Varun Sivaram

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Budget Deal Oil-for-Renewables Trade Would Substantially Reduce Carbon Emissions

by Varun Sivaram and Michael Levi
December 18, 2015

Solar panels on top of a housing complex in National City, California (Reuters/Mike Blake) Solar panels on top of a housing complex in National City, California (Reuters/Mike Blake)

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This post is coauthored by Varun Sivaram and Michael Levi.

Congress is set to vote on a budget deal that would permanently end the long-standing ban on crude oil exports in exchange for temporary extensions of tax credits that support solar and wind energy. Michael wrote on Tuesday about the market, climate, and geopolitical impact of lifting the oil export ban. In this post we’re going to estimate the climate impact of the renewables tax credit extensions. We focus on 2016-2020 for three reasons: (a) it’s the period for which we have the best data; (b) beyond 2020, complex interactions with the Clean Power Plan make things much tougher to model; and (c) most important, beyond 2020, the primary effect of the ITC/PTC extension should be to make reducing emissions cheaper, and thus enable stronger policy, something that can’t be quantitatively modeled.

Our bottom line: Extension of the tax credits will do far more to reduce carbon dioxide emissions over the next five years than lifting the export ban will do to increase them. While this post offers no judgement of the budget deal as a whole, the deal, if passed, looks like a win for climate.

What the Budget Deal Includes

The tax credit extensions would be a big deal for the renewable energy industry.
The solar investment tax credit (ITC) is especially lucrative—new solar installations that begin operating before 2020 will continue to receive a tax credit equal to 30 percent of their system cost. The ITC steps down to 10 percent by the end of 2021, but projects that commence construction in 2020 and 2021 are still eligible for 26 and 22 percent tax credits, respectively. Given that solar industry leaders like SolarCity and First Solar have tailored their business models to withstand the impending ITC cliff (without this deal, the ITC would plunge down to 10 percent for any project completed after 2016), the six-year extension/phasedown is an unexpected Christmas present.

The revival of the currently expired PTC is also a welcome development for the wind industry. The PTC—which compensates wind generators for ten years after they begin operating for the power they produce—would return to its full value of 2.3 cents per kilowatt-hour (kWh) for any project under construction by the end of 2016. The proposed budget bill articulates a five-year phase-out (1.84 cents/kWh for projects commencing construction in 2017, 1.38 cents/kWh in 2018, 0.92 cents/kWh in 2019, and nothing thereafter) that gives the industry visibility into the future. This is important because over the last decade, the wind industry has been plagued by boom and bust cycles driven by uncertainty over the future of the PTC. Even though the PTC would phase out faster than the ITC, then, the wind industry arguably needs policy stability as much as policy support. That should make the PTC deal a welcome development for the wind industry.

Impact of the Budget Deal on Wind and Solar Deployment

The first step toward estimating climate benefits is to project the effect of the new tax credit policies on renewable energy adoption.

GTM Research published a helpful research note projecting solar adoption through 2020 with and without the proposed ITC extension. The contrast is stark—whereas installed solar capacity was set to peak in 2016 and then plunge over a cliff as the ITC expired, under the budget proposal there is a smaller pause in solar deployment in 2017 as the glut of projects in the current pipeline get built. From 2017 onward, all three industry segments—residential, commercial, and utility-scale solar—grow faster than without the ITC extension. This leads to around 25 gigawatts (GW) of additional capacity under the budget proposal by 2020.

To estimate the impact of the PTC extension, we used analysis released this week by Bloomberg New Energy Finance comparing wind deployment under the proposed PTC phase-out to deployment without any PTC support at all for the next five years. Again, there is a stark contrast between the two projections. Without the extension, wind deployment is projected to peak in 2016, as developers rush to take advantage of the Internal Revenue Service’s determination that projects operational before 2017 will be eligible for the full 2.3 cent/kWh PTC that expired in 2014. Now, under the budget proposal, the steep cliff in capacity coming online in 2017 is replaced by a gentle hill and then a flurry of new construction to take advantage of the PTC extension. By 2020, around 19 GW of incremental wind capacity is projected to come online because of the budget proposal.

The resulting projections are displayed in Figure 1. The two panels at left show the cumulative installed capacity of solar and wind in a world without tax credits and under the budget proposal. The middle panel plots the annual capacity that is incremental to the budget proposal—that is, all new solar and wind excluding projects that would be built anyway without the budget proposal. The rightmost panel shows the cumulative capacity additions due to the new policy.

Two trends are important to note. Both incremental solar and wind deployment are actually negative in 2016, reflecting the forecast that under an extended ITC and PTC, there would no longer be a mad rush to build projects before a 2016 cliff. However, solar and wind deployment trends diverge in later years. Through 2020 incremental solar construction accelerates as solar becomes cheaper while the tax credit remains at 30 percent. But incremental wind deployment peaks in 2017–2018, because developers that begin construction on projects in 2016 will be eligible for the full value of the PTC (even if the projects are only operational in subsequent years). Then as the PTC phases out to zero in 2020, additional wind capacity spurred by the budget deal will decline, so by 2020 the additions under the budget proposal are roughly similar to the additions without any tax credit extensions.

Emissions Impact

We can use these projections of incremental capacity additions to estimate the climate benefits of the new renewable energy. We conservatively focus on the 2016–2020 period before Clean Power Plan incentives kick in fully; this means that we’re going to underestimate the climate benefits of the ITC/PTC extension.

Figure 2 details the assumptions in this calculation. First, we assume that new solar and wind will on average displace a mix of fossil-fuels—coal and natural gas—as well as nuclear power in some cases. (All other sources have zero marginal cost and therefore won’t be displaced.) Nuclear power will be displaced in big chunks (if it is displaced at all), corresponding to retirements of entire plants, because as a baseload, low marginal cost resource, nuclear plants either run at near-full capacity or not at all (and some argue that zero-marginal cost renewable energy like wind and solar can make a nuclear plant’s operation unprofitable enough that it may have to shut down). To be safe, we investigated a range of values of the carbon intensity—or the emissions per unit power—of the electricity sources that solar and wind displace. At the low end, we considered the emissions intensity of a mix of nuclear, coal, and gas, weighted by their generation. And at the high end, we assumed that no nuclear reactors close because of renewable energy and instead stipulated that renewable energy displaces a mix of coal and natural gas, again weighted by generation.

Second, we assume that since the solar and wind plants that will be incentivized by the tax credit extensions will be new projects, they will have high capacity factors—that is, they will be relatively efficient at generating power compared with older counterparts. New utility-scale solar plants now boast capacity factors of 30 percent. New residential solar installations deliver half that. New wind plants perform at a capacity factor of around 37 percent.

Third, to be conservative, we consider an effect of up to 10 percent additional emissions from integrating renewable energy into the grid. Because renewable energy is intermittent—that is, solar and wind only produce when the sun shines and the wind blows—the rest of the power plant fleet must compensate for this added unpredictability. This leads to natural gas plants changing their power output rapidly, which reduces their efficiency and requires them to emit more CO2 per unit of generated electricity. Moreover, more power plants may have to be kept running on standby as “reserve margin” to compensate for any unanticipated shortage of renewable energy.

Our final assumption deals with an early compliance mechanism for the Clean Power Plan, the Clean Energy Incentive Program, which kicks in from 2020 onward. Under the proposed program, which has not yet been finalized, states can claim credits for renewable energy projects commencing construction after September 2018, and they can use these credits to avoid equivalent emissions cuts from 2022 onward when the Clean Power Plan takes full effect. This suggests that any savings in emissions from renewable energy that gets built thanks to the tax credit extensions may result in a future emissions increase because states will have additional emissions headroom to comply with the Clean Power Plan. Because this early compliance mechanism has yet to be finalized, we excluded the effect of future offsetting emissions from our central 2020 estimate of CO2 reductions; we do, however, include it in assessing the full range of possible impacts.

To express the sensitivity of our central emissions estimates to the assumptions outlined above, we have added uncertainty ranges to the bars in in Figure 2 to indicate uncertainty. The pronounced uncertainty range in 2020 reflects the open question of whether emissions saved by renewable energy will be offset by future Clean Power Plan compliance headroom.

The take-home point from this figure is that the emissions reductions from solar and wind energy through 2020 is substantial, reaching as much as 90 million metric tons of avoided CO2 per year in 2020. The average annual emissions reduction over the 2016-2020 period is 25-46 million metric tons with a most likely value around 40 million metric tons. For reference, the Obama administration’s Clean Power Plan is projected to reduce CO2 emissions by about six times that level, or 240 million metric tons per year, in 2025.

Putting It All Together: Renewable Energy Climate Impact Overwhelms That of Oil Exports

In contrast to the considerable emissions savings from renewable energy, the climate impact of lifting the crude oil export ban is likely to be small. A previous post estimated the average annual emissions impact of lifting the oil export ban as around 10 million metric tons of CO2 per year over 2016-2025 (with a possible range of 0–20). Over the time period we have examined in this post, 2016–2020, the same methodology yields an estimate of 2 million metric tons of CO2 annually (with a possible range of 0–5).

Figure 3 extends the previous figure by adding the range of positive emissions from crude oil exports to the emissions savings from new renewable energy incentivized by the budget deal.  The diamonds represent the central estimates of the net emissions impact of oil exports and new renewable energy, and the dotted bars represent the uncertainty range of how much oil exports could increase emissions.

wind-solar-combined-1218

The net impact of the exports-for-renewables-credits trade, then, is to reduce carbon dioxide emissions by at least 20-40 million metric tons annual over the 2016-2020 period. The most likely emissions reduction in our estimate is around 35 million metric tons. The climate benefit of the tax credit extension is over a factor of ten larger than the climate cost of removing the oil export ban over this period.

What About the Longer Run?

This of course does not answer the question of what will happen over the longer run. The impact of lifting the oil export ban will persist while the ITC/PTC will be phased out.

One could, in principle, extend the analysis above through 2025. (A very simple extension of the central estimates through 2025, assuming no emissions savings from the PTC/ITC after 2020, leaves one with an ITC/PTC impact considerably outweighing that of oil exports.) This would, however, be misleading. Extension of the PTC/ITC should drive down zero-carbon energy costs and reduce business as usual emissions beyond 2020. Both factors should enable stronger rules under the Clean Power Plan (or other policies that are additional to the plan). This is part of the potential payoff of an ITC/PTC extension. This can’t, of course, be modeled quantitatively. But it is the right way to think about the longer run impact of the budget deal.

Post a Comment 8 Comments

  • Posted by Rod Adams

    Michael:

    Interesting analysis. Did you compute the cost per ton of CO2 avoided?

    I think I understand your assumption about the mix of generating sources displaced, but I wonder if your “low end” assumption includes the full range of potential nuclear plant shutdowns in a low market price environment.

    I’d guess that you did not take into account the effect of a large quantity of heavily favored wind and solar electricity on the market price of natural gas and coal fuel.

    Low fossil fuel prices suppress wholesale electricity prices. They further disadvantages nuclear generators, whose main economic argument is low fuel costs.

    Finally, I’d assume that your emissions calculations neglected to consider that low wholesale prices discourage investments in new nuclear projects. If there are no new projects started soon, the supply chains established for Vogle and Summer will go out of business. Recovery will be exceedingly difficult.

    The market distortions of giving money to politically favored electricity sources is long overdue for a halt. These late December deus ex machina deals indicate a system that would be more expected in a third world nation government by something other than the rule of law and a system of equal protection under that law.

    Rod Adams
    Publisher, Atomic Insights

  • Posted by Tyler P. Harwell

    I keep coming back to this point. Ending the Ethanol program will reduce carbon emissions.

    This looks like a great analysis. Why don’t you guys try answering that question for yourselves.

  • Posted by Alex Gilbert

    Great analysis guys and kudos for getting it out so quickly. Two quick points.

    First, the point that you make at the end of the article deserves to really be highlighted – these renewed tax incentives could help drive further cost reductions for wind and solar than might occur otherwise. Essentially, both industries will be much more developed and have lower costs in five years with this deal than in five years if the ITC/PTC expire. Tax credits not only make projects that use them cheaper but they could make future projects easier just by developing the industry.

    Second, and in partial response to Rod Adams comments, the impacts on nuclear are critical but really hard to grasp. The merit-order effect (where renewable energy displaces resources with higher marginal costs) is certainly a long term financial challenge for nuclear and for electricity markets in general.

    However, the actual effects of most new renewable energy on nuclear economics in the short term are probably quite limited. Very low natural gas prices are the primary reason that wholesale electricity prices have been so low and that forwards prices are similarly so low. The effects of new RE in the short term on coal and natural gas prices are vastly outweighed by the effects of low natural gas extraction costs.

  • Posted by Jeff

    Seems like a moot point. All the global carbon reductions combined through 2100 is forecast to make all of 5 to 15 hundredths difference in global temperature. This according to the climate models and peer-reviewed journal articles.

    We need a real world solution, not token policies like this and COP21 that make us feel good but do nothing measurable for the climate.

  • Posted by Steve Darden

    Good analysis gentlemen. Two suggested extensions to your work:

    1. How much existing nuclear capacity is likely to be prematurely closed due to the subsidized cheap wind/solar?

    2. How much new nuclear is likely to be built if this deal was technology neutral?

    3. What is the total avoidance cost per ton CO2 for each favored renewable?

  • Posted by Steve Darden

    Good analysis gentlemen. Three suggested extensions to your work:

    1. How much existing nuclear capacity is likely to be prematurely closed due to the subsidized cheap wind/solar?

    2. How much new nuclear is likely to be built if this deal was technology neutral, treating zero-carbon nuclear generation equally?

    3. What is the total avoidance cost per ton CO2 for the favored renewables?

  • Posted by Bruce Eggum

    Granite rocks could be heated by Solar, water heated from rocks could provide Energy.

  • Posted by Tom Bennet

    My comments are intended as a broader perspective to the relevance of C02 emissions saved by renewables or increased due to oil export.

    First, as recent news coverage of the ongoing Indonesian fires alarmingly depicts, the catastrophe of those fires burning both forest as well as peat bogs, is that the C02 emitted ill be more than that caused by the entire united states economy this year. The mention above of saving several million metric tons of C02 emission annually is applaudable but nonetheless laughable in the face of 1.5 billion metric tons of CO2 emitted by the fires. Not to mention the related methane emission which is 20x more powerful as a greenhouse gas. Given the idiotic reasons for those fires – intentional land clearing to make room for palm oil groves – we can play around with renewables all we want while CO2 pours into the atmosphere .

    Second, what is the reason nuclear power gets tossed aside as a CO2 avoidance mechanism. How do we address the compact footprint of a nuclear power plant compared to covering the planet with solar panels and wind towers. There has to be some more balanced/neutral reasoning applied.

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