Restructuring and the Cost of Reducing NOx Emissions in Electricity Generation

Abstract

The U.S. electric power sector is in the midst of two major regulatory changes. One is the change from cost-of-service regulation to competition as a means of disciplining electricity prices, often referred to as “electricity restructuring.” The other is the apparently increasing scope and stringency of environmental regulation; proposed tighter restrictions on nitrogen oxide (NOx) emissions from existing generators are one recent example. We look at the effects of restructuring on three issues: (a) economic surplus and environmental quality, (b) the cost of NOx control policies and who bears the costs, and (c) the cost-effectiveness of a seasonal and an annual NOx cap in the SIP Call region. We find that without the NOx cap, nationwide restructuring leads to higher NOx and carbon emissions from the electricity sector. Adding either a seasonal or an annual NOx cap-and-trade regime in the eastern United States mitigates the increase in NOx emissions but has a much smaller effect on carbon emissions. The out-of-pocket compliance cost associated with achieving a seasonal or an annual NOx cap is moderately higher with nationwide restructuring than without, but the changes in economic surplus are significantly higher. For a seasonal policy, most of the costs are borne by electricity consumers. For an annual policy, most of the incremental costs beyond those with seasonal controls are borne by producers. However, the economic benefits of nationwide restructuring more than offset the higher costs of controlling NOx emissions in a more competitive environment. The foregone economic surplus is compared with the benefits resulting from NOx emission reductions using an integrated assessment model of atmospheric transport and valuation of human health effects. We find an annual policy dominates a seasonal policy from a cost effectiveness perspective under limited restructuring, and even more strongly under nationwide restructuring.