Project Finance Blog

Courts Uphold ZEC Programs for Nuclear Plants in Illinois and New York | Norton Rose Fulbright

Posted by Robert Shapiro

October 12, 2018

Posted in Power Blog article

The United States Court of Appeals for the Seventh Circuit and for the Second Circuit each upheld a state's creation of a rate subsidization plan to keep operating nuclear plants economically afloat by paying them for zero carbon emission credits, or ZECs. A ZEC is created when an operating nuclear plant generates a megawatt hour of electricity. Each utility in the state is required to purchase a certain amount of ZECs that are generated from the nuclear plants at fixed prices. A ZEC is a zero carbon attribute of the energy generated, apart from the energy itself. The energy is sold separately to third parties.

The challengers to the ZEC programs argued that the ZEC price incentive violated federal law by distorting the competitive wholesale markets that are exclusively regulated by FERC. They claimed that the incentive depressed market prices and allowed uneconomic plants to continue to operate by creating an adder to the FERC regulated wholesale market rate.

In the Seventh Circuit, where the Illinois ZEC program was being challenged, the Court asked FERC and the federal government for its views on the issue. FERC and the federal government sided with the states and said that the ZEC program was not preempted by federal law.

The issue turned largely on the interpretation of the  US Supreme Court's 2016 decision in the case of Hughes v. Talen (Hughes). In that case, the states of Maryland and New Jersey created an incentive for new gas-fired generation by requiring the local utilities to sign a fixed price contract for capacity from winning bidders  who built new gas-fired plants, provided that the winning bidders bid their capacity into the competitive markets, successfully cleared their capacity in the markets, and netted those market payments against the fixed payments in the contract. In Hughes, the Supreme Court invalidated the state programs, finding that those programs directly affected the federal rates approved pursuant to the competitive market auctions, and were therefore federally preempted.

The Hughes case did not provide a bright line between state action that was permissible and state action that interfered with FERC's exclusive jurisdiction. Rather it gave a few examples of permitted state action and stated generally that state action would be permitted if it is "untethered to a generator's wholesale market participation."

On September 13, 2018, the Seventh Circuit found that while the nuclear plants with ZECs have to generate power in order to get the credit, the state did not expressly require the plants to sell their power in the competitive wholesale markets regulated by FERC. The challengers argued that the nuclear units "in practice" had to sell all of their energy in the competitive wholesale markets because, as projects with capacity commitments in the wholesale markets, they are required to offer their energy in the wholesale market every day. But the Court was unmoved, holding strictly to the view that the state did not compel this participation and thus did not cross the line into exclusive federal territory.

Two weeks after the Seventh Circuit decision, the Second Circuit reached the same result with respect to the New York ZEC program largely on the same grounds as the Seventh Circuit. It found that the New York program does not expressly mandate that the plants receiving ZEC subsidies must bid into the New York competitive market auctions under FERC jurisdiction, even though they may in fact do so. In addition, the Second Circuit provided another basis for upholding the state's action – the similarity of the ZEC program to the state's REC program.

RECs, or renewable energy credits, are the environmental attributes associated with the production of energy from renewable resources like solar or wind. Over 30 states have established renewable portfolio standards that require the regulated utilities to purchase some portion of their supply from renewable energy, including RECs. In many of these states, the RECs are "unbundled" from the associated energy produced and are sold as a separate product.

A ZEC, like an unbundled REC, is created and sold separately from the energy itself. The Second Circuit noted that FERC decisions have found that a REC is not subject to FERC jurisdiction but rather is a creature of state law. The Court determined that a ZEC, like a REC, " is a certification of an energy attribute that is separate from a wholesale charge or rate." It noted that both "RECs and ZECs are given in exchange for the renewable energy or zero-emissions production of energy generators." The Court found that the challengers, who did not argue that RECs are federally preempted, failed to adequately distinguish between RECs and ZECs, and that neither were "tethered to wholesale prices" in the manner that concerned the US Supreme Court in Hughes.


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