OZONE TRANSPORT COMMISSION
NOX BUDGET PROGRAM
1999-2002 Progress Report
OZONE
ITU AHBPOAT
(COMMISSION
-------
Ground-level ozone (or smog) is formed when nitrogen oxides (NOX) and volatile
organic compound (VOC) gases react with sunlight, particularly in the warm sum-
mer months. Once formed, ozone targets the respiratory system, aggravating
asthma, increasing susceptibility to respiratory illnesses like pneumonia and bronchitis,
and contributing to permanent lung damage. It can also damage forests, reduce the pro-
ductivity of agricultural crops, and lead to the decay of monuments and buildings.
The Ozone Transport Commission (OTC) was established under the Clean Air Act
Amendments of 1990 to help states in the Northeast and Mid-Atlantic region meet the
National Ambient Air Quality Standard (NAAQS) for ground-level ozone. Historically,
ozone control strategies have focused on VOC emissions. In recognition of the impor-
tant role of NOX in ozone formation and transport, the OTC has focused much of its
efforts on regional NOX reduction strategies.
The OTC developed an unprecedented, multi-state cap and trade program to control
NOX emissions and address regional transport of ozone. This market-based program,
called the NOX Budget Program, sets a regional "budget" (or cap) on NOX emissions
from power plants and other large combustion sources during the "ozone season"
(from May 1st through September 30th). To meet the budget, sources are required to
reduce emissions significantly below 1990 baseline levels and may use emissions trad-
ing to achieve the most cost-effective reductions possible.
The OTC NOX Budget Program has significantly reduced NOX emissions in the Northeast
and Mid-Atlantic region. Through the trading program and earlier Reasonably Available
Control Technology (RACT) requirements, NOX Budget sources have reduced their ozone
season emissions approximately 60 percent below 1990 baseline levels, well under tar-
get levels. Deep reductions have occurred in all states across the region. Daily peak
emissions have also declined. In addition, the market-based approach has proven to be
cost-effective, and a viable trading market has emerged. These measures indicate that
the OTC NOX Budget Program is functioning well and achieving its goal of significantly and
cost-effectively decreasing NOX emissions from large combustion facilities.
-------
Overview of the OTC IMO;
Budget Program
Transport Plays a Critical Role in the Ozone
Problem
The Clean Air Act requires EPA to set a NAAQS for
ozone. This standard is intended to limit ozone expo-
sure to levels that will protect public health and the
environment. Initially, Clean Air Act implementation
emphasized state planning and local solutions to
attain the ozone NAAQS first set in 1971 However,
despite the implementation of significant, local con-
trol strategies in the decades that followed, states
still have had difficulty meeting the ozone standard.
Based on numerous studies and analyses, EPA and
others determined that ozone and its precursors
are capable of being transported over large dis-
tances. In particular, atmospheric modeling during
the past decade has demonstrated that long-range
transport of emissions from upwind areas con-
tributes significantly to persistent ozone non-
attainment in the Northeast and Mid-Atlantic United
States (see Figure 1).
Transport Winds and Ozone Patterns
on High Ozone Days
Figure 1
High ozone levels in the Northeast are typically associ-
ated with persistent transport from west to east.
(Data represent high 90th percentile ozone conditions
Source: Ozone Transport Assessment Group.
As the scientific and policy communities came to
realize the importance of ozone transport, Congress
saw a need for coordinated regional efforts to address this problem and estab-
lished the OTC through the 1990 Clean Air Act Amendments. The OTC consists
of representatives from the Northeast and Mid-Atlantic states, including
Connecticut, Delaware, District of Columbia, Maine, Maryland, Massachusetts,
New Hampshire, New Jersey, New York, Pennsylvania, Rhode Island, Vermont,
and Virginia.
-------
Regional Cap and Trade Program Formed
to Address the Transport Problem
Initially, the OTC states agreed to implement year-round, regionwide
emission limits based on RACT for the major stationary source cate-
gory of NOX emissions—large fossil fuel combustion sources. Next, in
1994, all of the OTC states except Virginia signed a Memorandum of
Understanding (MOU) to create a market-based emissions trading
program to reduce and cap regional NOX emissions substantially
below levels required by RACT. The NOX Budget Program applies to
more than 1,000 large combustion facilities (budget sources) in sig-
natory states, including over 900 electric generating units (EGLJs) and
over 100 industrial units, such as steam boilers and process heaters.
The NOX Budget Program requires that these budget sources collectively meet
a regionwide emissions budget each ozone season (total NOX mass emissions
from May through September) based on reductions from 1990 baseline emis-
sions. Under the program's cap and trade provisions, each state allocates
emission allowances to their budget sources in accordance with the state's por-
tion of the regional budget. Each allowance permits a source to emit one ton of
NOX during the ozone season and is associated with a "vintage" year (the year in
which a source can first use the allowance for compliance). Budget sources
must demonstrate that their actual ozone season emissions do not exceed the
amount of allowances held for that period to remain in compliance. Unused
allowances may be sold or saved for use in a subsequent ozone season
["banked"). Regardless of the number of allowances a source holds, it cannot
emit at levels that would violate RACT or other emission limit requirements.
For further information on the
DTC program, see:
www.epa.gov/airmarkets/otc
and
www.sso.org/otc
Budget sources can devise their own strategies
to comply with NOX emission restrictions. The
ability to trade allowances places a value on
emission reductions and encourages sources
to develop the most cost-effective emission
reduction strategies to achieve the overall
emission reduction target. For example, owners
can control emissions at a unit with low control costs to levels below the unit's
allowance allocation and then use the extra allowances at other units with higher
control costs or sell the allowances to other entities. This approach allows the
OTC states to achieve greater reductions than they could under a traditional reg-
ulatory approach for the same overall cost.
The NOX Budget Program, while based in large part on the successful imple-
mentation of EPA's national cap and trade Acid Rain Program for controlling
sulfur dioxide (SC^), represents the first example of a group of states coming
-------
together to form a multi-jurisdictional emissions trading program. The OTC
states, in cooperation with EPA and stakeholders, identified key elements that
should be consistent among the regulations in all participating states so that an
integrated interstate emissions trading program could be created. These ele-
ments included: program applicability, control period, NOX emissions rates,
emissions monitoring, record keeping of emissions and allowances, and elec-
tronic reporting requirements. Each state was then responsible for developing
and adopting state rules with these consistent elements.
Under this collaborative state/federal partnership, the states established the
program requirements and emission budgets in accordance with the MOU
requirements and then allocated allowances to each affected unit. EPA adminis-
ters the data systems used to manage the program and provides technical
assistance to the OTC states and to affected sources, such as tracking
allowance transfers, maintaining unit and account information, assisting with
monitoring issues, and preparing end-of-season compliance reports.
Accurate monitoring of all emissions and timely reporting ensure that a ton of NOX
emitted from one budget source is equal to a ton from any other source, that the
integrity of the budget is maintained, and that the states have accurate and com-
prehensive compliance information. All emissions and allowance data from budget
sources are publicly available
on the EPA Web site, provid-
ing complete transparency. To
date, budget sources have
achieved a very high rate of
compliance.
OTC NOX Reduction Strategy Overview
Reductions
Achieved in
Phases
The OTC states established
three separate phases for
reducing NOX emissions from
large combustion sources
[see Figure 2). Phase I
involved year-round PACT con-
trols. Phases II and III
comprised the OTC NOX
Budget Program: Phase II had
an initial ozone season budget
beginning in 1999, with the
Phase
1990 Baseline
I Phase I: PACT
requirements
beginning May 1, 1995
Phase II: Trading
program beginning
May 1, 1999
Phase III: Trading
program beginning
May 1, 2003, but...
Phase III replaced by
NOX SIP Call Trading
Program on May 1,
2003
Geographic
Distinctions
Not applicable
All areas
Inner Zone
Outer Zone
Inner & Outer
Zones
Northern Zone
No zones, but
excludes ME,
NH, andVT
Emissions Reduction Target
Not applicable
Approximate 40% reduction
65% or 0.20 Ib/mmBtu
(based on 1990 heat input)
55% or 0.20 Ib/mmBtu
(based on 1990 heat input)
75% or 0.15 Ib/mmBtu
(based on 1990 heat input)
55% or 0.20 Ib/mmBtu
(based on 1990 heat input)
0.15 Ib/mmBtu (based on
1995 or 1996 baseline heat
input with growth factor)
Ozone Season
Emission Levels
473,000 tons
(approx. baseline level)
290,000 tons
(approx., no budget
applies)
219,000 tons
(budget level)
143,000 tons
(budget level)
141,000 tons
(budget level)
Figure 2
Source: OTC and EPA.
-------
lower; Phase III budget set to begin in 2003. The OTC's
Phase III reductions have been merged into a broader
regional cap and trade program under EPA's "NOX SIP
Call." The NOX SIP Call will affect 21 eastern states and
the District of Columbia, including all of the OTC states
in the trading program except New Hampshire. The
emission reduction targets under the NOX SIP Call trad-
ing program are comparable to the OTC Phase III
reduction targets— about 70 percent from 1990 base-
line levels. This approach, utilizing a firm budget that
decreases in stages, is known as a declining cap.
In developing their NOX Budget Program, the OTC
states establish three zones—"Inner," "Outer;" and
"Northern"—and required different emission rates for
Phases II and III in the different zones (see Figure 3). In
contrast, the NOX SIP Call uses the same emissions
rate throughout the affected region to establish the
emissions budgets.
OTC Zones for NOX Control
Figure 3
The OTC states that signed the MOU split the region
into Inner, Outer, and Northern Zones, and planned
for different reduction targets in each zone.
Source: OTC and EPA.
The OTC's Inner Zone generally comprised the contigu-
ous ozone nonattainment areas along the heavily populated corridor from the
Washington, D.C., metropolitan area to southern New Hampshire. The OTC set
the most stringent reduction targets for this zone. The Northern Zone con-
tained all of Maine and Vermont, northeastern New York, and all but southern
New Hampshire, and had the least stringent reduction target. The Outer Zone
contained the rest of the OTC region.
The use of a separate Northern Zone has had little effect on the OTC NOX
Budget Program. Maine and Vermont have not participated in Phase II of the
program and are not affected under the NOX SIP Call. Maine will meet the OTC
MOU requirements for 2003 through unit-specific emission limits, with provi-
sions for intra-source emissions averaging. Vermont has only a single affected
source that has already met the 2003 emission reduction target, with 2001
emissions of 4 tons, well below the 1990 baseline of 27 tons. While portions of
New Hampshire and New York also were in the Northern Zone, they included
those portions beginning in 1999 as part of the OTC NOX Budget Program.
-------
Emission Reductions
100,000
1990 1995 Est. 1999
Baseline (Post-RACT)
Source: OTC and EPA.
The OTC NOX Budget Program has produced emission
reductions well below required levels. Moreover, these
significant reductions have occurred throughout the
region, and the seasonal reduction strategy appears to
have successfully reduced daily peak emission levels.
Emissions Reduced by 60
Percent from 1990 Levels
DTC NOX Budget Program sources successfully reduced
their regional ozone season NOx emissions in 2002 by
nearly 280,000 tons, or about 60 percent, from 1990
baseline levels. Emissions have been lower than the region-
al budget in each of the four ozone seasons (1999-2002),
in which participants have been able to "bank" unused
allowances for use in the future. The use of banking (in
combination with progressive flow control—see page 15]
did not result in any single season peaks above budget levels.
The decrease in the budget from 1999 to 2000 reflects the allocation of cred-
its for reducing emissions prior to the start of the trading program in 1999
only. The slight increases in the 2001 and 2002 budgets and emissions result-
ed from the delayed entry of the District of Columbia and Maryland into the
program. For 1999, Figure 4 includes no data for Maryland or the District. The
year 2000 data also do not include the District, but include about 1,800
allowances and 2,300 NOX tons for the small number of sources in Maryland
that participated in 2000. The regional budget increased by about 12,500 tons
in 2001 and 9,000 tons in 2002 as the District and additional Maryland
sources joined the program. At the same time, emissions increased by about
15,500 and 12,000 tons, respectively.
Reductions Achieved through RACT and
Subsequent Budget Requirements
The first large, regional NOX reductions in the OTC were achieved in the summer of
1995 when Phase I RACT rules went into effect for existing sources. These rules
are comparable to, and in some states more stringent than, the NOX rules that EPA
has enacted nationwide for existing coal-fired boilers under the Acid Rain Program.
Emissions from NOX Budget Program Units
Figure 4
NOX Budget Program units reduced ozone season emis-
sions by 60 percent from 1990 levels, achieving greater
reductions than required each year of the program.
-------
The RACT requirements ensure that existing units
employ reasonably available controls (primarily combus-
tion modification techniques) to reduce their emission
rates on a year-round basis. After achieving substantial
NOX reductions through RACT, OTC states then
employed the NOX Budget Program so that deepen
more costly reductions during the ozone season could
be achieved as cost-effectively as possible. The reduc-
tions achieved under the OTC NOX Budget Program
reflect about a 35 percent reduction from estimated
RACT levels during the ozone season.
Inner DTC Zones
Achieved Similar Reductions
The OTC states developed different zones in the NOX
Budget Program in order to achieve deeper emissions
reductions in areas with the most significant ozone
nonattainment problems. The states debated whether
or not to impose ratio restrictions on trading between
the zones but eventually decided to permit interzonal
trading on a one-for-one basis. The effect of this deci-
sion was that both zones reduced ozone season NOX
emissions by a similar amount from baseline levels (see
Figure 5). Because trading was allowed freely between
the zones, all areas achieved comparable reductions.
States Across the Region
Achieved Reductions
Comparison of Outer and Inner Zone
NOX Emissions from 1990 to 2002
58% Reduction
Figure 5
Inner and Outer Zones of the OTC region have
achieved comparable percent reductions.
Source: EPA.
State NOX Reductions from 1990
Baseline
A state-by-state comparison shows that, in 2002, all NOX
Budget Program states (except the District of Columbia)
achieved significant reductions from 1990 ozone season
NOX baseline levels (see Figure B). Moreover; all of the
states, except Maryland and the District of Columbia, had
2002 emissions below state budget levels. The anom-
alous results in Maryland stem from litigation and a
subsequent consent order that delayed the participation of several sources in the
trading program. The District of Columbia began participation in 2001 and had emis-
sions below baseline and budget levels. In 2002, NOX emissions in the District were
above baseline and budget levels. All of the units in the District are relatively low-emit-
ting oil and gas fired units, and the total expected reduction from 1990 baseline
levels was less than 100 tons per season (only about a 17 percent reduction). The
District is likely to have some year-to-year variability given this mix of units, the small
degree of reduction required, and the overall small emissions budget.
Scale: NJ 1990 baseline = 47,000 tons
Note: Results for the District of Columbia and Rhode Island do
not appear on the map because of their small scale. The 2002
seasonal emissions are below 700 tons in each jurisdiction.
Figure 6
Reductions from 1990 levels have occurred acros
the NOX Budget Program states.
Source: EPA.
-------
By its nature, a broad regional trading program is designed to achieve significant
regional reductions, but ozone season emission reductions from NOX Budget
sources also resulted in important county-level reductions throughout the region.
Regionwide, almost all counties with existing NOX Budget sources have reduced
their ozone season NOX emissions from 1990 levels. Many counties achieved
substantial declines in NOX emissions, including all of the counties with the high-
est 1990 baseline emissions. In comparison, only a few counties did not decrease
their emissions from 1990 levels. In some cases, new sources located in the
counties after 1990. In other cases, there may have been very low operating lev-
els for existing units in the counties during the 1990 baseline year. Such minimal
increases are not expected to produce localized peaks of ozone, given the nature
of ozone and the major NOX emissions reductions regionally.
Daily Peak Emissions Appear to Have Declined
Epidemiological studies indicate that many of the health effects associated with
ozone are attributable to short, peak exposures, and the ozone NAAQS was devel-
oped to protect against such short-term exposures. The NOX Budget Program,
however, is a seasonal program that ensures significant average NOX reductions in
the ozone season but does not necessarily ensure that emission reductions are
achieved on a short-term basis. There have been concerns that a seasonal cap
would not ensure the reduction of short-term, peak NOX emissions that may occur
on hot, high electricity demand days, when ozone formation often is a concern.
An analysis of daily emissions from NOX Budget units
that are affected under the Acid Rain Program, however;
shows that average and peak daily emissions from these
units have declined during the ozone season (see Figure
7). These Acid Rain units account for the vast majority of
budget source emissions in the region. Ozone season
average daily NOX emissions from these units declined
nearly 30 percent between 1997 and 2002. Also, the
ozone season days with the highest total emissions from
Acid Rain units for each year of the trading program had
emissions significantly lower than the corresponding val-
ues prior to implementing the program. It appears that
the seasonal program design of the NOX Budget
Program does, in fact, provide NOX reductions from
affected sources on high electricity demand days.
Reducing peak daily NOX emissions during the ozone sea-
son remains an important concern, and EPA and the
DTC states will continue to examine trends in peak emis-
sions and their relationship to high ozone days.
Daily Ozone Season Emissions Trends
[OTC Acid Rain Units Only]
ID aooo
= 1000'
CD
500
D
First Year of NOX
Budget Program
1997 1998 1999 3000 3001 3003
^H Highest Daily Emissions ^- Average Daily Emissions
Figure 7
Data for Acid Rain Program units from before and
after the NOX Budget Program show that the sea-
sonal budget is reducing daily emissions, even on the
days with the highest emissions.
Source: EPA.
-------
Industrial Units Responded Similarly to
Electric Generating Units
The Acid Rain Program's 805 trading system applies only to electric generating
units (EGLJs), which are responsible for the large majority of NOX emissions from
combustion of fossil fuels. Industrial boilers, turbines, and process heaters, how-
even also contribute a significant amount of NOX emissions, and the OTC states
decided to include these additional industrial units in the NOX Budget Program.
The industrial units in the NOX Budget Program have consistently emitted below
budget levels during the program, and thus have achieved significant reductions
from baseline levels. The ozone season emissions from the affected industrial
units on average have been more than 10 percent below their allowance alloca-
tions. These results are comparable to the results for the electric generating
sector and indicate that industrial combustion units can be effectively integrated
into a cap and trade program.
Compliance Strategies Do Not Appear to
Have Shifted Emissions to Upwind States
Under the NOX Budget Program, sources can use means other than add-on con-
trols to meet the emissions budget. One method is to reduce utilization of
high-emitting units and shift production to lower-emitting units within the program
or to sources that are outside the budget. If production shifts to upwind, unaffect-
ed units with higher emission rates, the effectiveness of the NOX Budget Program
would be reduced because pollution could be transported back into the region.
Shifting of emissions
to unaffected, upwind
units has been an
ongoing concern for
the OTC states and
EPA, and there are
some reports that
sources are purchas-
ing off-peak power
from outside the OTC
region to reduce total
seasonal emissions as
part of their compli-
ance strategy.
Changes in Ozone Season Regional Generation and Sales
Category
Nuclear Net Generation
Acid Rain Unit Gross Generation2
Utility Sales
1997 and 1998
2-Year Average MWh
59,132,000
119,525,000
213,085,000
2000 and 2001
2-Year Average MWh1
77,787,000
119,019,000
224,355,000
Change in 2-Year
Average MWh
18,655,000
-506,000
11,270,000
1 1999 excluded from analysis because Energy Information Administration [EIA] reports that 1999 data on utility
sales have likely errors (Pennsylvania data are low).
2 Plant demand (e.g., for pollution control systems] can require part of a unit's gross load, so the use of reported
gross generation for Acid Rain Program units may overstate the decline in generation available to the electric grid.
Source: EPA and EIA.
Figure 8
Increases in OTC nuclear generation appear to offset increases in regional demand and
account for much of the decrease in fossil generation.
-------
Moreover, data from 1997 through 2001 show that ozone season generation
from large, Acid Rain Program units responsible for most of the fossil fuel gen-
eration in the OTC region, has declined as a percent of regional utility electric
sales (a measure of demand). The ratio of Acid Rain Program unit generation to
regional utility sales averaged 56 percent in 1997 and 1998, the two years
prior to the start of the NOX Budget Program, and declined to 53 percent in
2000 and 2001. These results, at first, suggest a potential shifting of emissions
to unaffected, upwind units.
The decline in OTC fossil plant utilization as a percent of utility retail electricity
sales, however; was more than offset by an increase in the OTC region's nuclear
generation over the same period. The ratio of nuclear generation to utility retail
electricity sales averaged 28 percent in 1997 and 1998, and increased to an
average of 35 percent in 2000 and 2001. (See Figure 8.]
These data do not identify where power generated in the region is distributed but
do show that the increase in nuclear generation in the OTC region is large enough
to offset the combined effect of the decrease in fossil generation from Acid Rain
Program units and the increase in utility retail electricity sales. So, although some
companies participating in the program may have purchased electricity from
upwind fossil plants in non-OTC states to comply with NOX requirements and shifted
emissions out of the region, this preliminary analysis indicates that the three per-
cent decline in fossil fuel generation as a percent of regional utility electric sales in
the OTC region cannot necessarily be attributed to shifting of electricity production
out of the region. Rather; the significant increases in nuclear generation indicate
that fossil fuel generation is more likely to have shifted to the nuclear sector
In addition, the difference in emission rates between
OTC units and units in neighboring states has
declined since 1997 in large part because of reduc-
tions from EPA NOx requirements under the Acid
Rain Program (see Figure 9). The reduced gap
between emission rates in the two areas lessens the
air quality impacts from shifting generation to upwind
sources, although the average emission rates in
upwind states remain nearly twice the level of rates
in the OTC. EPA expects that NOX SIP Call reduction
requirements in these non-OTC states will decrease
the gap in emission rates even further beginning in
2004. While these future actions should reduce con-
cerns of emissions shifting to sources upwind of the
OTC region, EPA and the OTC states continue to
examine this important issue, especially with the
ongoing electric power industry restructuring in the
region and possible changes in federal energy policy.
IMOX Budget Program Ozone Season
Emission Rates Compared to Neighboring
States (Acid Rain Units]
0.80 i
£ 0.70 •
Average NOX Emission
(Ib/mmBtu]
p p p p p p p
§ 5 8 8 fe S S
^^^_
^^-^
—
| ^ OH, VA, VW Acid Ram Onits |
OTC Acid Rain Onits |
1997 1998 1999 3000
3001 3003
Figure 9
Potential for shifting generation remains a concern as the
ozone season NOX emission rates for Acid Rain Program
units in neighboring upwind states remain higher than the
OTC emission rates, although the gap is declining.
Source: EPA.
10
-------
Ambient Trends and Future
Emission Reduction, IMa
The Northeast Continues to Face Ozone
Problems
Despite the work that the OTC states have done to
achieve NOX emission reductions from large combus-
tion facilities, much of the Northeast urban corridor
still has not attained the 1-hour ozone NAAQS,
though state plans are now in place to achieve this
1-hour goal (Figure 10 shows all nonattainment coun-
ties in this region as of January 2003). In 1997, a
new, more stringent 8-hour ozone standard was
finalized based on scientific evidence that longer-term
exposures, at levels lower than under the previous
standard, can cause significant health effects.
Additional areas in the Northeast and Mid-Atlantic
region are expected to be designated as nonattain-
ment under this new standard.
Ozone conditions generally are evaluated on a 1-hour
basis or 8-hour basis to match the averaging time of
the ozone NAAQS. To measure ozone trends, EPA
uses the second highest maximum 1-hour value (for
the 1-hour NAAQS) and the fourth highest maximum
8-hour value (for the 8-hour NAAQS).
From 1990 through 2001, average ambient ozone condi-
tions in the OTC states remained relatively constant (see
Figure 11). Figure 11 does show a spike in ambient ozone
levels in 2002 associated with poor weather conditions
during that summer The figure provides data from two
EPA data sources: the Aerometric Information Retrieval
Information System (AIRS), which has data from ambient
ozone monitoring stations (generally located in urban and
suburban areas) that are used to evaluate attainment,
and the Clean Air Status and Trends Network (CASTNet),
a predominantly rural monitoring network designed pri-
marily to collect dry deposition data that also provides
ozone data (Figure 11 includes CASTNet data through
Ozone Attainment Classification in the
OTC States (1-Hour Standard)
Classification
Severe
Serious
Moderate
Marginal
Attainment or Unclassifiable
Source: EPA.
1-Hour Standard (initially set in1971): Daily maximum 1-hour
concentration shall not exceed 0.120 parts per million [ppm]
more than once per year on 3-year average basis.
8-Hour Standard (promulgated in 1997): Daily maximum 8-
hour concentration shall not exceed 0.08 ppm based on 3-year
average of the annual 4th highest daily maximum 8-hour value.
Ozone Classifications: Areas are classified based on the
degree to which the daily maximum ozone levels exceed the
ozone standard on a ppm basis. For example, if the 4th high-
est value over a 3-year period was 0.170 ppm, an area would
be a "serious area" underthe 1-hour standard because the
value is greater than 0.1BO ppm but less than 0.180 ppm.
11
-------
2001 only). The trends in rural areas, which generally have
limited local ground-level generation of ozone, tend to serve
as a strong barometer of trends in ozone transport.
At this point, the data do not show an obvious year-to-year
downward trend in ozone conditions. This is not surprising
because the substantial reductions in NOX achieved by the
NOX Budget Program have been partially offset by simulta-
neous increases in NOX emissions from some types of
mobile sources in the region and by long-range transport of
ozone into the region from states upwind of the OTC. In addi-
tion, the strong influence of weather differences from year
to year make it difficult to detect trends in ozone. EPA and
states intend to continue examining ozone trends as more
years of data become available.
While the efforts of the OTC states have not necessarily
resulted in a decline in ozone levels yet, the NOX Budget
Program has been critically important in keeping total
NOX emissions from increasing in the region and in hold-
ing ambient ozone levels in check, despite increases in
emissions of some types of mobile sources and long
range transport into the region.
Future Mobile Source Emission
Reductions Are Part of the
Solution
Average OTC Region Ozone Trends
[Northern Virginia Sites Not Included]
1990
source NOX emission reductions.
Source: EPA.
While NOX Budget Program sources have reduced annual
emissions significantly, they are not the only NOX sources
in the region. Even though NOX Budget sources reduced
their annual emissions over 40 percent since 1990, annu-
al emissions data from the National Emissions Inventory
[NEI] show that total annual NOX emissions in the region
between 1990 and 1999 declined by only 10 percent. This
is because, since 1990, emissions from other sources in the region, particularly
mobile sources, have increased or stayed the same (see Figure 12).
Mobile source NOX emissions in the OTC region are starting to decline. EPA projects
that, by 2020, EPA and states will reduce mobile source NOX emissions to only about
one-third of year 2000 emissions through measures such as the National Low
Emission Vehicle (NLEV) Program. The goal of improving ambient ozone conditions
through NOX reduction strategies will take the combined effort of stationary source
measures, like the OTC NOX Budget Program, and these mobile source programs.
1990 1991 1992 1993 1994 1995 1996 1997 199G 1999 2000 2001 2002
-»- AIRS 2nd Highest Daily Maximum 1 HrAvg (142 -185 Sites]
CASTNet 2nd Highest Daily Maximum 1 Hr Avg (10 Sites]
-•- CASTNet 4th Highest Daily Maximum 8 Hr Avg (10 Sites)
Figure 11
Average data from monitoring sites across the OTC
region do not show any significant regional downward
trend in ambient levels between 1990 and 2002.
Source: EPA and CASTNet.
Comparison of Annual NOX Emissions
from Mobile Sources and Industrial
Fossil Fuel Combustion in OTC States
4,000,000
ID 3,500,000
,0 3,000,000
ox 2,500,000
- 2,000,000
§ 1,500,000
i 1,000,000
500,000
0
1996
1999
Figure 12
During the 1990s, NOX emissions from the mobile
source category reduced the gains from stationary
-------
Expanding the OTC Approach Also Will Help
Address Ozone
Even after considering the reductions that would be
achieved in Phase III of the OTC NOX Program, the
DTC states determined that further regional reduc-
tions would be necessary for them to attain the ozone
standard and that these reductions would have to
come from a much larger region than the OTC. EPA
modeling also has shown that emission reductions in
the OTC alone would not be sufficient to attain the
ozone NAAQS. Many of the OTC states petitioned EPA
under section 126 of the Clean Air Act to require
reductions in upwind states.
At the same time, EPAs NOX SIP Call requires upwind
states to develop control strategies to reduce their sig-
nificant contribution to nonattainment in downwind
states. Based on the success of the NOX Budget
Program and the Acid Rain Program, EPA has devel-
oped under the NOX SIP Call a regional NOX cap and
trade program. EPA designed the SIP Call trading pro-
gram structure and procedures to resemble closely the
OTC NOX Budget Program and gave the SIP Call states
the option to be part of the trading program to take
advantage of the cost savings of achieving emissions reductions through trading.
The OTC states are poised to begin implementing the SIP Call (in place of Phase
III of the OTC program) on May 1, 2003. Other states in the expanded region
that are contributing to regional transport of ozone also have chosen to join the
program. These states will initiate monitoring in 2003 and require compliance
with their respective budgets beginning in May 2004 (see Figure 13). In addition,
OTC states plan to achieve additional NOX reductions by requiring controls on
stationary sources other than budget sources, by promoting energy efficiency,
and through state programs for multi-pollutant reductions. EPA anticipates that
implementation of the NOX SIP Call, along with additional ozone attainment
efforts by the OTC and other SIP Call states, will lead to improved ambient
ozone levels across the entire region.
OTC and SIP Call Trading Programs
D OTC Trading States
D Additional SIP Call States
[or Partial States]
Figure 13
Beginning in May 2004, the NOX SIP Call trading
program will extend the NOX Budget Program cap
and trade program concept to additional states in
the eastern United States.
Source: EPA.
13
-------
Market Activity, Banking,
and Compliance Cost$« 4
A Healthy Allowance Market Has Emerged
Allowance transfer activity can involve three main compo-
nents: transfers from or to the state as part of allocating
or surrendering allowances; transfers within a company or
between related entities (holding company transfers to a
small operating subsidiary, for example); and transfers
between separate economic entities. The latter category of
transfers are categorized broadly as "economically signifi-
cant trades."
Volume of Economically Significant
Trades (1998-2002)
Economically significant trades represent about half of the total
trades so fan These transactions provide the strongest indica-
tor of true market activity because they represent an actual
exchange of assets between unaffiliated participants. The vol-
ume of economically significant trades generally has been
increasing from year to yean which indicates a maturing mar-
ket (see Figure 14). These trades include only Phase II
allowances (vintage years 1999-2002), and the trading volume
remained high even in 2002, the final year of Phase II.
Volume of Allowances Traded
ro ^ en co CD ro
o o o o o o
CD CD CD CD CD CD
CD o O O O O O
1998 1999 3000 3001
[13 weeks)
Year
3003
Figure 14
Trading volume of Phase II allowances (vintage
years 1999-2002] between separate economic
entities generally increased during Phase II of the
OTC NOX Program.
Source: EPA.
Industrial sources, although representing a smaller portion of the affected sources
than electric generating units, have been active in allowance trading, with transfers to
and from electric generating units, brokers, and other market participants.
OTC Allowance Prices Stabilized Well Below
Initial Expectations
Another indicator of a maturing market is pricing activity. An analysis of market prices
from the program's inception indicates that the early trading prices for NOX allowance
credits for vintage 1999 allowances ranged from $1,500 to $3,000. Then, just prior
to the beginning of the 1999 ozone season, prices for vintage 1999 allowances spiked
at over $7,000 per ton because of initial fears that there would be a shortage of
allowances. By the end of 1999, prices for both vintage 1999 and 2000 allowances
had fallen to less than $1,000 per ton as fears of a shortage were allayed. From April
1999 through December 2002, the price for vintage 1999, 2000, 2001, and 2002
allowances generally converged to a level of less than $750 per ton (see Figure 15).
14
-------
$7,000
$4,000
$1,000
$o
Market Participants Have
Created a Bank of Allowances
Finally, another sign of a maturing market is the devel-
opment of an allowance bank to provide a pool of
allowances available to address unexpected events or
smooth the transition into deeper reductions. The NOX
allowance bank has increased steadily over the first
four years of the NOX Budget Program.
The ability to bank allowances also encourages early
reductions below budget levels, which provides an envi-
ronmental benefit as well. In fact, as the OTC states
make the transition
to a broader trad-
ing program under
EPA's N0y SIP Call
A
in 2003, only a portion of the banked
allowances are being carried forward to
future years, so the benefit of the early
reductions will be permanent. As part of the
NOX SIP Call, EPA made available a pool of
allowances that states could use to reward
early reductions (or to allow for delayed
implementation if sources faced hardship in meeting the initial compliance dead-
line). Most of the OTC states have established a process to provide SIP Call
allowances from this "compliance supplement pool" in exchange for banked OTC
allowances held by units in the applicable states. The total compliance supple-
ment pool for all of the OTC states is less than 25,000 allowances, while there
are over 90,000 NOX Budget Program banked allowances (based on preliminary
2002 data). Because the total allowances in the OTC states' share of the com-
pliance supplement pool is far less than the total banked allowances, many of
the early reductions that those banked OTC allowances represent will be perma-
nent upon transition to the NOX SIP Call.
The use of banked allowances, however, could allow emissions to exceed the
emissions budget in a particular year. To address this potential concern, the OTC
NOX Budget Program has allowance deduction provisions (referred to as "flow
control") that provide sources a financial incentive to avoid using a high volume of
banked allowances for compliance in a single ozone season. Flow control applies if
the bank holds allowances equal to more than 10 percent of the total budget. If
an owner uses banked allowances for compliance when flow control applies, only
a portion of the source's banked allowances can be surrendered on the custom-
ary 1:1 basis (one allowance for each ton of emissions). If additional banked
Nominal OTC NOX Allowance Prices
1999 Vintage
2001 Vintage
• 2000 Vintage
2002 Vintage
Growth in Banked
Allowances
1999: 43,585
2000: 60,589
2001: 78,746
2002: 91,000
[Note: 2002 figure is approxima-
tion based on preliminary data.]
Figure 15
After an initial price spike, allowance prices have
dropped well below expectations.
Source: Natsource LLC and Cantor Environmental Brokerage.
15
-------
allowances must be withdrawn for compliance, the allowances are
used on a 2:1 basis (two banked allowances for each ton of emis-
sions). The portion of banked allowances subject to the 2:1
requirement is set for each ozone season based on the amount by
which the total bank exceeds the 10 percent threshold.
Because of the size of the allowance bank, the flow control provi-
sions have been in effect since 2000, and emissions in the first
four compliance seasons have not exceeded budget levels. These
results indicate that flow control may help to avoid exceedances of
the NOX budgets. Because the NOX SIP Call trading program has
similar flow control provisions, EPA and the OTC states will be able
to continue monitoring the effects of this incentive mechanism.
111!
•IE c
The Program Has Been Highly Cost-Effective
Cost-effectiveness is a common measure for comparing the costs of reducing a
ton of emissions under different regulatory programs. For NOX, since 1990, EPA
has used $2,000 per ton of reduction ($2,600 in 2000 dollars) as an upper
limit for evaluating highly cost-effective NOX control strategies. While it is difficult
to determine the actual cost of Phase II of the OTC NOX Program, there are indi-
cations that costs are significantly below EPAs highly cost-effective cut-off of
$2,600 per ton.
Before the OTC NOX Budget Program, a study conducted for EPA (Estimated
Effects of Alternative NOX Cap and Trading Schemes in the Northeast Ozone
Transport Region, September 1995) projected that the compliance costs for
Phase II of the OTC NOX Program (i.e., from 1999-2002) would result in an
approximately $60 million total annualized cost, approximately $38 million for
add-on control equipment and $22 million for operating costs (all figures have
been updated to year 2000 dollars based on the Producer Price Index). This
study projected that the average cost per ton of NOX reduction would be approx-
imately $1,200 per ton.
The 1995 EPA study acknowledged that it probably underestimated projected
costs for several reasons. The study excluded industrial units and did not model
electric generating units in parts of western Pennsylvania and certain other
areas within the OTC. The study also did not address the impact of keeping
emissions from new units within the budget — the study indicated these costs
would add approximately $10 million to the annual cost projections. Notably, the
study showed that the compliance costs under the trading program would be
far lower than a "no trading "scenario, where total annual costs of installing add-
on control equipment were projected to be over $130 million (2000 dollars).
16
-------
In calculating the actual costs of the NOX Budget Program, it is difficult to sepa-
rate totally the actions sources may have taken as they anticipated and planned
for future needed NOX reductions (under Phase III of the OTC NOX Program or
under the NOX SIP Call program). The costs of installation of control equipment,
while expected to be similar to EPA's 1995 projections, cannot be considered
representative of the true cost of the OTC Phase II NOX Program because these
costs were, at least partly, incurred in response to more stringent future
requirements.
Another indicator of the cost of the program is the price of allowances. Since a
source can choose to buy allowances instead of reducing NOX emissions, the
price of an allowance should indicate the highest cost (the marginal cost) that a
source would have to pay to reduce an additional ton of NOX. Once the OTC NOX
Budget Program established itself by the end of 1999, allowance prices have
ranged between $600 and $1,700 per ton and have generally been less than
$1,000 per ton. Assuming these allowance prices represent the marginal cost
of the program, the average cost of a ton of NOX reduction under the program
would appear to be lower. Given that allowance prices for the program after
1999 have been well under $2,600 per ton, it appears that, once the OTC NOX
Budget Program was established, it was highly cost-effective and was certainly
less costly than a "no trading" program would have been.
There are several additional factors that may have helped keep the cost of NOX
reductions under the NOX Budget Program lower than projected. There was an
unforeseen increased use of nuclear power in the region, which decreased the
need for reliance on fossil generation. In addition, the combustion modifications
that had been installed under the PACT requirements appear to have been opti-
mized for greater effectiveness, resulting in additional NOX reductions.
17
-------
The OTC was formed to address the regionwide problem of ozone nonattainment in the
Northeast and Mid-Atlantic states, and the NOX Budget Program is one of the states'
key initiatives in this regional effort. The state/federal partnership has ensured a high
quality interstate emissions trading program with consistent monitoring and reporting
requirements. A viable trading market has emerged, and sources have achieved a high
rate of compliance. In addition, the program has successfully reduced NOX emissions
from budget sources throughout the region, while ozone conditions have not deteriorat-
ed since 1990, despite increases in NOX emissions from mobile sources and continued
transport of pollutants into the region from states downwind of the OTC states.
However; ambient ozone conditions remain a serious problem in the region, and further
emission reduction efforts both within and upwind of the OTC region will be necessary to
achieve the ozone standard. The OTC states will achieve further reductions through a
reduced emissions budget for the affected sources beginning in 2003, and they have
been developing regional NOX emission reduction programs for additional sources. In addi-
tion, the success of the OTC NOX Budget Program in achieving NOX reductions has laid the
groundwork for a significant reduction in emissions throughout the eastern United States
through a broader trading program. State and local programs as well as EPA mobile
source programs also will be essential to the overall ozone attainment strategy.
EPA projections indicate that these combined efforts to reduce NOX emissions will con-
tribute to improved ambient ozone conditions. In particular; EPA's benefits assessment for
the NOX SIP Call predicts significant public health benefits as a result of full implementation
of regional NOX reductions. Broad NOX emission reductions also will aid efforts to reduce
exposure to particulate matter; reduce nitrogen deposition, and improve visibility.
While EPA and the states will have to monitor the long-term air quality trends to ensure
that these environmental goals are met, the NOX Budget Program has been an important
step in efforts to reduce ambient ozone levels and achieve these other environmental
goals. Moreover; the ability of the OTC states to achieve NOX reductions in the context of a
firm, declining emissions cap across multiple industrial sectors, on schedule, cost-effective-
ly, and without significant geographic disparities, provides further support for the use of
cap and trade emission reduction programs to address regional air pollution problems.
18
-------
For Further Information
There are a number of information sources relevant to the OTC NOX Budget Program and the
issues discussed in this report, including the following:
General Background Information on the OTC
NOx Budget Program. See www.epa.gov/
airmarkets/otc for access to OTC compliance
reports, an overview of the program, and access
to emissions and allowance data. See www.sso.
org/otc for the OTC's main Web site, including
access to program documents, formal actions
such as OTC Memoranda of Understanding, and
links to the Web sites of the individual states.
1990 OTC NOx Baseline Emission Inventory,
July 1995 (EPA-454/R-95-013). This report
provides a detailed explanation and listing of the
data used to identify the baseline emissions for
the OTC NOX Budget Program.
Emissions Data. EPA receives quarterly reports
with NOX mass emissions data for sources sub-
ject to the NOX Budget Program. These data
are used in a variety of the findings in this
report. At this time, EPA is still finalizing 2002
data as part of completing allowance true-up
activities for 2002 compliance, and thus the
2002 data in this report are considered prelim-
inary. To access the emissions data, see
www.epa.gov/airmarkets/emissions/
prelimotc/index.html. You can also conduct
queries on emissions data for these units at
cfpub.epa.gov/gdm.
Allowance Data. EPA also maintains the OTC
allowance data in the NOX Allowance Tracking
System [NATS]. To access NOX allowance data,
see www.epa.gov/airmarkets/tracking.
Ambient Ozone Data. Various data sources are
available to identify ambient ozone results and
trends. This report relies on Air Quality System
[AQS] data [see AQS Summary Data Tables at
www.epa.gov/aqspubl1/select.html] and data
from U.S. EPA's Clean Air Status and Trends
Network [CASTNet] at www.epa.gov/castnet.
Control Cost Information. For information on
what assumptions EPA uses to assess the
costs of various control technologies in model-
ing control strategies for electric generating
units, see Documentation of EPA Modeling
Applications [V.2.1] Using the Integrated
Planning Model, March 2002 [EPA 430/R-02-
004]. The 1995 study of potential compliance
cost impacts for the OTC NOX Budget Program
used an earlier version of the same modeling
application [see Estimated Effects of Alternative
Cap and Trading Schemes in the Northeast
Ozone Transport Region, ICF Resources,
September 1995].
Electric Generation Data. An analysis of shifts in
electric generation requires access to generation
data. EPA's Emissions and Generation Resource
Integrated Database [E-GRID] is one source of
data [see www.epa.gov/airmarkets/egrid].
E-GRID combines data from EPA and Energy
Information Administration [EIA] databases. You
may also want to review EIA reports and data-
bases [see www.eia.doe.gov]. This report used
data from the EIA 759, 826, and 906
Electricity Databases, as well as EIA Electric
Power Monthly Reports.
19
-------
Office of Air and Radiation Ozone Transport Commission
Clean Air Market Programs 444 North Capifol St., NW
EPA-430-R-03-900 Suite 638
1200 Pennsylvania Ave, NW Washington, DC 20001
(6204N) Phone: (202) 508-3840
Washington, DC 20460 Fax: (202) 508-3841
www.epa.gov/airmarkets E-mail: ozone@sso.org
March 2003 Web site: www.sso.org/otc
------- |