediate and final products from the distillation or fractionalization
of crude oil.
U.S. Demand for Petroleum Products
Over the past five years U.S. consumption of petroleum products has grown by only two
percent, largely as a result of the lack of sustained domestic economic growth (DOE 1993a). Demand
for refinery products is expected to increase by 1.7 percent in 1993, and refinery output is forecast to
increase by slightly less than one percent in 1993 (DOE 1993c). Over the longer term, petroleum
products demand is expected to grow at an average annual rate of a little more than one percent
between 1992 and 1997 (DOE 1993c). These forecasts are dependent on a number of factors,
including the expected impact of the CAA standards discussed later in this chapter, and on economic
conditions.
Sluggish growth in demand for petroleum products has occurred against a backdrop of
decreases in the overall energy intensity of the U.S. economy over the last fifteen years. Due to both
technological advances and changing output composition, every real dollar of Gross National Product
(GNP) has increasingly reflected a smaller amount of energy consumed. One example of decreasing
energy intensity concerns the two offsetting trends behind the changes in gasoline demand: higher
levels of overall economic activity have led to increases in vehicle miles traveled, while at the same
time fuel efficiency advances have led to decreases in vehicle fuel requirements. As illustrated in
Exhibit 6-2, the growth in real GNP, while low in historical terms, has clearly outpaced the growth of
both total energy consumption and oil energy consumption (in BTUs). Therefore, energy consumption
per unit of GNP has steadily fallen. This downward trend in energy intensity is predicted to continue
over the next two decades (DOE 1993b).
The small change in total domestic demand for petroleum products masks larger changes in the
composition of those products over the last two decades. As illustrated in Exhibit 6-3, the share of
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Exhibit 6-3
U.S. PETROLEUM PRODUCT COMPOSITION
As Percent of Total Barrels Consumed
Year =1970
Others (18.6%)
Fuel Oil (14.4%)
Middle distillotes (24.0%)
Gasoline (43.1%)
Year = 1990
Others (19.7%)
Fuel Oil (7.2%)
Middle distillates (28.2%)
Gasoline (44.9%)
Source: Terreson 1993
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petroleum product sales accounted for by gasoline has increased slightly from 43 percent to 45
percent. But more pronounced has been the shift away from fuel oil used for heating purposes
towards middle distillates. Over the next several years increased consumption of diesel oil and jet fuel
relative to gasoline, and a continued shift away from fuel oil are expected (Weismantel 1992).
Recent Production Levels at U.S. Refineries
Since the U.S. market accounts for over 96 percent of U.S. refinery sales, refinery output has
mirrored the slow growth in U.S. demand.1 As illustrated in Exhibit 6-4, refinery output increased
from 15.02 million barrels per day to 15.37 million barrels per day between 1988 and 1992, reflecting
an average annual growth rate over this period of 0.6 percent Capacity utilization in the industry has
actually increased slightly over this period, due to a net reduction in operable refinery capacity. In
1988, capacity utilization stood at 84.7 percent based on 213 active refineries; by 1992, utilization had
increased to 86.6 percent, with 199 active refineries. In the near term, petroleum refinery output and
capacity utilization are expected to increase at a moderate pace as the U.S. economy gains strength.
Exhibit 6-4
U.S. PETROLEUM REFINERY OUTPUT AND CAPACITY
Year
1988
1989
1990
1991
1992
Refinery Output
(million barrels/day)
15.02
15.17
15.27
15.26
15.37
Number of Operable
Refineries
213
204
205
202
199
Capacity
Utilization
84.7%
86.6%
87.1%
86.0%
86.6%
Source: EIA 1993.
International Trade and Competition
Exports and imports of finished petroleum products are relatively minor in relation to the
volume of domestically produced products sold within the U.S. Due to high transportation costs for
refined petroleum (relative to crude oil), refineries are generally located near their customers (OD
1992b). As illustrated in Exhibit 6-5, approximately five percent of U.S. refinery output is exported;
while this percentage has been growing over the last five years, exports are unlikely to become a large
share of production in the near future. Most of these exports come from refineries on the Gulf Coast
and in California, and consist primarily of residual fuel oil and petroleum coke (DOE 1993c).
The quantity of imported petroleum products exceeds that exported, resulting in a net trade
deficit for this industry. The trade imbalance in finished products is quite small when compared to the
U.S. trade deficit in crude oil, however. As illustrated in Exhibit 6-5, imports as a percentage of total
domestic output have ranged between 11 and 15 percent over the last five years. Roughly 80 percent
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Exhibit 6-5
EXPORTS AND IMPORTS OF PETROLEUM PRODUCTS
Year
1988
1989
1990
1991
1992
Exports
(million barrels/day)
0.66
0.72
0.75
0.86
0.86
Exports as Percentage
of U.S. Output
4.4%
4.7%
4.9%
5.6%
5.6%
Imports
(million barrels/day)
2.30
2.22
2.12
1.84
1.79
Imports as %
of U.S. Output
15.3%
14.6%
13.9%
12.1%
11.6%
Source: DOE 1993a, Tables 5.3, 5.5, 5.8 and EEc analysis.
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of these imports are concentrated along the East Coast. Residual fuel oil accounted for 40 percent of
East Coast imports in 1991, followed by motor gasoline (29 percent) and distillate fuel oil (20
percent). These relative shares are expected to change over the next few years, as unfinished oils and
motor gasoline are predicted to overtake residual fuel oil as the most imported product, reflecting a
decline in U.S. consumption of residual fuel oil (DOE 1993c).
Trends in Employment
Total employment in the petroleum refining industry has been relatively constant over the last
several years; 73,900 individuals were employed in the industry in 1991, down one percent from the
number employed in 1987. These recent statistics miss the large-scale reduction in employment that
occurred in the early 1980s, however, as refinery companies shed thousands of production workers
during this time period. As illustrated in Exhibit 6-6, the number of petroleum industry production
workers dropped from nearly 75,000 in 1981 to 55,000 in 1986. Refinery output remained essentially
unchanged over this period, however, reflecting the fact that refinery process changes increased worker
output. Non-production employment also decreased from 1980 to 1986, from 33,200 to 29,000.
Future changes in employment will depend upon the relative magnitude of two offsetting trends: a
decreasing ratio of workers to output, and an increasing demand for petroleum products.
Financial Performance
Our ability to characterize the overall financial condition of the petroleum refining industry is
limited by available data. Much of the information available on this industry focuses on large
integrated producers involved in the exploration and production of crude oil ("upstream" operations),
fuel production ("downstream" operations), chemicals production, and retail operations. Information
on these larger producers plus consolidated financial information on a broader range of refineries
allows us to draw a number of basic conclusions regarding the industry's financial condition, as
described below.
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Exhibit 6-6
Refinery Output and Employment
1972 1974 1976 1978 1980 1982 1984 1986 1988 1990
Year
Refinery Output
Production Workers
Source: DOE 1993c (and earlier)
6-10
2
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09
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• The profitability of refinery operations has been low for the past several years,
and is expected to remain low in the near future. For instance, return on
investments of refinery operations for "integrated" producers generally
averaged between five to seven percent between 1986 and 1991 (Picchi 1993,
Randol 1993). A larger survey of the financial performance of petroleum
refiners, which includes some smaller firms, provides similar results. One
primary reason for these low margins is that excess capacity and weak demand
have created a competitive market that has kept prices for petroleum products
low.
• Somewhat contrary to the industry's poor profit levels, firms involved in
petroleum refining have reduced the amount of debt financing that they are
carrying. For instance, ten major oil companies operating in the United States
reduced their debt to overall capitalization ratios from 46 percent to 42 percent
during this period (Mayer 1993). Analysis of financial data on a larger
number of refinery companies reveal a similar pattern. This pattern is due in
part to the high levels of investment in new capacity and equipment
undertaken in the early 1980s, relative to more typical historical investment
levels, and the low level of investing in the late 1980s and early 1990s.
The ability of refiners to increase profitability in the future will depend on a number of factors, not the
least of which will be the effect of the CAA on marginally profitable refiners. Certain investment
analysts predict that the CAA will force less profitable refineries out of business, increasing capacity
utilization and profitability for the remaining facilities (Picchi 1993).
Level of Capital Expenditures
Capital expenditures in the petroleum industry have varied widely over the past decade.
During the early 1980s the industry was investing heavily in new plant and equipment; for example, in
1982 refiners spent over $6.3 billion on new capital projects. Due to the steady decline in oil prices in
the early 1980s, culminating in the large price decreases of 1986, refiners significantly reduced
expenditures on capital projects, to a level of $2.3 billion in 1986. Capital expenditures have
rebounded, however, reaching almost $5.9 billion in 1991 (BOC 1993).3 As illustrated in Exhibit 6-
7, the environmental component of these expenditures has become increasingly important in recent
years. In particular, capital expenditures on air pollution control equipment increased significantly in
1991.
6.23 Diversity within the Refining Industry
Size and Technology
As of January 1993, refineries operating in the United States ranged in size from Howel
Hydrocarbons Inc.'s 1,900 barrel per day facility in San Antonio, Texas, to Amoco Oil Company's
433,000 barrel per day facility in Texas City, Texas.4 As illustrated in Exhibit 6-8, although the 86
small plants (total capacity less than 50,000 barrels per day) account for almost half of all U.S.
refineries, they represent only a little more than one-tenth of total domestic refining capacity. In
contrast, the 31 large operating plants (total capacity greater than or equal to 150,000) accounted for
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Exhibit 6-7
Capital Expenditures
SIC 29: Petroleum and Coal Products
1986
1987
1988 1989
Year
1990
1991
| Non-Environmental |SJ5j Air Poll. Abatement | | Water Poll. Abat. fffffl Solid Waste Manag.
Source: BOC 1993
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Exhibit 6-8
JANUARY 1993 SUMMARY OF U.S. PETROLEUM REFINING CAPACITY
Size of Refinery1
(barrels of crude
per day)
Small
(< 50,000)
"Grey Area"
(50,000 up to 100,000)
Mid-size
(100,000 up to 150,000)
Large
(>= 150,000)
Total
Number of
Refineries
86
39
25
31
181
% of Total
Capacity
12.4%
17.5%
20.7%
49.4%
100.0%
% of
Catalytic
Cracking
9.7%
16.1%
22.7%
51.5%
100.0%
% of
Catalytic
Reforming
9.2%
16.6%
23.3%
50.9%
100.0%
% of
Hydro-
crackin
S
4.7%
7.8%
23.8%
63.7%
100.0%
% of Hydro-
refining/
treating
7.3%
13.6%
21.3%
57.8%
100.0%
1 Size designations were provided by Jim Williams of the American Petroleum Institute.
Source: OGJ 1993a and EC analysis.
almost half of the total processing capacity in the U.S. These large plants are more likely to already
have in place the more sophisticated refining technology necessary to produce cleaner burning fuels.
For instance, large plants account for nearly two-thirds of all catalytic hydrocracking capacity; small
plants hold less than one-twentieth of such capacity.
Location
Thirty-five states had at least one active petroleum refinery as of January 1993. Of these
states, three account for the majority of total active crude capacity: Texas (25 percent of total
domestic capacity), Louisiana (15 percent), and California (13 percent). A detailed analysis of the
implications of industry location is presented later in this chapter.
6.3 REGULATIONS AFFECTING THE PETROLEUM REFINING INDUSTRY
Evaluating the likelihood that the CAA will result in plant closures requires a detailed
understanding of the effect of this legislation on the industry. While certain issues have been resolved
(such as the specifics of the 1995 reformulated fuel regulations), regulatory requirements in a number
of areas are still evolving. This section describes provisions of the 1990 CAA Amendments that are
likely to have a major effect on the refining industry and the status of regulatory activities associated
with these provisions.
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6.3.1 Oxygenated Fuels
Beginning on November 1, 1992 gasoline with a minimum oxygen content of 2.7 percent was
required during the winter months in the 39 regions classified as either "serious" or "moderate"
carbonmonoxide (CO) nonattainment areas. Further, required oxygen content may be increased to
3.1 percent for those areas not in compliance with CO standards by December 2000. As can be
inferred from Exhibit 6-9, the majority of cities affected by this provision of the CAA are located on
the coasts. One source estimates that 40 percent of the U.S. gasoline market is affected by these
provisions (OGJ 1991).
6.3.2 Reformulated Gasoline
As outlined in Title II of the 1990 CAA Amendments, gasoline presently sold in nine of the
worst ozone nonattainment areas (extreme and severe) must be replaced after January 1, 1995 by clean
fuels formulated to reduce toxic and VOC emissions.6 The emission standards that must be achieved
in these nine areas include reductions in toxic and VOC emissions of 15 percent measured against a
1990 baseline, and by 25 percent or the "greatest reduction achievable" (but not less than 20 percent)
by 2000. Further, the legislation allows for states to "opt-in" serious, moderate, and marginal ozone
nonattainment areas to the program as part of their State Implementation Plans (SIPs), based on
approval by EPA. To date, twelve states have indicated their desire to opt-in, while state
environmental officials in a number of other states are considering petitioning EPA to "opt-in" to the
program (Brunner 1993).
In response to these provisions, EPA has developed a set of fuel composition standards
intended to meet the requirements of the 1990 CAA Amendments.7 These standards and the set of
certification procedures necessary to enforce the standards were developed through a negotiated
rulemaking that included representatives of the refining industry, environmental organizations, EPA
and state air offices. The standards for reformulated gasoline required after January 1, 1995 are listed
in Exhibit 6-10.
To certify that reformulated gasoline meets these standards, EPA developed a "simple model"
to predict vehicle emissions. This simple model predicts vehicle emissions based on fuel benzene,
aromatics, oxygen content and Reid Vapor Pressure (RVP). Between January 1, 1995 and January 1,
1998, refiners will be required to certify their fuel through the use of this model, with a few
exceptions. After that date, refiners will be required to use a "complex model" to certify their
gasoline, the structure of which was recently proposed by EPA (FR 1993).
6.3.3 Other CAA Fuel Requirements
Title II of the 1990 CAA Amendments also contains certain provisions for fuels sold in all
areas. These provisions are:
by the summer of 1992, RVP was restricted to 9.0 pounds per square inch
(psi) during the high ozone season (i.e., generally the summer months).
Ethanol fuels (containing 10 percent ethanol in gasoline) received a 1.0 psi
waiver;
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11 Exhibit 6-9
W STATES WITH SERIOUS AND/OR MODERATE CARBON MONOXIDE NONATTAINMENT AREAS
1
J^ State
• Alaska
II /"Arizona
• (California
• (Colorado
^ (Connecticut
c-lj
tm Delaware
^ District of Columbia
II
f» Maryland
9 Massachusetts
M| Ivlontana
If IVlinnesota
i
J Nevada
B New Jersey
J New Mexico
1 New York
J] North Carolina
• Ohio
J Oregon
• Pennsylvania
H
J Tennessee, Arkansas,
• Mississippi
^1 Texas
^j Utah
^ Virginia
• Washington
•
^1 Wisconsin
Serious and/or Moderate Carbon Monoxide Nonattainment Area(s)
Anchorage; Fairbanks-North Star-Bollough (Non-MSA)
Phoenix
Chico; Fresno; Modesto; Sacramento; San Diego; San Francisco-Oakland-San Jose CMSA; Stockton; Los
Angeles CMSA
Colorado Springs; Denver-Boulder; Fort Collins
Hartford; New York City CMSA
Philadelphia
Washington DC
Baltimore; Washington DC
Boston
Missoula Co. (Non-MSA)
Duluth; Minneapolis-St. Paul
Las Vegas; Reno
Philadelphia; New York City CMSA
Albuquerque
Syracuse; New York City CMSA
Greensboro-Winston Salem-H. Point; Raleigh-Durham
Cleveland
Josephine Co. (Grant Pass/Non-MSA); KJamath Co. (Non-MSA); Medford; Portland- Vancouver
Philadelphia
Memphis
El Paso
Provo-Orem
Washington DC
Portland- Vancouver; Seattle-Tacoma; Spokane
Duluth; Minneapolis-St. Paul;
J
| Source: Brunner 1993, Miller 1993.
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Exhibit 6-10
STANDARDS FOR REFORMULATED GASOLINE
(AFTER JANUARY 1, 1995)
Parameter
Standard1
Fuel Composition Standards
1.
2.
3.
Oxygen
Benzene
Heavy Metals
> 2.0 weight percent
< 1.0 volume percent
None included
In-Use Emission Standards
4.
5.
6.
NOx Emissions
VOC Emissions
Toxic Emissions
No increase
> 15 percent reduction2
> 15 percent reduction; or meet
performance of formula fuel
under the simple model2
Notes:
1. Standards are measured against 1990 emission levels.
2. In the year 2000 the program will require a 25 percent
reduction in VOC and toxic emissions, or the greatest
reduction achievable (but not less than 20 percent).
• by October 1993, maximum sulfur content allowed in diesel fuel may not
exceed 0.05 percent by weight and, the cetane number, a measure of a diesel
fuel's ability to ignite automatically, must be at least 40;
• by January 1995, detergents are required in all gasoline;
by January 1996, leaded gasoline will be banned nationwide; and
after January 1995 "anti-dumping" provisions will be in effect for non-
reformulated fuels, preventing the addition of benzene and aromatics (taken out
of reformulated gasoline) to the regular gasoline pool.
In short, all gasoline and diesel fuel sold in the U.S. will be affected by the 1990 CAA Amendments.
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63.4 Air Toxics Provisions
Title III of the 1990 CAA Amendments replaces the former Clean Air Act Section 112,
thereby changing the regulation of hazardous air pollutants (HAP). The main features of the new air
toxics control process are:
• the initial listing by Congress of 189 substances that require prompt
administrative action, with EPA authorized to delete or add substances if
scientific data demonstrate that such a change is appropriate;
the publishing of a list of all categories and subcategories of major sources of
the listed air toxics, with "major sources" defined as any industrial facility that
emits 10 tons per year of any single air toxic or 25 tons per year of any
combination of air toxics;
the development and promulgation of Maximum Achievable Control
Technology (MACT) standards for each of the listed source categories and
subcategories; and
• the assessment of residual risk after the implementation of MACT, to
determine whether more stringent standards are required to reduce human
health risks.
In EPA's initial list of categories of major sources and area sources of hazardous air pollutants,
categories of relevance to petroleum refiners include: "Catalytic Cracking (Fluid and other) Units,
Catalytic Reforming Units, Sulfur Plant Units, and Other Sources Not Distinctly Listed" (FR 1992b).
Since the MACT standards have yet to be developed and promulgated, the precise impacts of the HAP
requirements on the petroleum refining industry are impossible to ascertain at this stage. However, the
air toxics provisions of the 1990 CAA Amendments are likely to impose a significant burden upon
petroleum refiners, although much less so than the reformulated fuel requirements.
6.4 EFFECT OF CAA REGULATIONS ON THE REFINING INDUSTRY
This section ties together and expands on the major points that have been put forth in previous
sections. Estimates of CAA compliance costs are first summarized, and then analyzed for their
potential to generate in plant closures. Finally, uncertainties in the analysis are detailed.
6.4.1 Cost of Compliance
Numerous studies have attempted to estimate future CAA compliance costs for the petroleum
industry. These studies, however, have employed markedly different methodologies and assumptions,
and therefore have arrived at widely varying results. Below, we summarize the results from several of
these studies.
For the U.S. Department of Energy, Cambridge Energy Research Associates
surveyed refineries on their expected capital expenditures for compliance with
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CAA mobile source requirements. For the 44 percent of U.S. distillation
capacity represented by respondents, projected capital expenditures total $7
billion, averaging about $900 per barrel of crude distillation capacity (CERA
1992).8
• A study performed by the National Petroleum Council for the U.S. Department
of Energy estimates that domestic petroleum refineries will have to undertake
$37 billion in new capital investments between 1991 and 2000 to meet the
collective requirements of all federal and state environmental laws. Since the
study has not yet been publicly released, a breakdown of these compliance
costs by medium (i.e., air, water, solid waste) is not available (ER 1993, WSJ
1993).'
A study performed by Bonner & Moore Management Science for EPA
estimates that supplying reformulated gasoline to all severe and extreme ozone
nonattainment areas will cost the petroleum refining industry $686.2 million
per year in increased operating and capital recovery costs, and another $456
million per year to supply all serious ozone nonattainment areas (BMMS
1992).
With a vast array of cost components to be estimated and conflicting cost estimates for
identical components, arriving at a definitive conclusion regarding the costs of the CAA is extremely
difficult. However, the analysis of the likelihood of plants closures depends not on a particular level
of compliance costs, but instead on certain industry characteristics, as described in the following
section.
6.4.2 Likelihood of Plant Closures
Three important industry characteristics indicate that CAA compliance costs will not result in
widespread, "across-the-board" closures within the petroleum refining sector.
• The estimated compliance costs do translate into significant "at-the-pump"
gasoline price increases; however overall demand is not expected to decrease
significantly, thus allowing compliance costs to be passed on to the consumer
(Picchi 1993, DOE 1993b).
• The CAA requirements are mainly product ~ not process — regulations, and
with overseas compliance costs comparable to those in the U.S., foreign
producers have only limited opportunity to gain market share (OD 1992b).
• Even if certain foreign producers do possess some forms of cost advantage,
their success in gaining U.S. market share will be hampered by the relatively
high transportation costs associated with refined petroleum products (OD
1992b).
Other industry characteristics, however, indicate that certain refineries will be economically
disadvantaged and thus unlikely to produce reformulated gasoline. In particular, many small
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independent refineries are likely candidates for closure, for the following reasons. First, small,
independent refineries generally have to rely on commercial banks to obtain financing. Given the high
level of capital expenditures necessary for CAA compliance, small refineries may find they lack
sufficient access to capital markets. This is in contrast to large refineries, especially those that are part
of large, vertically integrated operations, which plan to fund their CAA-related investments primarily
or entirely from internally generated cash flows (CERA 1992). In a detailed analysis of the closure of
an independent refinery in Southern California, using confidential business information supplied by the
refinery. EPA found that the banking community was concerned that the refinery would be unable to
recover its costs of compliance with the CAA in the form of higher product prices, and thus unable to
maintain margins (Ec 1993). Second, small refineries as a group have further to go to comply with
CAA requirements, as they typically lack many of the sophisticated technologies employed by larger
refiners. Although these processes (such as cracking) were developed for non-environmental control
purposes, they generally aid in the adaptation to reformulated gasoline production. This aspect of the
industry was illustrated in Exhibit 6-8.
Third, small refineries often serve local markets, some of which are in ozone nonattainment
areas, and some of these may lack the flexibility to choose to compete in conventional gasoline
markets outside ozone nonattainment areas. This possibility arises due to the secondary role many
small refineries play as distribution terminals for gasoline tanker trucks, in addition to their primary
role as production facilities (Williams 1993). Exhibit 6-11 displays the 16 states that contain serious
and/or extreme ozone nonattainment areas and/or are currently petitioning to have other nonattainment
areas "opted-in" to the reformulated fuel provisions. For each state, the exhibit reports the total
number of small refineries and also the number of small refineries entirely lacking in any type of
catalytic charging capacity. These facilities are likely to face the highest levels of capital expenditures
if they are to upgrade to produce reformulated gasoline. This analysis shows that reformulated fuel
markets across the U.S. presently encompass a total of 30 small refineries, with 13 of these lacking
catalytic capacity. It is interesting to note that nearly all of these 13 refineries are independent (i.e.,
single refinery enterprises). It is these firms that are at the greatest risk of closure due to CAA
requirements.
Two important caveats should be noted. First, it is beyond the scope of this study to conduct
a complete marketing analysis of these small refineries; it is possible that some of these refineries do
not serve ozone nonattainment areas in their states, or that other mitigating circumstances exist.
Second, additional states could petition EPA to opt-in other classes of nonattainment areas, therefore
increasing the number of reformulated fuel markets. However, it is interesting to note that the six
states that contain opt-in areas only, as listed in Exhibit 6-11, contain no refineries at all within their
borders.
6.43 Implications of Plant Closures
Even if some refineries do close, overall refining capacity is not expected decrease
significantly. Compliance costs will generally be passed through to consumers, with larger and/or
more technologically sophisticated refineries gaining market share at the expense of smaller and/or less
sophisticated refineries that close. As current excess capacity is eliminated, refinery margins may well
increase over current levels (Mayer 1993).
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Exhibit 6-11
SUMMARY OF SMALL REFINERIES IN STATES WITH SEVERE/EXTREME
OZONE NON-ATTAINMENT AREAS AND/OR PETITIONING OPT-IN AREAS
States with Severe/Extreme Areas and/or
Petitioning Opt-In Areas Only
California (Los Angeles-Anaheim-Riverside CMSA; San Diego)
Connecticut (New York City CMSA)
Delaware (Philadelphia CMSA)
Illinois (Chicago CMSA)
Indiana (Chicago CMSA)
Maine
Maryland (Baltimore)
Massachusetts
Michigan (Muskegon)
New Hampshire
New Jersey (New York City CMSA; Philadelphia CMSA)
New York (New York City CMSA)
Pennsylvania (Philadelphia CMSA)
Rhode. Island
Texas (Houston-Galveston-Brazona CMSA)
Vermont
Virginia
Wisconsin (Chicago CMSA; Milwaukee-Racine CMSA)
Total: States with Severe/Extreme Ozone Nonattainment Areas
Total: States with Petitioning Opt-In Areas Only
Total: States with Severe/Extreme Areas and/or Opt-In Areas
Total Number of
Small Refineries
14
-
-
-
3
-
-
-
3
-
-
1
2
-
6
-
-
1
30
0
30
Small Refineries with
No Catalytic Capacity
8
-
-
-
1
-
-
-
1
-
-
1
0
-
2
-
-
0
13
0
13
Source: OGJ 1993a and ffic analysis.
The implications for net employment are therefore expected to be small, relative to total
industry employment. Furthermore, geographical shifts in employment are also likely to be small. In
Exhibit 6-11, out of the total of 30 small refineries located in states likely to have reformulated
gasoline markets and out of the subset of 13 of those refineries that are entirely lacking in catalytic
capacity, 20 and 10 refineries of those respective groups were located in two states: California (14
small refineries total, 8 of those with no catalytic capacity) and Texas (6 small refineries total, 2 of
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those with no catalytic capacity). These are the same states that contain the larger refineries that are
likely to gain market share as a result of the CAA requirements.
These changes will lead to increases in industry concentration, as capacity additions will come
not from new refineries starting up, but instead from upgrades at existing refineries. This has been the
recent pattern for capacity addition in this industry, generally a result of economies of scale. Since
petroleum refining is already a relatively concentrated industry, this could have a significant impact
upon competitiveness, with the effect of this factor felt more heavily in particular regional markets
(e.g., Southern California).9
6.4.4 Uncertainties
Many uncertainties and confounding factors affect our analysis of the likelihood of plant
closures due to the CAA. Foremost among these are several factors that are occurring at the same
time that the CAA standards are being put into place, making it difficult to separate out the effects of
CAA requirements from these other factors. The importance of the ongoing reduction in energy
intensity of the U.S. economy is one significant factor, dampening demand for petroleum products.
Other factors include the impact of state environmental regulations and the trend in crude oil toward
more heavy and "dirty" grades (which entail greater costs for the refining of high-end products).
Under some regulatory scenarios CAA impacts could be even greater than currently expected,
since some states will have the option of adopting the reformulated gasoline requirements imposed on
other areas. Such "opt-ins" could expose additional small and technologically unsophisticated refiners
serving local markets to an incremental regulatory burden. Furthermore, some regulations expected to
affect this industry have yet to be promulgated, adding to the uncertainty regarding total CAA related
compliance costs.
The analysis of CAA impacts on small refineries is also complicated by the possibility that
some small refineries in affected ozone nonattainment areas currently serve, or could create, a niche
market. Other small refineries may have a captive customer (such as serving as a source of jet fuel to
a nearby Air Force base) or could adapt by selling intermediate products to larger and more
technologically sophisticated refineries (SCI 1992). Such actions or market conditions would allow
small refineries to completely avoid the reformulated gasoline market, and thus avoid potentially
unaffordable capital expenditures. However, the feasibility and profitability of such a marketing
strategy is unclear, and can be assessed only on a plant-by-plant basis.
Another factor potentially working in favor of small refineries is that their local markets may
be encompassed entirely by severe or extreme ozone nonattainment areas, or they may serve areas that
have opted to impose reformulated gasoline requirements. To the extent that these facilities can
produce reformulated gasoline, they may be able to receive the higher prices commanded by
reformulated gasoline for their entire output while continuing to take advantage of their relatively close
proximities to customers.
Barriers to exit could be a factor in preventing the closure of a few refineries. While we do
not believe that unfunded pension or retiree health plan liabilities will represent a significant incentive
for refineries to avoid closure (especially for the small independent refineries most likely to be affected
by the CAA), some refineries may encounter significant costs associated with site remediation prior to
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sale. In some cases the value of the property in which an industrial or commercial facility is located
is a significant factor in the closure decision. In the most extreme case, the value of the land may be
greater man the present value of expected returns from facility operations. In these cases a facility
might close (and relocate) to allow the firm to liquidate the property. However, in cases in which a
site requires substantial and costly remediation, the opposite may be true (although depressed, the
expected value of the future returns exceeds the value of the site). In these cases a marginally
profitable operation may continue to operate to avoid closure costs, or to allow for the formulation of
an alternative management strategy.
Finally, imports could conceivably gain U.S. market share if European refineries attempt to
undercut the prices charged by U.S. refineries in reformulated gasoline markets by "dumping" a more
"dirty" blend of products onto their home markets.10 Given the strict U.S. regulations prohibiting
domestic dumping, European regulators may enact similar dumping regulations governing their own
gasoline markets, removing this potential competitive advantage. Even if European refineries do
persist in dumping, U.S. refineries could adopt the same strategy, dumping dirty products onto
European markets, thus increasing U.S. exports. The overall effect would then
be less expensive reformulated gasoline for the U.S. and more dirty (yet no less expensive) gasoline
for Europe, with European refineries, U.S. refineries, and U.S. consumers generally gaining at the
expense of European air quality. This scenario appears unlikely, however, given the relatively small
quantity of gasoline currently imported to the U.S., as a percentage of the total market.
6.5 NEW MARKET OPPORTUNITIES RESULTING FROM THE 1990 CAA
Although the significant capital and operating costs associated with CAA compliance generally
dominate economic analysis of the CAA, firms that develop new products, technologies, or operating
practices to meet these requirements may be able to take advantage of evolving markets overseas.11
For example, while the European Community currently lags behind the U.S. in clean-fuel
requirements, they appear poised to catch-up quickly (OGT 1993b). By the time that European
gasoline standards match those of the U.S., domestic refineries will have developed the technologies
and operating practices required to efficiently meet these requirements. Thus, domestic refiners could
find themselves better positioned in the "learning curve" than their European counterparts, allowing
them to market new technologies and practices within this market. In some cases, it may also be
feasible for domestic producers to capture some share of the newly evolving European reformulated
gasoline market. Given the historical level of trade in gasoline between the U.S. and Europe,
however, we do not expect trade in reformulated product to become a significant percentage of
European demand in the long run.
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CHAPTER 6 ENDNOTES
1. In 1992 the value of shipments for all products and services sold by establishments in the
petroleum refining industry was $152 million; the value of exports was $5 million (DOC
1993).
2. Pre-tax return on total assets ranged from 4.4 percent to 8.5 percent over the past five years,
with the survey covering up to 41 firms in any given year (RMA 1992).
3. Note that this and the following figures include capital expenditures for all firms in SIC 29
(Petroleum and Coal Products), although virtually all pollution abatement capital expenditures
(over 98 percent in 1991) are attributable to firms in SIC 2911 (Petroleum Refining).
4. All information on refining capacity is taken from OGJ 1993a.
5. This requirement excludes two "serious" areas whose nonattainment status is a result of non-
mobile sources (Miller 1993).
6. States containing the nine ozone nonattainment areas categorized as either extreme or severe,
as well as states indicating their desire to "opt-in" to the reformulated fuel program, are listed
in Exhibit 6-11.
7. EPA recently rebuffed an effort by the Venezuelan national oil company to change regulations
limiting the amount of smog-creating olefins allowed in reformulated gasoline. Venezuela
argued that the lower levels of other pollutants more than offset their product's higher olefin
content, and that the new requirements placed an undue burden on them (WSJ 1993b, WSJ
1993c).
8. Note that some industry press summaries of this report mischaracterized the projections as
estimates for all refinery capacity, and not just that segment represented by the survey
respondents, thereby underestimating aggregate costs (e.g., OD 1992a).
9. In 1987, the four largest companies in the petroleum refining industry accounted for 32 percent
of the value of all shipments, and the eight largest companies accounted for 52 percent of the
value of all shipments (BOC 1992). By comparison, the median concentration ratios across
the 20 domestic manufacturing "major groups" (at the two digit SIC code level) were 13
percent and 19.5 percent, for the four largest and eight largest companies respectively (BOC
1992).
10. This type of dumping should not be confused with the more popular usage of the term, which
generally refers to below-cost pricing of normal quality exports to unload excess output and/or
gain market share in a predatory manner.
11. An example of U.S. regulations essentially helping to prepare domestic companies for
exporting to foreign "environmental" markets can be found in the recent success of U.S. diesel
engine manufacturers in breaking into the previously impenetrable Japanese market (BW
1993).
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CHAPTER 6 REFERENCES
API 1991. American Petroleum Institute, Costs to the Petroleum Industry of Major New and Future
Federal Governmental Environmental Requirements, October 1991.
Bland 1967. William F. Bland and Robert L. Davidson, eds., Petroleum Processing Handbook,
McGraw-Hill Book Company, New York, 1967.
BMMS 1992. Bonner & Moore Management Science, Investigation of Imposing Various Gasoline
Fuel Parameter Restrictions on Gulf Coast Refineries in 1995. Prepared for EPA, August 4,
1992.
BNA 1991. The Bureau of National Affairs, Inc., The Clean Air Act Amendments: BNA's
Comprehensive Analysis of the New Law. Washington D.C., 1991.
BOC 1992. Bureau of the Census, 1987 Census of Manufacturers: Concentration Ratios in
Manufacturing. February 1992.
BOC 1993. Bureau of the Census, Pollution Abatement Costs and Expenditures. 1991. MA200(91>1.
January 1993.
Brunner 1993. Personal Communication between Tim Petersen and Jonathan Shefftz, Industrial
Economics, Inc. and Christine Brunner, EPA Office of Air and Radiation, Office of Mobile
Sources, August 20, August 30, and September 24, 1993.
BW 1993. Kevin Kelly, "The Rising Rumble of American Diesels: Their Clean-Air Technology Is
Starting To Sell Well Overseas," Business Week. September 6, 1993,
CERA 1992. Cambridge Energy Research Associates, The U.S. Refining Industry: Facing the
Challenges of the 1990s. January 1992.
DOC 1993. Department of Commerce, International Trade Administration. U.S. Industrial Outlook
1993. Washington D.C., January 1993.
DOE 1993a. Department of Energy, Energy Information Administration, Annual Energy Review
1992, Washington D.C., June 1993.
DOE 1993b. Department of Energy, Energy Information Administration, Annual Energy Outlook.
Washington D.C., January 1993.
DOE 1993c. Department of Energy, Energy Information Administration, "Petroleum Refining," in
U.S. Industrial Outlook 1993. U.S. Department of Commerce, International Trade
Administration, January 1993.
Durham 1993. Personal Communication with Jim Durham, EPA Office of Air and Radiation, Office
of Air Quality Planning and Standards, August 30, 1993.
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ELI 1992. The Environmental Law Reporter, Clean Air Deskbook. Environmental Law Institute,
Washington D.C., 1992.
EPA 1993. Environmental Protection Agency, Draft Regulatory Impact Analysis for Notice of
Proposed Rulemaking of the Complex Model, Phase II Performance Standards, and Provisions
for Renewable Oxygenates. February 5, 1993.
ER 1993. "Refiners Could Have To Spend $37 Billion on Environmental Compliance, Report Says,"
Environment Reporter. September 3, 1993.
FR 1991. Environmental Protection Agency, "Regulation of Fuels and Fuel Additives: Standards for
Reformulated Gasoline (Notice of Proposed Rulemaking)," Federal Register. Vol. 56, July 9,
1991.
FR 1992a. Environmental Protection Agency, "Designation of Areas for Air Quality Planning
Purposes; Amendments and Corrections (Final Rule)," Federal Register, Vol. 57, November
30, 1992.
FR 1992b. Environmental Protection Agency, "Initial List of Categories of Sources Under Section
112(c)(l) of the Clean Air Act Amendments of 1990 (Notice)," Federal Register. Vol. 57, July
16, 1992.
FR 1992c. Environmental Protection Agency, "Regulation of Fuels and Fuel Additives; Standards for
Reformulated and Conventional Gasoline (Supplemental Notice of Proposed Rulemaking),"
Federal Register. Vol. 57, April 16, 1992.
FR 1993. Environmental Protection Agency, "Regulation of Fuels and Fuel Additives: Standards for
Reformulated Gasoline; Proposed Rule," Federal Register, Vol. 58, February 26, 1993.
Harper 1993. Personal Communication between Tim Petersen, Industrial Economics, Inc. and Steve
Harper, EPA Office of Air and Radiation, Office of Policy Analysis and Review, August 18,
1993.
ICF 1992. ICF Resources Incorporated and Smith Barney, Harris Upham and Company Incorporated,
Business Opportunities of the New Clean Air Act: The Impact of the CAAA of 1990 on the
Air Pollution Control Industry. Prepared for EPA Office of Air and Radiation, August 1992.
lEc 1992. Industrial Economics, Incorporated, Clean Air Act Threatened Plants Study: Results of
Phase I Analysis. Prepared for EPA Office of Air and Radiation, Office of Policy Analysis and
Review, November 4, 1992.
lEc 1993. Industrial Economics, Incorporated, Clean Air Act Threatened Plants Study: Phase 2
Analysis Results. Draft Report prepared for EPA Office of Air and Radiation, Office of Policy
Analysis and Review, January 1993.
Johnston 1992. Daniel Johnston, Oil Company Financial Analysis in Nontechnical Language,
PennWell Books, 1992, as referred to in Terreson 1993.
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Leffler 1979. William L. Leffler, Petroleum Refining for the Non-Technical Person. PennWell
Publishing Company, Tulsa, Oklahoma, 1979.
Mayer 1993. Michael L. Mayer, "Interpreting the Oil Industry Numbers," Industry Analysis: The Oil
and Gas Industries. Association for Investment Management Research, Charlottesville, VA,
1993.
McKetta 1992. John J. McKetta, ed., Petroleum Processing Handbook. Marcel Dekker, Inc., New
York, 1992.
Moyer 1991. Craig A. Moyer and Michael A. Francis, Clean Air Act Handbook. Clark Boardman
Company, New York, 1991.
Miller 1993. Personal Communication between Jonathan Shefftz, Industrial Economics, Inc. and
Meredith G. Miller, EPA Office of Air and Radiation, Office of Mobile Sources, September
27, 1993.
NPRA 1992a. National Petroleum Refiners Association, "Washington Bulletin," March 13, 1992.
NPRA 1992b. National Petroleum Refiners Association, Testimony of NPRA by Roger C. Beach,
President, before the Committee on Energy and Natural Resources, United States Senate, May
19, 1992.
NPRA 1993. National Petroleum Refiners Association, United States Refining Capacity. January \,
1993.
OD 1991. Alan Kovski, "Technology Changes at Refineries Are Evolving Slowly, But Surely," The
Oil Daily. January 24, 1991.
OD 1992a. Susie T. Parker, "'Clean' Gasoline Costs May Be Less Than Many Feared," The Oil
Daily. January 2, 1992.
OD 1992b. "No 'Mass Exodus' of U.S. Refining Capacity Anticipated, Says Expert," The Oil Daily.
June 10, 1992.
OGJ 1991. Richard C. Scherr, G. Allan Smalley, Jr., and Michael E. Norman, "Clean Air Act
Complicates Refinery Process," Oil and Gas Journal. May 27, 1991.
OGJ 1993a. Oil and Gas Journal Databook. 1993 Edition. PennWell Publishing Company, Tulsa,
Oklahoma, 1993.
OGJ 1993b. "European Refiners Face Tough Environmental Rules," Oil and Gas Journal. January 25,
1993.
OGJ 1993c. "Italian Refiners' Environmental Spending to Soar in 1990s," Oil and Gas Journal. April
5, 1993.
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OGJ 1993d. "'Opt In' Provisions to Play Key Role in Alcohol, Ether Markets," Oil and Gas Journal.
June 14, 1993
Picchi 1993. Bernard J. Picchi, "The Integrated Internationa] Oil Companies - Understanding the
Basics," Industry Analysis: The Oil and Gas Industries. Association for Investment
Management Research, Charlottesville, VA, 1993.
Quarles 1990. John Quarles and William H. Lewis, Jr., The New Clean Air Act: A Guide to The
Clean Air Program As Amended in 1990. Morgan, Lewis and Bockius, Washington D.C.,
1990.
Randol 1993. William L. Randol, "Factors Affecting Oil Industry Dynamics," Industry Analysis: The
Oil and Gas Industries, Association for Investment Management Research, Charlottesville, VA,
1993.
RMA 1992. Robert Morris Associates, Annual Statement Studies 1992. Philadelphia, PA, 1992.
SCI 1991. Sobotka & Co., Inc., Regulatory Support Document: Assessment of the Long-Run Costs of
the Oxygenated Fuel Provisions. Prepared for EPA, June 26, 1991.
SCI 1992. Sobotka & Co., Inc., Evaluation of the Use of Ethanol and MTBE in Reformulated
Gasoline, Prepared for EPA, September 30, 1992.
Terreson 1993. Douglas T. Terreson, "The Refiners -- Understanding the Basics," Industry Analysis:
The Oil and Gas Industries. Association for Investment Management Research, Charlottesville,
VA, 1993.
TMC 1992. Turner, Mason & Company, Costs of Alternate Gasoline Reformulations: Results of U.S.
Refining Study for Economics Committee of the Auto/Oil Air Quality Improvement Research
Program. April 1992.
Weismantel 1992. Guy E. Weismantel, "Hydrocracking," Petroleum Processing Handbook. Ed. John J.
McKetta, Marcel Dekker, Inc., New York, 1992.
Williams 1993. Personal communication between Tim Petersen, Industrial Economics, Inc. and Jim
Williams, American Petroleum Institute, August 31, 1993.
WSJ 1993a. Allanna Sullivan, "Oil Industry Projects a Surge in Outlays To Meet U.S. Environmental
Standards," Wall Street Journal. August 31, 1993.
WSJ 1993b. "Venezuelan Company Loses Bid for Change in EPA Gasoline Rules," The Wall Street
Journal. December 17, 1993.
WSJ 1993c. James Tanner. "Venezuela Invokes GATT to Appeal Against EPA Rules for Gasoline
Imports," The Wall Street Journal. December 20, 1993.
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STEEL AND METALLURGICAL COKE
CHAPTER 7
7.1 INTRODUCTION
The Clean Air Act (CAA), as amended in 1990, contains several provisions that affect steel
manufacturers, including hazardous air pollutants (HAPs), acid rain, nonattainment, and permit
provisions. In this chapter we analyze the potential effect of the CAA on the approximately 300 steel
companies currently operating in the U.S. by identifying characteristics of these facilities that may
make them susceptible to closure.
Of the provisions of the CAA expected to affect the steel industry, emission limitations on
HAPs from coke ovens and the acid rain provisions are likely to have the greatest effects on the steel
industry. The coke oven provisions offer steel manufacturers two options for compliance:
meet technology-based standards, referred to as maximum achievable control
technology (MACT), by December 31, 1995 and human health risk-based
standards by 2003; or
meet MACT standards in 1993, lowest achievable emission rate (LAER)
standards by 1998 and 2010, and human health risk-based standards by 2020.
Further, while the acid rain provisions do not directly control air emissions from the steel industry,
they do contain requirements for fossil fuel-fired electric utilities that are likely to increase the cost of
electricity for steel manufacturers. The nonattainment provisions for ozone and carbon monoxide (CO)
will also require the steel industry to invest in capital and process changes (Labee 1991, EPA 1992b).
7.1.1 Summary of Findings
In the 1980s, weak demand growth, environmental regulations, foreign and domestic
competition and a national recession forced weaker, less profitable steel manufacturers out of business.
Even without the CAA, older inefficient coke oven batteries were being closed with the decrease in
steel intensity and as the steel industry moved away from coke-based steel-making. For those
companies that remained, the use of new technologies, the increase in capacity utilization, process
yields, and worker output, and the relative currency advantage have helped to bring the U.S. steel
industry to a more stable competitive position. In short, dynamic changes in the industry largely
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Independent of environmental regulation factors have lead to a large-scale restructuring of the industry
over the past two decades.
Extensive analyses have been conducted on the cost of compliance with the CAA for
metallurgical coke facilities. In particular, the EPA Regulatory Impact Analysis (RIA) for the coke
oven emission standards provides detailed estimates of the cost of compliance with technology-based
standards for coke ovens on a plant-by-plant basis (EPA 1992b). In this document EPA estimated the
annualized costs of complying with the technology-based standards to be $25 to $46 million, assuming
all steel facilities would choose the second option for compliance described above.1 EPA concluded
that no coke oven batteries would be expected to close as a result of the MACT standards, while two
furnace-coke batteries might close as a result of the LAER standards.
It is difficult to predict the impact of other provisions of the CAA that will affect the steel
industry. The risk-based coke oven emissions standards have not been set, therefore it is not possible
to accurately determine their impact However, it is likely that manufacturers who are able to reduce
their dependency on coke through the use of new technologies or other measures will be less affected
by the CAA than those producers that are more reliant on coke. Further, both the risk-based HAP
standards and to a lesser extent, ozone nonattainment standards, are likely to impose a cost
disadvantage on the industry along geographical lines. For instance, plants located in heavily
populated urban areas are more likely to have difficulty meeting risk-based HAP standards and are
more likely to be located in ozone nonattainment areas. Finally, the acid rain provisions are not likely
to have a significant effect in terms of plant closures. Plants located in certain regions and
manufacturers which operate electric arc furnaces (EAFs) are likely to experience relatively greater
increases in electricity costs (ICF 1989, DEc 1991). Industry characteristics that support these
conclusions are:
• Integrated producers have several options available to them when faced with
risk-based standards, such as substituting pulverized coal for a portion of their
coke demand. These options may lead to coke battery closures, but will act to
minimize the overall impact of the regulations on total plant operations.
Twenty-five facilities with coke plants (including integrated and merchant coke
producers) are located in ozone nonattainment areas; VOC and NOX
regulations that affect these firms will result in higher coke (and steel)
production costs for these firms, all else held equal.
Electricity costs for steel manufacturers accounted for only four percent of
total production costs in 1991; thus, moderate increases in electricity costs are
unlikely to result in plant closures. The mini-mills' competitive position for
the production of flat-rolled products will be negatively affected, since electric
furnace-based steel production consumes approximately twice as much
electricity per ton of steel product as integrated production (Barnett 1992).2
Although the CAA will impose a cost on steel manufacturers, the impacts of the CAA are not
expected to be significant in terms of plant closures, or major shifts in industry structure or overall
industry trends. The CAA will put additional pressure on integrated producers to continue reducing
their dependence on coke. For scrap-based producers, the indirect impact of increased electricity costs
for mini-mills will offset, to some extent, the effect of the coke oven provisions on integrated
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producers. Despite this increased cost, scrap-based producers are expected to continue expanding their
share of the overall steel market, utilizing various new technologies.
7.1.2 Caveats
There are a number of uncertainties that affect the likelihood of plant closures. These
uncertainties are as follows:
It is difficult to separate the effects of the CAA from other factors influencing
the steel industry. For instance, decreases in steel intensity in the U.S.
economy and increases in steel production process yields (and a variety of
other factors) have both placed downward pressure on steel production
capacity. Some plants may close in the future due to a combination of these
and other factors, rather than due to the CAA.
Many CAA regulations have yet to be developed. These include the risked-
based HAP standards for coke ovens, regulations for ozone and carbon
monoxide nonattainment areas, and emission standards for HAP sources at
steel plants other than coke ovens.
• It is too early to fully assess the long term increase in costs that will result
from those regulations that have been developed. For example, steel
manufacturers have just begun to adopt measures to meet the technology-based
standards for coke ovens.
* New technologies that could potentially reduce dependency on coke-based steel
production are still being developed and refined. Their ultimate effectiveness
cannot be fully predicted at this time (e.g., pulverized coal injection, direct iron
and steel technologies).
7.1.3 Organization of Chapter
The remainder of this chapter is divided into four sections. First, we provide an overview of
steel industry characteristics that are important in analyzing the impacts of the CAA on this industry.
We place particular emphasis on the structure of the steel industry, as the CAA may shift production
capability within the industry away from coke-based steel-making and towards other processes.
Second, we describe the major provisions of the 1990 CAA Amendments that will affect the steel
industry and discuss the timing of these provisions, with emphasis on the coke oven standards. Third,
we discuss the technical and cost implications of these provisions and the resulting regulations and the
implications for potential plant closures. Fourth, we address the potential for the spread of new steel-
making technologies, domestically and in foreign markets.
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7.2 INDUSTRY CHARACTERISTICS
7.2.1 Products and Processes
Steel-Making Processes
The steel industry produces a wide variety of rolled and formed steel products, to serve a wide
variety of industrial markets. Many steel facilities consist of a steel-making operation (the "hot end")
and steel rolling operations. Both sets of operations generally consist of a series of linked operations.
For the most part, the CAA affects only the hot end facilities.
Two steel-making processes are predominantly used in the United States today. One refines
steel from molten pig iron in a basic oxygen furnace (referred to herein as "coke-based" steel-making);
the second relies on electric arc furnaces (EAFs) to refine steel from scrap or direct reduced iron
(referred to herein as "scrap-based" steel-making).3 In the coke-based steel-making process,
metallurgical coal is heated in ovens to produce coke. The coke is then combined with iron ore and
limestone in a blast furnace to produce pig iron (or "hot metal"). Hot metal is then combined with
scrap in a basic oxygen furnace (EOF) to produce liquid steel. The molten steel is either cast into
ingots (which are later reheated in a primary mill and made into blooms, billets, or slabs), or
continuously cast directly into blooms, billets, or slabs.4 Finally, the blooms, billets, and slabs are
converted into final products such as sheets, wire, rods, or structural forms, in rolling and finishing
mills. Traditionally, coke-based steel producers have produced the bulk of their coke needs in-house,
in part to ensure a reliable supply of coke. As new technologies have been developed, particularly
scrap-based steel-making in EAFs, the percentage of steel-making capacity accounted for by such
"integrated" plants has decreased (lEc 1989).
Scrap-based steel-making involves the production of steel from scrap and/or directly reduced
iron ore. This reaction takes place in an electric arc furnace, which is generally significantly smaller
in scale than a blast furnace/BOF operation. The molten steel produced in electric furnaces is poured
directly to ingots or to a continuous caster, and from that point follows the same production processes
described for coke-based steel-making. Scrap-based steel-making presents three advantages relative to
coke-based steel-making: (1) a smaller capital investment is required; (2) the labor requirements are
much lower; and (3) firms have the ability to shut down, or cycle furnaces, and thus can track scrap
supply or steel demand fluctuations. Although some scrap-based steel-making takes place at integrated
facilities, an increasing percentage of scrap-based production is taking place at independent firms
called "mini-mills" (Ec 1989).
In general, the mini-mills dominate the production of light, "long" steel products, namely
reinforcing bar, wire rod, bars, light and medium structural shapes, etc. Heretofore, the integrated
producers have dominated the production of flat rolled products, including hot and cold rolled sheet,
and coated sheets and plate. Development of technologies and aggressive management have enabled
mini-mills to begin to compete in flat rolled steel production.
Coke-Making Processes and Types of Producers
Coke is produced primarily in by-product coke oven batteries. Coke and coke oven gases are
produced by heating coal under positive pressure in a series of ovens that form a battery. During this
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process, emissions can escape from several sources including coke oven doors, lids over the charging
ports, and the offtake system that recovers the coke oven gas.
Coke is supplied domestically by two types of producers, captive furnace coke plants and
merchant coke producers. Captive furnace coke plants, which generate approximately 90 percent of
domestically produced coke, are part of the integrated steel-making process (EPA 1992b). Captive
coke plants have an average of 3.1 batteries per plant, with an average production capacity of 374,000
tons per battery, per year. Merchant coke producers are independent firms that produce only furnace
and foundry coke and coke by-products. Merchant coke plants tend to be smaller than captive coke
plants with an average of 2.45 batteries per plant and an average production capacity of 185,900 tons
per battery, per year. Currently, one merchant coke producer in the U.S. uses a non-recovery
process.5
New Technologies
Steel manufacturers have been investigating and implementing technologies which are expected
to reduce the demand for coke over time. Certain technologies, such as pulverized coal injection
(PCI), reduce the amount of coke used per ton of iron produced. Other technologies, like direct iron
or steel production, are being developed to produce iron or steel without coke. Direct iron-making
technologies are currently in commercial use around the world, although their use is limited in the
U.S. due to natural gas costs and other factors. The development of thin slab casting technology,
which allows scrap-based steel producers to move into higher value-added markets (such as flat-rolled
products) will also reduce domestic coke demand.
Pulverized coal injection involves the limited replacement of coke input to the blast furnace
with pulverized coal, on a one for one basis. Pulverized coal can serve as a substitute energy source
and as a reducing agent, two key properties of coke, thus reducing the demand for coke to produce hot
metal. Pulverized coal does not provide the permeability and burden support characteristics of coke,
however, and thus complete replacement of coke with pulverized coal is not possible.
PCI technology is currently utilized by Armco Incorporated at its Ashland, Kentucky facility.
U.S. Steel is scheduled to come onstream with a PCI facility in 1993 and a PCI unit has been
contracted for by Inland Steel (Scolieri 1992, Hogan 1992). In addition, 45 percent of operating blast
furnaces in Japan utilize PCI (Ec 1989), demonstrating the potential of this technology. This
technology will help to reduce the need for coke in the U.S., potentially by three to four million tons
per year (Hogan 1992).
Direct steel-making is a technology that does not require coke. This process involves the
production of steel from iron ore and coal. While not yet available commercially, this technology is
approaching the pilot stage in Europe, and is considered a priority research and development goal in
Japan (Ec 1989). Currently, the American Iron and Steel Institute (AISI) is involved in a joint project
with the U.S. Department of Energy to develop and demonstrate a direct steel-making process at a
pilot plant in Pennsylvania (Abrahamson 1991, Labee 1991). The first phase of this $55 million
research project should be completed in 1993 (Labee 1992).
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1,22 Economic and Financial Conditions
In this section we discuss various economic and financial conditions that reflect the ability of
the steel industry to meet the requirements of the CAA while avoiding plant closures. The data used
in this section primarily come from the American Iron and Steel Institute's (AISI) Annual Statistical
Report and from the Bureau of the Census' Standard Industrial Classification (SIC) system. The
different steel industry sectors included in this analysis are listed in Exhibit 7-1 by SIC code.
Exhibit 7-1
STEEL INDUSTRY SECTORS
SIC Code
3312
3315
3316
3317
Industry Sector
Blast furnaces and steel mills
Steel wire and related products
Cold finishing of steel shapes
Steel pipe and tubes
Domestic Steel Consumption and Production
Historically, the apparent consumption of finished steel has followed the cycles of the
economy. However, as indicated in Exhibit 7-2, apparent consumption of finished steel has been
relatively flat since 1980 and, in the long run, U.S. raw steel consumption is expected to decrease.6
This decline in raw steel consumption can be partially attributed to a decrease in steel intensity in the
U.S. economy. Factors historically contributing to this decrease in steel intensity include:
• the development of lighter and stronger steels;
• the substitution of other materials for steel in final products; and
• increased imports of steel containing products.
Raw steel production, relative to consumption, has declined due to increased efficiency of steel
producers (e.g., increased use of continuous casting) and a modest increase in import share.7 In
addition, coke-based production of steel will likely continue to decrease as the use of scrap-based steel
production technologies increase. As indicated in Exhibit 7-3, EAFs, which produce steel without the
use of coke, have accounted for an increasing share of raw steel production. Since 1980, the relative
share of total steel production represented by EAF-based producers has increased almost ten percent.
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Exhibit 7-2
U.S. STEEL CONSUMPTION, PRODUCTION AND CAPACITY
Year
1980
1985
1988
1989
1990
1991
1992
Finished Steel Apparent
Consumption
(millions of net tons)1
95.2
96.4
102.7
96.8
97.8
88.3
95.0
Production of Raw
Steel
(millions of net tons)
111.8
88.3
99.9
97.9
98.9
87.9
93.0
Raw Steel Capacity
(millions of net
tons)
153.7
133.6
112.0
115.9
116.7
117.6
113.1
Capacity
Utilization
(percent)
72.8%
66.1%
89.2%
84.5%
84.7%
74.7%
82.2%
1 Product shipments plus imports minus exports.
Source: AIS1 1985, 1993.
Exhibit 7-3
DOMESTIC RAW STEEL PRODUCTION BY TECHNOLOGY
Percent of Total Production
Year
1980
1985
1988
1989
1990
1991
1992
Open Hearth
Furnace
11.7 %
7.3 %
5.1 %
4.5 %
3.5 %
1.6%
-
Basic Oxygen
Furnace
60.4 %
58.8 %
58.0 %
59.6 %
59.1 %
60.0 %
62.0 %
Electric Arc
Furnace
27.9 %
33.9 %
36.9 %
35.9 %
37.4 %
38.4 %
38.0 %
Source: AISI 1985, 1993.
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U.S. Consumption and Production of Coke
Furnace coke demand is derived from the steel and iron production requirements of integrated
steel producers. As indicated in Exhibit 7-4, domestic demand for coke has also decreased in recent
Exhibit 7-4
ILS. CONSUMPTION AND PRODUCTION OF COKE
Year
1980
1985
1988
1989
1990
1991
1992
Total Consumption
(millions of short tons)
41.3
29.3
30.0
29.0
27.8
24.2
24.7
Total Production
(millions of short tons)
46.1
28.7
28.9
28.0
27.6
24.0
23.4
Source: EIA 1988, 1993.
years, with a 40 percent drop in demand between 1980 and 1992. Factors which have contributed to
this reduction in coke demand include:
• increased raw to finished steel yields;
• an increase in the production of scrap-based steel (with a corresponding
increase in the use of EAFs); and
an increase in the use of technologies which reduce the need for coke (e.g.,
PCI).
Similarly, the number of coke plants and the number of coke batteries have also decreased. In 1980,
195 coke batteries were operating at 60 coke plants. By the beginning of 1992 the number of coke
batteries had fallen to 86 at 30 different plants (EPA 1992b).
International Trade
Steel is extensively traded internationally. Thus, absent government assistance, any increases
in production costs associated with environmental regulations will primarily be borne by steel
producers rather than consumers. Steel trade is one of the most politicized of all international trading
issues. Throughout most of the past decade, U.S. producers have benefitted from "voluntary" restraint
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agreements (VRAs) negotiated with major steel exporting nations. The VRAs have currently expired
and the U.S. International Trade Commission has recently issued a ruling generally favorable to steel
importers, except with respect to coated sheet products. The litigation and multi-lateral steel
agreement negotiations will continue.
Exports of steel are a relatively small proportion of shipments while imports are a larger
proportion of production. As illustrated in Exhibit 7-5, exports have averaged less than five percent of
shipments over the last decade. Imports peaked in the mid-1980s, and have averaged about 18 percent
of total production since 1988. In 1992, roughly 25 percent of U.S. imports were from Canada, 27
percent from the European Economic Community and 16 percent from Japan (with the break-up of the
USSR, Japan is the largest steel producing country in the world). The proportion of steel imported
from Canada has increased from 15 percent in 1988 while the proportion from Japan has decreased
from 21 percent in 1988 (AISI 1992).
Exhibit 7-5
U.S. EXPORTS AND IMPORTS OF STEEL MILL PRODUCTS
Year
1980
1985
1988
1989
1990
1991
1992
Exports
(millions of tons)
4.1
0.9
2.1
4.6
4.3
6.3
4.3
Exports as a Percentage
of U.S. Apparent Steel
Supply
4.3%
' 1.0%
2.0%
4.7%
4.4%
7.2%
4.5%
Imports
(millions of tons)
15.5
24.3
20.9
17.3
17.2
15.8
17.1
Imports as Percentage of
U.S. Apparent Steel
Supply
16.3%
25.2%
20.3%
17.9%
17.5%
17.9%
18.0%
Source: AISI 1985, 1993.
As illustrated in Exhibit 7-6, coke imports over the last decade have remained below 2.7
million tons per year. This level of imports represents less than 10 percent of domestic production in
any year during this time period. High transportation costs (including losses due to degradation of
coke during transport, usually equal to six to eight percent of volume), and security of supply
considerations traditionally have led coke consumers to source coke domestically.
Finally, in reviewing international trade it is important to distinguish between the traditional
mini-mill product lines and the integrated producers' products. In general, import penetration of long
products is significantly less than in flat products, reflecting the greater competitive advantage of U.S.
EAF-based steel producers. The 1992 imports share of market (ISOM) for long products was
generally below 10 percent, and below 3 percent for reinforcing bar, while the ISOM for light flat
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Exhibit 7-6
U.S. EXPORTS AND IMPORTS OF COKE
Year
1980
1985
1988
1989
1990
1991
1992
Exports
(thousands of
short tons)
2,071
1,122
1,093
1,085
572
740
642
Exports as a
Percent of U.S.
Production
4.5%
4.0%
3.8%
3.9%
2.1%
3.1%
2.7%
Imports
(thousands of
short tons)
659
578
2,688
2,311
785
1,099
1,739
Imports as a
Percent of U.S.
Production
1.4%
2.0%
9.9%
8.2%
2.8%
4.6%
7.4%
Source: EIA 1988, 1993.
rolled products was in excess of 15 percent. Thus, because U.S. mini-mills have a stronger
international competitive position, they are more likely to be able to pass on some of the increased
environmental costs to domestic consumers relative to their integrated counterparts.
Trends in Employment
Total employment in the steel industry has decreased significantly in the last decade. In 1991,
241,000 individuals were employed in the steel industry, down 49 percent since 1981 (DOC 1992a,
DOC 1993b).8 During this same period, production employment also decreased 49 percent, to
184,000 workers in 1991. U.S. production of raw steel fell only 27 percent during this period (AISI
1985, 1993). The significant decrease in employment relative to production reflects significant gains
in industry efficiency. As discussed earlier, this increase in efficiency is due to many factors including
new production technologies and increased process yields.9
Financial Position
Many firms in the steel industry, particularly integrated producers, faced difficult financial
conditions during the 1980s. Some producers were forced into bankruptcy as a result of international
competitive pressures from lower-cost producers, who often utilized more sophisticated steel making
technologies and as a result of continued weak economic conditions.10 The recent recession in the
U.S. has continued to dampen steel industry performance; as illustrated in Exhibit 7-7, before tax
profits as a percentage of total assets were below three percent for the typical firm in SIC Codes 3312
and 3315 in 1991.
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Exhibit 7-7
MEDIAN PROFITABILITY AND LEVERAGE BY SIC CODE IN 1991
SIC Code
3312
3315
3316
Percent Profit Before Taxes/
Total Assets
2.7
2.9
6.1
Debt/Worth
1.6
1.4
1.2
Source: RMA 1992.
The situation for integrated producers is likely even worse than the figures in Exhibit 7-7
suggest. In addition to heavy debt obligations, most integrated steel producers are burdened with
massive unfunded pension and other post-retirement benefits related to the rationalization of operations
over the past fifteen years. Bethlehem Steel, for example, has only $375 million in shareholders
equity, compared to long term debt of $727 million and total post-retirement liability of $2.6 billion
(BTC 1993). Virtually all of the major integrated steel producers incurred significant losses in 1991
and 1992. Continued weak world-wide demand for steel, increasing import share and/or aggressive
expansion of mini-mills into flat rolled steel production could trigger another round of bankruptcies
among the integrated producers. In general, the mini-mills have produced better financial performance
and stronger balance sheets. Nevertheless, losses and bankruptcies have occurred amongst the weaker
performers in this segment also.
Some investment analysts project better financial performance for this industry on the whole in
the 1990s, due to technological improvements made during the 1980s, increased capacity utilization,
and an industry trend towards specializing in certain product niches. Even these more optimistic
analysts project that performance will be irregular, however, due to the heterogenous financial
condition (and performance prospects) of firms in the steel industry (Valueline 1993).
Capital Expenditures and Pollution Abatement Costs
Prior to the 1990 CAA Amendments, the steel industry faced air pollution laws and regulations
under the Clean Air act of 1970 and its amendments, Occupational Safety and Health Administration
requirements, state regulations, and EPA plant-by-plant consent decrees.1 [ The costs of air pollution
abatement activities associated with these requirements represented a relatively small proportion of
total industry expenditures in 1989. Exhibit 7-8 indicates that the annual operating costs of all air
pollution abatement activities in 1989 represented less than one percent of annual operating costs for
the industry in 1989.
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Exhibit 7-8
STEEL INDUSTRY POLLUTION ABATEMENT COSTS
RELATIVE TO TOTAL COSTS DS 19891
(million $)
Annual operations
Capital expenditures
Total
Expenditures
$51,152
$3,104
Air Pollution Expenditures
$
$414
$107
0.8%
3.4%
1 To estimate total annual costs, we aggregated 1989 data on total compensation and costs of
materials for the SIC codes, 3312, 3315, 3316 and 3317. Data on capital expenditures includes
expenditures on new and used structures and equipment (DOC 1991b).
Source: DOC 1991a, DOC 1991b.
Size and Location
The U.S. steel industry is currently composed of approximately 300 companies. In 1990, 83
companies were involved in producing raw steel at 127 locations. Steel-manufacturing facilities are
located in 39 of the 50 states (Labee 1991). At the beginning of 1992, 30 plants produced coke using
86 coke oven batteries in 11 states, with most of the batteries located in Pennsylvania, Alabama, Ohio
and Indiana (EPA 1992b).
Exhibit 7-9 provides an indication of the concentration of the steel industry. Blast furnaces
and cold finishing of steel shapes are highly concentrated sectors with eight companies accounting for
more than 60 percent of production. SICs 3315 and 3317 demonstrate a lesser degree of
concentration.
Shutdown Costs
Partial or full plant closures in the integrated steel industry result in significant net income
write offs, primarily associated with employment costs. Due to the provisions of contracts with the
United Steel Workers, employees who lose work as a result of plant shutdowns are often eligible for
full pension and retiree medical benefits, even if they are significantly younger than normal retirement
age. Because these benefits were unexpected (in an actuarial sense) and are no longer related to an
operating facility, a write off occurs, producing a liability that must be paid over a period of years. In
addition, in many cases significant site remediation costs are incurred. Therefore, the barriers to exit
in this industry are generally quite high; full plant closures can trigger write offs in excess of $1
billion.
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Exhibit 7-9
U.S. CONCENTRATION OF STEEL INDUSTRY BY SIZE
(percentage in 1987)
SIC
Code
3312
3315
3316
3317
Industry Sector
Blast furnaces and
steel mills1
Steel wire and related
products
Cold finishing of
steel shapes
Steel pipe and tubes
Number of
Companies2
271
274
156
155
Pour Largest
Companies
44%
21%
45%
23%
Eight Largest
Companies
63%
34%
62%
34%
20 Largest
Companies
81%
54%
82%
58%
50 Largest
Companies
94%
78%
95%
85%
1 Value added by manufactures is shown for this industry rather than value of shipments.
2 A company may be accounted for by more than one SIC code.
Source: DOC 1992b.
Specific estimates of shutdown costs provided to EPA by the industry relating to coke ovens
are as follows:
• Pension cost writeoffs vary from company to company, but are approximately
$60,000 to $100,000 per employee. With 250 to 275 employees, these costs
may be as much as $25 to $27.5 million to shut down a coke oven.
• Site remediation costs of $15.1 million in capital costs and $0.21 million in
operating costs (EPA 1992b).12
7.3 REGULATIONS AFFECTING THE STEEL INDUSTRY
Assessing the impact of the CAA on the steel industry requires a clear understanding of the
specific provisions of the 1990 Amendments that will affect this industry. While certain issues have
been resolved, such as the technology-based HAP standards for coke oven emissions, EPA and the
States continue to develop new regulations. In this section, we describe provisions of the 1990 CAA
Amendments that are likely to have a major effect on industry and the status of regulatory activities
associated with these provisions.
7.3.1 Hazardous Air Pollutants
Title III of the 1990 CAA Amendments requires EPA to address emissions of HAPs through a
two-step process. As part of the first step, EPA must develop a list of source categories for 189
chemicals listed in the CAA. The initial list of categories included a number of sources relevant to the
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steel industry, with coke oven emission categories having the greatest potential impact (EPA 1992a).
Within ten years, EPA must determine if there are major sources within each source category, and if
so, EPA must establish technology-based standards based on MACT and LAER. As part of this
second step, EPA must assess the risk remaining after technology-based standards are imposed and
promulgate standards to reduce these risks (EPA 1992c).
Coke Ovens
Because most coke plants would not be able to meet risk-based standards in the short run
while continuing to operate, specific provisions were included in the CAA which provided the industry
with two options for compliance. Under these provisions, EPA was directed to promulgate regulations
that required coke ovens to meet technology-based standards by the end of 1995 and then to meet
residual risk standards by 2003. Alternatively, plant owners can delay compliance with residual risk
regulations until January 2020, if they meet the 1995 standards earlier (by November 1993) and also
comply with tougher interim standards.
The minimum technological standards in the proposed rule for existing coke oven batteries are
as follows:13
Option i
By December 31, 1995: 5.5 percent leaking doors for short batteries,
and 6.0 percent leaking doors for tall batteries; 0.6 percent leaking
topside port lids; 3.0 percent leaking offtake system(s); and 12 seconds
of visible emissions per charge.
Option 2
By November 1993: 7.0 percent leaking doors (for all doors); 0.83
percent leaking topside port lids; 4.2 percent leaking offtake system(s);
and 12 seconds of visible emissions per charge.
By January 1, 1998: 4.3 percent leaking doors for tall or foundry
batteries, 3.8 percent for short batteries; 0.4 percent leaking topside
port lids; 2.5 percent leaking offtake system(s); and 12 seconds of
visible emissions per charge.
By January 1, 2010: 4.0 percent leaking doors for tall or foundry
batteries, 3.3 percent for short batteries (EPA 1992c).
EPA expects that most steel manufacturers will choose the second option and thus delay meeting
residual risk requirements to avoid plant closures. Agency representatives indicate that the final rule is
about to be published (Agnew 1993).
At existing batteries, the MACT standards are expected to be achieved by improved equipment
and increased maintenance, training, and inspections. It is not expected that these standards will
require battery re-builds. Currently a number of batteries are achieving MACT and would not incur a
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significant increase in costs. To achieve the LAER standards, existing coke ovens may need to install
new doors and jambs, and some of the older batteries or less well maintained batteries may need to be
rebuilt. Because the technology-based standards for 2010 and the risk-based standards have not been
set, it is unknown what measures industry will have, to take to meet these standards.
As coke ovens age, they are either shut down or re-built. New construction is classified, for
regulatory purposes, into the following categories: "greenfield" construction, which involves the
construction of a new coke oven battery at a new plant; "brownfield" construction, which is the
construction of a new battery at an existing plant without an increase in capacity: and "padup re-
builds", which refers to complete reconstruction of a battery from the existing foundation, without an
increase in capacity. Under the proposed regulations, greenfield construction is subject to emission
control performance currently achieved by nonrecovery coke oven batteries, and brownfield
construction and padup re-builds are subject to more strict LAER standards (EPA 1992c).
14, 15
Additional Sources of HAPs
Other source categories in the steel industry were included in the list of HAP sources
developed by EPA. The regulations for these sources have yet to be developed by EPA, but are not
expected to have as great an impact as the coke oven rule. EPA does not expect to find major sources
for the two categories covering EAFs: Non-Stainless Steel Manufacturing and Stainless Steel
Manufacturing (Vervaert 1993). The proposed rules for emissions from steel pickling and steel
foundries are expected to come out in 1996, but these regulations are not expected to have a
significant cost impact on industry (Steiner 1993b, Vervaert 1993). Other standards for coke ovens
(pushing, quenching and battery stacks) are not slated for development for several years.
7.3.2 Acid Rain Provisions
The acid rain provisions, which require the control of S02 emissions, will not have a direct
impact on the steel industry because these requirements are imposed on fossil fuel-fired utilities.
However, these provisions are likely to have a small indirect effect on the steel industry because the
steel industry is a major consumer of electricity, and many facilities are located in states which rely
heavily on electricity generated from coal. Thus, electricity rates charged to the steel industry are
expected to increase in areas where public utilities pass through the cost of controlling emissions to
customers (Steiner 1992).
7.33 Nonattainment Areas
Title I of the 1990 CAA Amendments mandates new requirements for nonattainment areas,
those areas of the country not meeting standards for ozone, urban smog, carbon monoxide and
paniculate matter. States are responsible for developing implementation plans, under EPA guidance,
for these nonattainment areas over the next few years.
Standards for ozone nonattainment areas could have a significant impact on the steel
industry.16 This provision defines six areas of nonattainment based on the annual average of
ambient ozone determinations; marginal, moderate, serious, severe I, severe II and extreme. Under
this provision owners and operators of sources emitting ozone precursors in all ozone nonattainment
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areas must submit an inventory of emissions, including VOC and NOx emissions.17 This inventory
will be used as a baseline from which emission reductions will be used to measure progress toward
ambient attainment levels. For marginal areas, states will work wirn EPA to develop control
performance guidelines for new or modified sources. For all other nonattainment areas, states must
develop a baseline as well as implement control performance guidelines for major existing sources
(Kane 1992).
EPA has defined potential emissions reduction criteria for VOCs. These criteria could change
however, as EPA develops information on the role of NOx emissions relative to VOC emissions and
on the cost-effectiveness of alternative control techniques. Based on this information, EPA will issue
guidance to states on NOx controls which may include requirements which directly affect the steel
industry (Goodwin 1992).
7.3.4 Permitting
As required by Title V, EPA published requirements for states to follow in developing air
permit programs. The new permits will combine all air pollution requirements into one permit
containing the following: current state requirements, the new air toxics regulations, new source
performance standards, compliance schedules, monitoring and record keeping requirements, and
emission inventories. There are no requirements which specifically apply to the steel industry.
Industry will pay permit fees to cover the government's cost to administer and enforce the program.
Although permits are valid for five years, fees are paid each year (Geddis 1992a, 1992b).
7.4 EFFECT OF REGULATIONS ON THE STEEL INDUSTRY
7.4.1 Cost of Compliance
Hazardous Air Pollutants
In November 1992, EPA completed an RIA that analyzed the economic impacts of the HAP
requirements for coke ovens (EPA 1992b). This analysis estimated the compliance costs of meeting
the MACT and LAER standards discussed earlier, assuming all manufacturers choose the second
option to delay meeting the residual risk requirements. Because there is substantial uncertainty
regarding the steel industry's likely response to these requirements, EPA developed two estimates to
characterize potential costs attributable to the coke oven regulations. The first estimate is EPA's best
estimate while the second includes all costs that steel manufacturers themselves identified as
potentially attributable to the standard.
As indicated in Exhibit 7-10, the MACT standards are expected to be relatively inexpensive
compared to the LAER requirements, as the MACT standards are expected to require capital
expenditures of up-to $100 million for the industry as a whole, whereas the LAER standards may
require expenditures of as much as $240 million. While these estimated costs are absolutely large,
when compared to total steel production costs the impact of the MACT and LAER requirements is
expected to be relatively small. In fact, based on EPA's estimate of cost, the standards are expected to
increase total steel production costs by less than 0.1 percent.
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Exhibit 7-10
TOTAL ESTIMATED COSTS OF COMPLIANCE WITH THE 1990 CAA AMENDMENTS
FOR COKE OVENS1
Total Capital Costs (million $)
Annualized Costs (million S)
Annualized Costs as % of Annual
Costs of Steel Production
MACT
(1993 Compliance)
$66 to $100
$25 to S33
0.05% - 0.06%
LAER2
(1998 Compliance)
$149 to $240
$46 to $57
0.09% -0.11%
1 The low numbers represent EPA's best estimate. The higher cost estimates include industry's input
concerning plant-by-plant costs.
2 LAER costs include the costs of achieving MACT, plus a portion of the cost of rebuilding batteries
to meet LAER standards. The cost of rebuilding an existing battery is estimated at $709 million
(EPA 1992b).
Source: EPA 1992b, DOC 1992a.
As noted earlier, estimates of the cost of meeting the risk-based requirements have not been developed.
Further, additional air toxics requirements may require expenditures by steel producers, although these
costs are not expected to be significant.
Other Provisions of the 1990 CAA Amendments
In 1991, steel manufacturers as a whole spent $1.9 billion on electrical energy, which
represented four percent of total production costs of $47.5 billion.18 The S02 emission control
requirements on fossil fuel-fired utilities outlined in the acid rain provisions of the 1990 CAA
Amendments will indirectly affect steel manufacturers by increasing these expenditures. That is, the
acid rain requirements will increase the costs of generating electricity and it is expected that these
costs will be passed on to utility customers.
The impact of increases in electricity rates due to the 1990 CAA Amendments on total
production costs for steel manufacturers is expected to be moderate. Applying EPA's highest estimate
of potential changes in electricity rates results in an increase in production costs of less than one
percent (BEc 1991).19 Separate analysis of the cost of increased electricity rates for AISI members
reached a similar conclusion (ICF 1989). Because the increase in electricity rates will differ across
regions, certain manufacturers will be more significantly impacted by these cost increases. Mini-mills
will be more significantly affected by increased electricity costs given that EAF technology uses
approximately twice as much electricity per ton of steel produced compared with integrated producers,
or approximately 800 and 420 kilowatt hours per ton respectively (Barnett 1992).20 However,
because mini-mill operators consider electricity costs when choosing facility location, their electricity
costs per kilowatt hour are generally less than integrated producers.
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Nonattainment requirements may also affect some steel-making operations. According to the
AISI, most steel plants already meet the projected standards for particulates, but some may be affected
by new ozone and carbon monoxide nonattainment requirements because of their locations (Steiner
1992 and 1993b). In 1992, 25 coke plants were located in areas that qualified as a nonattainment area
for either ozone or carbon monoxide. All of these plants are required to submit VOC and NOx
emission inventories. Seven facilities located in serious or severe ozone nonattainment areas will be
required to reduce NOx emissions to a level corresponding to ozone attainment for the air shed (Kane
1992). No data are available on the costs of these requirements; however, these costs are not expected
to be as significant as those associated with the coke oven requirements. The industry is also
concerned that the new permitting requirements will delay implementation of needed changes in their
processes and will increase administrative costs.
7.4.2 Likelihood of Plant Closures
For the steel industry, plant closures must be considered on two levels: (1) the closure of an
entire establishment (e.g., large integrated plant, mini-mill); and (2) the closure of coke oven batteries
or other production units that are a component of an integrated plant or may comprise an entire
merchant coke operation. Considering this distinction, it is likely that steel manufacturers will
experience accelerated coke plant closures as a result of the risk-based HAP coke oven provisions. The
likelihood of entire steel manufacturing establishments closing in the long term due to the CAA,
however, cannot be specifically determined. This uncertainty stems from the nature and timing of
certain provisions of the CAA and from the general financial condition of the steel industry.
Technology-Based HAP Standards
The most significant provision of the CAA for the steel industry as a whole is the coke oven
emission provision. As discussed above, steel manufacturers will have the option to delay meeting
risk-based standards by complying with an aggressive schedule for meeting technology-based
standards. This option was developed with the specific intention of avoiding significant short-term
impacts in terms of coke plant closures. The results of EPA's plant-by-plant analysis indicate that the
MACT requirements will result in no closures while the LAER requirements are projected to cause
two furnace coke batteries to close and may result in the closure of one foundry coke oven battery.2
The impacts associated with these closures include employment effects, shutdown costs, and site
remediation costs.
As part of the RIA, EPA estimated the impacts of MACT and LAER on small businesses.
Four merchant coke producers qualified as small businesses for purposes of this analysis, one of which
was unprofitable under baseline conditions. EPA concluded that the three merchant coke producers
that were profitable under baseline conditions would remain profitable under both MACT and LAER
requirements. In fact, these producers' profitability was actually projected to increase when faced with
the LAER requirements, due to a projected increase in the market price of coke (EPA 1992b).
Our analysis of aggregate economic factors facing the industry produces results that are
consistent with the detailed plant-by-plant RIA. In summary, key characteristics of the U.S. coke
industry include:
• declining domestic demand;
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• little or no excess capacity;
limited international trade;
high exit (i.e., closure) costs;
• weak financial position of integrated producers; and
• relatively small capital and operating cost implications of MACT and LAER
requirements.
This analysis suggests that current coke oven operators will continue to operate existing batteries until
re-builds are required. Major investments in rebuilding are likely to be limited in the medium term,
due to declining product demand, technological factors which will reduce coke demand and regulatory
uncertainty. Older, inefficient BOFs will have fewer options for meeting CAA requirements given that
many technologies used to reduce coke usage (e.g., PCI) do not work as well in these furnaces.
International coke trade will absorb the fluctuations between declining coke capacity and declining
demand, in the short to medium term.
Risk-Based HAP Standards and Nonattainment Provisions
Although the specific effects of the risk-based standards and nonattainment provisions are
unknown, as these regulations have not yet been developed, these provisions are likely to impose a
cost disadvantage on certain steel manufacturers and may cause a shift in production. We do know
that the residual risk determinations used to set the risk-based standards for a plant will be sensitive to
plant-specific population and climatic conditions (BNA 1991). These risk-based standards therefore
can be expected to have a greater impact on plants located in urban areas. The impact of these risk-
based standards may be compounded for the 25 plants located in ozone nonattainment areas. Given
that relocation is not feasible for larger integrated steel facilities, manufacturers located in these
nonattainment areas may have a significant cost disadvantage relative to manufacturers located in areas
in compliance with ozone standards, and relative to smaller mini-mill operations that may be able to
relocate. Whether or not these cost disadvantages will be great enough to lead to plant closures is not
known at this time. These requirements are expected to accelerate the shift in production away from
coke-based steel production toward non-coke-based, mini-mill production.
Acid Rain Provisions
The increased cost of electricity due to the acid rain provisions will also impose a cost
disadvantage on certain steel manufacturers. Although electricity rates are a small proportion of
production costs in aggregate, integrated facilities located in areas with high electricity costs will
experience more significant cost increases, as will those facilities which operate electric arc furnaces.
Mini-mill operators will be more significantly affected given that EAFs use approximately twice as
much electricity per ton as integrated producers (Barnett 1992).
Because mini-mills have a relatively strong competitive position, both with respect to imports
of long products and all competitors in flat products, it is not likely that the increased electricity costs
will prompt any plant closures. To some extent, the increased electricity costs may offset the lost
competitive advantage of the integrated producers for fiat products associated with increased coke
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costs. It can be expected however, that electricity costs will become an ever more significant factor in
decisions concerning the location of new mini-mills.
7.5 NEW MARKET OPPORTUNITIES RESULTING FROM THE CAA
New market opportunities may result from the CAA, as U.S. firms develop or improve
technologies or methods that reduce dependence on coke, one of the most polluting aspects of steel
production. These technologies could include more efficient PCI, direct or other non-coke based
production methods, or other efficiency gains that reduce production costs, reduce reliance on
metallurgical coke, or increase product quality (e.g., flat rolled sheet). Pulverized coal injection, which
reduces the amount of coke needed to produce steel, is currently used by one steel manufacturer in the
U.S., and more systems are expected to be implemented in the near term. The marketing opportunities
for this technology may be limited however, because PCI is already widely in use overseas.
Direct steelmaking is a technology that may provide more substantial marketing opportunities
for the U.S. This technology, which does not require coke, is not in commercial use in any country.
The U.S., however, is involved in developing a pilot plant to demonstrate this technology. The five-
year project is co-funded by the AISI and the U.S. Department of Energy. If the U.S. can successfully
develop this technology more rapidly than other countries, the opportunities to export associated
technical and operating know-how could be considerable. It should be noted, however, that coal-based
iron making technology is currently utilized in South Africa, and various international steel producers
are also investigating alternative direct iron and steel-making technologies. Further, unless a rebound
in the integrated steel producing sector occurs, the willingness of integrated producers to make
investments in new technologies may be limited.
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CHAPTER 7 ENDNOTES
1. These numbers represent EPA's best estimate. EPA provides higher cost estimates which
include industry's input concerning plant-by-plant costs.
2. Based on producing one ton of cold-rolled coil.
3. Open hearth furnaces, once the dominant steel technology, have been completely phased out in
this country.
4. Continuous casting improves the efficiency of steel production, and thus reduces the demand
for coke per ton of finished product produced. Most steel production in the U.S. is
continuously cast.
5. The non-recovery process recirculates and incinerates the by-product gases in a closed system,
thus producing few emissions.
6. Apparent raw steel consumption was forecast to decline by 13 percent by 2007 from the 1987
level (EEc 1992).
7. Increased efficiency yields a higher percentage of raw steel successfully converted into
finished steel, reducing the amount of waste raw steel that must be remelted and processed
again.
8. All employees, as reported by the Bureau of the Census for SIC codes 3312, 3315, 3316 and
3317.
9. The Bureau of Labor "index of output per employee" for the steel industry has increased from
113.2 in 1980 to 191.9 in 1992. This statistic reflects the effect of various influences,
including changes in technology, capital investment per worker, utilization of capacity, layout
and flow of material, skill of the work force, managerial skill, and labor-management relations
(AISI 1993).
10. It is important to recognize that bankruptcy does not imply plant closures. Most bankrupt
companies continue to operate plants while reorganizing. Also, "closed" steel plants often
resume partial or full operation under new ownership.
11. According to EPA's 1987 estimates, these requirements led to performance levels for coke
ovens ranging from 11 to 32 seconds of visible emissions per charge, four to 16 percent
leaking doors, one to five percent leaking lids, and four to 10 percent leaking offtakes (EPA
1987).
12. These estimates represent site remediation activities for a typical by-product recovery coke
plant required to comply with RCRA standards for continuing releases and corrective action
for a permanently closed steel mill (EPA 1992).
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13. Coke oven emission determinations will be based on a rolling average of 30 observations of
the visible emissions that occur from the charging of by-product and nonrecovery coke oven
batteries.
14. Emission control performance achieved by the nonrecovery coke oven battery is reported as
zero percent leaking doors, topside port lids and offtake systems, and 34 seconds of visible
emissions per charge.
15. LAER standards for "brownfield" construction or padup rebuilds of conventional wet-coal
charged batteries is as follows: 3.3 percent leaking doors for short batteries; 4.0 percent
leaking doors for tall batteries; 0.4 percent leaking topside port lids; 2.5 percent leaking offtake
systems; and 12 seconds of visible emissions per charge.
16. Carbon monoxide emissions from blast furnaces, BOFs, EAFs, sinter plants, and combustion
sources are also regulated under Title I. EPA is required to issue guidelines for controlling
CO emissions in regions classified as "serious" for carbon monoxide nonattainment.
17. During steel manufacturing processes VOCs are released from paint lines, solvent usage,
combustion sources, and protective organic coatings. NOx emissions are associated with a
number of steel-making processes including coke production.
18. Reported cost represents purchased electrical power for SIC codes 3312, 3315, 3316, and 3317
(DOC 1992a). The costs of production include the costs of materials and total labor
compensation for 1991 (DOC 1992a).
19. This analysis assumed the following: expenditures on electricity will be a constant proportion
of total production costs over time; the impact of electricity price increases will be spread
evenly across all affected users; and the impact of the CAAA on electricity rates will be due to
SO2 requirements only.
20. Estimated electricity use for producing one ton of cold-rolled coil.
21. The RIA states that LAER technology will not be applicable to a coke oven battery at the
Arinco Inc., Middletown plant or to a battery at the Armco Inc., Ashland plant (EPA 1992b).
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CHAPTER 7 REFERENCES
Abrahamson 1991. Peggy Abrahamson, "Attention on New Technologies; Environmental Regulations
Will Force Industry to Alter Focus," American Metal Market. May 17, 1991.
Agnew 1993. Personal Communication with Holly Ameden, Industrial Economics, Inc. and Amanda
Agnew, EPA Office of Air Quality Planning and Standards, Industrial Studies Branch,
September 9, 1993.
AISI 1985. American Iron and Steel Institute, "Annual Statistical Report, 1984," Washington, D.C.,
1985.
AISI 1987. American Iron and Steel Institute, "Annual Statistical Report, 1986," Washington, D.C.,
1987.
AISI 1993. American Iron and Steel Institute, "Annual Statistical Report, 1992," Washington D.C.,
1993.
AMM 1992. American Metals Market, "Steel Profile," in Metal Statistics, Diversified Publishing
Group, 1992.
Barnett 1992. Donald F. Barnett, "Technology - Integral to International Competitiveness," Steel
Survival Strategies VII, June 1992
ETC 1993. Bethlehem Steel Corporation, "Bethlehem Steel 1992 Annual Report," January 1993.
BNA 1991. Bureau of National Affairs, Inc., The Clean Air Act Amendments: BNA's
Comprehensive Analysis of the New Law. Washington, D.C., 1991.
BOM 1991. U.S. Bureau of Mines, "The Effects of the Clean Air Act Amendments of 1990 on the
U.S. Coke and Steel Industry and Foreign Trade Balance," September 1991.
Connaughton 1993. Dennis Connaughton, "Coke Ovens Dwindle Under Emission Regs," American
Metal Market. February 25, 1993.
DOC 1991a. U.S. Department of Commerce, Bureau of the Census, Currentjndustrial Reports,
Pollution Abatement Costs and Expenditures. 1989. Washington D.C., 1991.
DOC 1991b. U.S. Department of Commerce, Bureau of the Census, Annual Survey of Manufactures,
Statistics for Industry Groups and Industries. 1989. Washington, D.C., June 1991.
DOC 1992a, U.S. Department of Commerce, Bureau of the Census, Annual Survey of Manufactures,
Statistics for Industry Groups and Industries. 1991. Washington, D.C., June 1992.
DOC 1992b. U.S. Department of Commerce, Bureau of the Census, Census of Manufacturers,
Concentration Ratios in Manufacturing. 1987. Washington D.C., February 1992.
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DOC 1993a. U.S. Department of Commerce, Bureau of the Census, Current Industrial Reports,
Pollution Abatement Costs and Expenditures. 1991, Washington D.C., 1993.
DOC 19935. U.S. Department of Commerce, Bureau of the Census, U.S. Industrial Outlook, 1993.
Washington D.C., January 1993.
EIA 1993. Energy Information Administration, "U.S. Coke Production, Imports, Consumption,
Exports, and Stocks, 1985-1993, Table 2," Quarterly Coal Report. January-March 1993.
EIA 1988. Energy Information Administration, "U.S. Coke Production, Imports, Consumption,
Exports and Stocks, Table Al," Quarterly Coal Report. January-March 1988.
EPA 1987. Environmental Protection Agency, "National Emission Standards for Hazardous Air
Pollutants; Coke Oven Emissions from Wet Coal Charged By-Product Coke Oven Batteries;
Proposed Rule," Federal Register. Vol. 52, pp. 13586, April 23, 1987.
EPA 1992a. Environmental Protection Agency, "Initial List of Categories of Sources Under Section
112 (c)(l) of the Clean Air Act Amendments of 1990," Federal Register. Vol 57, pp. 31576,
July 16, 1992.
EPA 1992b. Environmental Protection Agency, "Draft Regulatory Impact Analysis of National
Emissions Standards for Hazardous Air Pollutants for By Product Coke Oven Charging, Door
Leaks, and Topside Leaks," November 1992.
EPA 1992c. Environmental Protection Agency, "National Emission Standards for Hazardous Air
Pollutants for Source Categories; Coke Oven Batteries; Proposed Rule," Federal Register. Vol.
57, pp. 57534, December 4, 1992.
Gagetta 1991. Vince Gagetta, "Higher Electric Rates Worry Steel-makers," American Metal Market.
June 18, 1991.
Geddis 1992a. Robert Geddis, "New EPA Permit Program Has Costly Implications for Steel-makers,"
Iron Age. September 1992.
Geddis 1992b. Robert Geddis, "Deciphering Permit Program Language Takes Time, Patience," Iron
Age. October 1992.
Goodwin 1992. Morgan E. Goodwin, "Nitric-Oxide Rules on Horizon; 'Forgotten Pollutant' Called
Time Bomb for Steel-makers," American Metals Market March 17,1992.
Hogan 1992. William T. Hogan, "The Future World Crisis in Coke," Iron and Steel Engineer.
December 1992.
ICF 1989. ICF Resources, Incorporated, "Forecasted Electricity Rate Increases and Costs to AISI
Members Under Title V of the Administrations Proposed Clean Air Act Amendments,"
Prepared for the American Iron and Steel Institute, September 21, 1989.
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lEc 1989. Industrial Economics, Incorporated, "Impacts on Integrated Steel Producers Resulting From
Regulation of Emissions from Wet-Coal Charged By-Product Coke Oven Batteries," prepared
for the Office of Policy Analysis and Review, August 1989.
lEc 1991. Industrial Economics, Incorporated, "Effect of Clean Air Act Amendments on Production
Costs and International Trade," Memorandum prepared for EPA Office of Policy, Planning,
and Evaluation, December 19, 1991.
lEc 1992. Industrial Economics, Incorporated, "Forecast Coke Demand in the Integrated Steel
Industry: 1990 To 2020," Prepared for EPA Office of Policy Analysis and Review, Office of
Air and Radiation, January 1992.
Kane 1992. John T. Kane, "NOx rules in the 1990 Clean Air Act Amendments - Implications on
Coke Industry," Iron and Steel Engineer. December 1992.
Labee 1991. Charles J. Labee and Norman L. Samways, "Developments in the Iron and Steel
Industry: U.S. and Canada - 1990," Iron and Steel Engineer, February 1991.
Labee 1992. Charles J. Labee, "Technology Update - 1992 AISA General Meeting," Iron and Steel
Engineer. September 1992.
Purchasing 1991. "Steelmakers must say yes to high tech. (new technologies for steel smelting and
casting)," Purchasing. February 1991.
RMA 1992. Robert Morris Associates, Annual Statement Studies. 1992, Philadelphia, PA, 1992.
Scolieri 1991. Peter Scolieri, "U.S. Steel-makers are Wary About Adopting Corex," American Metal
Market. May 17, 1991.
Scolieri 1992. Peter Scolieri, "Going the Pulverized Coal Route; Coke Costs Can Be Cut By 20%,"
American Metal Market. September 21, 1993.
Steiner 1993a. Bruce A. Steiner, "The Price of Regulatory Compliance," American Metal Market.
February 22, 1993.
Steiner 1993b. Personal Communication with Holly Ameden, Industrial Economics, Inc. and Bruce
Steiner, Vice-President, American Iron and Steel Institute, September 14, 1993.
Steiner 1992. Bruce A. Steiner, "The Impact of the 1990 Clean Air Act Amendments on the U.S. Iron
and Steel Industry," Iron and Steel Engineer. Vol 69, No. 1, 1992.
Valueline 1993. "Steel (general) Industry," Valueline Investment Survey. Edition 4, January 8, 1993,
p. 602.
Vervaert 1993. Personal Communication with Holly Ameden, Industrial Economics, Inc. and Al
Vervaert, EPA Office of Air Quality Planning and Standards, Industrial Studies Branch,
September 10, 1993.
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CHEMICALS
CHAPTER 8
8.1 INTRODUCTION
This chapter assesses the impact of the Clean Air Act (CAA), as amended in 1990, on
chemical manufacturers. The chemical industry is directly or indirectly affected by many provisions of
the CAA, and will be one of the first industries subject to its effects. The provisions likely to have the
most significant impact on the industry include monitoring and reduction of emissions of hazardous air
pollutants (HAPs) and the Title I nonattainment provisions. In addition, portions of the Act governing
the protection of stratospheric ozone will affect the chlor-alkali segment of the chemicals industry,
through the phase-out of chlorofluorocarbons and a number of other chlorine-based components.
Other provisions of the Act will likely have lesser, though still significant, impacts on the
chemical industry. For instance, new permitting requirements for new and existing sources will affect
certain chemical producers, particularly at facilities utilizing batch production techniques. In addition,
acid-deposition provisions will affect the chemicals industry through the increased cost of electricity,
and reformulated gasoline requirements will affect petro-chemicals by changing the mix of feedstocks
available for making these chemicals. Product regulations relating to ozone nonattainment (e.g.,
consumer product regulations) could also affect the demand for various chemicals, increasing the
production of some chemicals while decreasing the production of others.
This chapter primarily focuses on the producers of basic and intermediate chemicals used in
thousands of industrial processes and products. Although end-product industries such as paint and
coatings producers rely on chemical inputs and are classified with chemicals under Standard Industrial
Classification (SIC) 28, these other sectors are large enough to be considered industries in their own
right, and are often treated as such in industry publications. The large majority of basic and
intermediate chemicals (by volume) are commodities produced to composition specifications.
Purchasers of commodity chemicals differentiate between producers based on price, not product
quality. We also address, to a lesser degree, the production of specialty chemicals, which are high
value-added, low production-volume chemicals. Purchasers of specialty chemicals typically
differentiate on the basis of performance, often requesting that the product meet certain unique
characteristics.1
8.1.1 Summary of Findings
The chemicals industry is a complex, capital intensive industry that is primarily dominated by
large, multi-national corporations that have the ability to raise capital for new process equipment. Due
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to the diversity of the industry, generalizing industry performance is somewhat difficult, as the
producers of certain chemicals (particularly specialty chemicals) may experience tremendous growth at
the same time that other producers face production cutbacks. Some general trends can be observed,
however. After decades of growth, the chemical industry went through a period of major restructuring
in the 1980s; weak demand growth and growing foreign competition reduced capacity utilizations and
margins, particularly for commodity producers. Although the situation improved late in the 1980s,
performance in the 1990s has been mediocre. As a result of these trends, a good deal of restructuring
occurred during the 1980s, as marginal facilities closed and as smaller facilities were bought out by
larger corporations in transactions usually financed heavily through debt (Hickman 1994, EPA 1993).
Although the restructuring has been less dramatic than other manufacturing industries (e.g., steel), the
wide-spread changes in the industry have lead to plant closings and a significant reduction in industry
employment These changes have been largely independent of the effects of environmental regulation,
although the industry has been required to expend significant funds on pollution control.
As discussed in this chapter, different components of the industry face very different
competitive situations. Commodity producers compete in a world market based on price; their profit
margins are largely a function of total world demand for the commodities that they produce. Specialty
producers, on the other hand, often design products for one (or a small group) of customers that
require a very specific intermediate product to produce their own final product. In these cases, the
performance of the chemical, much more so than the price, serves as the basis for competition between
specialty manufacturers. While these two industry segments have a number of different characteristics,
significant facility closures due to the HON rule (Hazardous Organic NESHAP)2 and other CAA rules
are unlikely for either type of producer, for the following reasons:
At face value, commodity chemical manufacturers would seem the most
vulnerable to CAA requirements, as they compete in the world market on the
basis of price and therefore could have difficulty passing along cost increases
due to the CAA. For several reasons, we believe that widespread closures
predominantly due to the CAA are unlikely, as (1) European manufacturers,
the largest exporters of chemicals to the U.S., are likely to face air regulations
as stringent as those resulting from the CAA, (2) transportation costs limit the
ability of foreign competitors to enter the U.S. market for certain chemicals,
and (3) the high degree of vertical integration of many producers (i.e., they
produce basic chemicals and final products such as plastics) creates a major
disincentive for closing commodity chemical facilities.
For three quarters of the chemicals produced, on average, increases in
production costs due to the HON rule are predicted to be less than three
percent. Of those chemicals for which production costs are predicted to rise
more than 10 percent, all but five can be classified as low volume chemicals.
Given the costly capital requirements that will result from certain provisions of
the Act, some commodity chemical production facility closures due at least in
part to the CAA are possible, however. These closures could occur in the
1996 to 1998 timeframe given the likely timing of certain HAP provisions. To
the extent that dislocations occur, facilities that are not heavily integrated with
the production of final products may be the most threatened. Simply due to
the location of current production capacity, closures would most likely occur in
the states of Texas, Louisiana, New Jersey and Tennessee.
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Specialty manufacturers generally face inelastic demand for their products, as
the specialty chemical is often critical to their customer, regardless of whether
or not the specialty product serves as an end-product (e.g., Pharmaceuticals) or
as an intermediate product (e.g., fragrances for an air freshener). While new
permitting requirements may disrupt production processes for certain specialty
producers that batch produce, the overall effect of the Act is unlikely to lead to
widespread facility closures.
These general conclusions do not apply to all segments of the industry,
however, as there are some sectors where plant closures are certain to occur.
For instance, chlor-alkali producers are under pressure for a number of
different environmental reasons (e.g., concerns about dioxin formation during
the chlorine pulp bleaching process). Restrictions on chlorofluorocaibons
(CFCs) and related compounds contained within the Act are one of a number
of reasons that U.S. chlorine production facilities are likely to close over the
next several years.3
Further, it is important to note that nearly all portions of the Act will have some influence on
the production of chemicals. For instance, the reformulated gasoline provisions which affect chemical
industry feedstock production and State Implementation Plans (SIPs) for ozone nonattainment may
contain product regulations (such as VOC content regulations on consumer products) that will alter
demand for chemical products. It is reasonable to assume that net losses (or gains) in production that
result from demand shifts induced by air regulations will be small due to these product regulations; in
many cases, production equipment will simply be modified to meet the demands of these shifting
markets.
8.1.2 Caveats
There are a number of uncertainties that affect the likelihood of plant closures in this industry.
These include:
• While a major HAP rule affecting the industry was issued February 28, 1994
(the HON rule), many other CAA regulations have yet to be developed. For
instance, the extent to which states require point source reductions as part of
their SIPs is yet to be determined in a number of cases, which could have
important ramifications for facilities in these states. Thus, while it is clear that
the cost of the regulations to the industry will be high (on the order of several
billion dollars) the total cost is difficult to estimate.
* Focusing our analysis on "facility" closures may mask, to a certain degree, the
impacts at some facilities. Many large chemical manufacturing facilities
produce a variety of different products. Thus, the CAA may result in the
closure of a portion of a major facility while not causing closure of the entire
facility, although integrated processes makes such closures less likely.
Our ability to predict facility closures is somewhat limited by the lack of
precise information on chemical facility characteristics; collecting a coherent
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set of data on this industry is difficult, as it is very broad and the different
sectors of the industry interrelate and overlap.
8.13 Organization of Chapter
The remainder of this chapter is divided into four sections. First, we provide an overview of
chemical industry characteristics that are important in analyzing the impacts of the CAA on this
industry. We place particular emphasis on international trade, as this is an important factor in
assessing the ability of certain firms to pass through the costs of meeting the CAA requirements.
Second, we describe the major provisions of the 1990 CAA Amendments that will affect the chemical
industry and discuss the timing of these provisions. Third, we describe the implications of these
provisions and the resulting regulations in our assessment of the likelihood of facility closure. Finally,
we address the potential development of new markets and products as a result of the CAA.
8.2 INDUSTRY CHARACTERISTICS
8.2.1 Products and Processes
The process of manufacturing chemicals is extremely complex — the industry produces over
60,000 chemical products from a wide range of raw materials. A flow diagram of chemical industry's
inputs and outputs is provided in Exhibit 8-1. As illustrated in this exhibit, raw materials such as
agricultural, coal, and petroleum-based products are utilized to make basic and intermediate chemicals.
These basic chemicals are further processed into a series of functional chemical products for use in a
wide variety of purposes. In this chapter, we focus on the activities within the gray box in Exhibit 8-
1, particularly the production of basic and intermediate chemicals. In the remainder of this section, we
describe the differences between organic and inorganic chemical production, a distinction that is often
used in collecting data on chemical production.4 The other common distinction between basic
chemicals production, commodity versus specialty, is described in detail in the next section.
In organic chemical production, carbon-based feedstocks (primarily petroleum, natural gas, and
natural gas liquids, although coal and biomass are also sometimes used) are refined into eight basic
organic chemicals (i.e., benzene, ethylene, propylene, xylene, toluene, butadiene, methane, and
butylene). Later processing combines these hydrocarbon "backbones" with other organic and inorganic
chemicals to achieve the desired properties of a wide variety of final products (CMA 1993).
Manufacturing organic chemicals is closely related to the last stages of petroleum refining and the first
stages of plastics production. Manufacturers can alter the processing of feedstocks to yield different
mixes of products in accordance with market conditions. The integration of production decisions
across petroleum refining, organic chemical production, and resin manufacture can optimize the
resulting product mix given processing constraints and changing market conditions. As a result,
organic chemical manufacturing facilities tend to be large, multi-product facilities, sometimes located
adjacent to petroleum refining facilities.
Inorganic chemical production involves the purification of non-carbon based elements (e.g.,
oxygen gas) into marketable final products, or into intermediate chemicals (e.g., chlorine) used in other
production processes. Inorganic chemical production comprises a wide range of products and
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Exhibit 8-1
Chemical Production Flow Chart
Chemical Raw Materials
Agricultural
Commodities
Coal Tar
Products
rMural*QM
Metallic
Minerals
Non-metallic
Minerals
«. ' «: ^ ,
fllllllplll
^!&££!&!SSS»>Sf&^
-. (
i ••
-• -s
^
- *, ;
^
•*
,
;.,'
*• ^r "^ ^ -.5 ^ t ^f % %
Organic
5 - >"> - ± ," " ^
Industrial
Gases
T % ' X
Inorganic
Basic and Intermediate Chemicals
1*- - ^;y vx\ s ^ '; s , * \
'
'
, %
; -
Functional Chemical Products
Polymers
Agricultural Chemicals
Medicinate
Industrial and Institutional
Cleaners
Explosives
Adhesives
Automotive Chemicals
Op-field Chemicals
Other
Colors
Surfactants
Flavors and
Fragrances
Carbon Black
Biocides
Thickening Agents
Rame Retardants
UV Stabilizers
Food Additives
Paper Chemicals
Other
, -; ,>vp, j:v., -;-;,; , ; . ; . •
_,
I
Processing
Metate
Petroleum Refining
Pulp and Paper
Textiles
Food Processing
Glass, Stone, and Clay
Products
Food
|
Manufacturing
Wood Products
Textile Products
Machinery and
Equipment
Metal Products
Paper Products
Processing
Mining
Agricultural
Foresty
Fisheries
Construction
Petroleum
Recovery
i 4
T i ~" f
Consumer Needs
Clothing
Housing
IV16ulC3l
Care
Household
Operations
Recreation
Education
Source: Kline, 1990.
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processes. The two largest subsectors are the production of industrial inorganic gases, and the chlor-
alkali process that converts salt water into chlorine and soda ash (DOC 1993a).
8.2.2 Market Segmentation
While dividing chemical manufacturing into organic and inorganic components is an orderly
segmentation from a scientific viewpoint, and often used in collecting data on the industry, this
division masks important characteristics of production and use that cut across the two classes. As a
result, analysts commonly divide the industry into commodity and specialty segments. Because both
the "organic/inorganic" and "commodity/specialty" segmentations are common ways to subdivide the
industry, we utilize data divided both ways in the remainder of this chapter.
Commodity Chemicals
As summarized in Exhibit 8-2, commodity chemicals are sold on the basis of price in globally
competitive markets with many producers and a limited ability for product differentiation. Since price
is so important, the cost of transporting the chemicals to the point of use can be crucial, and limits
somewhat the geographic range over which certain commodities can be profitably distributed. True
commodity chemicals are sold based on their chemical composition, and include bulk organic and
inorganic chemicals and industrial gases. On the other hand, "pseudo" commodities (e.g., plastics) are
sold based on performance specifications in one or more end markets. These performance
specifications may be quite standard, however, so that a pseudo commodity resembles a true
commodity quite closely in that producers largely compete on the basis of price. Commodity
chemicals account for ninety-nine percent of organic and inorganic chemicals production by volume
(Unsworth 1991).
Although process innovation in commodity chemicals can give one producer an edge over
other producers, this advantage is generally short-lived. Most of the process gains are passed through
to the customer in the form of lower prices, and on average, the value added to a commodity product
above the feedstock costs declines annually (Spencer 1993). The globally-competitive, price-sensitive
nature of these markets generally limits the ability of producers to pass cost increases that affect a
subset of producers through to their customers.
Specialty Chemicals
Specialty chemicals (e.g., fragrances) are generally differentiated based on performance, and
therefore often offer higher profits to producers than commodity chemicals (see Exhibit 8-2).
Differentiation occurs primarily by developing products that are sold on the basis of their ability to
meet a particular customer need, rather than on their composition. Although produced in small
volumes, specialty chemicals often provide an essential service in a production process. For example,
descaling agents help to prolong the life of expensive industrial boilers, and are of value to the user
even at relatively high prices since they make up a small portion of the overall cost of operating a
facility (Kline 1990). With greater market power than commodity producers, specialty manufacturers
are more likely to be able to pass cost increases to their customers without major losses in sales
volume.
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8.2.3 Economic and Financial Conditions
In this section we discuss various economic and financial indicators that reflect, in part, the
ability of chemical manufacturers to meet the requirements of the CAA. The purpose of this section is
to examine key issues that affect the likelihood of closures wimin the industry. A variety of data
sources have been utilized in collecting and analyzing this information, including the Bureau of the
Census's SIC data, industry data collected by the Chemical Manufacturers Association (CMA), and
various investment publications (e.g., Valueline). We place particular emphasis on factors affecting
international trade, as chemicals are considered the most globalized of all major manufacturing
industries (Aley 1994).
Demand for Chemical Products
Demand for many chemical products is cyclical, as these products are used in industries such
as textiles, construction, packaging, and paper, all of which are affected (to varying degrees) by
macroeconomic cycles. If demand for paper falls, for example, paper mills will reduce production,
and therefore require less chlorine from the chemicals industry to satisfy their bleaching needs. As
shown in Exhibit 8-3, apparent demand for chemicals in the U.S. rose as the economy expanded
during the mid 1980s, but then declined in real terms from 1988 to 1992.5
Exhibit 8-3
APPARENT U.S. DEMAND FOR INDUSTRIAL ORGANIC AND
INORGANIC CHEMICALS EXCLUDING PIGMENTS
(Billions of 1992 Dollars)
Industry Shipments
Plus Imports
Less Exports
Less Increase Invent.
Apparent U.S. Demand
1983
151.6
8.1
11.5
0.0
148.2
1988
' 170.2
11.9
16.4
1.6
164.1
1992
154.3
12.3
15.1
2.2
149.3
Source: CMA 1993, adjusted to 1992 dollars using the GDP deflator.
While the demand for intermediate chemicals is ultimately derived from the demand for final
products, there are a number of other factors affecting what type of chemicals are demanded. For
instance, regulatory factors have played a role in shaping demand. When regulations affect the
composition of a product, the impact on the demand for intermediate chemicals can be quite
significant. Clean fuel regulations, for example, have greatly increased the demand for MTBE as a
fuel oxygenate. The phase-out of cnlorofluorocarbons is already having a significant impact on the
demand for chlorine.
Further, the demand for chemical products will also be affected by increased recycling of
plastics. The impact of plastics recycling will be twofold. First, recycled resins will directly displace
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the demand for virgin resin capacity, thereby reducing the demand for particular feedstock chemicals.
While at present this is not a significant factor in overall demand for industrial chemicals, for some
feedstocks (such as those used to make polyethylene terapthalate and high density polyethylene)
recycling could affect demand within a decade (DOC 1993a). The second way recycling affects
chemical demand is by producing a shift towards increased recyclability of products through reduced
numbers of different resins beings mixed together. This is already a factor in markets such as
Germany, and is a potentially large threat to the demand for feedstock chemicals used to manufacture
less-recyclable resins.
Production and Capacity Utilization
Domestic chemical production in both the inorganic and organic sectors grew at a rate equal to
or faster than manufacturing overall during the 1982-1992 period, although growth in this sector was
much slower than that experienced in the 1960s and 1970s. During the period from 1987 to 1992,
total U.S. manufacturing growth slowed to 1.3 percent annually, while inorganic chemicals continued
at a 2.8 percent rate of growth, and organic chemicals grew at a 2.6 percent annual rate. Inorganic
production was particularly strong in 1992, as production jumped 11.4 percent from 1991 levels,
whereas organic production actually fell by two percent between 1991 and 1992 (CMA 1993).
As shown in Exhibit 8-4, capacity utilization in the inorganic chemical sector was 80 percent
in 1989 and fell to 79 percent in 1990. Comparable figures for the organic sector were higher: 82
percent in 1989, rising to 84 percent in 1990. Both sectors operated at a higher level than that of
industry overall, which utilized only 77 and 76 percent of its capacity in 1989 and 1990 respectively
(DOC 1992b). Recent improvements in the U.S. economy have lead to increased utilization of
chemical industry capacity over the past year. Industry analysts estimate that utilization in the industry
is now approximately 86 percent (Hickman 1994).
Exhibit 8-4
CAPACITY UTILIZATION IN INDUSTRIAL CHEMICALS
Sector
Inorganic Chemicals (SIC 281)
Organic Chemicals (SIC 286)
1989
80%
82%
1990
79%
84%
Source: DOC 1992b.
Capacity utilization is a critical measure of industry health for capital-intensive industries, and
this is particularly true for commodity chemicals. According to industry analysts, global capacity
utilization drives profitability, because excess capacity abroad can choke off U.S. export markets and
depress prices domestically. Until capacity utilization for commodity chemicals reaches a key level,
often 90 to 95 percent (varying by product), profit margins are low. Once this level is crossed,
profitability increases rapidly. Certain analysts do not expect the industry to cross the 90 percent
utilization threshold until 1996 (Hickman 1994), even in light of the improving condition of the U.S.
economy.
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International Trade and Competition
Given that the vast majority of the chemical industry competes in a global market, factors
affecting chemical exports and imports are of great importance to most chemical manufacturers. In
this section, we summarize the recent international performance of the U.S. in the world market. In
addition, we discuss two issues, transportation costs and foreign environmental regulations, that are
important to U.S. manufacturer's competitive position in the world market.
Competitive Position of U.S. Chemical Producers
As shown in Exhibit 8-5, the U.S. exported over $15.1 billion worth of industrial organic and
inorganic chemicals in 1992, versus imports of only $12.3 billion. These figures mask a longer-term
decline in the U.S. production of chemicals as a share of the world market; organic chemical exports
dropped from 16.1 percent of world trade in 1981 to 14.6 percent in 1991, a decline of 1.7 percent.
The U.S. share for inorganic chemical exports fell 4.1 percent during that same period, from 20.4
percent of world trade in 1981 to 16.3 percent in 1991 (CMA 1993). As illustrated in Exhibit 8-6, the
European Community, Canada, and Japan account for the majority of U.S. exports, although Latin
America nations and Asian Newly Industrialized Countries (NICs) also are major export areas. In
terms of imports, the European Community accounts for the largest share of imported products (see
Exhibit 8-7). The U.S. also has significant levels of imports from Canada (particularly for inorganic
chemicals), Japan, and Latin America.
Exhibit 8-5
TRADE IN ORGANIC AND INORGANIC CHEMICALS, 1992
(Millions of Dollars)
Exports
Imports
Trade Surplus (Deficit)
Organic
Chemicals
$11,001
9,042
1,959
Inorganic
Chemicals
$4,119
3,286
833
Total
$15,120
12328
2,792
Source: CMA 1993, based on Department of Commerce data.
The decline in the U.S.'s share of organic chemical production has been driven by three
factors. First, with fuel and feedstock costs the major factor in the production of organic chemicals,
hydrocarbon-rich countries have a significant comparative advantage due to their access to these
feedstocks. Over the past 10 to 15 years, new-world scale chemical facilities have been built in places
such as Mexico, Saudi Arabia, and Indonesia; this trend has allowed these countries to displace exports
from the U.S. and the European Community. Second, U.S. producers relying on natural gas liquids
long held a comparative advantage to Western European and Japanese producers, who relied on
naphthas. According to the Department of Commerce, the price disappeared in 1992 (DOC 1993).
Third, the position of domestic suppliers in the organic chemical segment was adversely affected in the
late 1980s by capacity expansions abroad driven by political goals, rather than by proximity to
inexpensive feedstock chemicals. Countries such as Taiwan and South Korea built large facilities to
support domestic growth and achieve self-sufficiency in particular products (Spencer 1993).
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Exhibit 8-6
U.S. EXPORTS IN 1992 (By Value)
Organic
Other (14.6%)
Asian NICs (16.7%)—
Latin America (18.0%)
European (31.5%)
Community
Canada (10.2%)
Japan (9.0%)
Inorganic
Other (12.3%)
Asian NICs (10.6%)
Latin America (17.6%)
Source:
CMA 1993.
European (21.1%)
Community
Canada (11.9%)
8-11
-Japan (26.5%)
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Exhibit 8-7
U.S. IMPORTS IN 1992 (By Value)
Organic
Other (14.0%)
Asian NICs (7.2%)
Latin America (11.9%)—\
Japan (13.2%)
European (44.3%)
Community
-Canada (9.4%)
Inorganic
Other (17.3%)^.
Asian NICs (0.5%)
Latin America (11.5%)—
Japan (6.5%)
Source:
CMA 1993.
European (33.0%)
Community
Canada (31.2%)
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U.S. producers of inorganic chemicals have also traditionally been strong exporters.
Throughout the past decade the industry had been helped by the declining value of the dollar in export
markets such as Japan (the U.S.'s largest export market for inorganics), Malaysia, Thailand, and
Indonesia. The recent decline in inorganic markets was caused primarily by the economic slowdown
in foreign consumption markets, rather than by structural factors like those at play in the organic
sector.
Significance of Chemical Transportation Costs
The cost of transporting chemicals long distances can be prohibitive. For example, the cost of
shipping price-sensitive commodity chemicals from the United States to Asia are generally high
enough to offset any cost advantage an American supplier may have in production. For these
chemicals, the U.S. producers serve as "swing" suppliers to the region and are not be able to penetrate
the market unless Asian capacity becomes tight. This is true despite the fact that U.S. producers often
accept much lower margins on chemical exports than on domestic sales (Spencer 1993).6
The cost of transporting chemicals is driven not only by the distance to be covered, but by the
widely differing physical properties of the chemicals to be shipped. For some categories of chemicals.
transport difficulties restrict sales to local or regional markets. According to the CMA, nearly one-half
of the chemicals and allied products produced in the United States are shipped less than 200 miles.
Chemicals that are usually transported short distances include heavy, low-cost commodities such as
basic inorganics, and products that are quite difficult to ship, such as industrial gases (Kline 1990).
Higher value products are often shipped longer distances. In addition, commodity organic chemicals
can be shipped long distances given sufficient cost advantages due to the proximity to natural gas or
petroleum feedstocks (Kline 1990). Transport costs in 1992 averaged five percent of the industry's
value of shipments (CMA 1993). This percentage can vary significantly between commodity and
specialty products, however. For instance, transportation costs for commodity chemicals such as
polyethylene and polyvinyl chloride (PVC) often comprise 20 to 30 percent of shipped value, whereas
transportation costs of specialty chemicals are considerably lower (in the single digits in percentage
terms) (AAR 1994).
Environmental Regulations Faced by Foreign Competitors
Some of the U.S.'s largest foreign competitors face similar environmental regulatory burdens.
For example, controls in Germany, the Netherlands, and Scandinavia are extremely strict, with
mandated reductions in CFCs, VOCs, and air toxics over the coming decade (Chynoweth 1991). The
European Community now has access to information on chemical releases similar to that made
available through the U.S. Toxic Release Inventory (TRI).7 The European effort has already begun to
encourage voluntary emissions reductions by polluting industries, in much the same manner as TRI did
in the U.S. (Ondrey 1993).
Trends in Employment and Productivity
A total of 278,400 people were employed in the organic and inorganic chemical sectors in
1992. Of these employees, about 48 percent were production workers (CMA 1993). The relatively
small number of individuals employed in these sectors is a function of the capital intensive nature of
production.8 In 1992, gross capital stocks per worker were $197,800 in the chemical industry versus
an average of $82,400 per employee for the rest of the U.S. manufacturing sector (CMA 1993). In
8-13
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terms of sales per employee, the organic chemicals segment has the highest ratio, with sales per
employee of $410,000 in 1987, versus only $209,000 in the inorganic segment (Kline, 1990).
Since labor costs are a relatively small share of total industry costs, and because workers must
oversee complex and expensive equipment, labor costs are unlikely to be a major factor in plant
relocation decisions (Stumpfl 1993). Stagnating markets, overcapacity, and declining profits in the
early 1980s lead to significant restructuring in the chemical industry over the past 10 to 15 years,
however, including rationalization of production capacity. As a result, employment in both the organic
and inorganic sectors has declined significantly over the last several years. Since 1980, employment in
the organic sector dropped at an annual average rate of 1.1 percent; for the inorganic segment the drop
was more than double, at 2.5 percent (CMA 1993). Despite the. worsening financial position of the
industry during the 1990s, the rate of decline in employment has slowed to 0.8 percent annual rate in
the inorganic sector, and remained constant at a 1.2 percent annual decrease in the organic sector
(CMA 1993).
Restructuring and downsizing have had a major effect on overall labor productivity.
Productivity rose dramatically in the inorganic sector, increasing 49.2 percent between 1987 and 1992,
well above the 12.2 percent increase attributable to all U.S. manufacturing. In the organic sector, the
increase was almost 20 percent, also above the rate for overall manufacturing (CMA 1993). While
wages for production workers did increase somewhat during the 1980s and early 1990s, wage
increases did not keep pace with productivity improvements.
Financial Performance
Exhibits 8-8 and 8-9 summarize the recent financial condition of the commodity and specialty
chemicals industries. Despite stable or growing production and capacity utilization over the past few
years, the financial performance of the chemical industry has been weak. Since the industry is so
capital intensive, price cuts during a recession are a common way to keep plant utilization up in order
to at least meet fixed costs (Spencer 1993). Commodity producers, however, continue to suffer
declining operating margin and profitability, and continue to carry an increasingly heavy debt burden.
The economic recovery should help the industry somewhat, although profit margins could remain low
for some time (Valueline 1993a).
While profitability in the commodity sector continues to decline, Exhibit 8-9 illustrates
recovering profits in the specialty sector. The stable profit margins in the midst of a recession
illustrate the relative stability of demand for specialties, due to their high value to end markets.
Exhibit 8-9 also illustrates a significantly lower overall level of debt. Although recovering,
profitability for these producers remains somewhat depressed due to depressed foreign demand and the
rising strength of the dollar (Valueline 1993b).
Past Capital Expenditures and Pollution Abatement Costs
As discussed above, the chemical industry has always been capital intensive. Many production
processes exhibit significant economies of scale, requiring large equipment expenditures. New
processes, as well as new regulatory requirements, also increase the capital intensity of this industry.
As with many capital intensive industries, there is a long lead time to plan, construct, and bring new
facilities on line, and markets often change significantly between the time a project was approved and
the time it begins producing product. For example, constrained capacity in a particular chemical may
drive prices (and profits) upward, inducing multiple facilities to add capacity in that chemical. Often,
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Exhibit 8-8
FINANCIAL STATISTICS ON THE BASIC CHEMICALS INDUSTRY
Revenues (billion $)
Operating Margin
Profit Margin (After Tax)
Long term debt (billion S)
Tangible Net Worth (TNW) (billion S)
Ratio of Long-term Debt to TNW
1989
S82.8
21.6%
9.0%
SI 3.2
S32.8
0.40
1990
S89.8
18.0%
6.0%
SI 7.9
S33.8
0.53
1991
$83.5
15.6%
4.6%
SI 8.6
S34.6
0.54
19921
$80.9
14.8%
3.9%
SI 8.9
S26.5
0.71
1 TNW and (to a lesser extent) profitability declined markedly in 1992 for two reasons. First
several companies took large restructuring write-offs in 1992; Dow, for example, took a
restructuring charge of approximately S350 million in 1992 (Hickman 1994). Second, the
ruling by the Financial Accounting Standards Board (FASB) that requires companies to reflect
the estimated cost of future benefits promised to current employees in financial reports went
into effect in 1992. This accounting change resulted in a significant one-time downward
adjustment to earnings for many companies.
Source: Valueline 1993a.
Exhibit 8-9
FINANCIAL STATISTICS ON THE SPECIALTY CHEMICALS INDUSTRY
Revenues (billion S)
Operating Margin
Profit Margin (After Tax)
Long term debt (billion S)
Tangible Net Worth (TNW) (billion $)
Ratio of Long-term Debt to TNW
1989
$33.6
13.4%
5.1%
S4.0
S14.1
0.28
1990
$38.0
14.8%
5.8%
$4.9
S16.1
0.30
1991
S38.0
15.1%
5.6%
S5.0
$16.7
0.30
1992
S40.3
16.1%
6.3%
S5.2
S17.5
0.30
Source: Valueline 1993b.
these independent decisions lead to a capacity glut when the multiple new facilities come on line
(Hickman 1994). If this occurs during an economic downturn, the excess capacity can be significant.
Later in this chapter we discuss the probable capital cost requirements for meeting different
provisions of the CAA. One relevant factor in evaluating the burden that these costs will place on the
industry is to compare them to past industry expenditures on capital equipment in general and
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pollution control in particular. As presented in Exhibit 8-10, organic and inorganic chemical
manufacturers expended approximately $6.5 billion dollars on capital equipment in 1990, of which
approximately $1.0 billion (16 percent of the total) were pollution abatement capital expenditures
(PACE). Approximately one-third of PACE were for air pollution control equipment. Chemical firms
also incurred significant PACE in production facilities often integrated with basic chemical production facilities (e.g., plastics
manufacturing).9
Exhibit 8-10
POLLUTION ABATEMENT AND CONTROL EXPENDITURES
FOR INDUSTRIAL CHEMICAL PRODUCERS, 1990
(million $)
SIC 281:
Inorganic
SIC 286:
Organic
Total (SIC
281 & 286)
Total
Capital
Expenditures
Sl.328.9
S5.151.3
S6.480.2
Total
PACE
Expenditures
$310.0
$743.8
$1,053.8
PACE as
% of
Total
Capital
23.3%
14.4%
16.3%
Air
PACE
Capital
Expenditures
$151.9
$193.1
$345.0
Air as
% of
Total
PACE
49.0%
26.0%
32.7%
Total Gross
Annual Costs
on Pollution
Abatement1
$664.0
$1,648.6
$2.292.6
! Operating costs are net of any cost savings from materials savings or sales due to pollution abatement.
Source: DOC 1992c, DOC 1993c.
Industry Concentration
Basic and intermediate chemical manufacturing is highly concentrated. The top 50 companies
control more than 95 percent of production for every category but industrial inorganic chemicals, not
elsewhere classified (SIC 2819) and industrial organic chemicals, not elsewhere classified (SIC 2869).
Given the capital intensive nature of chemical production, broad economies of scale, and complex
administrative and technical issues associated with chemical production and distribution, this
concentration is not surprising. Organic chemical production is more highly concentrated than
inorganic chemical production.
As illustrated in Exhibit 8-11, the number of producers of basic commodity chemicals (e.g.,
industrial gases) has decreased since 1975.10 In contrast, the number of specialty producers has
increased (the number of producers in SIC 2819 and 2869 grew by 61 percent and 29 percent
respectively between 1972 and 1987). We note, however, that these statistics report the number of
firms, not facilities, within particular sectors; this factor may mask the rationalization of certain
facilities that occurred in the early to mid 1980s.
Location
As illustrated in Exhibit 8-12, approximately 37,500 workers in the state of Texas are involved
in the production of organic and inorganic chemicals, over 16 percent of the total for all states. Other
states with significant employment include Louisiana, Tennessee, and New Jersey. The
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Exhibit 8-11
CONCENTRATION OF INORGANIC AND ORGANIC CHEMICALS
PRODUCTION IN 1987, BY CORPORATE SIZE
SIC
Code
2812
2813
2816
2819
2861
2865
2869
Industry Sector
Alkalies and chlorine
Industrial gases
Inorganic pigments
Industrial inorganic chemicals,
n.e.c.
Gum and wood chemicals
Cyclic crudes and intermediates
Industrial organic chemicals,
n.e.c.*
Number of
Companies
27
103
70
427
52
131
491
Percentage Change
in Number of
Firms, 1972 to 1987
-3.4%
-1.9
-9.1
+157.2
-55.9
+5.6
+39.9
Percentage of Total
Production Controlled By:
Eight
Largest
Companies
93%
81
76
49
81
50
48
50
Largest
Companies
100%
98
99+
84
>96
96
86
Source: DOC 1992a.
Note: n.e.c. - not elsewhere classified.
Exhibit 8-12
INDUSTRY EMPLOYMENT BY STATE
Texas
Louisiana
Tennessee
New Jersey
Ohio
Washington
Total (Ail 50 States)
Number of Employees (thousands)
SIC 281
6.5
5.2
12.0
3.3
6.8
9.5
104.0
SIC 286
31.0
11.8
4.6
11.4
5.4
N.A.
127.0
SIC 281 and SIC 286
37.5
17.0
16.6
14.7
12.2
9.5
231.0
1 For certain states not included in this list, state data are not reported to avoid disclosing
data for individual companies. As a result this exhibit may exclude certain states with high
employment levels.
Source: DOC 1993b.
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geographic concentration of the industry is more pronounced for organic manufacturers than inorganic
manufacturers. Approximately 43 percent of total employment in the organic industry is accounted for
in Texas, Louisiana, and New Jersey. Inorganic facilities are not as geographically concentrated as
organic manufacturers, as they are not always located in the same areas as hydrocarbon feedstocks.
For the specialty chemicals sector, proximity to the customer is more important than proximity
to raw materials. Since many chemicals are purchased based on how they perform in a customer's
production process, the products often go through multiple iterations. Proximity to the customer's
production site is important in quickly responding to customer needs (Stumpfl 1993).
Research has also been conducted on the geographic regions most likely to be affected by the
HON rule. Over 75 percent of affected facilities are expected to be in Texas, Louisiana, and New
Jersey. Thirty-eight states contain at least one affected facility, however (CMR 1992b).
Shutdown Costs
An important consideration in any decision to close a facility is the cost to close the facility.
For manufacturing facilities, key shutdown costs often include labor related costs (such as pension
liabilities) and also potential environmental liabilities (e.g., the possibility that the closed facility could
become a hazardous waste site). In general, labor-related costs associated with closure are unlikely to
be a major concern for most companies, as the size of the labor force is relatively small in this capital
intensive industry. Further, the pension plans of certain large manufacturers, such as Dow, are
currently appropriately funded (Hickman 1994). It is reasonable to presume, however, that many
facilities, if closed, will need to be cleaned up due to federal or state hazardous waste site regulations.
For instance, of all Superfund sites listed as of 1991, 17.6 percent were former chemical facilities
(EPA 1991). We believe that the likelihood that some of these facilities could be subject to costly site
remediations provides an incentive for firms to continue to operate marginal facilities.
8.3 REGULATIONS UNDER THE 1990 CAA AMENDMENTS AFFECTING THE
CHEMICAL INDUSTRY
This section provides background on which portions of the 1990 CAA amendments will affect
the chemical industry. The relevant provisions include (1) restrictions on emissions of hazardous air
pollutants, (2) nonattainment provisions contained in Title I of the Amendments, (3) the phase-out of
ozone-depleting chemicals, (4) permitting issues associated with operational changes, and (5) indirect
effects from controls on acidic deposition and the volatility of gasoline fuels. Each of these provisions
is presented in greater detail below. The extent to which these provisions will ultimately affect the
industry is still being determined, as regulations have not yet been finalized in most instances.
8.3.1 Hazardous Air Pollutants (HAPs)
Title III of the 1990 CAA Amendments, which has been incorporated into Title I of the Clean
Air Act, regulates the emissions of 189 hazardous air pollutants. This provision will require the most
extensive changes in the chemical industry of any of the provisions of the Amendments, because the
chemical industry is a large emitter of the listed toxic chemicals. The current focus of HAP emissions
from chemical production has been on the HON rule. This rule will regulate HAP emissions from the
Synthetic Organic Chemical Manufacturing Industry (SOCMI) source category, as well as equipment
leaks from seven non-SOCMI processes.11 Because SOCMI is a large source of HAP emissions, the
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HON rule is expected to result in an emissions reduction of 500,000 (EPA 1994) to 600,000 tons per
year of HAPs, a larger reduction than with any other single NESHAP (McMurrer 1992, FR 1992).
The HON mlemaking process has attracted a good deal of attention for a number of reasons:
a large portion of the industry is affected by this rule;
• other NESHAPs that affect the chemicals industry will likely be similar in
structure to the HON; and
the provisions in the rule that allow trading or averaging from different
emissions points at the same facility are a departure from a strict "command
and control" approach (McMurrer 1994, McMurrer 1992).
The proposed rule was issued on December 31, 1992. EPA promulgated the final rule on February 28,
1994. The final rule allows emissions averaging, but only for a limited number of emission points,
and requires a chemical hazard or risk equivalency determination. In addition, where averaging is
used, total emissions must be 10 percent less than if no averaging is used. State and local agencies
that administer the HON have the discretion to allow emissions averaging (EPA 1994).
8.3.2 Title I Nonattainment Areas
Title I of the 1990 CAA Amendments mandates new requirements for nonattainment areas,
those areas of the country not meeting standards for ozone, urban smog, carbon monoxide, and
paniculate matter. States are responsible for developing implementation plans, under EPA guidance,
for these nonattainment areas over the next few years.
Standards for ozone nonattainment areas could have a significant impact on the chemical
industry. This provision defines six categories of nonattainment areas based on the annual average of
ambient ozone determinations: marginal, moderate, serious, severe I, severe II, and extreme. Under
this provision owners and operators of sources emitting ozone precursors in all ozone nonattainment
areas must submit an inventory of emissions, including VOC and NOx emissions. This inventory will
be used as .a baseline from which emission reductions will be calculated to measure progress toward
ambient attainment levels. For marginal areas, states will work with EPA to develop control
performance guidelines for new or modified sources. For all other nonattainment areas, states must
develop a baseline as well as implement control performance guidelines for major existing sources
(Kane 1992).
In addition to source controls, Title I affects the chemical industry in two additional ways.
First, efforts to reduce VOC emissions from consumer products could dramatically affect some end
markets including paints, coatings, sealants, adhesives, and a variety of consumer products (e.g., air
fresheners). As these changes in product reformulation take effect, the demand for feedstock
chemicals will change. Second, nonattainment areas for carbon monoxide are required to oxygenate
motor fuels through blending with additives such as ethanol, methanol, or methyl tertiary butyl ether
(MTBE). The increased demand for methanoi and MTBE will change the mix of feedstocks available
to the organic chemicals sector.
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8.33 Stratospheric Ozone Protection
Between the Montreal Protocol and Title IV of the Act, many deadlines have been set for
phasing out chemicals that deplete stratospheric ozone. Production and importation of CFCs, halons,
carbon tetrachloride, methyl chloride, and methyl chloroform will be banned as of 1995. These
chemicals have already been banned from several "nonessential" uses since November 1992; and, since
1993, regulations require refrigerants from automobiles and trucks to be recycled. Further,
hydrochloroflourocarbons (HCFCs) will begin to be phased out in 2003, with total elimination by 2030
(Voigt 1994).
8.3.4 Permitting
As required by Title V of the 1990 CAA Amendments, EPA has published requirements that
the states must follow in developing air permit programs. The new permits will consolidate all
applicable air program requirements into the publicly-available permit, covering criteria pollutants, acid
precipitation controls, HAP regulations, and new source-specific requirements (EPA 1992). While
there are no provisions specifically relating to the chemical industry, all sources of air toxics must
obtain permits and certain aspects of the new permitting process could affect operating processes for
some manufacturers. In particular, firms that engage in batch production processes, such as some
specialty chemicals manufacturers, may be adversely affected if permitting requirements limit their
ability to batch process without modifying their permit (Begley 1991).
12
8.3.5 Mobile Source Controls
Title II of the 1990 CAA Amendments requires the use of reformulated gasoline in severe
ozone nonattainment areas beginning in 1995. In addition, 39 ozone nonattainment areas are now-
required, in the winter months, to use gasoline with at least 2.7 percent oxygen through the addition of
ethanol, methanol, or MTBE. These mobile source controls will reduce emissions of both VOCs and
toxic air pollutants, and will affect the feedstocks available to the chemical industry. Title II also
contains two provisions that might have a larger-scale effect on chemical feedstock production over the
long-term. Both the fleet program and the California pilot program aim at accelerating the
development of alternative-fueled vehicles. Should any significant market share develop for these
alternative fuels, the feedstocks available to the chemical industry, and their relative costs, could be
significantly altered.
8.3.6 Acid Deposition Control
Title IV provisions to curb SO2 and NOx emissions, primarily from electric utilities, will lead
to price increases in the electricity these utilities provide. While much of the chemical industry
processes are fueled by sources other than electricity, some segments of the industry, particularly
certain inorganic manufacturers, will be affected by the price increases Title IV will likely cause. The
price increases will be mitigated by the fact that S02 and NOx emissions controls are being phased in
gradually, and that the cost of controlling these emissions has been falling over time. The magnitude
of these increases is discussed later in this chapter.
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8.4 EFFECT OF REGULATIONS UNDER THE 1990 CAA AMENDMENTS ON THE
CHEMICAL INDUSTRY
8.4.1 Cost of Compliance
Overview
There have been many estimates of the chemical industry's cost of compliance with the CAA.
Comparing these estimates is difficult, as they often cover different provisions of the Act, different
segments of the industry, and different periods of time. Further, costs ultimately incurred depend
heavily on the exact structure of the final regulations, and the timing of implementation. For example,
since the proposed HON rule allows emissions averaging, this may significantly reduce the cost of
complying with this regulation in ways that are difficult to predict. Finally, assumptions regarding
inflation rates, cost escalation, declining costs of pollution control technologies over the compliance
period, and the level of spending on pollution control that would occur regardless of the CAA all
significantly affect compliance estimates.
All caveats aside, cost studies that have been conducted do provide a starting point for
analyzing the effects of forthcoming air regulations on this industry. The one detailed EPA cost study
conducted since the passage of the 1990 CAA Amendments that directly focuses on the chemicals
industry is the Economic Impact Analysis of the Hazardous Organic NESHAP (EPA 1993). EPA
estimates that total capital costs attributed to the HON rule would be $347 million (in 1989 dollars),
and that total annual costs would be $134 million (in 1989 dollars) per year (FR 1992). In developing
these estimates, EPA looked at the cost of control for each of 400 SOCMI chemicals. Likely cost
increases resulting from the HON rule are displayed in Exhibit 8-13. As illustrated in this exhibit,
increases in production costs for three quarters of the chemicals are predicted to be less than three
percent. For the 12 percent of chemicals whose production costs are expected to increase by more
than 10 percent, all but five are "low volume" chemicals (less than 11,000 tons of annual production)
(FR 1992).
Exhibit 8-13
EPA'S ESTIMATE OF CHEMICAL PRODUCTION
COST INCREASES DUE TO THE
PROPOSED HON RULE
Percent Cost Increase
< 3 percent
3 to 10 percent
> 10 percent
Percentage of Total
Chemicals Analyzed
75%
13
12
Source: FR 1992.
Another CAA cost study done on the chemicals industry, completed in 1993, estimates that the
total cost of chemical industry compliance over the next decade will be $20 billion dollars for all Title
III requirements. This study, completed by Mcllvaine Co., subdivides the $20 billion figure into three
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categories: (1) $6.5 billion for capital expenditures, (2) $8.5 billion on process changes, and (3) $5
billion on consulting, monitoring and related expenditures (AWPR 1993). The results of this study are
not comparable with EPA's HON analysis, as this study covers several proposed rules, a broader group
of manufacturers, and is calculated over a longer time period. One of this study's broad conclusions is
that U.S. firms will not be placed at an international disadvantage due to these costs, as foreign
competitors are already using many of the U.S. required controls (AWPR 1993). We discuss this issue
further in the next section.
Acid Rain Provisions
Acid deposition controls in the 1990 CAA Amendments affect the chemical industry indirectly
through the purchase of electric energy, which is heavily used in some chemical processes. As shown
in Exhibit 8-14, the inorganic sector is much more electricity-intensive than the organic sector.
Electricity purchases in 1991 constituted 13.9 percent of the value added by inorganic chemical
producers, but only 2.2 percent of value added by organic chemical manufacturers. As a result,
facilities located in areas where electricity prices are likely to increase significantly due to the acid rain
provisions may face cost of production increases.
Exhibit 8-14
ELECTRICITY AS A SHARE OF ENERGY DEMAND FOR HEAT
AND POWER IN INDUSTRIAL CHEMICAL PRODUCTION, 1991
SIC 281 - Industrial
Inorganic Chemicals
SIC 286 - Industrial
Organic Chemicals1
Cost of Purchased
Fuels and Electric
Energy (SMillions)
52,749.4
$2,857.6
Electricity Purchased
as Percentage of Value
Added
13.9%
22%
1 Excludes consumption of natural gas, oil, and natural gas liquids as
chemical feedstocks.
Source: DOC 1993c.
However, this increase is likely to be small. EPA estimated that the 1990 CAA Amendments
would increase electricity rates nationally by at most 0.4 to 1.1 percent, with a maximum regional
impact of 2.5 percent (ICF 1991). A 2.5 percent increase in electricity costs translates to an average
impact on the cost of production of electricity-intensive inorganic chemicals of 0.3 percent.
8.4.2 Likelihood of Plant Closures
The U.S. chemical industry is subject to a number of forces, both regulatory and economic,
that continue to significantly affect operations. While sections of the CAA will require sizeable capital
and operating expenditures (particularly the HON rule and other HAP and VOC regulations), the
overall effect on the industry in terms of plant closures is likely to be small. As discussed earlier in
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this chapter, factors such as feedstock and fuel costs, transportation costs, and exchange rates are major
drivers of plant location decisions and will likely continue as such. Further, the global
restructuring that took place during the 1980s drove out may inefficient producers, leaving an industry
where the spread between the "high-cost" and "low-cost" producers is relatively small (Hickman 1994).
While it is unlikely that major dislocations wili result from the implementation of the CAA,
impacts will not be even across the different segments of the industry. In the following sections we
draw some broad conclusions about the likelihood of closures for particular industry sectors. While
our analysis is subdivided according to different markets (e.g., commodity and specialty), many
"plants" manufacture chemicals for sale in more than one of these categories. Thus, certain facilities
may choose to close a portion of its operations, even if most of the facility continues to operate.
Commodity Organic Producers
It is unlikely that commodity organic producers will close facilities solely as a result of the
CAA, although the pace of relocation to areas with less expensive raw materials may be accelerated
somewhat by the additional costs of the CAA. The reasons that closures are expected to be low is
that, even though expenditures due to the HON rule and other regulations are large in absolute terms,
they are unlikely to place U.S. producers at a competitive disadvantage as key foreign competitors
(e.g., European manufacturers) face similar air regulations. Further, the U.S. domestic market is
somewhat protected by the cost of commodity chemical transport for certain chemicals. Import
pressure is most likely to be driven by proximity to inexpensive hydrocarbon sources and exchange
rates rather than the marginal cost of the CAA.
Some older, smaller producers may not find it worthwhile to make the investments required by
portions of the Act (e.g., capital requirements resulting from the HON rule), however. In particular,
Mexico may become an attractive location to site new production facilities. Mexican producers benefit
from close proximity to the U.S. market and inexpensive feedstocks (e.g., natural gas). If
environmental enforcement remains weak, plants could migrate south over time, although the
environmental side agreements negotiated as part of the North American Free Trade Agreement
(NAFTA) should be a mitigating factor.
Finally, the reformulated gasoline provisions of the Act will have a clear impact on the
chemicals industry; as the benzene and butane content of gasoline is reduced, more of these streams
will be sent to the chemicals industry, affecting the balance of important feedstocks such as propylene
and isobutane (DOC 1993a). It is unlikely that these changes will have any major net effect on the
level of production, however, as the reformulated gasoline provisions will require increased production
of other substances, such as fuel oxygenates.
Commodity Inorganic Producers
Commodity inorganic producers, other than chlor-alkali producers (discussed below), are
generally in the same regulatory situation as commodity organic producers, although most are not
subject to the HON. While the cost of compliance with CAA regulations may be substantial, most
manufacturers will not be severely affected in a competitive sense by the regulations. Some evidence
suggests, however, that certain manufacturers could be somewhat more affected than organic
commodity producers because inorganic producers use more electricity in the manufacturing process,
on average, than organic counterparts. To the extent that inorganic manufacturers are located in areas
facing increases in electric costs due to the acid rain provisions, they may suffer a slight competitive
disadvantage.
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Chior-alkali Production
The situation in the chlor-alkali segment of this industry is quite different from the general
trends discussed above, as this sector is under pressure for a variety of reasons, many of which pre-
date the effect of rules under the 1990 CAA Amendments. In addition to earlier regulations
eliminating the use of chJorofluorocarbons (CFCs). concerns relating to chlorine exist over:
• the recyclability of polyvinyl chloride (PVC) resins, the contamination of
recyclable resins with PVC plastics, and the release of dioxins from the
combustion of PVC-laden municipal waste streams;
• dioxin contamination of waterways due to pulp and paper bleaching processes,
and the health and environmental impacts of other bleaching byproducts; and
• carcinogenic byproducts resulting from water purification with chlorine, as
well as the ecological effects of chlorine being released from wastewater
treatment plants.
Second, ozone depleting chemicals containing chlorine are being phased out under the Montreal
Protocol, the international agreement addressing stratospheric ozone protection that was signed prior to
the passage of the 1990 CAA Amendments. Provisions of the CAA that address stratospheric ozone
accelerate the phase out that the U.S. agreed to under the Montreal protocol. As a result of these
pressure, facilities have closed in the chlor-alkali sector in both Europe and North America. Industry
analysts expect facilities on both continents will continue to close.
A number of factors are likely to delay the closure of U.S. facilities to some degree, however.
First, CFCs are phased out over a period of years, reducing the length of time that the useful life of
the capital equipment is shortened by the phase-out. Second, equipment capable of producing CFCs
can be and is being converted to plants for hydrochlorofluorocarbons (HCFCs), a similar product with
much lower ozone depleting potential. While HCFCs will also be phased out over time, the phase-out
period adds between 15 and 30 years to the period the capital can be used. Third, the domestic
producers of these chemicals are large multinational firms, and are heavily investing in substitute
products such as hydrofluorocarbons (HFCs). Although new plants won't necessarily be in the exact
locations as the old, these factors do reduce the net economic disruptions likely from the phase-out
Finally, U.S. chlor-alkali facilities are somewhat less threatened than European chlor-alkali producers
because European production capacity relies more heavily on and older production technology that is
20 percent less energy efficient than that used in the U.S. (Roberts 1992).13
Specialty Chemicals
In general, specialty chemical manufacturers are likely to be the least affected by the CAA.
This is primarily due to the fact that specialty manufacturers can pass through cost increases due to
their close ties to their customers and me substantial value they add to customer products in
comparison to the price of the specialty chemicals. The permitting provisions of the CAA do have
some specialty manufacturers concerned, however, as batch processors of specialty compounds may
have difficulty obtaining and complying with their permits. Since the states have the authority to issue
these permits, the extent to which this becomes a major burden for batch producers could vary from
state to state. The total effect of the permitting requirements on the financial health of the specialty
manufacturers is likely to be small as long as the requirements do not cause facilities to stop
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production while awaiting permit modifications. However, the consolidation of smaller, less
sophisticated firms with larger ones could occur, in an attempt to minimize the cost of permitting
requirements.
8.4.3 Implications of Plant Closures
Relative to labor-intensive industries, plant closures in the capital intensive chemical industry
(SIC 281 and 286), if they occur, should not lead to large scale job losses. This conclusion should be
heavily qualified by the fact that many facilities producing basic commodity chemicals are vertically
integrated. Thus, if a company decides that it must close a facility, this decision could affect not only
the manufacture of the chemical feedstocks, but also the intermediate and/or final product produced at
the facility (e.g., plastics), which could lead to a greater degree of job loss. Further, since many major
provisions affecting the industry affect all domestic producers (e.g., HAP regulations), we do not
expect facilities in certain regions of the country to suffer disproportionately due to differential
regulations. Facilities are highly concentrated in a small number of states, however.
Finally, the implications of plant closures varies based on whether or not (1) production is
likely to be lost to foreign producers (e.g., certain commodity chemicals) or (2) production is being
replaced by other domestic producers who are manufacturing a substitute product (e.g., HFC
substitution for CFCs). While it is difficult to generalize in this highly complex industry, many
impacts are likely to be of the second type. Therefore, while the impact of particular facility closures
should not be taken lightly, the net effect on jobs and employment in the U.S. could be small as
substitute products are developed and introduced.
8.4.4 Uncertainties
Since the various provisions of the CAA have not yet been finalized, it is difficult to fully
project the likely affects of these provisions. For instance, although EPA promulgated a final HON
rule containing provisions that provide firms with some degree of flexibility in controlling emissions
(e.g., the averaging provisions), the states still have and opportunity to prevent this flexibility.
Another uncertainty, unrelated to the CAA, is how the industry responds over the longer term to the
restructuring of 1980s. If the U.S. and world economies continue to expand and the industry is able to
reduce some of the debt collected during the restructuring of the 1980s, the industry could be in for a
period of steady growth and improving financial conditions during the mid-1990s.
8.5 NEW MARKET OPPORTUNITIES RESULTING FROM THE CAA
The CAA offers both immediate and longer-term market opportunities to the chemical sector.
The short-term opportunities include the sale of fuel oxygenates (such as MTBE and methanol), and
the sale of compliance expertise. For example, Dow Chemical "has reorganized its specialty solvents
business, shifting focus from selling particular solvents to offering cleaning systems and services"
(Rotman 1991b). Longer term, the extensive monitoring and reporting requirements of the Act will
accelerate changes in the chemical process industries. Advanced process controls will increase
conversion efficiencies. The effort to identify and eliminate emissions will drive companies towards
ever greater understanding of their processes and products. The drive to reduce the toxicity of
emissions will likely lead to a range of substitute chemicals that could find a ready export market.
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CHAPTER 8 ENDNOTES
1. Note that many of the allied chemical products sectors not addressed specifically in this
chapter will be affected by the CAAA. For example, manufacturers of solvents and coatings
may have to reformulate product lines as states attempt to come into attainment with volatile
organic compound (VOC) regulations.
2. NESHAP stands for National Emission Standards for Hazardous Air Pollutants.
3. Sections of the CAAA that address stratospheric ozone generally follow the restrictions
imposed by the Montreal Protocol, although schedules for the phase out of certain substances
for particular uses were compressed in the CAAA.
4. For the purposes of this chapter, we treat "industrial gases" (shown in Exhibit 8-1) as a subset
of inorganic chemicals.
5. Inorganic chemicals are used primarily in long established uses, and therefore are more closely
tied to the economic health of those user markets. The twenty largest inorganic commodities
constituted 66 percent of all inorganic shipments in 1988 (Kline 1990). In contrast, the
demand for organic chemicals has grown over time, as newly synthesized materials have
expanded the overall number of uses.
6. For example, margins on domestic sales of ethylene glycol in 1991 were 3.1 cents per pound,
while export margins were only 1.1 cents per pound (Spencer 1993).
7. EC Directive OJL158-5623-6-90, "Freedom of Access to Information on the Environment,"
was issued in 1990, and took effect in January 1993 (Ondrey 1993).
8. As emphasized earlier in this chapter, processes closely linked with basic and intermediate
chemicals production are large industry sectors in their own right. For instance, 129,400
people were employed in the production of soaps, cleaners and toilet goods (SIC 284) in 1991
(DOC 1993b).
9. PACE for SIC 282 (Plastic materials and synthetics) were $385.0 million in 1990 (DOC
1992c).
10. This consolidation has occurred world-wide and has increased the amount of international
shipments within a firm. In 1992, approximately 29 percent of international trade in chemicals
was intra-coinpany shipments (DOC 1993a).
11. These seven processes address the production of styrene/butadiene rubber, polybutadiene,
chlorine, pesticides, Pharmaceuticals, as well as chlorinated hydrocarbon use, and
miscellaneous butadiene use.
12. Commodity manufacturers commonly utilize continuous manufacturing processes using the
same feedstocks. Thus, emissions levels, monitoring equipment, and emergency procedures
rarely change. For batch producers such as specialty and fine chemical manufacturers,
however, production changes occur frequently, resulting in differing levels of air emissions
over time. Preparing permit modification for different batch processes is likely to be
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13.
burdensome to these manufacturers. More importantly, delays in obtaining permit
modification could disrupt normal business operations.
In 1984, chlorine was manufactured at 61 facilities in 26 different states (SRI 1984). By 1987,
there were 53 facilities in 22 states (SRI 1987). Our attempts at gathering more recent data on
the number of facilities manufacturing chlorine have been unsuccessful.
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CHAPTER 8 REFERENCES
AAR 1994. Personal Communications between Farron Levy, Industrial Economics, Inc. and the
American Association of Railroads, Febmary 9, 1994.
Aley 1994. James Aley, Jennifer Brown, Joe McGowan, Wilton Woods, "The Outlook for 22
Industries," Fortune, January 10, 1994.
ATR 1991. "Sales in the United States," Air Toxics Report. May 1991, V4, No. 5.
AWPR 1993. "Mcllvisue: Toxics/VOC Controls Costs to Hit $20B for U.S. Chemical First," Air
Water Pollution Report. July 19. 1993.
AWPR 1991. "Slants & Trends," Air Water Pollution Report. April 29, 1991.
Alexander 1992. Jan Alexander. "Regulations: Batchmaker Woes." Chemical Marketing Reporter.
September 7, 1992.
Beckham 1993. Bradley J. Beckham, "CAAA Title V Permit Regulations Vary from State to State,"
Chemical Processing, March 1993.
Begley, Ronald. "Industry Watches Closely as EPA Converts the Clean Air Act into Regulation,"
Chemical Week. November 13, 1991.
C&EN 1990. "Clean Air Law Will Be Costly to Chemical Industry," Chemical & Engineering News,
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C&EN 1991. "Greenhouse Gas Controls Could Hit Chemical Industry Hard," Chemical &
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CMR 1990. "Clean Air Act's Costs are Worry to Industry," Chemical Marketing Reporter. October
29, 1990.
CMR 1992a. "RFG Opening Up Pitfalls for Oxygenates Producers," Chemical Marketing Reporter.
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CMR 1992b. "Air Toxics Measure Has Major Chemical Impact," Chemical Marketing Reporter.
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CW 1991. "Distribution: Assuring Safe Handling Over Land, Sea, and Air," Chemical Week. July 17,
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Chynoweth 1991. Emma Chynoweth and Jan Schoenmakers. "In Europe, Germany and the
Netherlands Lead Regulatory Spread," Chemical Week. November 13, 1991.
CLE 1991. U.S. EPA, Clean Air Act Amendments of 1990 Detailed Summary of Titles. November
30, 1990. Reproduced in Boston Bar Continuing Legal Education Seminar, The New Clean
Air Act: Highlights and Challenges. Jan. 24, 1991.
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CMA 1993. U.S. Chemical Industry Statistical Handbook. Chemical Manufacturers Association.
Washington, DC, 1993.
CPI Purchasing 1991. "Economic Trends: The Clean Air Act Brings High Costs to Industry," January
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DOC 1992a. U.S. Department of Commerce, Bureau of Census, 1987 Census of Manufacturers:
Concentration Ratios in Manufacturing. February 1992.
DOC 1992b. U.S. Department of Commerce, Bureau of Census, Current Industrial Reports Survey of
Plant Capacity. 1990 MQ-C1(90)1, March 1992.
DOC 1992c. U.S. Department of Commerce, Bureau of Census, Pollution Abatement Costs and
Expenditures MA200 (90)-1. January 1992.
DOC 1993a. U.S. Department of Commerce, Bureau of the Census, U.S. Industrial Outlook. 1993.
Washington, DC, January 1993.
DOC 1993b. U.S. Department of Commerce, Bureau of Census, 1991 Annual Survey of
Manufacturers. Geographic Area Statistics, M91 (AS)-3, February 1993.
DOC 1993c. U.S. Department of Commerce, Bureau of Census, 1991 Annual Survey of
Manufacturers. Statistics. M91 (ASH. February 1993.
Ember 1990. Lois Ember, "Clean Air Will Be Costly to Chemical Industry," Chemical & Engineering
News. November 12, 1990.
EPA 1991. Superfund NPL Characterization Project: National Results. U.S. EPA, November 1991.
EPA 1992. Regulatory Impact Analysis and Regulatory Flexibility Act Screening for Operating
Permits Regulations, U.S. EPA, Office of Air Quality Planning and Standards, June 1992.
EPA 1993. Economic Impact Analysis of the Hazardous Organic NESHAP. Draft, U.S. EPA, Office
of Air Quality Planning and Standards, December 1993.
EPA 1994. Dave Ryan, "EPA Announces Biggest Air Toxic Reduction in Agency History." Press
Release, March 1, 1994.
FR. 1992. Environmental Protection Agency, "National Emission Standards for Hazardous Air
Pollutants for Source Categories; Organic Hazardous Air Pollutants from the Synthetic Organic
Chemical Manufacturing Industry and Seven Other Processes," Proposed Rule, Federal
Register. Vol. 57, No. 252, December 31, 1992.
GAO 1991. U.S. General Accounting Office. Air Pollution: EPA's Strategy and Resources May be
Inadequate to Control Air Toxics. GAO/RCED-91-143. June 1991.
Hanson 1991. David J. Hanson, "Toxics Release Inventory Growing More Contentious," Chemical &
Engineering News, June 3, 1991.
Heller 1991a. Karen Heller, "Clean Air: A Fresh Challenge," Chemical Week. November 13, 1991.
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Heller 199Ib. Karen Heller, "At the Plant Level, It's Reduce Now or Pay Later," Chemical Week.
November 13, 1991.
Hess 1991. Glenn Hess, "Beyond Compliance," Chemical Marketing Reporter. January 7, 1991.
Hickman 1994. Personal Communication between Tim Petersen, Industrial Economics, Inc. and Jay
Hickman, Commodity Chemicals Analysis, First Boston Equity Research, February 1, 1994.
Hileman 1993. Bette Hileman, 'Concerns Broaden over Chlorine and Chlorinated Hydrocarbons,"
Chemical & Engineering News, April 19, 1993.
ICF 1991. ICF Incorporated, Regulatory Impact Analysis of the Proposed Acid Rain Implementation
Regulations, prepared for EPA, September 16, 1991.
ICF 1992. ICF Resources Incorporated and Smith, Barney, Harris Upham and Company, Inc.,
Business Opportunities of the New Clean Air Act: The Impact of the CAAA of 1990 on the
Air Pollution Control Industry, prepared for EPA, Office of Air and Radiation, August 1992.
Kane 1992. John T. Kane, "NOx Rules in the 1990 Clean Air Act Amendments - Implications on
Coke Industry," Iron and Steel Engineer, December 1992.
Kirschner 1992. Elisabeth Kirschner, "Taking Stock, Battening Down, and Gearing Up: The Industry
Prepares for New Rules," Chemical Week, November 4, 1992.
Kline 1990. The Kline Guide to the U.S. Chemicals Industry. Kline & Company, Incorporated,
FairfieJd, NJ, 1990.
Kline 1980. The Kline Guide to the Chemical Industry. Charles H. Kline & Co., Inc., Fairfield, NJ,
1980.
McMurrer 1994. Personal Communication between Tim Petersen, Industrial Economics, Inc. and
Daphne McMurrer, U.S. EPA , January 25, 1994.
McMurrer 1992. Daphne McMurrer, "Provisions of the Hazardous Organic NESHAP," 1992.
Ondrey 1993. Gerald Ondrey, "Disclosure=Dialogue," Chemical Engineering, January 1993.
P&CI 1991. Paint & Coatings Industry, "Quest for Clean Air in 21st Century Could Cost U.S. $28
Billion Annually," September 1991.
Parker 1991. Susie Parker, "Price Tag for Clear Air Act Could be $35 Billion, Says Chemical
Maker," The Oil Daily. August 22, 1991.
PE 1993. "Petrochemicals: Survival of the Fittest?," Process Engineering. January 1993.
Reisch 1993. Marc S. Reisch, "Paints & Coatings," Chemical & Engineering News. October 23, 1993.
Richards 1993. Don Richards, "U.S. Fluorochemicals: On the Rise Again," Chemical Business.
October 1993.
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Rickey 1991. Gail Rickey, "Clean Air Laws Impact Petrochemicals, Refineries and Engineering
Companies," Houston Business Journal. October 28, 1991.
Roberts 1992. Michael Roberts, "Structural Changes in Chlor-Alkali," Chemical Week, November 4,
1992.
Rotman 199la. David Rotman, "Environmental Regulation: How Mounting Public Pressures and New
Legislation Will Reshape the Way Industry Does Business," Chemical Week, September 27,
1989.
Rotman 1991b. David Rotman, "Finding the Clean Air Payoff in Alternative Products and New
Markets," Chemical Week. November 13, 1991.
Rotman 1992. David Rotman, "Environmental Engineering: Revamping Under the Gun," Chemical
Week, February 5, 1992.
Shearman 1992. Jennifer Shearman, "Catalyst Vendors Take Aim at Emissions: Environmental
Legislation has Created a Market in Stationary Controls," Chemical Engineering, March 1992.
Silverstein 1993. Kenneth Silverstein, "Global Economy Takes Toll on Chemical Industry," Modem
Paint and Coatings. January 1993.
Spencer 1993. Nick Spencer, "Commodity Chemical Cycle - Predicting the Turn," Sanford C.
Bernstein & Co., New York, NY, 1993.
SRI 1984. SRI International, 1984 Directory of Chemical Producers: United States of America,
Menlo Park, CA, 1984.
SRI 1987. SRI International, 1987 Directory of Chemical Producers: United States of America.
Menlo Park, CA, 1984.
Stumpfl 1991. Amy E. Stumpfl, "Formula for Success," Plants Sites & Parks. November 1991.
Swift 1993. T. Kevin Swift, "Energy Tax Will Cost U.S. Chemical Jobs, Hurt Competitiveness," The
Oil Daily, Feb. 24, 1993.
Swift 1994. T. Kevin Swift, "U.S. Chemical Industry Annual Compliance Costs - Air Toxics
Provisions," Chemical Manufacturers Association, January 12, 1994.
Unsworth 1991. Robert E. Unsworth, James Cummings-Saxton and Frederick W. Talcott, "Differences
in Risks of Commodity Chemical Versus Specialty Chemical Production Facilities," Risk
Analysis: Prospect and Opportunities, Plennum Press, New York, 1991.
Valueline 1993a. Rindos, Michael J., "Chemical (Basic) Industry," Valueline Analysis, November 5,
1993.
Valueline 1993b. Glennon, Anthony J., "Chemical (Specialty)," Valueline Analysis, December 31,
993.
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Voigt 1994. Personal Communication between Farron Levy, Industrial Economics, Inc. and Peter
Voigt, Office of Air and Radiation, U.S. EPA, February 10, 1994.
Walton 1994. Personal Communication between Tim Petersen, Industrial Economics, Inc., and Tom
Walton, U.S. EPA, January 31, 1994.
Wood 1993. Andrew Wood, "MTBE Green Image Challenged," Chemical Week. October 27, 1993.
Wood 1993. Andrew Wood, "New Gasoline Regulations Fuel Change in the Chemical Industry,"
Chemical Week. November 13, 1993.
Young 1991. Ian Young, "The ABCs of CMA's Codes of Management Practice," Chemical Week,
July 17, 1991.
Zahodiakin 1991. Phil Zahodiakin, "Regulations: Clean Air Act Enforcement Worries the U.S. CPI,"
Chemical Engineering, March 1991.
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METHODOLOGY FOR PROSPECTIVELY
ASSESSING POTENTIAL PLANT CLOSURES
CHAPTER 9
9.1 INTRODUCTION
The purpose of this chapter is to present a general methodology for prospectively assessing the
potential for plant closures due to new air pollution regulations. This chapter is intended as a guide to
(1) identify cases where a regulation or set of regulations may lead to plant closures and (2) to
improve the efficiency of efforts to identify the likelihood that closures could occur. The first pan of
this chapter provides a framework for assessing the likelihood that environmental regulations will lead
to plant closures. The second section presents summary results based on the application of this
framework for each industry evaluated in this report. Finally, we discuss how the traditional
Regulatory Impact Analysis (RIA) process could be adjusted to incorporate the framework presented in
this chapter.1
9.2 METHODOLOGY
A number of factors can influence the decision to close a facility. Often, these decisions are a
function of several factors operating simultaneously, making it difficult to identify the predominant
reason, if there is one, for closure. The framework we describe in this chapter provides a means for
understanding the likelihood that closures could occur in a given industry, what types of firms within
the industry are most likely to close, and how large a role air pollution regulation might play in the
closure decision. Our framework is based on the following criteria:
the cost of regulation relative to the cost structure of the industry;
the ability of firms within the industry to shift the cost of regulation to other
parties (e.g., customers); and
the ability of firms within the industry to bear regulatory costs without plant
closure.
As discussed at the end of this chapter, these three criteria are often implicitly considered in the RIA
process. For example, by estimating the slope of the demand curve for a particular product, it is
possible to project the ability of firms to pass regulatory cost through to their customers. However, we
believe that there are significant benefits to be realized through explicit consideration of these factors
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within the RIA process. Each of the three criteria are described in detail in the remainder of this
section.
9.2.1 Cost of Regulation
The overall cost of regulation to an industry is a function of the characteristics of the
regulation and the cost structure of the affected industry.2 For instance, the total cost of a regulation
that affects an input in the production process (e.g., electricity) depends not only on the requirements '
of the regulations (e.g., the cost of scrubbers) but on the level to which the industry uses ttie input
(e.g., the electrical intensity of a particular industry). While rather simple in concept, the second
factor is not always carefully considered in evaluating the cost of a regulation.
Characteristics of Regulation
The three key characteristics of a regulation that will determine its overall cost to industry are:
the target of the regulation; the type of the regulation; and the timing associated with its
implementation. The effect of these characteristics on cost are summarized below.
Target. Total compliance cost will vary depending on whether a regulation
establishes requirements on the characteristics of the product (e.g.,
reformulated gasoline; on-board vapor recovery systems to reduce non-tailpipe
emissions from automobiles), or on the production process (e.g., emissions
limits from the production of synthetic organic chemicals). While difficult to
generalize, regulations requiring newer, unproven technologies will often be
more expensive than regulations requiring conventional technologies.
• Type. Total compliance cost will vary according to whether the regulation is
"command and control" (e.g., designates a specific technology be employed or
a specific emissions level be met) or allows for some flexibility in meeting
emissions reduction targets (e.g., averaging or trading emissions between plants
or firms). While potentially more difficult to enforce and administer,
regulations allowing emissions averaging and emissions trading wiil often
result in lower total compliance costs, and can reduce the potential for
accelerated plant closure associated wirn capital-intensive command and
control resolutions.
Timing. Total compliance cost will be a function of the amount of time the
regulated industry has to respond to the regulation. All other factors being
equal, regulations with a long phase-in period will result in lower compliance
costs, in present value terms, than regulations with short phase-in periods.
Extended phase-in periods provide industries with extra time to develop and
implement pollution control devices or substitute products, and also reduce the
need to prematurely retire existing capital.
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A final factor implicit in each of these criteria is the severity to which the entity is regulated. For
example, the cost of controlling emissions from a production process is highly dependent on the level
to which the emissions are controlled.
Cost Structure of the Affected Industry
Clearly regulations that increase the costs of crucial factors of production will have a more
severe impact than those that increase the cost of less important inputs. Therefore, having a basic
understanding of the cost structure of the affected industry is critical to evaluating the cost impact of a
regulation. Examining changes in the cost or availability of key inputs, even if the changes are not
driven by environmental regulations, can help identify the relative importance of environmental
regulations on industrial restructuring and plant closure decisions. Inputs to consider include:
Labor requirements. The degree to which labor is a major cost of production
and the necessary skill level of its workers are important industry
characteristics. All else held equal, labor intensive industries utilizing lower-
skilled, non-unionized workers are more susceptible to closure as facilities can
easily be moved to regions with lower labor costs or abroad.
Capital intensity. The amount of capital equipment used in the production
process is an important indicator of an industry's ability to bear the cost of
certain types of regulations. For instance, non-capital-intensive industries that
are required to invest in costly capital equipment to meet pollution control
requirements may have difficulty obtaining the funding required to purchase
the equipment and/or may lack the technical expertise to operate and maintain
it properly.
Energy and Raw Materials. The degree to which industries rely on energy
and raw materials reflects their ability to meet the cost of certain regulations.
Air regulations directly affecting the cost of electricity, for instance, will have
a more profound affect on firms where electric costs are a major component of
the cost of production.
Transportation costs. The cost of transporting both production inputs and
outputs provides useful information in evaluating how costly a regulation will
be to an industry. All else held equal, plants that manufacture products for
which transportation costs are an small proportion of the total cost of
production are more susceptible to closure as facilities can more easily be
relocated domestically or abroad to avoid regulation.
An analysis of these factors can often highlight industries or firms within industries that may
have plants threatened with closure by environmental regulations. For instance, as discussed in
Chapter 5, many small, labor-intensive wood furniture manufacturers could have serious difficulties
meeting VOC and HAP regulations if the regulations require the purchase of new capital equipment,
since small firms in this industry are generally not capital-intensive. Further, an analysis of an
industry's cost characteristics should include not only an evaluation of the share of total production
costs accounted for by each of its inputs, but also how variable the inputs are. Industries that
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commonly experience wide swings in the cost of key production inputs will more easily bear the cost
of environmental regulations without closures, all else held equal.
Although not explicitly listed in the summary exhibits presented later in this chapter,
examining the managerial structure of firms within an industry may also be important, as
environmental regulations may require sophisticated measurement, control, and reporting systems to
insure compliance. Small businesses may have more difficulty developing and operating these systems
than large businesses. Similarly, plants that manufacture a frequently changing mix of products,
utilizing an ever a changing mix of raw materials and processes, will be more adversely affected than
plants relying on stable materials and processes.3
9.2.2 Ability to Shift the Costs of Regulation to Other Parties
Assuming that a regulation does significantly affect key factor inputs or processes for a
particular industry, the next step in evaluating potential plant closure impacts is to examine the market
power of the industry or firm in question. Producers will always try to shift increased costs onto
suppliers (by reducing the price they pay for inputs), customers (by increasing the price they charge
for their product), or workers (by decreasing wages). This is true whether cost increases result from
environmental regulations or from some other source, such as increased taxes or energy prices. The
ability to shift the cost of CAA regulations to other parties - most often consumers - minimizes the
financial impact on firms within the industry, reducing the risk of plant closures.
Attempts to shift regulatory costs onto suppliers, customers, and workers will be resisted by all
these parties. The more alternatives there are to the product or plant affected by regulation, the less a
firm will be able to pass-on the cost of the regulation.4 Our assessment of the ability for firms to
shift the cost of regulation on to other parties centers on an analysis of these alternatives. We consider
three important areas:
• Substitutes. Are there similar products available to meet the same needs, but
utilizing a production process not affected by the environmental regulation?
The more substitutes that exist for a product, the more likely the affected
industry will bear the cost of the regulation directly. The more unique and
important a product is to the customer, the more likely that the manufacturer
will be able to pass costs through in the form of higher product prices.
• Industry Concentration. Firms within a concentrated industry, with few
competitors, are more likely to have the market power needed to shift cost
increases onto customers or suppliers.5 This characteristic is highly correlated
with industry economies to scale (or other barriers to entry). In general, the
greater the economies of scale, the smaller the number of firms within the
industry. While firms in concentrated industries can pass-on costs in many
cases, we note some important caveats. First, a concentrated industry narrowly
defined (e.g., steel manufacturing) may not be concentrated in all of its key
markets (e.g., packaging, where steel must compete with aluminum and
plastics). Second, if markets are global, global concentration rather than
domestic concentration will be the relevant measure of market power.
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Foreign Competition. The existence of international producers who are able
to manufacture products without being subject to similar regulatory burdens
will reduce the ability of domestic producers to pass on the cost of regulation.
This is true only for regulations that affect the production process, however, as
most product regulations will affect both domestic and international producers
to the same degree.
The ability of firms to shift the cost of regulations to customers and suppliers will be a function of
these three factors. In the extreme, a plant producing a product with few substitutes, in a highly
concentrated industry, with little international competition, will have the greatest ability to shift
regulatory costs to other parties.
While these three characteristics are highlighted in our analysis and are listed in the summary
exhibits presented in the next section, there are other industry characteristics that may allow firms to
pass through costs. Barriers preventing new firms from entering an industry can exist, some of which
may be related to the three criteria highlighted above. For instance, proprietary technologies (e.g.,
patents) can keep firms from entering a particular marketplace, as can high initial start-up costs. Firms
in industries with high barriers to entry generally will be more able to pass on the cost of regulation.
all else equal.
9.23 Ability to Bear Regulatory Costs Without Plant Closure
The final step in assessing the likelihood of environmental regulations leading to plant closures
is to examine how vulnerable an industry, or portions of an industry, are to the cost increases that they
are unable to shift to other parties. If financial performance has been poor, a plant may be less likely
to make new required expenditures and choose instead to shut down. Expenditures for environmental
protection can be more easily incurred if past financial performance has been, and is expected to
remain, strong. Equally important is an examination of the differential impacts from a regulation. If
some plants use old, inefficient technology while others use newer technologies to produce the same
product, shuttering of the old facilities is more likely. Similarly, if there are differences in the
regulatory requirements within an industry (e.g., firms in different regions are subject to different
requirements), those subject to more stringent standards are more likely to close, all else equal.
Economic and Financial Condition of Industry
The financial health of an industry is one measure of how vulnerable it will be to regulatory
requirements. An analysis of the economic and financial condition of an industry also provides
perspective on whether plants are threatened from environmental regulations or from other, largely
unrelated factors. The following characteristics should be examined at a plant, as well as an industry,
level if possible:
Financial Performance. Industries that contain firms in solid financial shape
are less likely to suffer plant closures than industries where firms are in poor
shape. Key indicators of financial performance include profitability (e.g.,
return on assets) and capital structure (e.g., debt to net worth).
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• Capacity Utilization. In many industries, capacity utilization can be the
driving factor behind financial health, especially in capital-intensive industries
such as chemicals production. A capital-intensive industry with low capacity
utilization often operates in survival mode, reducing prices in order to keep its
facility operating as it waits either for demand to increase or other firms to
reduce capacity. As long as such a facility is not faced with large capital
investment requirements, regulation-related or otherwise, it will often continue
to operate and provide some contribution to fixed costs.
• Recent Restructuring. Many industries in the U.S., particularly
manufacturing industries, have undergone considerable restructuring over the
past fifteen years, as domestic firms attempt to remain cost competitive in an
increasingly global economy. A plant or industry that has deferred needed
restructuring will be more likely to close than one that has recently
restructured.
• Productivity growth. Recent improvements in productivity suggest that an industry
may be better able to absorb the costs of regulation. This is especially true if the
industry has competitive unit labor costs with competitors abroad.
Variability within the Industry
Aggregate statistics of industry financial performance often obscure plant-level differences that
could be an important determinant of the likelihood of closures. If some plants rely heavily on a
regulated input, are more heavily regulated due to their location, or are less able to absorb or pass-on
costs of compliance, they are more likely to close than other plants in the industry. If the industry is
suffering from persistent overcapacity, these weaker plants are particularly vulnerable to closure. In
addition to financial considerations, key indicators of variability include:
• Technological Diversity. Production processes evolve over time. Newer
plants are, on average, more efficient in their utilization of labor and raw
materials. The total productive capacity within a particular industry often
contains a mix of old and new plants. This diversity means that environmental
regulations may have differential impacts, accelerating the closure of older,
higher cost plants.6 Industries may also utilize a mix of new technologies.
For example, the international steel industry continues to build both new basic
oxygen furnaces and electric arc furnaces. Regulations impact these
technologies very differently.
Regulatory Diversity. If regulations require more stringent standards in
certain geographic regions, plants in those areas may be placed at a
competitive disadvantage. For example, the 1990 CAA Amendments require
stricter controls in nonattainrnent areas. Producers in these areas will face
higher costs in some cases, and are therefore more likely to close.
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Barriers to Exit
If exiting a market triggers certain liabilities, or hurts other, profitable business operations,
plant closure is less likely. This is true even if shutting the plant makes economic sense in the
absence of these other factors. Barriers to exit include the following:
• Incremental Employment Cost Liabilities. Many companies, particularly in
heavy manufacturing, unionized industries, provide supplemental
unemployment and retirement benefits for workers laid-off as a result of a
plant closure. In many of these cases, a plant closure triggers incremental
employment costs, including incremental pension benefits, that were not
anticipated in pension plan funding projections.
Environmental Liabilities. Plant closure may force a firm to begin expensive
site remediation activities.
There are other barriers to exit not explicitly addressed in the summary charts presented in the
next section. For example, if firms in an industry tend to be vertically integrated (i.e., both
intermediate and final product production occurs within the same firm), closing facilities that make up
one component of the production process may be less likely. In addition, political forces may result in
keeping facilities open, as residents of a town or region may attempt to force firms to keep facilities
open through political channels, or encourage facilities to stay open through tax relief or other
measures.
9.2.4 Summary
Combining the characteristics described above into a clear statement as to the likelihood of
plant closure in a given industry is a difficult task. In the simplest case, firms in poorly performing
industries facing costly regulations where the costs of these regulations cannot be passed onto other
parties (e.g., consumers) will be more susceptible to closures than firms in industries without these
characteristics. In most cases, the mix of characteristics within an industry makes it difficult to reach
such a clear cut conclusion. Even in these cases, however, the framework presented above is still
valuable, for a number of reasons. First, while drawing absolute inferences may be difficult, one can
develop a sense as to the probability that firms will close as a result of air pollution regulations.
Second, the framework provides information on the likelihood that firms will close even in the absence
of environmental regulations. In particular, by carefully examining the current economic and financial
performance of the industry, one may conclude that facilities are likely to close for reasons unrelated
to the cost of environmental compliance. Finally, evaluating the variability of firm and regulatory
characteristics across an industry provides valuable information on where closures may occur if they
are to occur.
9.3 SUMMARY OF INDUSTRIES EXAMINED IN THIS ANALYSIS
Using the framework presented above, we have constructed a set of summary tables for each
of the industries analyzed in this report. These summary tables are attached to the end of this chapter.
The order of the industries, and corresponding exhibit number, is as follows:
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Coal (Exhibit 9-1);
Electric Utilities (Exhibit 9-2);
Automobiles (Exhibit 9-3);
Wood Furniture (Exhibit 9-4);
Petroleum Refining (Exhibit 9-5);
Steel and Metallurgical Coke (Exhibit 9-6);
Commodity Chemicals (Exhibit 9-7); and
Specialty Chemicals (Exhibit 9-8).7
In these exhibits, we briefly characterize the industry within the framework outlined above. For many
of the characteristics, we begin by providing a qualitative ranking of the characteristic (e.g., "financial
performance" is characterized as "strong", "moderate" or "poor"). Summary information relevant to
the industry and characteristic in question is then provided. These exhibits are not intended to present
a complete discussion of each characteristic, but to serve as a useful summary of the more detailed
information presented in earlier chapters.
9.4 APPLICATIONS OF THREATENED PLANTS FRAMEWORK TO THE RIA
PROCESS
Industry characteristics of the type described above are considered in many Regulatory Impact
Assessments. Consideration of these issues, however, often gets lost within more detailed analyses,
such as attempts to create a static supply and demand model for an industry or industry sector. While
determining the likelihood of facility closure is but one typical component of an RIA, an explicit
analysis of all of these characteristics would be valuable in assessing the potential for plant closures as
well as for determining the broader cost of environmental regulation. Factors addressed in this
proposed methodology that often do not receive sufficient attention in RIA analyses include the
following:
• The first two components of the framework ("cost of regulations" and "ability
to shift costs to other parties") are often considered in some form in RIAs. In
many cases the ability of an industry to bear regulatory costs without closure is
overlooked or treated in a perfunctory manner (e.g., through the presentation of
financial ratios). Explicit consideration of these two components in the RIA
process would be useful.
On a related point, the likelihood that facilities will close in the near term,
even in the absence of additional environmental regulation, should also be
explicitly considered. This evaluation should be done in such a way as to go
beyond a static "baseline" analysis, to consider past and future industry and
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market characteristics, unrelated to environmental compliance, which could
lead to facility closures.
The timing of a regulation is an important characteristic of its overall cost, and
is always considered when estimating the present value of the costs and
benefits of a given regulation. The ability of an industry to adapt over time,
given typical capital turnover, the level of research and development, and other
factors, is often not fully explored in the context of an RIA.
• In many cases, RIAs are based on "model plant" analyses that present real or
hypothetical cost information for a number of plants in the industry which are
then used to evaluate the cost and resulting effect of the regulation on each of
these plants. While this approach may be reasonable for some circumstances
(e.g., when there are a large number of comparable facilities in the industry),
often only a cursory attempt is made to link the model plants most threatened
by the regulation with actual facilities. Careful examination of variability
within the industry, such as the potential correlation between facility location
and technological sophistication, will provide critical information on issues
such as where facilities are most likely to close.
Finally, past RIAs have covered many of the topics discussed in this framework. The level of effort
expended to do so, however, may significantly exceed the level of effort required to implement the
framework discussed above, and may produce results of the same level of precision. Therefore, in
certain instances, the Agency may consider streamlined analyses of the type described above, in
attempting to evaluate the likelihood of plant closures due to environmental regulations.
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Exhibit 9*1
COAL MINING AND PROCESSING
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Cost of the Regulations
Characteristics of Regulation
Target: The coal industry is affected by the limits under the 1990 CAA Amendments on sulfur dioxide emissions
from electric utilities (utilities account for over three-fourths of U.S. coal consumption). Demand will switch from
high-sulfur coal to low-sulfur coal.
Type: Sulfur dioxide emissions regulations are flexible to the extent that electric utilities are permitted to purchase
"allowances" to emit more sulfur dioxide than EPA determined limits.
Timing: Emission controls are to be phased in from 1995 to 2000.
Industry Cost Structure
Labor Requirements: Labor intensive industry requiring low-skilled laborers, although labor intensity is lower in
surface mines than in underground mines, and lower in western mines than in eastern mines. Many workers are
unionized, presenting a cost disadvantage in an increasingly competitive industry. Over 100,000 jobs are directly
attributable to the mining industry'. The number of workers in this industry has significantly declined over the past
decade.
Capital Intensity: Moderate. Significant reliance on automation in mining and processing. Production costs are
strongly linked to the mining conditions and its effect on mining efficiency.
Energy and Raw Materials: Low. Relatively little reliance on energy and raw materials for production.
Transportation Costs: High. Transport costs help to insulate the U.S. market from foreign imports, which
currently account for less than one percent of domestic consumption. Most domestic producers are located near
their customers (likely to change to some degree due to the 1990 CAA Amendments).
Ability to Shift Costs to Other Parties
Substitutes: Somewhat limited. Although oil and gas are substitutes for coal, their prices are generally much
higher and substitution at existing facilities requires significant capital retooling. In the longer term, however, gas
is an attractive substitute for coal at new power plants. Within the coal mining industry, however, there may be
substitution from high sulfur producers to low sulfur producers.
Industry Concentration: Low. Over 3,000 mines and 700 coal preparation plants are now operating in the U.S.;
industry is highly competitive.
Foreign Competition: Low. A net exporter, the U.S. mining industry exports 10% of its production, over 10
times the amount imported.
9-10
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Exhibit 9-1
COAL INDUSTRY
(continued)
Ability to Bear Regulatory Costs Without Plant Closure
Economic and Financial Condition of Industry
Financial Performance: Moderate. Although still profitable, the coal industry has become leaner over the last
several years. Relatively stable sales combined with a downward trend in profitability suggest profit margins are
shrinking.
Capacity Utilization: Moderate. New mine openings continue despite constant production levels; utilization has
dropped from 87% in 1988 to 82% in 1992.
Recent Restructuring: Moderate. Continuous improvements in technology have steadily increased productivity,
reducing the need to close mines nearing the end of their useful life.
Productivity Growth: High. Productivity has more than doubled since 1975, from 1.7 tons per labor hour to 4.2
tons per labor hour. On average, mines in the western U.S. have a higher productivity than mines in the eastern
U.S.
Variability Within Industry
Technological Diversity: Low. Although technological improvements continue, technological differences between
competitors tend to be small.
Regulatory Diversity: High. Although the acid rain provisions are national in scope, they will result in a
pronounced regional effect on coal production. High-sulfur coal mining operations (predominantly located in the
eastern U.S.) will tend to experience lower demand, while low-sulfur coal regions (in the west) experience
increased demand.
Barriers to Exit
Incremental Employee Cost Liabilities: High. Predominance of union workers.
Environmental Liabilities: Variable. Plants are required to post a reclamation bond prior to receiving a permit
for mining. This requirement reduces incentive to continue mining after operations become unprofitable to avoid
environmental liabilities. However, there have been problems in the past with the adequacy of bonding, and many
facilities may have large pending liabilities.
Likelihood of Closure due to CAA
Closure of a significant number of high-sulfur coal mines is expected as demand shifts to low-sulfur coal. Because
total coal production under the 1990 CAA Amendments is forecast to be essentially the same as in the base case
forecast, these mine closures will be largely offset by mine openings and increased production at other mines.
Excess capacity and depletable resources will also contribute to closures.
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Exhibit 9-2
ELECTRIC UTILITIES
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Cost of the Regulations
Characteristics of Regulation
Target: The 1990 CAA Amendments contain several requirements to reduce electric utilities' emissions, including
VOCs, sulfur dioxide, and nitrogen oxides.
Type: Some market-based and some command and control. Offsets and market-based allowances permit some
flexibility. This flexibility allows entities to avoid to a certain extent the installation of controls at older, inefficient
units.
Timing: The first set of regulations will become effective in 1995. Other regulations are to be phased in over the
following decade.
Industry Cost Structure
Labor Requirements: Low.
Capital Intensity: High.
Energy and Raw Materials: High. Dependant on a variety of fuel sources for electricity generation, most
significantly coal, as well as nuclear, hydro, oil, gas and renewable fuels.
Transportation Costs: High. The cost of transporting electricity over very long distances is significant due to
transmission losses and regulatory impediments. Thus, utilities are generally located closer to their consumers than
is true in many other industries.
Ability to Shift Costs to Other Parties
Substitutes: Limited. Traditionally, U.S. electric utilities have been monopolies provided by state or local
authorities and are the only final supplier of electricity within a given service territory. However, power wheeling,
self-generation, independent power and cogeneration as well as final substitution and energy efficiency alternatives,
all limit the monopoly power of electricity generators.
Industry Concentration: High. Cost-of-service regulations allowed utilities in the past to exist as monopolies
while state authorities regulated the utilities' rates. Utilities have significant, though regulated, market power,
although this has already changed and is likely to continue to change dramatically over the next ten years.
Foreign Competition: Low. Constraints and inefficiencies in transmitting electricity over long distances has
limited imports. Inexpensive Canadian surplus electricity accounted for about two percent of U.S. demand in the
1980s, but has since declined. Imports in some regions, such as the northeast, can be significant.
9-12
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Exhibit 9-2
ELECTRIC UTILITIES
(continued)
Ability to Bear Regulatory Costs Without Plant Closure
Economic and Financial Condition of Industry
Financial Performance: Moderate. Despite the guaranteed recovery of all "prudently incurred" costs, including a
reasonable profit, regulatory oversight, cost disallowances and market fluctuations have resulted in mixed financial
performance over the last two decades. Although the industry's financial health has improved in the 1990s,
increasing competition and regulation cloud future prospects.
Capacity Utilization: Moderate. Electric utilities generally maintain a 20% surplus capacity above peak demand
in order to ensure reliability of service; when needed, however, utilities purchase additional electricity from each
other. In an uncertain regulatory environment, a utility may opt to purchase power instead of increasing capacity.
The importance of capacity utilization will increase as power generators begin to compete with each other for
customers.
Recent Restructuring: Modest. Utilities became increasingly averse to large-scale capital investments during the
mid-1970s and early 1980s due to the low returns awarded by regulatory commissions on these investments.
Productivity Growth: Moderate. Some newer power-generation technologies are experiencing significant
advances; conventional technologies (e.g., facilities using coal) have limited upside potential, however. Current
projections suggest future increases in demand will be met primarily by utilities fueled with conventional
technologies (i.e., coal and gas).
Variability Within Industry
Technological Diversity: High. Several technologies power this industry, variously depending on coal, oil, gas,
nuclear, hydro, and renewable fuel. All parts of the industry will be affected by environmental regulations. In
general, however, coal-fired plants (the major producers of electricity) will be affected the most.
Regulatory Diversity: Moderate. Title I targets utilities in or near ozone nonattainment areas and may require
offsets large enough to affect decisions on where to locate new generation capacity.
Barriers to Exit
Incremental Employee Cost Liabilities: Low.
Environmental Liabilities: Low for most types of generation. Most adverse impacts on the environment come
from utilities' air emissions which cease when the plant is shut down. Nuclear utilities face large decommissioning
costs at shutdown, many of which have not yet been adequately funded.
Likelihood of Closure due to CAA
The CAA is unlikely to cause significant plant closures due to flexibility inherent in the sulfur dioxide allowance
trading system and nitrogen oxide averaging program, which allow certain plants to avoid expensive new controls.
The most likely candidates for shutdown are smaller units that will be more than 40 years old by 2000. These 441
units constitute one-third of all coal-fired units, but only six percent of total coal-fired generating capacity.
9-13
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Exhibit 9-3
AUTOMOBILE MANUFACTURING
Cost of tbe Regulations
Characteristics of Regulation
Target: Product regulations restrict tailpipe emissions and require evaporative emissions controls. In addition, the
CAA requires manufacturers to develop Clean Fuel Vehicles. VOC and HAP regulations will affect some auto
production processes, most notably painting and coating.
Type: Regulations are primarily command and control, although they offer some flexibility in how to meet the
Clean Fuel vehicle requirements.
Timing: Emissions control standards to be phased in between 1994 and 1998; residual controls will take effect
between 2003 and 2006. Vapor recovery systems will be implemented around 1998. Clean Fuel vehicle provisions
take effect for fleets beginning in 1998, and in California beginning in 1996. Standards for emissions associated
with automotive coatings to be issued in 1997.
Industry Cost Structure
Labor Requirements: Industry uses large amounts of both skilled and unskilled labor. Many automotive
assembly plants have already been relocated to take advantage of lower labor costs. The U.S. work force is heavily
unionized, and decisions to shift U.S. jobs abroad are often contested. Nevertheless, large layoffs due to
restructuring are likely to continue in the near term.
Capital Intensity: High. This is a highly capital-intensive industry, a contributing factor to the small number of
producers.
Energy and Raw Materials: Moderate. Automobile production relies heavily on steel, aluminum, and plastics.
Transportation Costs: Moderate. Transport costs protect domestic producers to a small degree. Nevertheless,
foreign producers have ready access to U.S. markets.
Ability to Shift Costs to Other Parties
Substitutes: Low. The automobile has no direct substitutes. While other forms of transport (e.g., bus and rail)
can technically substitute for automobiles, they lack flexibility and privacy, and in many cases availability.
Industry Concentration: Moderate. Although domestic automobile production is a highly concentrated industry
with only three U.S. firms, there are a larger number of foreign transplants introducing competition to the domestic
market. In addition, automobile producers rely on a broader network of parts suppliers and distributors.
Foreign Competition: High. Domestic producers face intense global competition. Improved quality in U.S.
products and favorable exchange rates have only recently reversed increasing import penetration.
9-14
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Exhibit 9-3
AUTOMOBILE MANUFACTURING
(continued)
Ability to Bear Regulatory Costs Without Plant Closure
Economic and Financial Condition of Industry
Financial Performance: Poor. U.S. automobile manufacturers have had serious financial difficulties in recent
years. Net losses in 1992 were nearly $24 billion. Debt levels are extremely high, and were more than twice the
industry's tangible net worth for 1992. The recovering domestic economy and domestic producer's improved
competitive position relative to foreign producers lead to improved performance in 1993, however.
Capacity Utilization: Poor. Recent utilization has been poor relative to historical levels. Industry has made
significant efforts to streamline operations, which will be reflected in utilization levels in the near term.
Recent Restructuring: Significant. Industry has been restructuring plants and production processes for over a
decade. This process will continue as some plants still need to reduce unit costs in order to become more
competitive.
Productivity Growth: Moderate. Productivity increased over 20% from 1981 to 1991.
Variability Within Industry
Technological Diversity: Low. Gaps have narrowed as U.S. producers scrambled to meet Japanese production
efficiencies over the past ten years. Differences in technology may exist at the plant level, but are unlikely at the
firm level.
Regulatory Diversity: Moderate. Most "product" regulations will affect all producers equally. Regulations on
VOC emissions from coatings application may differ domestically and do differ relative to international producers.
Because low-polluting coatings do not have the same sheen as high VOC coatings, the U.S. industry is concerned
that sales will suffer relative to foreign producers.
Barriers to Exit
Incremental Employee Cost Liabilities: High. Worker protection provisions pose significant barriers to exit for
U.S.-owned producers.
Environmental Liabilities: Moderate. Large environmental cleanup costs may be triggered by plant closure.
Likelihood of Closure due to CAA
Domestic automakers are unlikely to base plant closure decisions solely on CAA regulations in the near term.
These regulations, however, may become a factor in deciding which plants to close as a result of continued
restructuring.
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Exhibit 9-4
WOOD FURNITURE
Cost of the Regulations
Characteristics of Regulation
Target: Regulations affect emissions of VOCs, HAPs, and ozone-depleting substances associated with wood
finishing, cleaning, and gluing.
Type: Likely to be cotnmand-and-control (e.g., requiring high transfer efficiency sprayers).
Timing: Regulations are expected in 1994. Compliance schedules are not known.
Industry Cost Structure
Labor Requirements: High. Industry is relatively labor intensive, especially in small operations. Most
employment is in the wood and upholstered furniture sectors. Aside from artisans, the skill level of most workers
is not especially high, and plants could be relocated in search of less expensive labor.
Capital Intensity: Low to Moderate. While investments to meet CAA requirements could be economically
beneficial to larger firms due to increased efficiency in finishing operations, unless plants can shift seamlessly to
waterbome coatings, capital upgrades are likely to represent a significant cost to smaller firms.
is not
Energy and Raw Materials: Low energy intensity; high raw material intensity. Wood furniture production i
particularly energy-intensive, and depends primarily on wood (e.g., plywood, lumber) as a raw material.
Transportation Costs: Low to Moderate. In general, transportation costs do not restrict product distribution to a
particular region.
Ability to Shift Costs to Other Parties
Substitutes: Varies by sub-sector. Aside from high quality decorative pieces, furniture may be made from many
materials other than wood, including metal, plastic laminates, and cloth.
Industry Concentration: Low. While the top four firms account for 22% of total industry revenues, there are
over 3,000 low-volume facilities with less than four employees each. This reduces the likelihood that regulatory
costs can be shifted to customers.
Foreign Competition: High for certain sub-sectors. Wood furniture imports are more than twice as large as
furniture exports. Foreign competition reduces the ability of domestic producers to raise prices to pass-on new
regulatory costs.
9-16
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Exhibit 9-4
WOOD FURNITURE
(continued)
Ability to Bear Regulatory Costs Without Plant Closure
Economic and Financial Condition of Industry
Financial Performance: Poor. The last five years have been particularly poor for this industry. Future
improvements in financial performance will be tied to housing starts and a general economic recovery. One sub-
sector, wood office furniture, has consistently maintained profit levels much higher than the industry average.
Capacity Utilization: Low. All sectors of the wood furniture industry, except upholstered, had a lower capacity
utilization in 1990 than industry overall. In the office furniture segment, utilization was only 58%, versus 76% for
U.S. industry overall.
Recent Restructuring: Moderate. Industry has shrunk its workforce somewhat as demand for furniture slackened.
There have been no major changes in the operating processes.
Productivity Growth: Relatively low, particularly for small, labor-intensive operations such as custom kitchen
cabinet production.
Variability Within Industry
Technological Diversity: High. Range from small, labor-intensive operations to large firms with sophisticated
production equipment.
Regulatory Diversity: Low, but could increase. Some states, such as California, have enacted more stringent
VOC regulations than those under the CAA.
Barriers to Exit
Incremental Employee Cost Liabilities: Low. Labor-related costs should not pose a significant barrier to exit
based on a review of existing unfunded pension liabilities held by publicly traded firms in this industry.
Environmental Liabilities: Unknown, but assumed to be low in most cases.
Likelihood of Closure due to CAA
Poor industry performance may force hundreds of facilities to close, CAA regulations notwithstanding. Pressures
on small facilities could be exacerbated if technology-based controls are proposed, although new waterbome
coatings offer opportunities for small firms to comply with the Act without major capital upgrades. Many of the
small firms in ozone attainment areas will not be subject to the Act because they will not qualify as "major"
sources under the HAP requirements.
9-17
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Exhibit 9-5
PETROLEUM REFINING
Cost of the Regulations
Characteristics of Regulation
Target: Product regulations affect the oxygen content and volatility of gasoline, and the sulfur content of diesel
fuels. Regulations governing the emissions of hazardous air pollutants and volatile organic compounds are targeted
at the refining process.
Type: All regulations thus far are command and control.
Timing: Relatively fast Requirements on the oxygenate content of gasoline took effect in November 1992.
Diesel fuel regulations took effect in 1993 (although they have been under development for many years), and
reformulated gasoline requirements for ozone nonattainment areas take affect in 1995, with further requirements in
2000. HAP requirements will be proposed in June 1994.
Industry Cost Structure
Labor Requirements: Low. Most labor is high skilled. Industry employment levels have been relatively constant
since 1987, although there was a large scale reduction in labor intensity in the early to mid-1980s. Labor costs are
unlikely to be the driving force behind refinery relocation.
Capital Intensity: High. The industry is extremely capital intensive. Spending dropped significantly in the late
1980s and has rebounded somewhat in the early 1990s. While large refineries can borrow funds directly from the
capita] markets, small refineries must often go through banks and may not be able to finance required investments
under the CAA.
Energy and Raw Materials: High. Cost of crude oil key component of production costs.
Transportation Costs: High. Transport costs for refined products are significant As a result, refineries tend to
be located close to markets. Access to crude products via tanker or pipeline is also important.
Ability to Shift Costs to Other Parties
Substitutes: Generally low. The range of substitutes vary by fuel stream. Heating oil has a wider potential range
of substitutes. Aviation and road transport fuels such as gasoline have limited short-term substitutes.
Industry Concentration: Moderate to High. The 31 largest operating refineries constitute nearly 50 percent of
total U.S. refining capacity.
Foreign Competition: Low, but increasing. Although crude oil is extensively traded in world markets, finished
petroleum products are much less so. Most imports are residual fuel oil, although this is changing somewhat.
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Exhibit 9-5
PETROLEUM REFINING
(continued)
Ability to Bear Regulatory Costs Without Plant Closure
Economic and Financial Condition of Industry
Financial Performance: Moderate. Demand for petroleum has been somewhat sluggish due to the recession and
improvements in the energy-efficiency of the economy. Industry profits have been low, although debt levels have
been reduced as capital spending from the early 1980s is paid off.
Capacity Utilization: Moderate. Capacity utilization grew slightly between 1988 and 1992, primarily due to the
closure of about 14 refineries during that time period. Capacity utilization is at its second highest level since 198X,
but well below levels of the 1970s.
Recent Restructuring: Moderate. As mentioned above. 14 small refineries closed between 1988 and 1992, and
employment levels were reduced in the early 1980s. Gaps in technological sophistication remain, however,
suggesting that some additional plant closures are probable, even in the absence of the CAA.
Productivity Growth: High. The industry maintained output while cutting its workforce significantly during the
early 1980s.
Variability Within Industry
Technological Diversity: Moderate. U.S. refineries vary somewhat in complexity and size. Larger, more
complex refineries are able to produce a larger fraction of the most desirable fuel streams and adjust production to
meet clean fuel requirements. Small refineries often lack the technical capabilities to produce clean fuels, and are
therefore most at risk of closure due to CAA regulation.
Regulatory Diversity: High. CAA nonattainment area restrictions will adversely affect refineries that serve those
areas. This additional burden will be especially difficult for small independent refineries. However, because most
of the 1990 CAA Amendment regulations are product-based rather than process-based, and because finished
products are not widely traded in world markets, foreign producers will gain little advantage from CAA regulations.
Barriers to Exit
Incremental Employee Cost Liabilities: Low. Labor costs are not considered a significant expense in this
industry.
Environmental Liabilities: Moderate. Of all Superfund sites listed in 1991, 4.4 percent were categorized under
petroleum refining.
Likelihood of Closure due to CAA
The closure of some smaller, less sophisticated refineries is likely, but overall domestic refining capacity should not
decrease significantly as petroleum demand is largely price inelastic in the short- and medium-term, and foreign
producers face the same regulations as domestic refiners.
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Exhibit 9-6
STEEL AND METALLURGICAL COKE
Cost of the Regulations
Characteristics of Regulation
Target: Process regulations affect HAP emissions from steel and coke production as well as CO and ozone
emissions for plants located in nonattainment areas. In addition, acid rain provisions will increase the cost of
electricity to the industry.
Type: Command-and-control regulations, with limited flexibility to choose compliance schedules for coke oven
requirements.
Timing: For coke oven HAP controls, timing varies according to compliance option selected. One option allows
for compliance with residual risk regulations to be delayed until 2020.
Industry Cost Structure
Labor Requirements: Moderate. Employment has been cut significantly over the past 10 years. New mills are
not labor intensive and labor costs are unlikely to drive future plant shutdown decisions. Older integrated mills do
face labor-related exit barriers, however.
Capital Intensity: High. Especially true for integrated producers; mini-mills are less capital intensive.
Energy and Raw Materials: High. The industry has reduced the use of coke over time, due to increased use of
scrap, improved raw steel to finished steel conversion efficiencies, and the use of pulverized coal. Electric-arc
mills are twice as electricity-intensive as are integrated mills. Electricity constitutes a relatively small share of
production costs in both segments, however.
Transportation Costs: Moderate. For many products, shipping costs are low enough so that world-wide
competition exists.
Ability to Shift Costs to Other Parties
Substitutes: Varies by End-Use. Steel competes with several other materials in most of its applications. This
limits the industry's ability to shift increased regulatory costs to the customer.
Industry Concentration: Moderate but decreasing. The industry is fairly concentrated, especially in the flat rolled
and cold finishing segments, providing some leverage to increase prices. An increase in the number of mini-mills
continues to reduce overall concentration, however.
Foreign Competition: High. International trade is extensive. In most of its forms, steel is a commodity product.
During the past 10 years, U.S. steel has been protected from imports through "voluntary" import restraints. Import
penetration in long products, made by U.S. mini mills, is much lower than for the flat products produced by
integrated mills.
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Exhibit 9-6
STEEL AND METALLURGICAL COKE
(continued)
Ability to Bear Regulatory Costs Without Plant Closure
Economic and Financial Condition of Industry
Financial Performance: Varies. Financial performance has been poor in recent years, especially in the integrated
sector. In addition to high debt burdens, integrated producers face unfunded pension and other post-retirement
liabilities of billions of dollars. Some mini-mills have been extremely profitable, although there have also been
some failures.
Capacity Utilization: Moderate. Utilization rose in 1992 from the previous year, but still not to the levels
prevailing in 1988 and 1989.
Recent Restructuring: High. Since 1980, weak steel demand and inefficiencies forced over half of the industry's
coke batteries to close. While integrated mills were the hardest hit, some of the weaker mini-mills also faced losses
and bankruptcy.
Productivity Growth: High. Productivity grew significantly during between 1981 and 1991, spurred by new
technologies, improved process yields, and elimination of wasteful practices.
Variability Within Industry
Technological Diversity: Moderate. The two main technologies in use in the U.S. are the basic oxygen furnace
and the electric arc furnace. Market shares have remained fairly stable since 1988, but the electric arc technology
is expected to grow more over the long term. Both technologies are in wide use, and are impacted very differently
by the CAA.
Regulatory Diversity: Moderate. Domestic - Some mills will be more affected by electric rate increases due to
acid deposition provisions. In addition, facilities in nonattainment zones may face more stringent air quality
regulations. International - Foreign producers could gain some competitive advantage from the CAA because cost-
increasing regulations are process-based and will not affect imports. Some foreign countries, however, are
implementing acid deposition controls, which could increase their electricity costs and reduce the extent of any
competitive advantage.
Barriers to Exit
Incremental Employee Cost Liabilities: High for integrated producers. Industry contracts with the United Steel
Workers provide workers with generous pension and medical benefits in the event of a plant shutdown.
Environmental Liabilities: Moderate. Of all Superfund sites listed in 1991, 4.5 percent were categorized under
primary metal product manufacturing.
Likelihood of Closure due to CAA
It is likely that some integrated manufacturers will choose to close some coke batteries due to HAP provisions,
although the timing of these impacts is uncertain given the alternative compliance options. The likelihood of entire
steel manufacturing establishments closing in the long term due solely to the CAA, however, is unlikely.
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Exhibit 9<7
COMMODITY CHEMICALS INDUSTRY
Cost of the Regulations
Characteristics of Regulation
Target: The HON Rule and other HAP regulations will affect chemical production processes. VOC restrictions in
nonattainment areas and reformulated gasoline provisions of the CAA both affect specific products that use inputs
from chemical producers.
Type: Predominantly command-and-control regulations, with some allowance for on-site emissions averaging
under the HON rule.
Timing: Many regulations have yet to be finalized; however, HAP provisions are expected to be in effect within
the 1996 to 1998 timeframe.
Industry Cost Structure
Labor Requirements: Low. Chemical production relies primarily on high-skilled labor. Proper management of
extensive capital equipment is extremely important. Labor intensity is relatively low; labor cost differentials
unlikely to drive industry relocation.
Capital Intensity: High. This industry is the most capital-intensive of all manufacturing industries. The CAA
will require significant equipment modifications and upgrades that may force older facilities to close. In general,
however, the industry regularly spends heavily on capital upgrades.
Energy and Raw Materials: High. Proximity to inexpensive feedstocks is a primary determinant of plant
profitability in the commodities sector. The long-term trend in the organic sector towards locating near sources of
cheap hydrocarbons is slowly shifting production out of the U.S.
Transportation Costs: Variable. Transportation costs limit the markets that certain commodity chemicals can be
sold in, and therefore provides some protection against foreign imports.
Ability to Shift Costs to Other Parties
Substitutes: Variable. The range of substitutes varies by chemical and end market. Many commodities compete
not only with other chemicals, but with other materials (e.g., plastics packaging competes with paper packaging),
thereby limiting the ability to shift regulatory costs to customers.
Industry Concentration: High. Commodities are highly concentrated both domestically and internationally.
Foreign Competition: High. Significant foreign competition in most commodity markets. Transportation costs
protect domestic markets somewhat, especially in the industrial gases subsector. Imported chemicals are not subject
to the same process regulations as domestically-produced chemicals, aside from product-based regulations on VOCs
and gasoline. Competition limits the ability of a plant to shift regulatory costs to other parties.
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Exhibit 9-7
COMMODITY CHEMICALS
(continued)
Ability to Bear Regulatory Costs Without Plant Closure
Economic and Financial Condition of Industry
Financial Performance: Moderate to poor. Debt levels have remained high and profits low in recent years. As
the world economy recovers, performance is expected to improve in 1995 and 1996.
Capacity Utilization: Moderate. This is the key indicator of profitability in the commodity sector. Utilization has
been low due to the recession, depressing earnings. Although earnings continue to improve, strong profitability is
not expected to return before 1996.
Recent Restructuring: Significant. Large scale restructuring in the mid-1980s significantly improved
productivity, suggesting that many of the weakest plants have already shut.
Productivity Growth: Moderate to high. Commodity producers in both the organic and inorganic sectors have
greatly increased productivity levels over the past 10 years.
Variability Within Industry
Technological Diversity: Low. Commodity producers in most segments use very similar technologies; few plants
have strong technological advantages. The one exception is chlor-alkali production, where energy-efficiency can
vary greatly. Most inefficient production capacity for the chlor-alkali sector is located in Europe.
Regulatory Diversity: Low. Domestic - Most commodity organic producers are located next to hydrocarbon
supplies in Texas and Louisiana, and in New Jersey. Although they are in nonattainment areas, the incremental
regulatory burden is unlikely to lead to closures because it affects most plants in the industry. International - Major
competitors in Germany, Netherlands, and Scandinavia also face stringent air regulations, decreasing the effect of
import competition on U.S. plant closure decisions.
Earners to Exit
Incremental Employee Cost Liabilities: Low. This is a relatively non-labor intensive industry. Incremental
employee costs triggered by plant closure is unlikely to be a significant barrier to exit.
Environmental Liabilities: High. Of all Superfund sites listed in 1991, 17.6 percent were former chemical
facilities.
Likelihood of Closure due to CAA
Some closures are expected due to costly capital requirements resulting from certain provisions of the CAA (e.g.,
the HON rule). Widespread closures are unlikely, however, due to the likelihood that similar regulations will be
imposed on foreign producers, the protection that transportation costs provide for certain commodity producers, and
the high degree of vertical integration of many producers.
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Exhibit 9-8
SPECIALTY CHEMICALS INDUSTRY
Cost of the Regulations
Characteristics of Regulation
Target: The HON rule and other HAP regulations will affect chemical production processes. However, VOC
restrictions in nonattainment areas and reformulated gasoline provisions of the CAA both affect specific products
that use inputs from the chemicals industry.
Type: Mostly command-and-control regulations. However, on-site emissions averaging provisions will reduce the
compliance cost for specialty chemicals producers who rely heavily on batch processing.
Timing: Many regulations have yet to be finalized; however, HAP provisions are expected to take effect in the
1996 to 1998 timeframe.
Industry Cost Structure
Labor Requirements: Low. Chemical production relies primarily on high-skilled labor. Proper management of
extensive capital equipment is extremely important. Labor intensity is relatively low; labor cost differentials
unlikely to drive industry relocation.
Capital Intensity: High. This industry is the most capital-intensive of all manufacturing industries. The CAA
will require significant equipment modifications and upgrades that may force some facilities to close.
Energy and Raw Materials: Low. Unlike commodity chemical production, proximity to inexpensive feedstocks
is not a primary determinant of market success.
Transportation Costs: Low. Transportation costs are much less significant for specialty producers than for
commodity producers. Proximity to customers can nevertheless be an important criteria due to the need for
iterative product development
Ability to Shift Costs to Other Parties
Substitutes: Few. Specialty chemicals often add a great deal of value to the customer's product or process and
many are proprietary formulations. Since these chemicals are much less subject to substitution than are commodity
chemicals, the industry has greater leverage in shifting regulatory costs to customers.
Industry Concentration: Low. Less concentration than in the commodity sector.
Foreign Competition: Low. Foreign competition is somewhat limited by the need to work closely with the
customer to develop new formulations. Where chemicals can be manufactured abroad, however, foreign producers
could benefit from less stringent controls on process emissions.
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Exhibit 9-8
SPECIALTY CHEMICALS
(continued)
Ability to Bear Regulatory Costs Witbout Plant Closure
Economic and Financial Condition of Industry
Financial Performance: Moderate to strong. The specialty chemicals industry is financially stronger than its
commodity counterpart; profit margins for specialties increased through the recession while debt levels remained
lower.
Capacity Utilization: Moderate. Capacity utilization is a much less significant measure in the specialty sector
than in the commodity sector. This industry can be profitable at relatively low utilization levels.
Recent Restructuring: Significant. The chemical industry overall underwent a significant restructuring in the
mid-1980s and significantly improved productivity. This suggests that many of the weakest plants have already
shut.
Productivity Growth: Moderate to high. Productivity levels have generally increased over the past 10 years.
Variability Within Industry
Technological Diversity: High. Producers use a wide range of batch processes to manufacture different
chemicals. However, for a given chemical there is one or, at most, a few producers.
Regulatory Diversity: Moderate. Domestic - Specialty manufacturers are more widely dispersed than commodity
producers, and could therefore be affected differently by regulations governing nonattainment zones. International -
Major competitors in Germany, Netherlands, and Scandinavia also face stringent air regulations. In both cases, the
advantages of proximity to ones customers offsets some of the disadvantages of facing more stringent regulations.
Barriers to Exit
Incremental Employee Cost Liabilities: Low. This is a relatively non-labor intensive industry.
Environmental Liabilities: High. Of all Superfund sites listed in 1991, 17.6 percent were former chemical
manufacturing facilities.
Likelihood of Closure due to CAA
Specialty chemical manufacturers are unlikely to be greatly affected by the CAA - cost increases can generally be
passed through to the customer. Emissions averaging provisions reduce the cost of compliance. Permitting
requirements may cause some difficulty for certain specialty producers, however.
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CHAPTER 9 ENDNOTES
1. In this chapter, we use the phrase "regulatory impact analysis" or "RIA" rather than "economic impact
analysis" for simplicity and consistency.
2. Since the focus of this chapter is on plant closures, we do not address the cost of regulation to
consumers, except to note that they may be significant.
3. Specialty chemical manufacturers, for example, face these problems.
4. For example, if suppliers have many alternative customers for their products, customers have many
alternative products that meet their needs, and workers have many alternative job opportunities, a plant
would not be able to shift the costs of regulation without losing its suppliers, customers, or workers.
This dynamic holds true whether the plant makes an intermediate product sold to other firms, or a final
product sold to individuals.
5. This concept has been confirmed empirically in a number of studies, for a variety of different industries.
For example, the authors of a 1986 study on U.S. food and tobacco sectors found a clear correlation
between industry concentration and the ability to pass through higher costs. See Pagoulatos, Emilio and
Robert Sorensen, "What Determines the Elasticity of Industrial Demand," InternationaUournal of
Industrial Organization, Vol 4, pp. 237-250, 1986.
6. In certain instances, however, regulations actually force the opposite to happen. For instance, in
situations where new source performance standards are considerably more stringent than standards for
existing facilities, environmental regulations could occasionally be a major factor in keeping open older
facilities with older technologies that would otherwise close.
7. For the purposes of these summary charts, we subdivided the chemicals industry into commodity and
specialty components, given the unique characteristics of each sub-sector.
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