How Trump's Policies Could Affect the Power Sector

Researchers Study Exiting of Clean Power Plan & Paris Accord

During its successful presidential campaign, the Trump Administration derived much of its support from (and perhaps owes its victory to) blue collar, rust belt residents.

These individuals feel they have been left behind not just by the changes in the economy, but by the ongoing transformation of the energy sector in the United States, which has left coal-fired generation (and related extraction industries) in the figurative dust.

And while most of the changes in the space are, in the opinion of S&P Global Ratings, the result of shifting economics and increased automation, not adverse regulation, promises made by the Trump campaign were compelling and then-candidate Trump was viewed by some as offering a potential energy renaissance that would cut across sectors and make the rust belt great again.

In March, President Trump announced that the Clean Power Plan (CPP) would, over time, be repealed - and, unlike its healthcare brethren, not replaced. Certainly, equipped with a like-minded cabinet, a head of the EPA who was openly hostile to the agency in his prior role, and a Republican Congress, the President has considerable latitude in pursuing any sort of energy and environmental agenda desired; indeed the first two bills of substance that crossed his desk were on environmental rules.

But how many of these lofty campaign promises will become bona fide economic outcomes, and what does it mean for various unregulated power sector participants? While that depends on which part of the industry we're discussing, the consequences could be considerable, and these were hammered home more recently by the June 1 announcement that the United States would leave the Paris climate agreement by 2020.

"From Paris to West Virginia," Exiting the CPP Would Set the U.S. on a New Path Regarding Climate Change

The CPP was expected to have been the signature environmental achievement of the Obama Administration, but, for the last year or so, it had been tied up in litigation after a surprise Supreme Court decision to stay the implementation of the rule. This decision cast doubt on the future, or at least the start date, of the rule, but the subsequent imbroglio over selecting the replacement for Justice Antonin Scalia (who passed away shortly after the ruling), the election of President Trump and subsequent elevation of Neil Gorsuch to the Supreme Court, is likely to become the death knell for the CPP.

While the CPP would have capitalized on trends already afoot due to market factors and state-level regulation (such as mass coal to gas switching and lower demand growth), the rule would have precipitated an even greater transformation of the power sector, one characterized by ubiquitous renewable portfolio standards, greater building of gas and electric transmission to displace coal-fired assets from even the most ardently pro-coal states, and a revived focus on energy efficiency programs, with states, municipalities, and corporations collaborating to divine lowest cost solutions to carbon reduction.

But, what is past is prologue, and if the CPP is not entirely dead, it is on life support due to the aforementioned litigation surrounding it. While the litigation challenging the CPP is still ongoing, it's evident that the current EPA head is less than inclined to enforce the EPA's regulations to the same degree as his predecessor, lawsuits from environmentally concerned states and activist groups notwithstanding. The next four years remain a highly critical time period in efforts to decarbonize the global economy under the terms of the Paris agreement, which seems more challenging without American participation (though it remains unclear how quickly the U.S. will actually be able to get out of this agreement).

Exiting The Paris Agreement

A lot of attention was paid to the U.S. Presidential election outcome at the Conference of the Parties 22 (COP 22), which was held in Marrakech in November 2016, and what actions the new President might take - and fears about a withdrawal were realized in June. There are generally seen to be three ways in which the U.S. could exit the Paris Agreement, which include:

Pursuant to the Paris Agreement (four years)

• Earliest possible date: Nov. 4, 2020

• Beginning three years after entry into force (Nov. 4, 2019), parties may withdraw by giving one year's notice.

• U.S. law: The President can withdraw from executive agreements on his or her own authority.

Pursuant to the United Nations Framework Convention on Climate Change (UNFCCC) (one year)

• The UNFCCC is the framework that oversees the Paris Agreement and other international climate protocols. Any party may withdraw by giving one year's notice.

• A party that withdraws from UNFCCC shall be considered as also having withdrawn from the Paris Agreement.

• The U.S. would have no input into future UNFCCC negotiations and international agreements after withdrawal.

• U.S. law: In practice, presidential withdrawal unlikely to be overruled by courts, even though UNFCCC was unanimously approved by the Senate.

Outside the terms of the Paris Agreement and UNFCCC

• Withdrawal would violate international law.

• U.S. law: It is unclear if the President has the authority to violate international law, but Congress can do so.

Exiting the Clean Power Plan: What It Means

The S&P Global Ratings report discusses in detail how exiting the Clean Power Plan might impact each part of the power sector, and especially issuers involved in coal, nuclear, natural gas, and renewable energy. The summary findings are as follows:

Coal: the removal of the two regulatory scapegoats will, according to Trump, restore the competitiveness of coal-fired assets. But in reality it’s unclear whether a rollback will benefit coal generators, whose demise is more accurately attributed to the rise of natural gas, rather than any regulatory hindrances.

Renewables: while the CPP is an obvious boon, renewables development to date has derived from state-level programs. And this is expected to be maintained (and even strengthened) over time. In fact, some red states in the Midwest – where wind and solar are gaining traction – have benefited from renewables-supportive tax credits. Kansas, for instance, is lobbying to preserve incentives for renewables development (to coal’s detriment).

Nuclear: the consequences of Trump’s energy policy are more nuanced. Nuclear will likely benefit from the removal of existing regulations that have increased operational costs. But a watering down of the CPP’s carbon allowances may, in turn, remove the incentive for maintaining nuclear assets

Natural gas: repealing the CPP will be largely inconsequential for natural gas. Gas-fired generation has grown for economic reasons – not because of any regulatory advantage. In the longer-term, however, there are concerns that slowing energy demand could dissuade further natural gas investment.

Off-Base: The Struggles Of Baseload Generators

Both coal and nuclear have stumbled in recent years, and while they have very different attributes, the reasons are actually quite similar. Baseload plants are, by their very nature, price taking generators, because they don't have the ability to quickly ramp up and down in response to changes in real time pricing activity. And, because they run most of the time, they're much more dependent on energy margins, which, in unregulated markets, tend to be more volatile and less visible than capacity prices.

This has become more problematic as the U.S. grid has transformed. Penetration of renewables and introduction of more demand and energy efficiency products has made net demand less certain, even as supply has grown. A more variable grid certainly supports the development of peaking resources to supplement the renewables, but it can curb around the clock (ATC) pricing to the detriment of baseload generators. The trend is only expected to deepen, as the proliferation of renewable generation continues in key markets, and as battery storage develops further.

Still, baseload generators are, in the opinion of the Department of Energy, critical to both energy security and grid reliability, so there may be a respite yet. The 60-day review being conducted by the department is expected to opine on the viability of these assets in the current pricing environment, and what, if anything, can be done to support them.

However, the CPP would have meant that there was significant value in nuclear assets, as we would have expected states to assign a value to carbon allowances - this value, presumably, would have pushed up power prices and renewed positive cash flow for nuclear generators. Because they would have had longer term value, and because compliance with carbon reduction mandates would have been nigh impossible without baseload nuclear generators (which presumably would have been replaced with baseload gas, which is carbon intensive), states would have had considerable incentive to keep the nuclear assets open through above market subsidies. That incentive will likely disappear with the CPP, though we reiterate that a decision to close a nuclear asset is generally a permanent one, which could set back any future carbon reduction efforts (if, for instance, a successor president were to re-enter the U.S. in the Paris agreement).

Recarbonization?

Even in the absence of a formal, federal policy driving carbon reduction in the U.S. during the past eight years, carbon emissions have fallen precipitously since their 2005 peak, and we expect they will continue to do so going forward. The significant displacement of coal-fired generation in favor of cheaper gas, advancing biofuel development, lower cost renewables, state level policies, and diminished demand growth are all to thank for lower carbon emission levels.

But is there a natural limit to how much further carbon emissions might fall if further policies aren't enacted, or if current policies are pulled back? Environmentalists in the U.S. (and abroad) are keen to understand how much of this carbon reduction was market driven, and how much was derived from environmental policies of the Obama Administration. This may not be an immediate concern, but with the U.S. still likely to be bound by the Paris agreement, it will be at some point in the next decade - it's not clear that the current trajectory is sufficient to drop emissions by 28 percent by 2025 as called for in the agreement.

• Coal to Gas: To date, the displacement of coal-fired generation by gas-fired generation on economic grounds has been a key contributor to decarbonization. To some degree, we anticipate this will continue. However, around the margins, the progress could be slower. Even with lower gas prices that continue to improve dispatch for gas turbines, a slower rate of closure for coal assets could create a natural ceiling to dispatch. When we had anticipated the CPP taking hold, we expected that certain coal assets would close, not because of the requirement to add expensive environmental technology (as was the case with MATS) but because a carbon cost would have made them even less economical - even some baseload assets.

• Renewables: State-level renewable standards as well as extensions of supportive tax credits have bolstered the growth of the renewable industry, and, by extension, have contributed to decarbonization. However, we expect the rate of renewable penetration could slow. While states with current RPS (Renewable Portfolio Standards) are likely to continue them, we had expected the EPA's plan would have led less progressive states especially to adopt RPS in order to meet carbon reduction mandates; this is likely to be absent now. The wild card continues to be how competitive solar and wind can be absent tax incentives. The cost of equipment, especially solar panels, has fallen precipitously and operating expenses have come down as well.

• Energy Efficiency/Demand Curtailment: While other forms of carbon reduction may slow, we expect that the pattern of demand growth reduction and energy efficiency should continue even under a new administration. The continued flattening of the demand curve has occurred independently of any type of orchestrated federal policy, stemming rather from a weaker link between GDP growth and power demand growth, as well as state level policies.

Incidentally, because of the reduced demand growth, market heat rates have contracted, and while marginal units may be losing dispatch (in unregulated markets), more efficient ones are continuing to see high capacity factors (if not high power margins) - consequently, more efficient units generating a greater percentage of megawatts may lead to greater carbon reduction. We expect a flat to modestly negative growth pattern in demand over the next two years.

• Operational Improvements: As with coal to gas switching, while the legal need for this may have lapsed, the utility of this may rest more on market factors. Diminished gas prices, which now appear to be persistent, have curbed the economic rationale for running coal plants as frequently as they did in the past (independent of any environmental rules); if this is the case, there's really not as strong an economic reason for improving heat rates and efficiency for coal units, especially for marginal units that are likely to close for economic reasons within the next decade anyway, especially if low power prices and uninspiring capacity market performance persist.

In the end, we expect that the Trump Administration will, at least temporarily, slow the progress of decarbonization in the U.S., though ongoing coal to gas switching will continue to have implications. While market forces are likely to continue to lower emissions to some degree, there is probably a limit to the success of this in meeting the U.S. climate change goal by 2025 without a comprehensive plan for carbon reduction, and one is not likely forthcoming during this administration.