Electricity, Renewables, and Climate Change: Searching for a Cost-Effective Policy

The electricity sector is a major source of carbon dioxide emissions that contribute to global climate change. Switching a substantial portion of U.S. electricity generating capacity away from fossil fuels to renewable energy technologies could have a significant effect in reducing greenhouse gases. However, renewable technologies--such as geothermal, biomass, and wind--now account for only 2% of electrical power in the United States due to their high cost.

In a new report, Electricity, Renewables, and Climate Change: Searching for a Cost-Effective Policy, RFF Senior Fellows Karen Palmer and Dallas Burtraw examine the effects of policy options designed to give renewables a larger chunk of the electricity market.

The authors analyze several approaches now in use or being considered, looking at the effects of these policies on costs, utility investment decisions, the mix of technologies used to generate electricity, and on renewable generation by region.

The approaches they investigate are:

  • Renewable Portfolio Standard (RPS), a requirement that a minimum percentage of the electricity produced must come from renewable sources. Several states, including Connecticut, Maine, Nevada, Massachusetts, New Jersey, and Pennsylvania have adopted RPS requirements. The authors consider a tradable permit approach to achieving these standards.
  • Renewable Energy Production Credit (REPC), a policy utilizing tax credits to encourage generating electricity with renewables.
  • Carbon cap-and-trade with targeted allowance distribution, a policy that allocates emission allowances to electricity generators, including renewables, based on how much they generate.

The report finds that the REPC is very effective at promoting renewables use, but it is also more costly than the RPS and results in smaller reductions in emissions of carbon dioxide. The research suggests a RPS approach is preferable to a tax credit. An RPS target of between 5% and 15% by 2020 has a relatively low social cost and small effect on national average electricity prices, but increasing the minimum percentage of renewable energy in the overall mix to more than 15% becomes very costly.

The authors find that the RPS tends to suppress natural gas generation to a greater extent than coal generation, which limits the potential of the RPS to reduce emissions of carbon dioxide. A carbon cap-and-trade policy that allocates allowances to all generators except nuclear and hydro generators is the most cost-effective of all three policies at reducing emissions of carbon dioxide. The authors also find that the way that emission allowances are allocated is very important to the cost effectiveness of the policy.

In their conclusion to the report, the authors note: ?The results suggest that the appropriate policy depends upon the objective. If one has a narrowly defined goal of trying to promote renewables, an RPS may be the most cost-effective approach, holding carbon emissions constant. If one is trying to achieve climate policy goals, a carbon-focused policy is preferred. Indeed, the authors suggest there may be merits to combining these approaches.