5.4. ERMUSR 01-15-2008~/
Elk River -~
Municipal Utilities
13069 Orono Parkway • P.O. Box 430
Elk River, MN 55330-0430
January 8, 2008
To: Elk River Municipal Utilities Commission
Jerry Takle
Jerry Gumphrey
Jim Tralle
From: Bryan Adams
Subject: Climate Change Material
Phone: 763.441.2020
Fax: 763.441.8099
There is a lot of discussion on climate change and renewable energy in the news media and
within our electric industry. Whatever legislation has passed and implemented will have a huge
impact on our industry. I do not want to burden you with additional reading materials, but the
following four articles will give you a flavor of current discussion. They are as follows.
1) Meeting the Global Climate Challenge by Minnesota Chamber of Commerce
2) Is Liquefied Natural Gas a Dream or Reality by Pace.
3) MMUA draft position paper on Climate Change.
4) MMUA draft position paper on Renewable Energy.
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~ PACE
Fourth Quarter 2007
On the heels of establishing record high levels of
liquefied natural gas ("LNG") imports into the U.S.,
November imports hit their lowest levels in three years.
Of course, members of the easily-spooked "permanently
short" club suggest that the dream of LNG is over. Could
they be correct? A closer look at fundamentals in the
global LNG market suggests otherwise.
The year 2007 began with "normal levels" of LNG imports
in the U. S. -around 1.5 Bcf per day for January and
February. March came as a pleasant surprise to the U.S.
natural gas market when LNG ships lined up to its
domestic ports and imports climbed to nearly 2.9 Bcf per
day for the month and up again to just over 3.1 Bcf per
day in April, a level that was more or less maintained
through September. Many in the industry agree that the
sudden increase in U.S. LNG traffic can be attributed to
increased global liquefaction capacity
coming online over the winter of 2006-
07, as well as increased natural gas
production from Norway and mild
weather in the U.K. and continental
Europe. Still the question remains,
what happened in November? To be
certain, there are many factors at work
in the intricacies of the global LNG
market, but for the purposes of
simplicity we will focus the account on
two markets which had the greatest
amount of influence: Japan and Europe.
On July 16 the world's largest nuclear generation facility,
the 8.5 gigawatt Kashiwazaki-Kariwa plant, sustained
major collateral damage from a 6.8 magnitude
earthquake. Efforts have been underway to repair the
facility and bring it back online. Meanwhile, Japan is
buying up massive quantities of LNG, coal and fuel oil
from the global market to run thermal plants (which were
previously offline) in an attempt to maintain the integrity
of the power grid so they may continue to churn out steel
and big boats that carry -wait for it -LNG, coal and fuel
oil. This is having a significant, likely short term, impact
on the global LNG and dry bulk shipping markets.
The European gas market is the main competitor for LNG
to North America, where prices in each of the relevant
markets - U.S., U.K. and continental Europe -determine
the course of LNG cargoes throughout the year.
Transportation economics play a role in the transatlantic
arbitrage as opportunities to redirect ships occur when
the price differential for a commodity exceeds the
corresponding transportation costs.
However, the larger question is that of
the commodity cost on either side of
the ocean and underlying pricing
dynamics of their respective markets.
Europe is surrounded by major gas
supply provinces which include the
North Sea, Russia and Algeria.
However, due to geological
constraints, there is lack of natural
gas storage in the region. The U.K.
has particularly limited working gas capacity, especially
evident when viewed as a percentage of its consumption.
The U.K. consumes approximately 3.6 Tcf of natural gas
per annum and has but 141 Bcf of storage capacity
(~4.0%), in comparison to the U.S. which has an annual
Proprietary and ConfidenAiai
www.paceglobal.com
Is Liquefied Natural Gas a Dream or Reality?
~ PACE
Fourth Quarter 2007
demand of roughly 23 Tcf and 4.0 Tcf of storage capacity
(~17%). Therefore, the U.K.'s ability to prepare for, and
ultimately serve, peak winter demand is extremely limited.
In addition, as illustrated in the following exhibit, the U.K.
natural gas market has a distinctly seasonal pattern. Lack
of storage and significant seasonal demand
characteristics, leads to soft prices in the traditional off-
peak summer season and "must have" high prices in the
peak season to attract global LNG.
Exhibit 1: Gas Prices & LNG Imports Forecast (2005-2015)
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Source: EIA, Pace
What's next?
As of November 16, the Tokyo Electric Power Company,
owner of Kashiwazaki-Kariwa, did not include power
output from the facility in its winter supply capacity
forecast. So, LNG imports there should be expected to
continue at high levels (October was up 23% year over
year) throughout the winter of 2007-2008. Longer term,
Japan will remain a large importer of global LNG but it is
not expected to be a major competitor for cargoes
otherwise destined for the U.S.
We should expect the U.K., with a peak winter demand
three times that of the summer and extremely limited
storage capacity, to continue to outbid the U.S. for LNG
cargoes it deems necessary to meet winter heating
requirements. Especially when, as is the case in 2007,
the vast underground storage fields in the U.S. are flush
with gas -- high storage levels, mild winter weather
projections and strong domestic gas production offer little
support for the dramatic increases in prices necessary to
compete with desperate bidders in the U.K.' A pattern in
which summer cargoes fill U.S. storage facilities and
winter cargoes serve European demand will continue in
the future. The larger long-term question here is whether
LNG supply will be available.
If all goes as currently planned, (which, admittedly,
promotes hope over experience) global liquefaction
capacity will increase another 21 % in 2008, 17% in 2009
and 18% in 2010 - a 67% increase in world production
capacity over the next three years. New liquefaction
plants require a huge upfront investment and, once
operational, have very low marginal production costs, so
these plants are expected to run 24 hours a day, 365
days a year, for the life of their underlying production
basin's life (25-70 years). With China and India at least
temporarily sitting back because of high prices, where will
all this new supply go? It seems likely the answer is that
it will go to the market big enough to absorb the gas, the
United States.
'Of course, there is no explaining the impact of market vapors Spot gas prices in New York City went as high as $24/MMBtu in mid December, despite ample
Proprie[ary and Confidenda/
-2-
www.paceglobal.com
Is Liquefied Natural Gas a Dream or Reality?
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4 4 4 4 4 4 g q R 9 4 4 4 4 q 4 4 4 4 R
~ Q~ O~ Q~ O~ Q '~ O~ Q~ O~ Q~ O
^ Energy Sector ^ Power Generation
^ Industry ^ Residential 8 Commercial
^ Other Final Users
~ PACE
Fourth Quarter 2007
Gas Demand Uncerta(nty: European Coal-Fired
Generation
Steep increases in both commodity prices for
international steam coal and ocean vessel rates for dry
bulk shipments have caused delivered coal prices into
Europe to reach very high levels. Specifically, as of
November 30, 2007, McCloskey's marker price for
steam coal delivered to Northwest Europe had reached
US$128.50/metric tonne, an increase of US$25.20/
metric tonne over the past month and US$60.50/tonne
over the past year. This has resulted from a combination
of high steam coal demand (due to high Chinese and
Indian demand, and unusually large outages of nuclear
generating capacity in both Japan and Europe) and
constrained international supplies of steam coal due to
production and transportation difficulties in Australia,
Indonesia, and South Africa. Ocean vessels suitable for
dry bulk shipments are currently also in short supply
since additions to the vessel fleet have not yet caught
up with very strong Chinese demand. This comes as
Authored by:
unfortunate timing for the Europeans who are trying to
get their heads around the impact of carbon
compliance costs which are to be rolled out on January
3rd.
The pending carbon compliance costs are no trivial
matter, adding nearly 50% to current prices or
approximately 55 Euros on a ton of delivered coal --
assuming 2.4 tons of COZ per ton of coal and carbon
compliance costs at 23 Euros a ton of CO2. At such
levels, gas-fired generation begins to look economical.
Although it appears likely that international prices for
steam coal will remain high through most of 2008, Pace
expects that the current coal supply bottlenecks are
likely to be resolved over the next two to three years.
Substantial additions to dry bulk vessel capacity are
also expected by 2010. Therefore, Pace expects both
the coal commodity prices and the vessel rates
applicable to international steam coal shipments to
drop substantially by 2010.
Greg Ballheim, Manager
For further information on this
analysis, please see our
Market Outlook Series
Proprietary and Confidenlial
-3-
www.paceglobal.com
Is Liquefied Natural Gas a Dream or Reality?
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Minnesota Municipa/ Uti/ities Association
Climate Change
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Position Statement
Minnesota's public power systems recognize that the phenomenon of global climate
change is the most significant environmental policy issue confronting the nation. There is
a growing consensus within the scientific community that the problem is real„Hat-->-he _ -_--- Formatted: Not str~ketnrougn
and that release of greenhouse gases from a variety of
human activities worldwide ' ontributes to the problem.
In response to these concerns the 2007Minnesota State Legislature passed several
aggressive legislative p oposals dealing with the climate change issue These bills
mandate:
• Reductions in statewide greenhouse gas emissions by the year 2050 that are 80% ' ---- - Formatted: Bulleted + Level: 1 + Aligned at:
below 2005 levels_ o.zB° + Indent at: 0.53^
• A renewable enerev standard for electric utilities of 25% by the year 2025 ---- Formatted: Font color: Black
• Annual conservation savings for electric utilities of 15% per year -~- Formatted: Font color: Black
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3 On the federal level. we need to respond to the climate change challenge of dealing with
x problems that transcend state boundaries Toward that end we need to develop a forward
looking comprehensive national solution that ensures a reliable and cost effective supply
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of enerev.
Minnesota Municipal Utilities Association
February 2008
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We believe that Congress should concentrate its efforts on pushing for smart, effective
national climate change legislation that recognizes fuel diversity, is economy-wide, offers
appropriate incentives and credits, and acknowledges potential adverse impacts to U.S.
energy security and the economy. Minnesota's public power systems would support and
participate actively in these efforts.
MMUA believes that effective climate change policy must:
• Be national in scope.
• Be economy wide and apply to all industries, including sectors such as
transportation and manufacturing as well as electric generation.
• Protect the ability of U.S. and Minnesota industries to compete in world and
regional markets and carefully consider the competitive impact on jobs.
• Allow credit for early actions taken to reduce greenhouse emissions.
• Maintain reliability, protect national security and avoid over-reliance on any
single fuel by recognizing the importance to the nation of preserving a diverse
mix of electricity generation fuels, including coal, nuclear, natural gas, and all
renewable energy sources including hydro.
Minnesota Municipal Utilities Association
February 2008
• Place an enhanced and immediate economy-wide focus on all energy uses,
including encouraging increased energy efficiency of existing generating
resources.
• Ensure that tax-based or other incentives for the development and deployment of
renewable and clean energy facilities and programs are provided on a comparable
basis to all electric industry sectors including public power.
• Recognize and address regional differences that can impact the fairness and
effectiveness of any program designed to address greenhouse gas emissions.
• Include additional and expanded federal support for research, development and
deployment ofcost-effective technologies to reduce, capture, transform or
sequester greenhouse gases from emission sources throughout the national
economy.
• Ensure that any generation portfolio requirements include all low emission
technologies.
Minnesota Municipal Utilities Association
February 2008
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Position Statement
Minnesota Municipa/ Uti/ities Association
Federal Incentives for RenewableG~~-~ ~~'`
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W Two federal issues important to Minnesota municipal utilities should be addressed in any
energy legislation passed by Congress-Clean Renewable Enerev Bonds (CRF.RsI and
iv Renewable Energy Production Incentive (KEPI).
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~ Minnesota municipal utilities have long embraced the use of renewable generation to
o meet the electric energy needs of the citizens of their communities. They have been
s motivated by the need to secure wholesale power that will result in reliable and
reasonably priced service to their customers. It was for that reason, more than 50 years
~~ ago, that municipal utilities in western Minnesota began making commitments to
o purchase wholesale power from federal hydroelectric dams, at a time when power from
conventional sources would have been less expensive and, it seemed, possibly even more
o reliable. It is with this same sense of responsibility that municipal utilities are
s approaching the effort to develop wind and other renewables in order to meet a portion of
Z their electricity needs.
Minnesota has recently enacted the most comprehensive renewable energy standard
(RES) law in the United States. Patterned after a comprehensive proposal developed by
the Minnesota Municipal Utilities Association (MMUA) and passed with the support of
both utilities and environmentalists, the legislation:
• Requires investor-owned utilities, generation & transmission cooperatives and
municipal power agencies to produce 7% of their electricity from renewable
resources by the year 2010, 12% by 2012, 17% by 2016, 20% by 2020 and 25%
by 2025.
• Connects Minnesota with neighboring states in a renewable energy credit trading
system so that energy from wind turbines, landfills, biomass plants and other
renewable sources can be shared and sited in optimal locations.
• Phases out the current green pricing requirement in the law, which requires
utilities to provide electricity from renewable sources to customers who request
such service. A green pricing mandate is no longer necessary, given the
aggressive implementation schedule of the proposed RES.
Power from renewable resources and advanced technologies continues to be more
expensive than power from traditional generation sources. Federal investment incentives
are needed to encourage the construction of these facilities. The federal government has
determined that tax policy is a viable mechanism to encourage renewable and provides
private developers with the Production Tax Credit (PTC), a federal tax credit for
electricity generated from qualifying renewable energy projects. However, investment tax
Minnesota Municipal Utilities Association
February 2008
credits made avai8lable to privately-owned utilities and energy production companies do
not create incentives for publicly-owned or rural electric cooperative utilities, which
serve 25 percent of the nation's electricity load. With the passage of Minnesota's
aggressive new RES legislation, federal support for renewable development by
Minnesota municipal utilities is more essential than ever before.
Clean Renewable Energy Bonds (CREBs). To address this lack of equity, Congress
enacted the CREBs program in the Energy Policy Act of 2005 (EPAct 2005). CREBs is
a debt instrument which can be offered for qualified renewable facilities under Section 45
of the tax code; the program is administered by the IRS under the supervision of the U.S.
Department of Treasury. Investors receive credits against their federal income tax
liability instead of the traditional interest that is usually paid by the issuer. The municipal
utility or cooperative is liable for the face value of the bond, and saves by owing no
interest on the bond. The federal government essentially pays the "interest" in the form of
tax credits. The CREBs program will provide public power systems greater certainty and
affordability in both planning and investing in renewable resources.
However, due to the statutory program cap and the Treasury allocation methodology that
selected smallest projects first, the awards for governmental entities were capped on $3.2
million -with the vast majority of funded projects being proposed by non-utility
governmental entities such as schools and libraries. Consequently, the program fell short
of providing an effective financing tool to utility-scale investments.
We urge Congress to extend the CREB program beyond 2008, and ensure that all
qualified facilities that apply for the program receive full funding for their projects.
This would occur in conjunction with an extension of the production tax credit and
investment tax credit for the for-profit utility sector.
Renewable Energy Production Incentive (KEPI). The KEPI program was created by
the Energy Policy Act of 1992 to authorize the U.S. Department of Energy (DOE) to
make direct payments to publicly and cooperatively-owned electric utilities at the rate of
1.5 cent/kWh (indexed for inflation) for electricity generated from solar, wind, and
certain geothermal and biomass electric projects. KEPI has been the only incentive
available on the federal level for these utilities to make new investments in renewable
energy projects. It has been instrumental in making possible public power wind projects
in Minnesota.
Congress implemented the program with two goals in mind: 1) to assist public power
utilities in overcoming economic barriers to greater renewable energy use; and 2) to
ensure equity between investor-owned utilities that receive energy tax credits and not-for-
profit utilities that are unable to do so.
Reauthorization of the KEPI program was also achieved in EPAct 2005 and on August
14, 2006, DOE issued its final rule on the reauthorized KEPI program. For FY 2007, the
House has passed legislation that funds the KEPI program at $4.96 million, the same
amount requested by the Administration in its FY 2007 budget. The Senate
Minnesota Municipal Utilities Association
February 2008
Appropriations Committee has approved $4.94 million for the REPI program for FY
2007. However, Congress has not finalized the Energy and Water Development
appropriations bill; until they do, REPI is being funded at the FY 20061evel, which is
$4.96 million.
For the past 15 years REPI has been the primary federal program for assisting public
power systems in overcoming economic barriers to greater renewable energy use. But the
program has been consistently over-subscribed and under-funded, and should be funded
at a substantially higher level to accomplish its purpose.
Congress should continue to fund the REPI program but at much higher levels than
have been requested by DOE in the past.
Minnesota Municipal Utilities Association
February 2008