Zero Emissions Credits: An Overview

2016 brought the potential for a financial boon in the form of zero emissions credits (ZEC) to a fraction of the nation’s struggling nuclear fleet. Since their creation, ZECs have excited some, frustrated others, and confounded many.

What exactly is a ZEC?

Designed to compensate certain nuclear power units for production of zero carbon electricity, ZECs provide a subsidy to supplement nuclear plant energy market revenues. The value of the ZEC is quantified based on the social cost of carbon and energy market prices, and it will vary: as market prices decrease, the ZEC value increases, and vice versa.

The nation’s first ZEC programs began in New York and Illinois and require load-serving entities (e.g. electric utilities) to purchase ZECs from specified, in-state nuclear facilities (note: only certain nuclear units in New York and Illinois qualify). In both cases, electricity ratepayers pay the cost of the subsidy.

Ohio, Pennsylvania, New Jersey, and Connecticut are considering similar strategies to support their own economically troubled reactors.

Are ZECs legal?

Despite states’ growing interest in maintaining existing nuclear plants and the potential to use ZECs as a policy tool to reduce carbon, opponents highlight the potential illegality of ZECs and ability for nuclear subsidies to distort wholesale energy markets by suppressing capacity prices.  

On questions of legality, a long battle is expected.  Within months after adoption, merchant generators and trade groups filed lawsuits alleging that New York and Illinois ZECs infringe upon federal energy market regulation and are in violation of the interstate dormant Commerce Clause. Under the Federal Power Act (FPA) the Federal Energy Regulatory Commission (FERC) is granted exclusive jurisdiction over wholesale energy markets – FERC alone is permitted to regulate wholesale sales of electricity and transmission in interstate commerce including authorizing “just and reasonable” market-based rates. The dormant Commerce Clause prohibits states from passing legislation which discriminates against interstate commerce.

Plaintiffs, led by the Electric Power Supply Association (EPSA), argued that ZECs preempt the FPA because they are “tethered” to wholesale auctions; and, that ZECs violate the dormant Commerce Clause because they are only offered to a limited number of in-state nuclear facilities, disadvantaging out-of-state nuclear plants.

The argument was founded in last year’s Hughes v. Talen Energy Marketing ruling, in which the U.S. Supreme Court struck down a Maryland program intended to subsidize construction of new natural gas fired capacity. The Court found the program “impermissibly [intruded] upon” FERC’s domain because of its specific structure: it promised subsidies based on contracts for differences, where generators were guaranteed a specific price for auction participation and that payment (subsidy) would scale in response to wholesale market prices. It is because of this direct dependence on wholesale market pricing that the Maryland program was deemed intrusive.

On the other hand, the defendants highlight the same court’s opinion, “Maryland’s program is rejected only because it [intrudes on FERC’s authority]. Neither Maryland nor other States are foreclosed from encouraging the production of new or clean generation through measures that do not condition payment of funds on capacity clearing the auction” (emphasis added).

A narrow ruling

The court’s narrow Hughes decision permitted and parameterized state energy policies, encouraging ZEC advocates. Recognizing this, and FERC’s limitation under the FPA, which extends FERC jurisdiction only “to those matters which are not subject to regulation by the States” [Section 201(a)], states sought to craft ZECs as fundamentally separate products from energy or capacity – and succeeded.

The presiding judge in each case agreed that ZECs are sufficiently structured as independent from energy and capacity products because the ability to receive a ZEC is untethered from wholesale market participation and thus do not encroach on FERC authority.

On the charge of dormant Commerce Clause breach, the judges found the plaintiffs’ argument failed to show how out-of-state nuclear plants were suffering from ZEC implementation and that coal and gas-fired generators’ interests are not protected under the Clause as non-nuclear entities. The judges delivered a pair of July dismissals. A coalition of independent power producers promptly filed an appeal in the Illinois Seventh Circuit and, just last week, in the New York Second Circuit.

The future of ZEC appeals

A recent legal analysis posited that, in addition to resolving ZEC legality, the appeals may pose a question with far greater implications for the energy industry: “whether anyone other than FERC can ask a federal court to declare that state programs affecting wholesale energy markets are preempted.” Per the rulings, courts view FERC as the sole power capable of challenging states over FPA violations. “If affirmed, the…holding would bar the courthouse doors to private parties seeking to overturn state action on preemption grounds.”  

What began as a challenge to ZECs could likely prove the first skirmish in a lengthy battle, one that may reach its final resolve in the Supreme Court.

Rachel Valletta

Doctoral Student
Rachel Valletta is a lecturer in the Department of Earth and Environmental Science at the University of Pennsylvania, where she also earned her Ph.D.