From December 17, 1996 Public Workshop
Date: February 10, 1997
Contact: Val Siebal, Special Assistant to the Secretary, (916)
Author: Fereidun Feizollahi, Economics Unit, Air Resources Board
This memo summarizes comments from participants at the SB 1082 workshop held on December 17, 1996. As you recall, the participants were given until January 31, 1997, to submit additional comments if they desired. Per your instructions we are preparing a document summarizing and later addressing the comments to post on the Cal/EPA Internet page.
The comments are categorized into comments on definitions, methodology, and general.
Equally as Effective: Only the alternatives that the BODs find "equally as effective" as the proposed major regulation must be evaluated. The current definition in the Guidelines says,"equally as effective" means that a submitted alternative or combination of alternatives would achieve the same purpose as the proposed regulation, and would achieve at least the equivalent level of environmental protection consistent with the purpose of the proposed regulation and applicable statutory mandates, within the same time frame as the proposed regulation. In determining whether a submitted alternative is equally as effective as a proposed regulation, the agency shall consider all relevant factors, including but not limited to the enforceability and technological feasibility of the regulation and the submitted alternative."
One concern expressed at the workshop is the lack of strict guidelines that would ensure equal environmental protection when comparing alternatives. It was suggested that in the pursuit of less expensive alternatives, environmental protection is often neglected and compromised. Furthermore, it is very difficult to design equivalent alternatives and even more difficult to compare alternatives that claim to be equivalent. Hence, it was suggested that the definition of "equally as effective" should be tightened to direct emphasis to environmental protection rather than costs.
A comment was made regarding the time frame requirement for an alternative to be equivalent to the proposed regulation. It was suggested that alternatives with different compliance rates that meet the same goals as the proposed regulation should qualify as equivalent. The methodology in the Guidelines should accommodate alternatives that "ramp up slowly with a large out-year benefit, as well as strategies that achieve large near-term reductions that may level off quickly."
A third comment emphasized consideration of combination of alternatives that achieve the same goal as the proposed regulation.
Costs: The Guidelines currently define cost as, "the total of the nonrecurring expenditures and the recurring expenses incurred by California business enterprises to comply with a regulation."
This definition covers only the direct costs of complying with a proposed regulation. It does not account for indirect costs that may be incurred by other industries or by consumers once the proposed regulation is implemented. Most comments on the cost definition asked for a more comprehensive definition that includes indirect costs to other industries, and to consumers.
Major Regulation: It is currently defined in the Guidelines as, "any proposed regulation that will have a potential cost to California business enterprises in an amount exceeding ten million dollars ($10,000,000.00) in any single year, as estimated by the agency pursuant to Government Code section 11346.3."
There was one comment related to this definition that was expressed by a few participants. The current definition considers costs in any one year to qualify the proposed regulation as major. The participants ask to consider the present value of all costs during the project horizon to qualify a proposed regulation as major. This alternative definition would subject more regulations to SB 1082 requirements than the current definition.
Discount Rate: It is currently defined as, "the interest rate on United States Treasury Securities with a maturity that most closely approximates the project horizon, plus 2 percent risk premium to allow for uncertainty in future interest rates."
This definition of discount rate is general and is intended to introduce consistency to cost evaluations. It was suggested that this definition be changed to one that selects a rate closely related to the capital costs of the regulated entities. "Business discount rates should be utilized for business behavior; societal discount rates for societal behavior." Also, any rate selected should be justified and made consistent with those used by state and federal agencies.
The Guidelines specify cost/effectiveness method for comparing submitted alternatives to proposed regulations. The guidelines do allow other methods for cost calculation and comparisons if they are justifiable for specific cases.
To calculate the costs, the guidelines explain a method that allocates costs evenly over the project horizon while adjusting the cost for time value of money to account for interest cost of invested capital. The cost allocation is performed using capital recovery factors which result in an equal annual cost amount per year. This annual amount is then divided by annual environmental protection change (e.g., tons of pollution reduced) to derive cost-effectiveness (e.g., dollars/ton). In the workshop this method became known as the "capital recovery method."
A second method was suggested at the workshop, and became known as the "present value method." This method aggregates all costs and changes in environmental protection. The costs are discounted to a specific year, such as present, hence the name, to account for the time value of money (a dollar ten years from now is worth less than a dollar today). The present value of the costs is divided by the total environmental change over the project horizon to derive cost-effectiveness.
Reduced Analysis: It was suggested that instead of comparing cost-effectiveness ratios, (steps c.2.E and c.2.F of the cost-effectiveness methodology in the Guidelines) simply compare total costs and choose the least costly of the equally as effective alternatives.
Sensitivity Analysis: It was suggested that all assumptions made for cost evaluations of the proposed and submitted alternatives be explicitly stated. Also, that the impacts of and variations in the assumptions on businesses and consumers be analyzed and reported.
Dynamic Analysis: Costs of alternatives are estimated assuming all other factors remain the same. Similarly, the effects of a regulation on environmental protection assumes a static world where everyone continues to behave as they were before a regulation took effect. The suggestion of dynamic analysis puts forth the idea that other factors do change and people adjust their behavior due to new regulations. These dynamic changes affect regulation's costs of and level of protection. If this is true, then the cost-effectiveness calculations methodology should be designed to account for dynamic changes.
Multiple Benefits: Some regulations affect more than one pollutant or benefit the environment in more than one way. The cost evaluations, it was suggested, should specify a methodology to allocate regulatory costs to each of the benefits.
Disaggregation of Impacts: Cost evaluations of regulations that implement a uniform requirement throughout the state may be quite misleading. Cost-effectiveness of a regulation calculated at an aggregate state level may be off by orders of magnitude for a small business. A business that is in a rural area may face a completely different cost structure from one located in an urban area. These and other disaggregation considerations should be fully analyzed.
Project Life: Often a regulation remains on the books indefinitely. This makes it difficult, if not impossible, to assign a project horizon for cost evaluation purposes. It was suggested to use a standard horizon of 15 to 20 years for such regulations.
To avoid a "two-tier review of alternatives", and to ensure fairness in the regulatory process, it was suggested that alternatives to the proposed regulation be developed internally and from the public, before 45-day notice is issued. This way elements two and four of the Economic Analysis Program can be combined to perform only one cost-effectiveness analysis.
It was also suggested that agencies be required to publish their findings on all alternatives considered and rejected.