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Draft Climate Action Network Rational Energy Program Update and summary of key measures to the year 2010 Louise Comeau January 1998
Table of Contents Highlights Introduction Proposed actions Appendix A:
To achieve its Kyoto commitment to reduce greenhouse gases by 6 per cent between 2008 to 2012, Canada must move now to improve energy efficiency and to expand the use of renewable energy in three key sectors: buildings, transportation and electricity generation. Measures in the electricity sector, in turn, reduce emissions in the industrial and upstream oil and gas sectors. Sierra Club is proposing a quick-start agenda for the 1998 budget and a longer-term plan to meet federal Liberal election promises to explore emissions trading and to develop a National Transportation Strategy. The quick-start agenda: 1.Establish a National Atmospheric Fund The federal Government must move quickly to engage Canadians and to build confidence within the marketplace in our ability to reduce greenhouse gas emissions. Initial analysis of the Rational Energy Program showed that the measures with the greatest public profile, particularly in communities, and that generated the most jobs per dollar invested, were those focused on commercial, and to a lesser degree, residential retrofits. 1.Establish a National Atmospheric Fund Sierra Club is proposing the establishment of a National Atmospheric Fund (see Attachment 1 for details on the proposal) which would be based on the self-sustaining endowment model used in Toronto to reduce its greenhouse gas emissions. The Toronto Atmospheric Fund has been instrumental in making Toronto the first city in the world to reduce its greenhouse gas emissions below 1990 levels. The Fund which would facilitate investment in energy efficiency retrofits in buildings in the residential, and small industrial and commercial and municipal sectors. The Fund would focus on providing resources for project development and facilitate financing. A portion of the Funds could be used to securitize loans against defaults to ensure access to financing for small building owners. The Fund could operate on a fee-for-service basis which would be paid for from energy savings, or from the interest earned through investments of the Fund. On the residential side, the Fund would support the establishment of a National Green Communities Program. Green Communities projects are already operational in Ontario and to a large degree are self sustaining. Gas and electric utilities and financial institutions provide marketing and financial services in support of energy, waste and water retrofits in homes. Green Communities has identifed a key block to progress: consumer resistance to the up-front cost of an audit, approximately $150. Partners provide funds for up to $100 toward the audit, and the Atmospheric Fund would provide the final $50 per audit. Finally, the National Atmospheric Fund could support development of district energy systems where projects are viable, but require up-front financing support to move forward. The Department of Finance has indicated a tax approach is not necessarily viable for district energy as projects are few and concentrated in larger cities. 2.Establish task forces Substantial emissions reductions can only be achieved through structural changes in the generation of electricity and in the design and use of the automobile. Provincial governments have well defined responsibilities in both these areas. On the electricity front, the opening of markets to competition has the potential, if done right, to encourage the use of clean electricity. Unfortunately, most analysis predicts an increase in greenhouse gas emissions as competition will favour life extension of older coal-fired thermal power plants. While the federal Government cannot regulate provincial electricity markets, it could establish a national cap and trade system for greenhouse gas emissions that could contribute positively to greenhouse gas reductions from the electricity, and by extension the industrial and upstream oil and gas sectors. Repowering Alberta fossil fuel-fired thermal power plants to natural gas has been estimated to provide a 13.6 Mt reduction in greenhouse gas emissions by 2010 (Repowering Alberta: Canadian Energy Research Institute (CERI): 1996.). If Nova Scotia uses Sable Island natural gas, emissions could be cut more than 40 per cent, according to a 1997 study by CERI. Ontario Hydro's greenhouse gas emissions are on the rise due to problems with seven of its nuclear units. Emissions in 1996 were just over 18 Mt. The utility is relying heavily on four oil and coal-fired stations to generate electricity. A worst-case scenario could see these emissions rise to 30 Mt. Natural gas generates 49.68 tonnes of CO2 per terajoule, while coal generates 85.9 tonnes of CO2 per terajoule. Obviously, a switch to natural gas would reduce emissions in Ontario. Federal/provincial negotiations aimed at developing a national action plan to reduce greenhouse gas emissions must include assessment of the appropriate structure of competitive electricity markets and include assessment of the potential of a national cap and trade program to reduce emissions. With respect to road transportation, the federal Government can raise fuel economy standards on vehicles and support research and development aimed at redesigning the vehicle. Provinces, and by extension, municipalities, have strong control over land use, public transit and transportation demand management. The federal Government must assess the viability of all transportation approaches and develop a strategy aimed at minimizing growth in demand and greenhouse gas emissions. Improved energy efficiency and increased reliance on low and no-emission vehicles also contributes to improvements in local air quality. The Task Forces are to advise the federal Government, not achieve a consensus. The work should be complete within one year for inclusion of initial steps in the 1999 budget. The aim must be full implementation no later than 2000. Membership would include provincial, industry and environment group representation. 3.Strengthen procurement Expand the federal Government's commitment to Green Power procurement and to the procurement of energy efficient and advanced technology vehicles for all federal departments. Commit to issuing a challenge to all provincial and municipal governments to do the same thing. Announce that the federal Government will raise the issue of procurement with other levels of government when consultations begin. Make a commitment to purchasing a minimum of 10 per cent of federal electricity and transportation rquirements from renewable, efficient and advanced technologies. The longer-term plan The Rational Energy Program is a package of initiatives designed to reduce greenhouse gas emissions through improved energy efficiency in the transportation, building and industrial sectors and the increased use of renewable energy in the electricity sector. The analysis was completed in 1996 by Natural Resources Canada (NRCan) and Informetrica Limited for Sierra Club Canada and the Climate Action Network. This draft January 1998 update summarizes the most effective measures from the original study, and provides an updated strategy for implementing the initiatives. Natural Resource Canada projects greenhouse gases will increase by 18.6 per cent by 2010 (105 Mt higher than 1990). A reduction of six per cent below 1990 levels represents a reduction of 138.84 Mt (using 564 Mt as the 1990 baseline). The following measures could provide the reductions required to meet the Kyoto targets. Initial calculations show potential for a minimum reduction in greenhouse gas emissions of just over 122 Mt if no economic instruments are used. Emissions could be reduced a further 13.2 Mt if a gas tax of 8 cents per litre was imposed from now to 2010. Incremental increases of two cents per litre would generate up to $800 million per year. Summary of key measures in the Rational Energy Program
Impact of Rational Energy Program measures
Non-energy reductions - Mt - C02 equivalent
Introduction This update has been developed with the following points in mind: 1.The federal Government has made it abundantly clear that economic instruments such as a carbon tax is not acceptable. The excise tax on gasoline is included here for two reasons: it is not a carbon charge, and it has the potential to reduce greenhouse gas emissions while generating revenues that more than cover program costs. 2.The original Rational Energy Program failed to significantly reduce emissions growth in the industrial sector. 3.Increased competition in the electricity sector has the potential to significantly increase greenhouse gas emissions if market pressures favour life extension of coal-fired power plants. Nuclear breakdowns in Ontario also are increasing the use of fossil-fuel fired power plants relative to the business as usual reference case, and Nova Scotia and New Brunswick may reduce electricity-related emissions relative to the base case because of access to Sable Island natural gas. The increased use of high-efficiency natural gas cogeneration, district energy systems, natural gas, renewable energy and energy efficiency all will contribute to significant emissions reductions in the upstream oil and gas sector, the industrial sector, and the utility sector. The original Rational Energy Program had assumed significant changes in the electricity sector where 50 per cent of load growth came from energy efficiency improvements, 25 per cent of load growth came from increased use of high-efficiency cogeneration and the remaining 25 per cent from the increased use of renewable energy: biomass, small scale hydro and wind. These goals could be achieved through a combination of regulatory changes at the provincial level and a national cap and trade program imposed by the federal Government. It is Sierra Club's view that these initiatives could achieve the additional reductions in greenhouse gas emissions required to achieve the 6 per cent reduction goal. The initiatives would compensate for the weakness in the reductions in the industrial sector in the original Rational Energy Program analysis. Sierra Club of Canada recommends analysis of the cap and trade option with a timeline for design completion set for the year 2000. Set milestones It is critically important that milestones be set for achieving the six per cent reduction target. By the year 2000, all key federal elements of the program should be in place, including the design of a national cap and trade program, a National Transportation Strategy, a National Atmospheric Fund, and a federal research, development and commercialization strategy for new and advanced technologies. By 2000, a federal/provincial agreement should also be negotiated outlining commitments at the provincial and municipal levels and partnership arrangements on initiatives in the building, electricity, land use and transportation sectors. The goals as outlined in the Highlights section clearly show the scale of effort required to achieve reductions. These goals are indicative obviously, but clearly provide guidance with respect to milestones Canada should set for meeting the Kyoto target. No time for delay: It is absolutely critical that action be taken now to prepare Canada for the new millenium. A calculation by Carl Sonnen of Informetrica shows that each period of delay increases the pace of change required to meet the Kyoto target. According to Sonnen: "the approximate 13 per cent increase in emissions over 1991 - 1997 accounts for 80 percent of what has to be accomplished after 1997 with the new target. Required average annual percentage reductions in emissions intensity assuming reference economic growth of 2.3 per cent per year:
Preliminary cost estimates were provided to Sierra Club by NRCan in the original analysis of the Rational Energy Program. As the initial package included significant revenue generation through a gasoline tax and carbon charge, Sierra Club believed it had developed a revenue neutral package that would achieve reductions while not increasing government expenditures. To the degree that a program is aimed at non-government energy consumers, the initiatives outlined here do represent costs to government. In these cases, financial savings from the energy investments flow to the business and consumer sectors. The federal Government has several non taxation revenue options: 1.It can carry the burden of these program costs to generate the larger societal benefits. A portion of projected federal Government revenue surpluses could be allocated to greenhouse gas reductions. The expenditures could be rationalized not only for climate protection, but for air quality improvements, particularly acid rain, smog and particulate. The reductions will bring lower health care costs, and increase economic competitiveness and innovation. Federal Government program costs (NRCan): $1994 million (discounted at 7%):
Informetrica analysis of the original Rational Energy Program included revenues from both the gas tax and carbon charge. Expenditures were for the whole program, but are not far off what the revised package would require. According to Informetrica: Total Government Program Expenditures in millions of $1994 to 2010 discounted at 7 per cent are:
It is important to note that these costs to government generate the following net savings: Cumulative net savings $1994 million (discounted 7%)
(savings from fuel use reductions) It can be seen that benefits accrue by 2010 emphasizing the need to begin programs now for full implementation after 2000. A cumulative investment of just over $4 billion by the federal Government to 2010 generates more than $39 billion in energy savings to the economy. Finally, it should also be noted that the expenditures outlined here related to the building retrofit programs could be reduced significantly using the National Atmospheric Fund model, particularly if it employs fee for service.
The following summarizes the original assumptions made for these initiatives in the 1996 Rational Energy Program. It is essential that the original assumptions be included here, because the Natural Resources and Informetrica analysis which follows is based on these details. Readers should consider the details here as directional only, with results as indicative. Updates on initiatives are being developed and will be included in the final draft of this update. 1.Commercial/institutional buildings NOTE: The National Atmospheric Fund would be designed to achieve emissions reductions in the commercial/institutional building sector. While the goals in terms of retrofit penetration serve as an important guide, strategies outlined here would not necessarily be those used by the Fund. The commercial sector accounted for 13 per cent of total secondary energy demand in 1995. End uses in the commercial sector include space heating and cooling, water heating, appliances and lighting. Space heating is the largest single component of commercial energy use. In 1995, the commercial/institutional sector was responsible for 5.0 per cent of Canada's energy-related carbon dioxide emissions. a)National Commercial Retrofit Program This group consists of the following:
1:Retrofit standards for commercial buildings Development of a set of minimum energy efficiency standards for buildings that undergo energy retrofits. The standards would be developed in co-operation with provinces, territories, utilities, other stakeholders and the federal government. For provinces and territories, adoption of the standards will be encouraged as a mandatory requirement. For other jurisdictions, a voluntary approach is used. Assume that by the year 2000, 13% of the 1995 existing building stock is affected by the program. From 2001 to 2010 22% (35% cumulative) would be covered. Finally, 21% more (56% cumulative) would be covered by 2020. Assumes that the buildings affected by the program will be retrofitted to levels associated with the National Energy Code of the day (ie., to the energy intensity of the new stock of buildings). Implementation. Departmental responsibility: Natural Resources Canada. The Department must aggressively encourage provincial governments to work with the National Research Centre to develop guidelines for extending Energy Code standards to retrofits. The guidelines should be complete in time for the next round of Building Code amendments scheduled for the year 2000. 2:Commercial retrofit financing program Assume a Energy Efficiency Warranty Program is in place by 1996 and operated by the Canadian Association of Energy Service Companies. The Warranty Program is a capital pool financed with a 6 per cent fee on all projects. The pool reduces risk to lenders and ensures lower borrowing costs for energy service companies. Assume that by 2000, 9 per cent of the existing building stock is affected by the program. From 2001 to 2010, 24% more (33% cumulative) would be covered by the program. Assumes that buildings affected by the program will be retrofitted to levels associated with the National Energy Code for Buildings of the day (ie., to the energy intensity of the new stock of buildings). Implementation. Departmental responsibility: Natural Resources 3: National builder training program Assume building trade associations (architects, engineering, electrical, plumbing, sheetmetal, etc) include training in installation and servicing of efficiency and renewable technologies by 1996 as part of their apprenticeship and certification programs. Implementation. Departmental responsibility: Natural Resources already pursuing improved training. 4: Expand the Federal Buildings Initiative Energy performance contracting used to achieve cost effective efficiency potential in government owned and operated buildings. Assume 35 per cent savings per building (rather than 15-20 per cent assumed by NRCan) and that 42 per cent of federal government owned buildings retrofitted by 2010 (goals in Forecasting Working Group report). Program administered by Public Works. Implementation. Departmental responsibility: Natural Resources, already under way within federal buildings; initiative announced to pursue efficiency retrofits in municipalities. The federal program is expected to generate $17 million in annual energy savings (based on $120 million in private sector investments). The savings can be considered to offset government program costs in this area, or be used to cover Green Power procurement costs. 5: Expand Energy Innovators Initiative This voluntary measure is designed to mobilize corporations, institutions, and municipalities across Canada to undertake energy efficiency measures in their facilities. Provincial and municipal governments launch Energy Service Company (ESCO)-driven Municipal/Provincial Buildings Initiatives and retrofit 50 per cent of their buildings by 2005. Assume 35% saving per building (rather than 15 - 20 per cent assumed by NRCan). It is assumed that by the year 2010, the expanded Innovators Program would affect 42% of the retail and hospitality sectors; and 60% of the private commercial sector (goals in FWG report). It is assumed that the expanded Innovators Program would achieve an average of 35% energy savings per retrofitted building. Implementation. Departmental responsibility: Natural Resources, already under way. The federal Government announced in December 1997 details on how it will spend $60 million over three years in commercial buildings. $10 million a year will be allocated to supporting energy efficient design in new buildings, $4 million to a Renewable Energy Deployment Program for renewable energy systems for space and water heating and cooling. The Energy Innovators programhas been expanded. Natural Resource Canada analsysis: Commercial programs As a result of the above Rational Energy Program retrofit measures, commercial energy demand is down by 216 PJ or 17.7% in 2010. The drop in secondary demand leads to a 243 PJ reduction in primary demand by 2010 and a 15 Mt reduction in CO2 emissions. Table 3.4 NET CUMULATIVE COSTS Commercial Sector
2.Residential buildings National Energy Efficiency Renovation Program:
The residential sector represents slightly more than 20 per cent of end-use demand and generated 8 per cent of greenhouse gas emissions in 1995. 1.Green Communities
2.Community urban forestry
4:National low-income energy efficiency retrofit program
7:National Home Energy Rating System - existing homes
Natural Resource Canada analysis: Residential programs The above programs reduce residential demand by 54 PJ or 3.7% in 2010. In terms of primary energy demand, this translates into a reduction of 37 PJ, considerably less than the impact of 54 PJ on secondary demand. As a consequence, the CO2 reduction is only 1.7 megatonnes (Mt) in 2010. Table 3.2 NET CUMULATIVE COSTS Residential Sector
Sierra Club is recommending that a National Green Communities program be launched which would be supported by the National Atmospheric Fund. In comparison to other initiatives, the costs for the residential program are high and the emissions reductions are small. The recommendation is included because a residential retrofit program is critically important in educating Canadians about energy efficiency and the importance of climate protection. Education in the home will extend to the workplace. It is also the view of Sierra Club that NRCan's assumptions for the residential sector are too aggressive. That is improvements will not be as high as originally projected. As a result, initiatives in this sector are likely to achieve greater reductions than outlined here. Finally, a Green Communities initiative provides the federal Government with an important vehicle for gaining profile in communities across Canada.
3.Industrial program The industrial sector is the largest energy using sector accounting for 43 per cent of total end-use demand in 1995, generating 20 per cent of national greenhouse gas emissions. Energy Efficient Industry Initiative - Industrial efficiency indicators 1: Industrial efficiency indicators
2: Promote benchmarking/best practices
3: Industrial Energy Innovators Program
5. Electric Drivepower Challenge
Table 3.5 NET CUMULATIVE COSTS Industrial Sector
4.Electricity program Electricity generated 17 per cent of Canada's greenhouse gas emissions in 1995. Over 80 per cent of Canada's electricity production is generated by hydro and nuclear power. Greenhouse gas emissions stem from: coal, 14 per cent; natural gas 3 per cent and oil, 1 per cent. Green power - Electric and gas least cost planning
Natural Resource Canada's analysis: Electric Least Cost Planning Assumptions The efficiency improvements resulting from CANet's energy saving measures reduce load growth in 2010 by 54 per cent, slightly more than CANet's 50 per cent target. The reduction in the electricity demand results in lower generation by utilities. With respect to the assumption on renewables, there are some reliability concerns, related especially to generation from small hydro and wind. To address these concerns some additional capacity would be required. These requirements have not been included because it is not clear who should pay for this reserve capacity. As mentioned earlier, both the demand and supply measures affect the electric utility sector. As a result of imposing all the demand efficiency measures simultaneously, conversion requirements decrease by an additional 47 PJ in 2010 and CO2 by 12 Mt. The supply measures (i.e., the three elements above) reduce conversion requirements by 107 PJ and CO2 emissions by 16 Mt. Achieving reductions in the industrial and electricity sectors: Establish a task force to design a national cap and trade program to reduce greenhouse gas emissions from large emitters, including the electricity, industrial and upstream oil and gas sectors.
5.Transportation program The transportation sector consumed 56 billion litres in 95 of which 82 per cent was used for road transportation contributing 27 per cent of Canada's 1995 greenhouse gas emissions. National Green Transportation Strategy
2: National Urban Transportation Demand Management Program
Natural Resource Canada analysis: Transportation Program As a whole, these measures reduce energy use by 567 PJ in 2010, 301 PJ of which can be attributed to CAFE standards. Total transportation demand is 26% lower in 2010 and total secondary demand is 10.7%. These reductions lead to a drop in CO2 emissions of 50 Mt by 2010. Motive Fuel Tax The CANet program assumes that the excise tax on gasoline is increased by 2 cents per litre in 1996 followed by another 2 cents in 2000, 2005 and 2010. Thus, the tax is 2010 is 8 cents per litre higher than the post budget rate. An equivalent tax is applied to diesel fuel. It should also be noted that the motive fuel tax increases are assumed to be harmonized with those of the U.S. The 8 cents tax increase leads to 164 PJ and 13 Mt reduction in energy demand and CO2 emissions respectively by 2010. A further reduction of 1 Mt occurs as a result of the application of the tax to motive fuels used in agriculture (see Residential section of Table 1). Table 3.6 NET CUMULATIVE COSTS Transportation Sector
* Includes CAFE Standards Table 3.7 NET CUMULATIVE COSTS Transportation Sector
Achieving these reductions: Canada needs a National Transportation strategy. Establish a task force to develop the strategy. The task force would be advisory in nature and would have one year to report for implementation by 2000. 6.Non Energy Sources of greenhouse gases Methane capture or emissions avoidance
Appendix A: Impact of the Rational Energy Program on the Economy Analysis by Informetrica Limited NOTE: This analysis is based on the original Rational Energy Program, not the summary provided here. For comparison, the full program generated potential reductions of just over 173 Mt, while the summary provides just over 135 Mt. As the differences are not that extensive, the Informetrica work still provides important directional detail. This analysis includes one particularly important intiative not in the current summary: a carbon tax. The tax was small and added after all other initiatives were in place. As a result, emissions reductions were small: only 15 Mt, but revenue generation was large: cumulated $77 billion by 2010 - including gasoline tax, carbon tax and vehicle feebate revenues. The Rational Energy Program used the revenues to fund programs, reduce the Goods and Services Tax and to finance the Transportation Options program. The federal Government obviously remains resistant to the carbon tax option. An emissions trading regime is a good alternative in that it affects energy prices just as a carbon tax would do. There are two key differences between the two approaches: an emissions cap ensures a specific emissions level will be achieved, while a carbon tax provides more certainty on revenues; the other key difference is where revenues go: a carbon tax generates revenues for governments (depending on the level of recycling); a trading regime could generate windfall profits for industry if permits are distributed free rather than auctioned. 1.Study sponsor assumptions A.Initiative costs and financing Table 1 summarizes the assumed costs of the Rational Energy Program initiatives (see page 56). Also included in the input to this were discussions with NRCan, to ensure that technical detail for specific initiatives was correctly interpreted and consistent with the Department's understanding of the initiatives used in the development of their estimate of energy savings. In its details, the Rational Energy Program proposals are similar to Scenario Five (see Appendix 6) of the set of scenarios evaluated by Informetrica for the Forecast Working Group. At a cumulated $33 billion (1994 dollars over 1995 - 2010) initiatives that directly affect the spending of households, governments and business producers are modestly less than the spending of Scenario Five. The application of a strengthened motor fuel fax, and introduction of a carbon tax, however, produce a tax impact (with potential spending effects on households, business and governments) that are much larger than the tax effects included in Scenario Five. In the Rational Energy Program proposals, total tax, or revenue options cumulate to $77 billion over 1995 - 2010. Combining the direct dollar impacts of both spending-related initiatives and revenue actions (a cumulated $119 billion) produces a Rational Energy Program scenario that is more "robust" than Scenario Five by more than $50 billion over 1995 - 2010. This raises an important analytical issue that is not completely resolved in this analysis. Revenue actions are assumed to have direct energy conserving effects, but (as contrasted to initiative specific details), this does not cause households, businesses, or governments to invest in or otherwise spend funds to directly cause the energy savings. In this sense, the method applied leads to a downward bias in assumptions about the extent to which the Rational Energy Program proposals have resource-using direct impacts on the economy. On the other hand, the literature on instruments suggests that market-based instruments such as a motor-fuel and carbon tax would lead directly to a more "efficient" behaviour of adjustment by households, businesses and governments. To the degree this is true, the bias noted above is offset. Annual Levels Total Govt Program Exp 408.88 672.96 700.27 582.46 701.34 Revenues 1863.36 6142.69 6954.29 4791.56 7409.93 Transfers 8.98 0.00 0.00 3.37 0.00 Total Household/Producer Exp 1505.41 3165.29 1613.00 2057.75 1546.72 Total Producer + Govt Program 1914.28 3838.25 2313.27 2640.21 2248.06 (% of Base Case GDP) Discounted at 7% 0.23 0.42 0.23 0.29 0.22 Total Govt Program Exp 334.62 392.16 291.79 339.22 254.20 Revenues 1472.91 3568.71 2893.13 2571.67 2685. 70 Transfers 8.73 0.00 0.00 3.27 0.00 Total Household/Producer Exp 1216.64 1834.39 672.11 1239.52 560.60 Total Producer + Govt Program 1551.25 2226.55 963.90 1578.73 814.80 Cumulated from 1995 Total Govt Program Exp 1204.36 4439.47 7914.36 4312.21 9319.39 Revenues 4523.43 29023.76 62539.45 30309.79 76665.01 Total Household/Producer Exp 4193.81 18127.76 29691.12 16516.08 32923.94 Total Producer + Govt Program 5398.17 22567.23 37605.48 20828.29 42243.33 Discounted at 7% Total Govt Program Exp 1047.69 3217.78 4881.32 2923.86 5427.44 Revenues 3865.23 19694.45 35667.81 18750.17 41146.65 Transfers 48.77 52.38 52.38 51.03 52.38 Total Household/Producer Exp 3551.19 12804.02 18572.91 11136.98 19832.30 Total Producer + Govt Program 4598.88 16021.80 23454.23 14060.84 25259.74 "Govt Program" denotes expenditures for government wages, purchases of goods, etc. Does not include transfers to business or persons, nor effects of revenue initiatives. In any event, these competing implications for the direct effects on behaviour are not resolved in this analysis. It does point to the need for further "micro" analysis of the direct effects of introducing conserving "signals" via specific action initiatives versus those following from generalized market-based instruments. It is our conclusion that this unresolved analytical issue leads in results to an underestimate of the direct resource-using impacts of the Scenario, and therefore, for example, to an underestimate of the short-term positive impacts on employment. We are unable to resolve the extent of this (net) bias, however, and note further, that it is confounded by assumptions we have made about offsetting reductions in other generalized indirect taxes (see below). As a general rule, initiatives that are specific to actions of households, businesses and governments, directly cause increased investment spending on structures, or machinery and equipment which is presumed to be energy savings. (In some instances, this alters the process of production as well.) In any event, we assume that this constitutes a direct reduction in financial savings of those who are undertaking the additional spending (compensated as below) by reduced spending for energy. For businesses, the net effect of these offsetting direct spending influences determines unit costs of production and ultimately industry price formation. Net direct influences on household savings are otherwise uncompensated. Governments are compensated for their additional current spending (largely to develop and administer the programs of the Scenario) through revenue actions of the Scenario. Their own additional investment in energy-savings equipment and structures is, as for households and business, largely compensated for by reduced current spending for energy inputs in the operation of the public sector. B.Energy Savings The energy savings that are assumed to be directly associated with the incremental costs outlined above are introduced as reduced current, annual spending on households, governments and businesses for energy produced by industries, electric power, natural gas, and refined petroleum and coal product industries. Reductions in the demand for the products of the latter industry impact demands for upstream producers of oil (and some coal). Reductions in demand for electric power are similarly translated back to reduced demands for coal and other primary energy inputs. Reduced demand of households for energy products is direct, in that spending of households is defined for consumption of electric power, refined petroleum products including fuel for household heating and personal transportation, and coal products. Reduced spending of governments for energy inputs is introduced as reductions in annual spending for purchased goods and services of the federal, provincial and municipal governments, where the allocation of this reduction is targeted on relevant energy producers in proportion to their spending among these suppliers in the Base Case. Reduced demand of business for energy inputs is accomplished by changes to the technology that links the production of each industry to its material suppliers. These are targeted to relevant energy industries on the basis of NRCan estimates of impacts for reductions in demand, by industry, by energy commodity. In our framework, this reduces the demand for 40 industries, including all energy-intensive industries. Table 2 provides a representative view of the assumed energy savings introduced into the simulation. As this indicates there are significant, widespread savings across all sectors of consumption in the economy. After 15 years (2010), reductions from the Base Case levels widely range between 10 and 20 per cent, with in some instances, consumption being cut to half the levels otherwise anticipated. By that time, overall reductions in this Scenario exceed those of the earlier Scenario Five by about 7 percentage points. Most of this accelerated reduction occurs after the end of the 1990s. Table 2 Green House Gas Study (% Impact) -------------------------------------------------------------------------- Oil and Gas, Upstream Changing Rational Energy Program costs into direct economic effects A.Initiative-specific economic costs For the most part, directs costs impacts are translated into incremental spending for investment by households, governments and businesses. In addition, governments, who are assumed to develop and enforce actions associated with the Scenario will be faced with additional spending for employees and associated overheads of purchased goods and services. Households are faced with significant additions in spending for repairs, the real value of energy-saving appliances, and urban transit. Information supplied to the study in terms of 1994 dollars, is converted to spending at the prices of 1986, the constant-dollar measure of "real" economic activity in the model being used for this analysis. Table 3 indicates, in 1986-dollar terms, the flow of spending over the 15 years of 1995 - 2010. Table 4 indicates the extent to which such assumed spending is proportionately large, or small for major sectors of the economy. Table 3 The small, or reduced investment spending for business masks important details. The overall result for business reflects an assumed notable reduction in spending of the electric power utilities (who are faced with diminished requirements for their product). For other industries, there are notable increases. These are concentrated in spending of the upstream oil and gas industry, iron and steel, petroleum refineries, industrial chemicals, pulp and paper, urban transit, transportation of natural gas, finance insurance and real estate, and commercial services. Most other industries also bear some cost, but as a proportion of total spending by businesses, they are small. It should be recognized that annual spending of households, businesses and governments is otherwise large, and under any reasonable definition of a Base Case, will be increasing from current levels over the next 15 years. Table 4 indicates the extent to which we can gauge whether such additional spending is proportionately large or not. Using a sustained one percentage point increase as a measure of "large", the spending indicated in Table 3 is notable for: federal wages and salaries, federal and provincial capital spending on buildings, federal highways and roads, investment of the iron and steel, urban transportation, warehousing and storage, gas distribution, and commercial service industries, home-owners spending on alterations and improvements of residences and current spending on new passenger vehicles (particularly in 2001-2005) and motor repairs, urban transit and appliances. Table 4 B.Tax impacts As was indicated in Table 1, motor fuel, carbon tax and other revenue actions are a major element of the Rational Energy Program. These have been introduced as changes to consumer and producer (energy-related) tax rates to produce the assumed flows of revenues indicated in Table 1. Additional revenues so generated are assumed to compensate governments for the additional current spending undertaken to develop and administer the initiatives of the program. This, however, leaves a large sum that, if not recycled, would directly reduce government deficits and debt. This, of course, is one of several mechanisms that could be used. While it would directly benefit government savings with the potential for reduced borrowing costs of governments, it directly reduces savings of households and businesses so that the potential to directly reduce general borrowing costs is problematic. In addition, as these tax increases are introduced over time, they directly add to the aggregate price level, and would almost certainly be perceived to be pro-inflationary with possible unfavourable impacts on "competitiveness." Alternatively, the excess funds could be returned to households or businesses as reduced direct taxes to compensate them for their added spending, but it should be noted, their general compensation is already provided for through reduced spending for energy (as an assumption). The same consideration, of course, applies to government for its added capital formation. And, in any event, this would leave the inflationary and unfavourable, general competitiveness shock to the economy still in place. Also, alternatively, additional funds could be used to fund specific public investments with widespread application for private use (e.g., urban transit), or possibly to reflect regressivity dimensions that follow from the application of indirect taxes. In the former instance, this could be used to reduce the price implications of increased transit fares to finance the capital, but the extent to which additional tax revenues would be applied to such forms of compensation would still leave large "excess" revenues to be disposed of, and as importantly, reduces the relative price signal that is presumably desired to encourage citizens to use even more energy-savings forms of transportation (walking, cycling, etc.). And, on the whole, inflation and competitiveness impacts would still be present. The noteworthy recycling of dollars for equity or regressivity considerations through reduced direct taxes or increased transfer to households targeted by income status represents an administrative difficulty since it may involve complex inter-governmental transfer considerations, and of course, continuing difficulties in determing who is qualified. Tax credit provisions would be one mechanism. And importantly, as would be true for a generalized direct personal tax reduction, this would still leave in place inflation and competitiveness impacts. Given these considerations, this study has assumed (as was true for most of the Scenarios analysed by Informetrica for the Forecasting Working Group), that a reduction in a general indirect tax would be made to compensate for aggregate inflation and competitiveness effects. In this instance, the Goods and Services Tax rate is progressively reduced from 7 per cent through the second half of the 1990s to a rate of 5.5 per cent in the year 2000 and thereafter. This directly offsets most of the revenue gains accruing to governments from increased Scenario-defined taxes, and neutralizes the impacts of those on aggregate costs of production and prices. It may be noted that payroll tax and other generalized (across industries) instruments could have been used for this purpose, and this does not constitute a recommendation that a reduction in the specific tax used for the study is under consideration. It should also be noted, of course, that relative prices of goods and services are increased in proportion to their energy content, a desired objective of the Scenario. Summary of national economic effects A.Overview The four-panel graphics on the following page indicate some of the major consequences of the Rational Energy Program, given our assumptions about re-cycling tax revenues. Table 5 provides some quantitative measures of the effects, and more detail. Table 5 Exchange Rate (centsUS/$Can) (a) 0.0 0.0 0.0 0.0 0.0 Following largely from increased real output, employment is increased in the economy. Cumulated over 1995 - 2000, this adds more than 550,000 person years of employment. This is followed by a cumulated addition of about 1 million in 2001 - 2010. These employment effects, and a slight reduction in overall price levels, produces a higher real disposable income per household throughout the 15 years. Increases in employment also partly reflect a shift of production from relatively high output per employee industries (e.g., energy producers) towards others (service industries). Offsetting this reduction in overall output per employee is an improvement in output per unit of capital stock in the business sector. Reduced production in the capital-intensive energy sectors also reduces the overall size of producers' capital stock. Taking that sector as a whole, there is little change to Total Factor Productivity through the outlook. Given some small increase in the size of the labour force, we conclude that the Rational Energy Program would do little to alter the potential growth of the economy by shifting from a less-to-more labour intensive overall form of production. Taking all levels of government together, government borrowing is reduced through early in the next decade and increased thereafter. Given this profile of positive and then negative effects on government borrowing, if this is discounted at 7 per cent, cumulated effects on government debt stocks are positive (debt is reduced) through 2008. If discounted at 10 per cent, the debt reduction is extended to the year 2010. Variations from this result are reasonable, and dependent on timing of the changes to generalized tax offsets (the GST in this instance). What is important to note, is that even with initial reductions in the generalized tax rate, the results suggest positive effects on balances initially, affording some "room" for later manoeuvre. B.Impacts on demand Table 6 reports the effects of the Rational Energy Program on the major aggregations representing demand within the economy. For consumption, government spending and business residential and non-residential investment, much of the impact reported is traceable directly to the "costs" reported in Table 3. Even so, as Table 6 indicates, at these major levels of aggregation for demand, the magnitude of the changes reported are modest in almost all cases, or less than the amount of variation that can be expected within any one year. Also, variations in personal savings rates, which are increasing throughout the impact period, could by itself, reasonably restore consumer spending to positive effects in the later years being reported. Changes to the economy from impacts in the foreign trade sector reflect reduced unit costs of production, and both aggregate and detailed industry prices through the first several years. Largely, this reflects induced effects of the scheduled GST rate price reductions in 1995 - 2000. Stable tax rates thereafter, tightening labour markets, and small variations in payroll taxes from early in the next decade through to 2010 produced a recovery in price levels over that time. Given these cost and price changes, net exports initially contribute to positive effects on total output, and are then a small drag on overall demand. Again, reasonable variations from the magnitudes and pattern of these effects are possible. The central point of note is the small magnitude of effects. Table 6 The annual balances of governments overall are strengthened through 2003, and are subsequently adversely affected in these results. Initial improvements are dominated by the revenue-promoting impacts of a larger economy, reinforced in smaller degree, by reduced welfare and other transfer payments of provincial and municipal governments. (Federal payments for unemployment insurance are also reduced through increased employment, but contribution rates adjust to keep the UI fund balance unchanged over time. This effectively neutralizes the financial implications for the federal government of reduced UI payments). Table 7 Increased deficits from early in the next decade are traceable largely to assumptions and reactions in the economy related to re-cycling of the carbon tax through a federal reduction in the GST rate. Implemented as an ex ante assumption, the GST rate reduction was targeted on offsetting the more than $75 billion in revenues brought in through changes in motor fuel and carbon taxes. But reduced demand for energy yields a lower energy-tax revenue result (+$27 billion cumulated over 1996 - 2010 for the federal government). Reductions in GST revenues cumulate to $64 billion over the same period. Consequently, government deficits are increased after 2003, on an ex post basis, and the debt-to-GDP ratios of governments rise. As implemented in our analysis, the effect is concentrated at the federal level. As well, this promotes positive effects on real output and employment during the next decade. One may reasonably suppose that if governments were able to perfectly forecast the effect of the Rational Energy Program on energy-based revenues that any offsetting financial initiatives designed to recycle the revenues could be adjusted accordingly. As noted above, this would "protect" government financial results, but at the expense of long-run real output and positive employment effects that we report. What should be recognized, however, is that early-period positive effects on the real economy and on government financial results should be positive, providing governments with time to plan for later effects. Our results suggest an increase in real disposable income per capita of about one per cent by the end of the 1990s, with this level of positive effect sustained over the following decade. This longer-term effect, however, is explained partly by the net stimulus to economic activity from the fiscal arrangements that are assumed to persist. Net national business income is initially weakened, but over the longer term is increased. Again, however, this is sensitive to the fiscal setting assumed to prevail. D.Industry effects Table 8 indicates the sectoral consequences of the impact. The principal finding is that apart from energy producers, there are no large implications for production in the economy. Increased "costs" in the form of additional consumer spending for more energy-efficient appliances and vehicles, and business and government spending for new structures and equipment are reflected in relatively strong positive effects for producers of durable and investment goods industries, and their supplying primary sector, and transportation service industries. Positive income consequences for household incomes are also reflected in these industries, but notably in increased activity among the consumer-oriented service industries, especially the "hospitality" industries providing accommodation, restaurant and recreation services. Longer-term, the most notable effects are in the hospitality industries. This reflects the positive effects on household incomes, that in turn, are partly traceable to the fiscal impacts detailed above. Energy-intensive ("using") industries are largely unaffected by the Rational Energy Program. This follows from the detailed assumptions of the Program. That is, while producers bear an added cost of production from investment in energy-conserving equipment, their operating costs are effectively reduced by energy-savings consequences of the investment. Additionally, reductions in the GST rate reduces selling prices, although the benefits of this to most energy-intensive industries is small since the rate does not apply in any event to exports, to which most of these industries are highly sensitive. Energy-producing industries are adversely affected, generally by notable amounts. Although these industries are typically energy-intensive users as well and their competitive position in international trade is unaffected or even improved slightly, this result follows directly from the assumption that capacity that is "freed up" by reduced domestic demand for energy cannot be successfully applied to increased exports, or substitution of imports. The exception to this assumption, and the results, is the primary oil production where the burden of reduced domestic demand is assumed to be born principally by reduced imports of crude. Table 8 The public sector (accounting for a little less than one-fifth of long-term production) is largely unaffected by the Rational Energy Program. Longer-term small negative effects are traceable to increased deficits of governments. Changes to assumptions about the extent to which GST rate reductions offset energy-tax revenues, as outlined earlier, would alter this result. The employment consequences of these sectoral changes are detailed in Table 9. Results are largely a reflection of the output results reported in Table 8. Accordingly, reservations about the extent of positive effects after the 1990s are a reflection of the uncertain fiscal setting. Of some interest, however, is the fact that job losses in the energy-producing sectors are comparatively small, reflecting the capital-intensive nature of production in these industries. Thus to the extent that negative effects on output are concentrated in these industries, the overall employment effect will tend to be muted. Consumer Goods & Services 48.5 90.6 107.3 41.6 69.5 For the Canadian economy as a whole, and compared to performance expected in the Base Case economy, total real production (measured by GDP at Factor Cost) is increased from 1996 forward. The peak positive effect of 1.5 per cent is reached in 2002. Reduced positive effects on demand from household, business and government spending related to the output of energy yield negative effects on total output, with this being most pronounced (-1.2 per cent) in 2006. Following that period, increasing fiscal stimulus returns to the size of the total economy to Base Case levels by 2010. Table 10 summarizes the allocation of these all-Canadian effects among provinces. Table 10 As the table reports, the basic pattern of effects over time is generally applicable to each of the provinces. Small distinctions reflect the varying sensitivity of industrial sectors to the impact, and varying weights of each industry in the total activity of each province. Impacts in two of the provinces are notably distinct, however. The extent of the positive effects in early years is larger than for the economy as a whole, and there is no reduction in overall activity during the mid-part of the next decade in Quebec and British Columbia. Although each of the provinces is affected by general positive effects of additional investment, negative effects of reduced energy demand and output, and the positive effects of fiscal stimulus in later years, the down sizing of energy production in energy utilities in Quebec and British Columbia is insignificant because of the dominant role of hydroelectric energy production in their electric power systems. Further, in both provinces, electric power exports (which are assumed to be unaffected by the initiative), are a relatively large source of demand for provincial production of power. And for British Columbia, production of coal, which in other provinces is notably reduced, is unaffected because of the export orientation of the province's industry. The largely neutral effect in Prince Edward Island reflects the large weight of public services, which are little changed by the Rational Energy Program, and of agriculture, which benefits from improved real disposable incomes, in the province. The impact in Alberta also deserves special notice. In this province, reduced refinery, electric power, natural gas distribution and other energy industries are notably affected negatively, as in other provinces. Given the weight of these industries in the province, there are overall adverse effects on production. But production of crude oil is little changed in the province given our assumption that reduced Canadian demand for crude oil is achieved through reductions in imports. Given the large weight of this industry in the province, adverse impacts that might otherwise be expected for the province are muted. As has been reported above, except for several years at the mid-point of the next decade, aggregate real output is increased. Further, through reduced production of the capital-intensive energy industries, there is an overall shift in the economy from capital to labour-intensive production. Accordingly, impacts on employment are generally positive over the 15 years of the impact period, including the period in the next decade when output is reduced. Table 11 reports employment effects for each of the provinces, and estimates of the effect on each province's unemployment rate. As this details, the general national pattern of effects is common to each of the provinces, with absolute levels of employment impact sensitive to the relative size of the province's employment base and, with some modest variations among the provinces, proportionately equal effects. What should be noted is that employment effects in the middle of the next decade are negligible for the country as a whole, and for each of the provinces. This result, however, is conditional in substantial degree to the extent which governments would be prepared to continue a GST rate reduction (or other form of recycling energy-tax revenues) at amounts that more than compensated for the energy tax revenues received. Table 11 Principal findings and qualifications Over the course of the 15 years, the Rational Energy Program by itself cannot change the size of the Canadian economy or employment, or that of any province by as much as one-year's growth, given the circumstances assumed in this analysis. Indeed, under those circumstances, there is a reasonable chance that total output would be increased during the early years of any initiative. Positive effects in the longer term are more problematic, but negative effects, while possible would be proportionately small. With large reductions in domestic energy demand, reduced production, employment and incomes in the energy industries is possible. Among energy-intensive using industries, the effects on their domestic demand and foreign trade circumstances may (as in these results) be effectively neutral. Positive effects on household real incomes suggests positive impacts on production of (the generally labour-intensive) service industries. Impacts on production of the government and other "social" sectors should be largely neutral. Two conditions are central to these findings. First, taken together, the cost of actions taken to reduce the use of energy must be matched by a roughly equivalent reduction in spending for energy by households, governments, and businesses. If supposed economic savings (reduced annual spending for energy) do not match the economic costs of achieving those savings, long-term, overall consequences are likely to be negative if Canada pursues such actions unilaterally. Unit costs of production would be increased relative to our trading partners, promoting reduced exports and increased imports. Failure to achieve reduced household spending for energy would have to be financed through either reduced spending for other goods and services, or through reduced savings. In the former event, impacts would be concentrated on demand that is ultimately supplied in large measure by labour-intensive production. In the latter event, reduced household savings would represent an upward pressure on Canadian interest rates. Second, for the longer term, although effects from general reactions in the economy also play a role, recycling of added energy-tax revenues through additional spending or tax reductions (as is assumed in these impacts) would have to exceed the ex post receipt of energy taxes. In the event that governments operate the fiscal system such that impacts on government balances are neutral, it is likely that the overall size of the economy and employment would be reduced to levels that are modestly lower than in the Base Case. Private household and business incomes would reflect that circumstance. This would enhance the balance sheet of governments beyond those reported in this study, but adversely affect those of households and businesses. This reallocation of savings among governments, households and businesses arguably should have little effect on general interest rates. We note as well that the choice of how to recycle energy tax revenues is crucial. The use of such funds to compensate households and/or businesses through direct income-tax reductions, or use of the funds to finance the capital formation needed to achieve energy reductions would leave the general economy with a higher aggregate price level, and likely a loss of international "competitiveness". Targeted allocation of such funds to capital formation (e.g., for a transit system) would distort allocation of capital with the potential for long-term reductions in the growth potential of the economy. Since impacts that are directly traceable to Rational Energy Program initiatives by themselves would have relatively small implications for the general economy and most industrial sectors, it should be understood that the nature and magnitude of the effects are also conditioned by what otherwise is happening in the economy. Three considerations are important. First, general borrowing costs can have a significant influence on sector incomes over time. In this analysis, the Base Case assumes that general borrowing costs remain relatively high (matching those of the last decade) for an indefinitely long period of time. Accordingly, borrowing by households and businesses to finance their capital expenditures diminishes net income of these two spending groups over time. As well, such an interest rate setting exaggerates the fiscal consequences of directly overestimating the extent to which energy-related tax revenues should otherwise be compensated. Second, international energy prices affect the value of real energy savings. The income effects in this analysis are sensitive to the underlying Base Case view that "real" world oil prices are increasing by an average one per cent annually over 1996 - 2010. To the extent that energy price levels might otherwise be lower than is assumed, this exaggerates the financial savings of reduced energy demand. Higher international prices, conversely, would provide increased financial benefits. Third, during periods of increased overall demand on the economy, the extent to which there are unemployed real resources in the economy can play a role in the size of impacts. In a fully employed economy, for example, additions to demand would likely be reflected in inflationary effects to a larger extent than is reported in this analysis. It should be kept in mind, however, that this analysis examines effects over a 15-year period. Judging from the record of the last generation, it is reasonable to suppose that, on average, otherwise unemployed resources (especially of labour) will be available to the economy. Finally, we note that this analysis assumes initiatives of the kind proposed in the Rational Energy Program are undertaken by Canada unilaterally, and we have made no attempt to account for "externalities" of the initiative. Accounting for a global initiative, and "externality" implications would have problematic impacts. The two, however, are themselves interrelated since externality impacts for Canada are, in part, sensitive to the extent to which the initiative is undertaken by Canada alone, or in concert with other countries. Adjusting to the adjustment While the macroeconomic analysis by Informetrica Limited shows modest negative impacts from implementation of the Rational Energy Program, it should be acknowledged that certain sectors of the economy, particularly electricity and coal, would have to adjust to lower demand. To the degree that the Rational Energy Program contributes to reduced employment in specific sectors, the Climate Action Network believes that the transition to a sustainable energy economy must include support for retraining of any displaced workers. |