1

Allowance Holding Limit under the Cap-and-Trade Program Summary of Key Issues

June 19, 2014

This paper explains why the cap-and-trade program’s holding limit will make it easier for speculators to manipulate the market and abuse their market positions, and how this situation can be corrected. Tab 1 through Tab 16 provides background information and supporting materials.

1. The Holding Limit

• Section 95920 of the cap-and-trade regulations prevent program participants from holding allowances in their holding accounts above a certain quantity – the holding limit.

• The holding limit is set relative to the size of the cap of the program, regardless of number of assets and emissions of any individual company. During the first compliance period (2013-2014) the limit is approximately 6.5 million allowances for each company and, when the cap increases in the second compliance period (2015-2017) and transportation fuels come under the cap, the limit will increase to 12.6 million allowances each company.

2. The Holding Limit Properly Restricts the Ability of Speculators to Game the Market

• The holding limit is important because it limits the ability of “speculators” to accumulate a “long” position (a quantity of allowances they do not need to surrender to comply with the program) of allowances that would allow them to manipulate the market or abuse their market positions.

• Market manipulation in the cap-and-trade program is a concern because the market is relatively small. For example, California’s carbon market is only 10% the size of the EU carbon market. Smaller markets are more prone to market manipulation and abuse of market positions because it is easier for any single market participant to take a position that is material relative to the overall market.

3. The Holding Limit (as Currently Designed) Is Flawed Because It Reduces the Size of the Market and Opens the Door to Market Manipulation

• Larger entities that have significant investments and operations in California have compliance obligations that exceed the holding limit. To remain in compliance with the holding limit, large emitters must rely on a “limited exemption” in the regulations that excludes from the holding limit the number of allowances they need to surrender during the applicable compliance period. To qualify for the limited exemption, however, the emitters must move the allowances from their holding account to their compliance accounts, which are one-way, lockbox accounts from which allowances cannot be traded. The allowances must be held in the compliance account until they are retired by the Air Resources Board.

2

• As illustrated in the table below, certain compliance entities must move a large proportion of their allowances into their compliance account in order to comply with the program.1

Minimum Proportion of Allowances that Must be Placed in the Compliance Account Relative to Compliance

Obligation2 Compliance Period 1 Compliance Period 2 Company A 68% 87.73% Company B 83% 76.34% Company D 53% 91.01%

• As compliance entities move allowances into their compliance accounts, the market shrinks, liquidity diminishes and the positions of speculators grow relative to the overall market size. Specifically, the table below and the calculations included in Tab 14 show how, as a result of the holding limit, more than 400 million allowances (the equivalent of a full annual cap) will be removed from the market and unavailable for trade in the months preceding the November 1, 2018 triennial surrender obligation.

Minimum Quantity of Allowances that Must be Moved into Compliance Accounts

Compliance Period 1 Compliance Period 2 Company A 13,952,500 90,538,000 Company D 7,322,500 128,218,000 Company F 1,229,700 43,498,000 Total for the 9 Largest Compliance Entities 80,278,200 401,242,800

• This problem is particularly acute for large fuel companies because while the number of allowances granted to each participant nearly doubles in the second compliance period to account for fuels coming under the cap, the increased compliance obligations for fuels will accrue primarily to a few large firms.

4. LAO, UVA/PEAR and EMAC Agree that the Holding Limit Needs to be Changed

• As early as February 9, 2012, the California Legislative Analyst’s Office (“LAO”) identified issues with the holding limit. In its report LAO wrote that if “participants could not buy — or hold and sell — as many compliance instruments as they may want, their abilities to ‘correct’ through their trading transactions, for prices that they thought were too high or too low, including price changes due to price manipulation, would be limited.” (see Tab 1).

• In February 2013, the University of Virginia and Power & Energy Analytic Resources (“PEAR”) released a report analyzing laboratory experiments conducted with student subjects and simulated auctions using experienced professionals. The report found that “holding limits may have a substantial effect on market performance and may actually have the unintended effect of increasing the probability of market

1 Data in this table is excerpted from a larger table in Tab 14 showing forecasted minimum compliance burdens

for the 9 companies with the largest compliance obligations 2 Information on compliance obligations in the tables on this page is drawn from ARB data, available at

http://www.arb.ca.gov/cc/reporting/ghg-rep/reported-data/ghg-reports.htm.

3

manipulation.” Holding limits also “contributed to higher price variability, less effective price discovery, lower efficiency, and ultimately reduced banking, which translates into delayed reductions in greenhouse gases.” See Tab 2.

• Similarly, the Emissions Market Assessment Committee for AB 32 Compliance Mechanisms (“EMAC”), ARB’s own blue ribbon committee of economists, has raised issues with the current holding limit. For example, EMAC explains that “if one industry (e.g. refining) experienced a surge in demand while another (e.g., electricity) had unexpectedly low compliance needs, then the fact that many allowances may be ‘stuck’ in the compliance accounts of electricity firms can be inefficient and raise compliance costs.” See Tab 3.

• Trade associations, coalitions and companies have repeatedly requested changes to the holding limit from ARB. Tab 4 to Tab 13 include comments submitted by WSPA, Chevron, PG&E, CCEEB, SCE and IETA as early as December 15, 2010.

• The use of holding limits to control spot positions (as opposed to forward markets) remains largely untested and fairly controversial across all commodity markets. See Tab 8 for a discussion of the purpose of holding limits in forward markets. See also Tab 15 for a decision of the D.C. District Court striking down a proposal for the adoption of holding limits by the Commodity Futures Trading Commission (“CFTC”) and Tab 16 for a letter on holding limits filed by the International Swaps and Derivatives Association, Inc. (“ISDA”) and the Securities Industry and Financial Markets Association (“SIFMA”).

5. The Holding Limit Must Be Amended to Strengthen the Program and Reduce the Risk of Market Manipulation

• As noted by EMAC, the primary issue here is that the holding limit as currently designed is static and does not recognize that certain entities with investments and operations in California have a legal obligation to surrender allowances. Unlike speculators, such entities must acquire and hold allowances to comply with the law.

• To address these issues, the holding limit should be amended to permit covered entities to freely sell or transfer all allowances in their holding or compliance accounts (except for allowances that have expressly been retired) instead of having allowances become non-transferable once they have been placed in the compliance account. This limited amendment would strengthen the integrity of the market by ensuring that allowances remain available for trade until retirement and contribute to liquidity, while avoiding strengthening the positions of speculators as compliance deadlines approach.

Index of Documents

LAO & EMAC Analysis

1. Mac Taylor, Legislative Analyst’s Office, Evaluating the Policy Trade-Offs in ARB’s Cap-and-Trade Program, February 9, 2012

2. University of Virginia and Power & Energy Analytic Resources Project Team, Investigation of the Effects of Emission Market Design on the Market-Based Compliance Mechanisms of the California Cap on Greenhouse Gas Emissions, February 18, 2013

3. Severin Borenstein, James Bushnell and Frank A. Wolak, Emissions Market Assessment Committee for AB32 Compliance Mechanisms, Issue Analysis: Holding Limits in California’s Greenhouse Gas Emissions Cap-and-Trade Market, November 8, 2013

Industry Comments

4. IETA Comments on Carbon Cap-and-Trade Program Rules, December 6, 2010

5. Chevron, Comments on October 28 Proposed Regulation to Implement the California Cap and Trade Program, December 15, 2010

6. Southern California Edison Company, Comments to the California Air Resources Board on its Proposed 15-Day Modifications to the Cap-and-Trade Regulation, Released July 25, 2011, August 11, 2011

7. Western States Petroleum Association, Comments on Cap and Trade Regulation (July 25, 2011 Proposed 15 Day Modifications), August 11, 2011

8. Linklaters, Comment on July 25, 2011 Proposed 15-Day Modifications to Cap on Greenhouse Gas Emissions and Market-Based Compliance Mechanisms, August 11, 2011

9. Western States Petroleum Association, Comments on the May 9, 2012 Amendments for Linking California’s and Quebec’s Cap-and-Trade (C/T) Programs, June 27, 2012

10. Chevron, Comments on the Air Resources Board July 15, 2013 Discussion Draft Proposed Amendments to Cap and Trade Regulation, August 2, 2013

11. Chevron, Comments on the Air Resources Board September 4, 2013 Proposed Regulation Order, October 16, 2013

12. Pacific Gas & Electric, Comments on the Air Resources Board 45-Day Amendments to the Cap-and-Trade Program, October 18, 2013

13. California Council for Environmental and Economic Balance, Comment on Proposed Amendments to the California Cap-and-Trade Program, October 23, 2013

14. Chevron, Analysis of the Effect of Holding Limits on the Largest Emitters in the California Cap-and-Trade System, June 4, 2014

CFTC Position Limits

15. Int’l Swaps and Derivatives Ass’n, et al. v. U.S. Commodity Futures Trading Comm’n, Civil Action No. 11-cv-2146 (D.C., September 28, 2012)

16. ISDA/SIFMA, Comment on Proposed Rulemaking – Position Limits for Derivatives (RIN 3038-AD99), February 10, 2014

Tab 1

Mac Taylor, Legislative Analyst’s Office, Evaluating the Policy Trade-Offs in ARB’s Cap-and-Trade Program, February 9, 2012

Evaluating the Policy Trade-Offs in ARB’s Cap-and-Trade Program

limit were tight enough. That said, the potential effectiveness of holding limits at reducing manipu-lation depends on having sufficient oversight mechanisms in place to detect and penalize such conduct. Also, there are reasons to be wary of holding limits. If the limits were too restrictive, participants could be unable to hold or use desired amounts of compliance instruments for legitimate business purposes, potentially weakening the program in several important ways. Participants might need to find multiple buyers or sellers if they wanted to sell or buy many compliance instruments because any single party would be limited in what they could hold. Because participants could not buy—or hold and sell—as many compliance instru-ments as they may want, their abilities to “correct,” through their trading transactions, for prices that they thought were too high or too low, including price changes due to price manipulation, would be limited. Also, the establishment of holding limits might prompt some participants to try to circumvent them, thus making market oversight more difficult. For example, an entity that wanted to circumvent holding limits could create an entity that registers as a separate market participant but that they actually control. If ARB did not know the controlling entity was linked to the new participant, ARB would not know to limit their joint holdings.

By their nature, holding limits are somewhat arbitrary and inflexible. Moreover, it is possible that the risk of carbon market manipulation may be overstated. Other types of markets involving the trading of commodities function well without holding limits. In summary, the cap-and-trade program designed by the ARB relies on holding limits to attempt to reduce various risks associated with detrimental market behavior at the potential cost of creating less efficient markets and higher overall compliance costs.

TRADE-OFFS RELATED TO ENFORCEMENT PROVISIONS

Lax Enforcement of Cap-and-Trade Rules

Could Weaken Program

Under a cap-and-trade approach, it is possible that at least some entities would fail to surrender in a timely fashion sufficient compliance instru-ments to cover the emissions they reported for a period. This could be the result of intentional actions or could be inadvertent on the part of covered entities. In any event, ensuring compliance with these requirements is critical to the success of constraining GHG emissions under a cap-and-trade program. Failure to address such issues would undermine the goals of the program.

Penalties Faced by Entities

Not Covering Their Reported Emissions

Quadruple Penalties for Noncompliance. Under the ARB cap-and-trade regulations, a covered entity would generally have to surrender four times more compliance instruments than will otherwise be required if it failed to comply with program deadlines. For example, if a covered entity had 100 tons of CO2e emissions but only surren-dered compliance instruments covering 90 tons of emissions on time, as a penalty it would have to surrender compliance instruments covering 40 tons of emissions. If emissions were not subsequently covered by compliance instruments as required, the ARB regulations indicate that other penalties would be possible.

Trade-Offs. As noted above, establishing penalties for noncompliance is essential to the success of the cap-and-trade program. Excessive penalties for late compliance, however, could force covered entities to hold an excessive number of compliance instruments as insurance against emissions spikes or compliance instrument price

A N L A O R E P O R T

www.lao.ca.gov 23

Also, there are reasons to be wary of holding limits. If the limits were too restrictive, participants could be unable to hold or use desired amounts of compliance instruments for legitimate business purposes, potentially weakening theprogram in several important ways. Participantsmight need to find multiple buyers or sellers if they wanted to sell or buy many compliance instrumentsbecause any single party would be limited in what they could hold. Because participants could notbuy—or hold and sell—as many compliance instru-ments as they may want, their abilities to “correct,”through their trading transactions, for prices thatthey thought were too high or too low, includingprice changes due to price manipulation, would be limited. A

By their nature, holding limits are somewhatarbitrary and inflexible. Moreover, it is possible that the risk of carbon market manipulation may be overstated. Other types of markets involvingthe trading of commodities function well withoutholding limits. I

o�set credits to covering at most 8 percent of its compliance obligations per compliance period. As we have discussed, this limit is a somewhat arbitrary one, and potentially leads to higher compliance costs. �e Legislature could consider the option of taking a di�erent approach to regulating the use of o�sets—one directing the ARB to eliminate the 8 percent limit and instead using stringent veri�cation standards to limit the use of o�set credits. Provided veri�cation standards were su�ciently high, there would be only a relatively low risk of emissions exceeding targeted levels due to failed o�set projects.

Addressing Problematic O�set Projects by Means Other �an Credit Invalidation. Under the cap-and-trade rules, ARB currently can seize o�set credits if an audit revealed a problem with the associated o�set project. However, the risk that o�set credits could be invalidated and seized a�er they have been veri�ed creates uncertainty about their value in the carbon market and may deter o�set credit use. If the Legislature wanted to avoid these consequences, it could consider the option of directing ARB to use other means to address failed o�set projects. For example, o�set producers could be required to carry insurance against the potential costs of o�set project failures. (While such an insurance market does not exist currently, it potentially could arise.) If a project failed, the insurance proceeds could be used to buy compliance instruments from the carbon market to make up for the project failure. If that approach turns out not to be practical, another option would be for ARB to establish a reserve of o�set credits from which it could draw to make up for failed projects. �at reserve could be established and maintained through contributions required from o�set producers as a condition of selling o�set credits.

Eliminating Holding Limits. �e particular holding limits chosen by ARB in its design of the

cap-and-trade program have not been justi�ed analytically, were set before actual trading in allowances could be observed, and do not adjust automatically with changing market conditions. �erefore, ARB’s holding limits are unlikely to be optimal. As discussed above, there are signi�cant consequences if the holding limits are set too tightly or too loosely. If set too tightly, they might make trading unnecessarily costly and reduce �exi-bility regarding when emissions reductions take place. If set too loosely, they would be ine�ective at deterring the manipulation that they are intended to prevent. Attempting to change the holding limits over time to be more optimal presents its own set of problems. A potentially time-consuming public process would be needed to modify the ARB’s regulations on holding limits. By the time such regulatory changes were made, market conditions might have changed again.

Since it is possible that ARB’s holding limits may be ine�ective in deterring market manipu-lation or may serve to unnecessarily increase compliance costs, the Legislature could consider the option of eliminating holding limits. In their place, the Legislature could rely on better tools to deter manipulation, such as increased penalties on those found guilty of market manipulation.

Setting a Lower Floor for Allowance Prices. As we noted above, the ARB plan for cap-and-trade would rely on minimum bidding requirements in auctions to set what amounts to a �oor on allowance prices. �e minimum bid will be $10 per ton of CO2e in 2012 but will grow at 5 percent per year in real terms. �is would help to stabilize the prices of allowances but could increase cap-and-trade compliance costs.

�e Legislature may wish to consider the option of directing the ARB to set a lower price �oor than $10, or have it grow more slowly than the current 5 percent per year, if market prices below the targeted price �oor were a realistic possibility.

A N L A O R E P O R T

www.lao.ca.govLegislativeAnalyst’sOffice 29

Tab 2 University of Virginia and Power & Energy Analytic Resources Project Team, Investigation of the Effects of Emission Market Design on the Market-Based Compliance Mechanisms of the

California Cap on Greenhouse Gas Emissions, February 18, 2013

Investigation of the Effects of Emission Market Design on the Market-Based Compliance Mechanism of the California Cap on Greenhouse Gas Emissions

University of Virginia – PEAR Project Team February 18, 2013

Investigation of the California Cap and Trade Market Design Page 7

I. Executive Summary

• In January 2013 the California Air Resources Board (ARB) launched the world’s first economy-wide greenhouse cap and trade system. The state’s experience with electricity deregulation convinced ARB of the need to add unique design elements aimed at preventing:

‒ buyers from gaining dominant market positions that could give rise to undue market influence, for which ARB specified a ceiling on the maximum number of allowances one company could maintain (“holding limits”); and

‒ excessive price volatility for California carbon allowances that would disadvantage the state’s consumers and businesses, leading ARB to set aside a reserve of allowances to be sold at pre-established prices (“allowance price containment reserve, or APCR”). In addition, some economists have urged ARB to keep allowance prices from rising above the third tier of the APCR, which would effectively impose a “hard cap” on allowance prices.

• The holding limits and APCR provisions have been criticized for potentially creating

their own problems, which could hinder the development of the California carbon market. In addition, concern has been expressed over the viability of these features during randomly occurring periods of especially high demand for emission allowances (e.g., years of low hydroelectric power availability.)

‒ In our analysis, we studied the impact of ARB’s program design on market behavior using experiments with student subjects in carefully controlled laboratory settings and simulations with experienced professionals in a richer but less controlled market setting.

‒ These complementary methods generated mutually reinforcing results but also provide added information about what factors might be driving the results.

• In both our experimental sessions and market simulations, we were able to detect patterns

of differences attributable to the imposition of holding limits and the APCR on four key indicators of market performance, including 1) price discovery, 2) efficiency, 3) volatility, and most critically, 4) liquidity, which is regarded by many economists as the key factor in defeating market manipulation.

• In summary, we found that holding limits can have a significant negative impact

across the board on each of the four market performance indicators. Tight holding limits (those that constrain normal operations of entities with large obligations) contribute to reduced liquidity, higher price volatility, less effective price discovery, and lower efficiency.

‒ Much of this effect occurs through reduced banking of allowances in holding accounts, which is critical given that the ability to bank reflects sources’ flexibility to manage risk and to mitigate the effects of increasing scarcity over time.

‒ The resulting reduced banking also translates into delayed reductions in greenhouse gases.

• Our results suggest that an APCR serves a useful function for emission markets. APCR did

change subject behavior by lowering their risk of large price spikes. We found that subjects

Tab 3

Severin Borenstein, James Bushnell and Frank A. Wolak, Emissions Market Assessment Committee for AB32 Compliance Mechanisms, Issue Analysis: Holding Limits in California’s

Greenhouse Gas Emissions Cap-and-Trade Market, November 8, 2013

Issue Analysis1: Holding Limits in California’s Greenhouse Gas Emissions Cap-and-Trade Market

by

Severin Borenstein, James Bushnell and Frank A. Wolak Emissions Market Assessment Committee for AB 32 Compliance Mechanisms

November 8, 2013

In this paper we discuss the current framework for limiting the ownership (“holdings”) of allowances by entities and offer a potential shift in that framework. As a general concept, we recommend more focus on the holdings of a firm relative to its compliance obligation rather than on a single holding limit and to allow trading of allowances held in compliance accounts under certain circumstances.

Goals of Holding Limits

The motivation for developing limits on allowance holdings is to provide a defense against a single firm using a large share of allowances to either exercise market power or manipulate the allowance market. In order to profitably execute such a strategy a firm would need to be able to a.) control enough allowances that withholding (or threatening to withhold) them from the market would impact prices and b.) retain enough permits beyond the withheld amount so that selling the remainder generated sufficient profits to offset the costs of acquiring all the allowances. By constraining the total allowances a firm is allowed to control, holding limits can be a blunt but effective tool for discouraging such strategies.

Importantly, holding limits are one of the primary tools available to ARB for discouraging and preventing manipulation and market power. While some attempts to withhold permits from the market may be prosecutable under Federal commodity regulations or State law, we can envision many strategies to remove allowances from circulation that may not be easily prosecutable. Further, we agree with the perspective that prevention is preferable to ex-post prosecution, possibly after a market disruption. It should be noted that all commodity markets rely upon transparency as another tool for discouraging manipulation, as we discuss in our concurrent paper on information policy.

1 The Emissions Market Assessment Committee (EMAC) was formed to provide independent analysis and advice to the California Air Resources Board (CARB) and staff on implementation of California’s greenhouse gas (GHG) cap-and-trade (C&T) market. Issue analyses reflect the views of the EMAC at the time they are released. They are written in order to inform stakeholders of the EMAC's views in a timely manner and to invite feedback from interested parties. The EMAC will update its views as new information arises and circumstances change.

2

Current Holding Limit Framework One of the great challenges in developing a policy on holding limits is establishing a limit

that sufficiently discourages manipulation while providing sufficient flexibility for firms in the market to execute legitimate compliance strategies. Economic theory provides little guidance on setting holding limit levels. In the context of the California emissions market, one concern is that in some price ranges, we believe that there is very little price-responsive abatement.2 This means that a small reduction in available allowances could result in a sharp increase in prices if the overall supply demand balance were to fall within this range.

Another complication is that the firms participating in this market have very different

characteristics. In the first compliance period the largest compliance entities face compliance obligations nearly 100 times that of the median compliance entity. This means that a holding limit that may easily be more than enough for most firms may still be constraining for some of the largest firms.

In order to accommodate this heterogeneity in firms, the current CARB framework has

developed two types of ownership accounts: the holding account and the compliance account. This framework allows for large firms to hold large quantities of allowances, on the condition that those allowances be held in compliance accounts. Currently compliance accounts are “one-way” accounts. An allowance that is deposited into a compliance account can only be applied to offset the emissions of the firm associated with that account. In other words, allowances held in compliance accounts cannot be resold to other entities.

While holding account limits are a fixed number, set at about 5.8 million metric tons

(MMT) until 2014, and rising to about 11.7 MMT in 2015, the compliance account portion of the holding limit is scaled to the compliance requirements of the firm. Thus a large utility may have many times its holding account amount held in its compliance account. This compliance account limit is set according to a calculation called the limited exemption. The limited exemption formula is dynamic, but is roughly scaled to the expected 3 year compliance obligation of the firm, based upon its emissions from previous years. Because of the timing of changes to this limit, there are times during a compliance cycle where a firm may be able to hold up to 200% of its annual obligation, and at times 133% of its three-year obligation in its compliance account.3

Proposed Changes We see two potential issues with the current framework. In theory, limits could be

unnecessarily restrictive and limit efficient market adjustments to shocks to specific industries 2 As Appendix N to the Cap and Trade regulation details, the bulk of abatement is expected to come from complementary policies, the effectiveness of which will not depend upon the allowance price level. Table N-2 reports results from the Energy2020 model, which predicts that moving from the scenario of a $15 permit price in 2020 to one of a $60 permit price in 2020 can only be expected to induce 49 MMT of cumulative GHG reductions. 3 This reflects the schedule for surrender of the three-year compliance obligation. An entity does not surrender the obligation until the November of the year following the end of the compliance period. The limited exemption allows the entity to begin accumulating for the new compliance period before its triennial surrender.

3

covered under the cap. Second, while the holding limits for most firms likely could be expanded without much increased risk of manipulation, for some firms the rules do allow for the accumulation of a substantial long position and to potentially profit from a temporary tightening of the allowance market. These two issues are related and tied to the current system’s focus on compliance accounts.

Several stakeholders have argued that the requirements to hold any allowances in excess of the holding limit in compliance accounts could harm liquidity and restrict efficient trades. We see an important distinction between market-wide shocks (e.g. an economic boom) and shocks specific to one industry. Under a market-wide shock, the obligations of most every firm would rise or fall in tandem. Firms that have pre-funded their compliance may not be able to trade with other firms, but if everyone’s compliance has risen relative to expectations, they would need to use the allowances anyway. If all firms had low compliance needs, then the inability to trade the allowances carries little penalty, as those allowances would have little value.

However, if one industry (e.g. refining) experienced a surge in demand, while another (e.g. electricity) had unexpectedly low compliance needs, then the fact that many allowances may be “stuck” in the compliance accounts of electricity firms can be inefficient and raise compliance costs. Similar problems could emerge if one firm had a negative shock (say a refinery outage or nuclear plant retirement) that raised or lowered their compliance relative to other firms in the industry. Again, this is only an issue if firms have pre-funded their expected obligations in compliance accounts. Then they would have less ability to adjust to these new conditions.

One might simply remove the distinction between holding and compliance accounts, and allow full trading from both accounts. However, current calculations for limited exemptions do allow some firms with large compliance obligations to theoretically accumulate, at least temporarily large positions. One purpose behind the original limitations on the compliance accounts was that any potential gains from withholding allowances from the market would be limited by the size of the holding account holding limit.

We believe that under many circumstances, however, these restrictions could be relaxed without a significant increase in the risk of market manipulation. In our view, the key issue is not whether a firm owns a large quantity of allowances but whether it has a large long position in excess of its compliance needs. We therefore suggest modifying the focus of the current framework to allow for additional flexibility for compliance account transactions while at the same time further limiting the ability of firms to accumulate substantial long positions. While there are other motivations for the restrictions on the compliance accounts, ARB and stakeholders should explore whether these can be accommodated by something less restrictive than a blanket proscription on selling any allowances from compliance accounts.

We believe this is a superior option to simply expanding the holding limit because it allows more flexibility to firms with the least incentive to manipulate prices upward: those firms without large long positions. For a non-compliance entity, the holding limit is equivalent to a limit on its long position, since it has no compliance obligation.

Several stakeholders have argued that the requirements to hold any allowances in excess g q yof the holding limit in compliance accounts could harm liquidity and restrict efficient trades. Weg p q ysee an important distinction between market-wide shocks (e.g. an economic boom) and shocksp ( g )specific to one industry. Under a market-wide shock, the obligations of most every firm would p y , g yrise or fall in tandem. Firms that have pre-funded their compliance may not be able to trade with ffp p yother firms, but if everyone’s compliance has risen relative to expectations, they would need to, y p p , yuse the allowances anyway. If all firms had low compliance needs, then the inability to trade they y p ,allowances carries little penalty, as those allowances would have little value.

However, if one industry (e.g. refining) experienced a surge in demand, while another , y ( g g) p g ,(e.g. electricity) had unexpectedly low compliance needs, then the fact that many allowances( g y) p y p , ymay be “stuck” in the compliance accounts of electricity firms can be inefficient and raise ycompliance costs.

p ySimilar problems could emerge if one firm had a negative shock (say ap p g g ( y

refinery outage or nuclear plant retirement) that raised or lowered their compliance relative to y g p ) pother firms in the industry. Again, this is only an issue if firms have pre-funded their expected y g , y p pobligations in compliance accounts. Then they would have less ability to adjust to these newgconditions.

4

There are several options for such potential changes. We believe ARB should consider allowing some fraction of a compliance account to be eligible for resale to the entire market, or perhaps to firms within the same industry category. One option could be to permit allowances in compliance accounts to be consigned to either the current auction or a possible double-sided auction.4 We would also recommend exploring limits on the incentive or ability of firms to achieve excessive long positions. Several tools are available for this also. For example, the limited exemption formula could be modified to further cap the absolute quantity or percentage of permits in excess of an annual or 3-year obligation that could be accumulated. Failing that, the relaxation on resale rules for compliance accounts could be restricted to firms that are not long according to measures of current or multi-year expected compliance obligations.

4 See related white paper on auctions.

There are several options for such potential changes. We believe ARB should consider p p gallowing some fraction of a compliance account to be eligible for resale to the entire market, or g p g ,perhaps to firms within the same industry category. One option could be to permit allowancesp p y g y p pin compliance accounts to be consigned to either the current auction orr a possible double-sided rpp g pauction.4 We would also recommend exploring limits on the incentive or ability of firms to p g yachieve excessive long positions. Several tools are available for this also. For example, theg p p ,limited exemption formula could be modified to further cap the absolute quantity or percentage p p q y p gof permits in excess of an annual or 3-year obligation that could be accumulated. Failing that, p y g g ,the relaxation on resale rules for compliance accounts could be restricted to firms that are not plong according to measures of current or multi-year expected compliance obligations.

Tab 4

IETA Comments on Carbon Cap-and-Trade Program Rules, December 6, 2010

1730 Rhode Island Ave. NW, Suite 802 Washington, DC 20036

+ 1 (202) 629-5980

Climate Challenges - Market Solutions

December 6, 2010

Clerk of the Board California Air Resources Board 1001 I Street Sacramento, California 95814 On behalf of the International Emissions Trading Association (IETA), I am grateful for this opportunity to provide comments on California’s cap and trade draft cap-and-trade program rules. These draft regulations include many provisions that will help to drive a greenhouse gas market capable of maximizing both environmental and economic benefits. We hope that ARB considers IETA’s perspective and insight as it moves forward with its implementation. IETA is dedicated to the establishment of market-based trading systems for greenhouse gas emissions that are demonstrably fair, open, efficient, accountable, and consistent across national boundaries. IETA has been the leading voice of the business community on the subject of emissions trading since 2000. Our 165 member companies include some of North America’s, and the world’s, largest industrial and financial corporations—including global leaders in oil, electricity, cement, aluminum, chemicals, paper, and banking; as well as leading firms in the data verification and certification, brokering and trading, offset project development, legal, and consulting industries. First and foremost, IETA extends its appreciation for ARB’s leadership in developing a cap-and-trade program as a principal component of its efforts to reduce greenhouse gas emissions in the State of California. We applaud California regulators for their ongoing efforts to thoughtfully integrate practical, market-based mechanisms that minimize compliance costs while effectively reducing emissions. Market-based mechanisms are the most effective means of pricing carbon, thereby enabling the private sector to invest resources in the most efficient and effective manner while minimizing overall social costs. Moreover, through appropriate market design and roll-out, IETA believes that California’s cap and trade program will create clean energy jobs while transitioning the region to a competitive, low-carbon economy. Although IETA strongly believes a national cap-and-trade is the best means of reducing greenhouse gas emissions in a cost effective manner, IETA commends ARB for their leadership in developing a framework that will both encourage and provide useful lessons in the development of a federal program. As you continue to revise the cap-and-trade draft regulations, IETA offers the following comments and recommendations: Allocation and Auctioning of Allowances ARB’s cap-and-trade draft regulations allocate significant levels of permits to covered entities in the early years of the program, moving to an auction of greater volumes of allowances over time. Given the scale of investment and financial capital needed for regulated entities to finance their allowance purchases at the start of a program, IETA is pleased to see a significant portion of emissions

International Emissions Trading Association December 6, 2010

P a g e | 7 International Emissions Trading Association Geneva – Washington – Brussels – Toronto

www.ieta.org

Finding a way to fully integrate project-level activities within a state-wise system is essential to ensure the successful implementation and financing of REDD programs. Given the complexity of these issues, and the fact that developing rules for a sector-based REDD program is truly uncharted territory, IETA believes strongly that ARB should consult closely with a wide variety of public and private stakeholders as it moves forward. IETA looks forward to providing further, extensive input to this discussion over the next year.

Holding Limits ARB draft regulations establish a limit on the amount of compliance instruments that may be held by any single or affiliated group of entities. One can assume that ARB is considering these provisions as a means to prevent unacceptable market power by any single market participant. However, in our experience such holding limits are difficult to effectively enforce and can actually impede the proper functioning of a cap-and-trade program, particularly in the early years of the program. In order to deliver the full benefits of the market for consumers, these draft regulations need to encourage participation not just from covered entities but also from other liquidity providers so as not to discourage legitimate participation by non-emitting investors and entrepreneurs, which would create a risk of reduced liquidity. Furthermore, by identifying carbon offsets as a primary tool for cost containment and placing limits on offsets usage, it is unlikely that a firm could gain such a commanding presence in the offsets market that it could manipulate prices. This is particularly true in a market that will trade predominantly in allowances. The overall market design has other built-in safeguards against manipulation by offsets sellers and covered entities have a wide range of compliance options. If an offsets seller attempts to manipulate prices, covered entities can utilize banking, internal abatement and potentially other recognized allowance markets. These flexibilities not only lower costs for covered entities, but they also protect against market abuse by offsets sellers. In addition, given the regulatory and technical risks in developing offsets projects, holdings limits would create an additional regulatory risk for offsets projects that could discourage supply formation. This would, in turn, work against the cost-containment goals of California’s offsets policy. We note that the EU carbon market, as well as the US SO2 and NOx markets have operated successfully for many years without holding limits. Should ARB be concerned with market power, it may find existing regulatory programs for trading markets have already addressed this issue. For instance, Derivatives Clearing Organizations (DCOs), as designated by the U.S. Commodity Futures Trading Commission (CFTC), establish “position limits” on traders in specific commodity markets. Under the recently passed Dodd-Frank Act, which reforms derivatives market regulation, the CFTC will likely exercise the authority to set these limits. IETA recommends California rely on the relevant DCOs or the CFTC to set appropriate holdings limits, as both have the expertise and flexibility to adjust position limits as the liquidity of the market fluctuates.

Holding Limits

ARB draft regulations establish a limit on the amount of compliance instruments that may be heldby any single or affiliated group of entities. One can assume that ARB is considering these provisions as a means to prevent unacceptable market power by any single market participant. However, in our experience such holding limits are difficult to effectively enforce and can actually impede the proper functioning of a cap-and-trade program, particularly in the early years of theprogram. In order to deliver the full benefits of the market for consumers, these draft regulationsneed to encourage participation not just from covered entities but also from other liquidity providers so as not to discourage legitimate participation by non-emitting investors and entrepreneurs, which would create a risk of reduced liquidity.

Furthermore, by identifying carbon offsets as a primary tool for cost containment and placing limits on offsets usage, it is unlikely that a firm could gain such a commanding presence in the offsetsmarket that it could manipulate prices. This is particularly true in a market that will tradepredominantly in allowances. The overall market design has other built-in safeguards against manipulation by offsets sellers and covered entities have a wide range of compliance options. If an offsets seller attempts to manipulate prices, covered entities can utilize banking, internal abatement and potentially other recognized allowance markets. These flexibilities not only lower costs for covered entities, but they also protect against market abuse by offsets sellers. In addition, given the regulatory and technical risks in developing offsets projects, holdings limits would create an additional regulatory risk for offsets projects that could discourage supply formation. This would, inturn, work against the cost-containment goals of California’s offsets policy. We note that the EUcarbon market, as well as the US SO2 and NOx markets have operated successfully for many yearswithout holding limits.

Should ARB be concerned with market power, it may find existing regulatory programs for tradingmarkets have already addressed this issue. For instance, Derivatives Clearing Organizations (DCOs), as designated by the U.S. Commodity Futures Trading Commission (CFTC), establish “position limits” on traders in specific commodity markets. Under the recently passed Dodd-Frank Act, which reforms derivatives market regulation, the CFTC will likely exercise the authority to set these limits. IETA recommends California rely on the relevant DCOs or the CFTC to set appropriate holdings limits, as both have the expertise

Tab 5

Chevron, Comments on October 28 Proposed Regulation to Implement the California Cap and Trade Program, December 15, 2010

Stephen D. BurnsManager,California Government Affairs

Chevron CorporationPolicy, Government and Public Affairs1201 K Street, Suite 1910Sacramento, CA 95814Tel (916) 441-3638Fax (916) 441-5031stephen.burns@chevron.com

December 15, 2010

Ms. Mary NicholsChairpersonAir Resources Board1001 "I" StreetP.O. Box 2815 Sacramento, California 95812

Subject: Chevron Comments on October 28 Proposed Regulation to Implement the California Cap and Trade Program

Dear Ms. Nichols:

Chevron has enjoyed a collaborative working relationship with ARB since the passage of AB 32 in 2006. The cap and trade rule is central to California’s climate change program and we recognize the hard work that has gone into the recent final draft.

The Proposed Regulation to Implement the California Cap and Trade Program is significantly improved from earlier proposals and reflects a more measured approach in consideration of the economic impacts. We would like to thank ARB for their hard work. We appreciate the long stakeholder involvement process and believe it had a positive influence on the design of key elements of the rule. While there are many matters to be addressed next year, we agree with ARB on the following policies:

The cap & trade program is market-based and includes a slow, smooth transition to a carbon market.

It recognizes the trade exposed nature of key California industries by distributing allowances accordingly and includes small allowance auction.

It also includes viable cost control measures including offsets and an allowance reserve.

There remain a few near term issues that ARB should resolve before adoption of the regulation that will mitigate potential economic impacts over the life of the program. We have been talking to the staff and they recognize the importance of the issues and want to deal with them constructively. In addition, there are some significant longer term issues that need to be addressed in time to be effective in the second compliance period. We present a brief summary of the key issues below and have included a separate attachment that provides more detailed recommendations.

Page 4

Attachment A

Chevron Detailed Comments on the Proposed Regulation to Implement the California Cap and Trade Program

1. Holding Limits and Market Mechanisms

It is a major concern that the current provisions of the rule on holding limits preclude major compliance entities from trading and optimizing their economic position. Under this provision, the vast majority of allowances for major compliance entities will be locked up in their compliance accounts, unable to be traded.

Chevron, as a large supplier of transportation fuels with two refineries and, several oil and gas fields in the state is a major compliance entity.

Using basic calculations assuming that we comply with the minimum annual surrender of 30% as required in the cap and trade rule, over 70% of our allowances are frozen and cannot be traded.

This provision:

o inhibits liquidity in the market;o limits the ability of entities to trade economically,o disadvantages compliance entities vs. traders which may be an unintended outcome since

the trading community may represent a more serious concern for market manipulation.

We must be able to trade a larger portion of our allowances to adequately hedge our risk particularly after the first two years of the cap and trade program. Additionally, there are other scenarios such as refinery shut downs, economic slowdowns, etc. that could necessitate the trading of allowances which could be stuck in our compliance account.

We would also like to address frequency of auction and allowances. We believe that a more frequent auction is needed in the later years of the program to assure liquidity.

Recommendation: We propose to increase the holding account limit for compliance entities to two times the average of the previous two year’s reported emissions for compliance entities. This change would free up allowances for the major compliance entities and enable a much more liquid market where we can adequately hedge our forward risk without major complications. While there are still allowances locked in our compliance account in some years, we feel that the increase in holding limits makes these limitations much more manageable. We are proposing an increase in holding limits for compliance entities only, so traders and speculators would not be affected by this change. By increasing the compliance entity holding limits you are creating a much more liquid market where major companies with the most at stake in the cap and trade program can achieve a lower total cost of compliance, and you are reducing overall financial impact on California economy. We propose that you increase the auction frequency from quarterly to every two months.

Using basic calculations assuming that we comply with the minimum annual surrender of 30% asg g p yrequired in the cap and trade rule, over 70% of our allowances are frozen and cannot be traded.

This provision:

o inhibits liquidity in the market;o

q ylimits the ability of entities to trade economically,

oy y

disadvantages compliance entities vs. traders which may be an unintended outcome sinceg p ythe trading community may represent a more serious concern for market manipulation.

We must be able to trade a larger portion of our allowances to adequately hedge our risk g p q y gparticularly after the first two years of the cap and trade program. Additionally, there are other p y y p p g yscenarios such as refinery shut downs, economic slowdowns, etc. that could necessitate theytrading of allowances which could be stuck in our compliance account.

Tab 6

Southern California Edison Company, Comments to the California Air Resources Board on its Proposed 15-Day Modifications to the Cap-and-Trade Regulation, Released July 25, 2011,

August 11, 2011

1825153

COMMENTS OF SOUTHERN CALIFORNIA EDISON COMPANY TO THE CALIFORNIA AIR RESOURCES BOARD ON ITS PROPOSED 15-DAY

MODIFICATIONS TO THE CAP-AND-TRADE REGULATION, RELEASED JULY 25, 2011

JENNIFER TSAO SHIGEKAWA NANCY CHUNG ALLRED

Attorneys for SOUTHERN CALIFORNIA EDISON COMPANY

2244 Walnut Grove Avenue Post Office Box 800 Rosemead, California 91770 Telephone: 626-302-3102 Facsimile: 626-302-7740 E-mail: nancy.allred@sce.com

Dated: August 11, 2011

27

VI.

ARB SHOULD REVISE THE HOLDING LIMIT OR THE BENEFICIAL HOLDING

LANGUAGE TO ACCOUNT FOR SCE’S LARGE GHG PRICE EXPOSURE

A. Current Holding Limits Are Insufficient for Large Compliance Entities and Expose

SCE Customers to Significant Risk of Fluctuating GHG Prices

Section 95920 creates Holding Limits, or a maximum number of GHG allowances that a

regulated entity can hold at any point in time.53 SCE recognizes that Holding Limits were

incorporated in the cap-and-trade regulation partially in response to SCE’s and other

stakeholders’ concerns about market manipulation. SCE appreciates ARB staff’s attention to

this matter and is confident that Holding Limits will work to serve that purpose. However, SCE

has a number of concerns with the Holding Limits language in the July 2011 Proposed

Modifications, which, as currently drafted, could place SCE customers at significant financial

risk.

First, SCE is very concerned about the small size of the Holding Limits54 relative to

SCE’s total annual GHG price exposure. This substantial difference will make it extremely

difficult to effectively hedge SCE customers’ exposure to fluctuating GHG prices. In addition,

SCE has a relatively low direct compliance obligation (for which it must retire compliance

instruments) relative to its contractual obligations and electricity market price exposures (which

are both financial exposures rather than compliance obligations). As such, SCE cannot mitigate

its GHG price exposure by simply transferring compliance instruments into its Compliance

Account and thereby take advantage of the Limited Exemption laid out in Section

95920(d)(2)(A)(H) to avoid approaching its Holding Limit.

53 July 2011 Proposed Modifications, § 95920(a), at A-157. 54 See July 2011 Proposed Modifications, § 95920(d), at A-158.

28

Accordingly, SCE proposes a simple solution: the ARB should revise the Holding Limit

calculation to be the greater of 1) the current formula contained in the July 2011 Proposed

Modifications,55 or 2) a compliance entity’s allowance allocation56 for that same year. This

modification would allow SCE and other similarly situated compliance entities with large GHG

price exposures to more effectively manage their exposure, but would also avoid market

manipulation concerns that might arise through more general Holding Limit increases.

1. SCE Customers Are Exposed to GHG Prices

Because the hedging value of any ARB-allocated allowances is still uncertain,57 SCE

customers are exposed to fluctuating GHG prices in three ways: compliance obligations,58

contractual obligations,59 and electricity market price exposure60 (collectively, “Total GHG Price

Exposure”).

As a percentage of its Total GHG Price Exposure, SCE has a relatively low compliance

obligation and relatively high contractual obligation and electricity market price exposure. This

is a result of the relatively small fleet of GHG-producing power plants that SCE owns relative to

its customers’ total electricity demand. The restructuring of California’s electricity markets in

1996 resulted in SCE and the IOUs divesting most of their fossil-fueled generation. For SCE,

55 July 2011 Proposed Modifications, § 95920(d), at A-158. 56 The allowance allocation can be thought of as a rough proxy for GHG price exposure. 57 At this time, allocated allowances cannot be counted towards SCE’s supply-side position because SCE is

required to consign them to the ARB auction. As noted above, the use of auction proceeds from this consignment will be determined in R.11-03-12. If these proceeds are not returned to SCE customers or are used to fund projects SCE customers would not have otherwise funded, these allocated allowances provide no direct hedge value to SCE’s total GHG price exposure and SCE must buy all of its GHG compliance instruments and hedging products using other customer funds.

58 SCE’s compliance obligation to surrender compliance instruments, under the regulation as currently drafted, is incurred through GHG emissions from its utility-owned generation and imported electricity for which SCE is the first deliverer into California.

59 SCE’s contractual obligations refer to the contractual commitments to provide compliance instruments or their financial equivalent to counterparties (such as tolling counterparties), for contracts where SCE has assumed the cost of AB 32 compliance.

60 Electricity market price exposure is the exposure to fluctuating GHG prices inherent in SCE’s residual net position (“RNP”) for electricity. Because electricity generators and first importers of electricity into California have the compliance obligation for these emissions, the wholesale market price for electricity will increase to reflect this added cost of production. Therefore, if SCE’s RNP is short, meaning SCE will have to buy electricity to meet its customer demand, SCE’s customers will be exposed to the risk of GHG prices increases.

29

this included the sale of its natural gas-fired fleet. Subsequently, SCE shut down its coal-fired

Mohave Generating Station in 2005, and the sale of its share in the coal-fired Four Corners

Generating Station is pending. By 2013, SCE will be left with a direct compliance obligation

from only its 1050 megawatt (“MW”) natural gas-fired Mountain View combined cycle facility

and four 50 MW natural gas-fired peaker plants.

To meet SCE’s approximate peak customer demand of 23,000 MW and average annual

customer demand of 10,000 MW,61 SCE must therefore enter into contracts with a variety of

generators. Although many of these generators have compliance obligation in the cap-and-trade

program, SCE still bears a contractual obligation through these agreements (including tolling

agreements) in which SCE assumes the financial obligation for GHG compliance.

In addition to this contractual obligation, SCE customers are exposed to fluctuating GHG

prices through the impact of GHG costs on forward electricity prices. For example, if GHG

compliance instrument prices increase, SCE’s cost of entering into new contracts to provide

electricity to its customers will also increase.

2. SCE’s Total Annual GHG Price Exposure is Much Larger than the Holding

Limit

SCE’s annual Total GHG Price Exposure is several times larger than the Holding Limit

in the first compliance period and significantly higher than the Holding Limit in the second and

third compliance periods. This total economic burden of compliance was recognized in the

allowance allocation process for regulated utilities. ARB staff used publicly-available data to

forecast SCE’s direct compliance obligation and then added allowance cost for all purchased

power. As such, SCE’s allowance allocation is a reasonable proxy for the costs and market

exposure that SCE customers face. Thus in order to be able to manage this total economic

61 Edison International 2010 Annual Report, available at http://www.edison.com/files/EIX_AR10.pdf.

30

exposure effectively, SCE believes it is reasonable that its Holding Limit reflect its annual Total

GHG Price Exposure and requests that ARB increase the Holding Limit as proposed below.

a) SCE Cannot Mitigate Much of Its Customer Price Exposure by

Transferring Allowances to its Compliance Account

Because SCE’s compliance obligation is a relatively low percentage of its Total GHG

Price Exposure, it cannot take advantage of the same mechanisms as other compliance entities to

manage its GHG price exposure within the Holding Limit. Another large utility that owns most

or all of its generating resources, and therefore whose compliance obligation is a large

percentage of its total GHG price exposure, could simply move a large volume of its allocated

allowances directly to its Compliance Account, effectively using its Compliance Account to

bank allowances for its current and even future obligations. Unlike SCE, this utility would be

able to manage its GHG price exposure without the threat of exceeding its Holding Limit. SCE

cannot do this because most of its exposure is through its contractual obligations and the

electricity market price exposure, rather than through a compliance obligation. Therefore, SCE

cannot mitigate a majority of its exposure by putting compliance instruments into its Compliance

Account. As drafted, the Holding Limit would place SCE’s customers at significant financial

risk, especially compared to other market players.

3. Adjusting the Holding Limits Will Mitigate the Risk SCE’s Customers

Currently Face

To address the potential risk to SCE’s customers, SCE proposes a simple modification to

the formulas in Section 95920(d)(1):

(1) The number given by the following formula:

Holding Limit = the greater of

1) 0.1*Base + 0.025*(Annual Allowance Budget – Base)

In which:

“Base” = equals 25 million metric tons of CO2e, or

Tab 7

Western States Petroleum Association, Comments on Cap and Trade Regulation (July 25, 2011 Proposed 15 Day Modifications), August 11, 2011

Western States Petroleum Association Credible Solutions Responsive Service Since 1907

Catherine H. Reheis-BoydPresident

August 11, 2011

Electronic Submittal: http://www.arb.ca.gov/lispub/comm/bclist.php

Clerk of the Board, Air Resources Board 1001 I Street, Sacramento, California 95814

Re: Cap and Trade Program Regulation (July 25, 2011 Proposed 15 Day Modifications)

Dear Clerk of the Board:

The Western States Petroleum Association (WSPA) is a trade group representing twenty-seven companies that explore for, develop, refine, market, and transport petroleum and petroleum products and natural gas in California, Arizona, Nevada, Hawaii, Oregon and Washington. Most of our companies have operations within California and are significantly affected by regulations proposed by ARB.

Because of the substantial impact on WSPA members, the economy, and likely potential impact on energy supplies, WSPA has been an active participant in the public policy discussions about the implementation of AB 32. We have previously commented on issues affecting the Cap and Trade program and benchmarking regulations to ARB (December 15, 2010). In addition, WSPA has made comments on many aspects of AB 32 implementation addressing key aspects such as leakage, trade exposure, cost containment, linkage, offsets, and most recently on the Supplement to the AB 32 Functionally Equivalent Document (SFED) and on Mandatory Reporting (MRR).

Support for Market-based Approach

WSPA supports a market-based approach to the implementation of AB 32. We continue to believe that a well designed market based approach will be the most effective means to meet the Greenhouse Gas (GHG) reductions mandated by AB32. ARB has made progress in its efforts to develop its cap-and-trade program and we appreciate the positive amendments made in the July 25, 2011 Proposed 15 Day Modifications. WSPA reiterates its support for the Cap and Trade program and a market-based approach to implementing AB 32.

1415 L Street, Suite 600, Sacramento, California 95814 (916) 498-7752 Fax: (916) 444-5745 Cell: (916) 835-0450

cathy@wspa.org www.wspa.org

1

1415 L Street, Suite 600, Sacramento, California 95814 (916) 498-7752 Fax: (916) 444-5745 Cell: (916) 835-0450

cathy@wspa.org www.wspa.org

7

international sources. The California refining industry should be classified as a Highly Trade Exposed Industry, and not as a Moderately Trade Exposed Industry.

ARB staff has been made aware of discrepancies in census economic data, discrepancies between CEC data (which more accurately reflects the full slate of California refinery products) and EIA data that reflects only a portion of the sector. These discrepancies as well as new commodity flow data suggest a more robust review of trade exposure for refining is in order. We believe that a comprehensive review of these issues will lead ARB to conclude that the California Refining Industry is Highly Trade Exposed and should be treated as such in the Cap and Trade Regulation.

Recommendation: ARB Staff should convene a public process to review recent federal and state trade and commerce and energy data from federal and State sources and re-evaluate the trade-exposure of the California refining industry.

Market Design and Cost Containment Mechanisms

WSPA understands the balance that must exist between free participation in a market and controls needed to ensure fair dealing and prevent market manipulation. However the changes that we see in the proposed modification are very small changes compared to the serious market impacts, fairness concerns, and reduced offset supply concerns that we raise below and in Attachment D.

Direct and Indirect Corporate Relationships. The definition of a corporate relationship is very low and the two or more equity owners may also hold disclosable corporate associations with numerous other unrelated joint venture, partnerships or limited liability companies, thus creating an extremely complex web of inter-company communications and reporting requirements which are pragmatically infeasible.

Holding Limits. WSPA disagrees that imposing holding limits is required to reduce market manipulation. The position limits included in the regulation are a rule developed by the CFTC to regulate futures markets. No agency has ever attempted to use such limitation to regulate the inventory or spot market as suggested in the regulations and nothing on the record supports such a position. To the contrary, evidence available from the administration of carbon markets in Europe suggests that auction frequency, not holding limits, can control the risk of market manipulation most effectively. As written, the proposed regulations limit the ability of WSPA companies to trade and cost optimize to a fraction of the amount needed.

Recommendation: We recommend that ARB revise this section using the language proposed in Attachment E.

Offsets. WSPA supports a robust offsets program as a critically important element of a cost-effective emission reduction and trading program. In the December rulemaking, regulations creating the allowance reserve were adopted which take allowances from the

Holding Limits. WSPA disagrees that imposing holding limits is required to reduce g g p g g qmarket manipulation. The position limits included in the regulation are a rule developed p p gby the CFTC to regulate futures markets. No agency has ever attempted to use suchy g g y plimitation to regulate the inventory or spot market as suggested in the regulations and g y p gg gnothing on the record supports such a position. To the contrary, evidence available from g pp p y,the administration of carbon markets in Europe suggests that auction frequency, not p gg q y,holding limits, can control the risk of market manipulation most effectively. As written,g , p y ,the proposed regulations limit the ability of WSPA companies to trade and cost optimizep p gto a fraction of the amount needed.

Tab 8

Linklaters, Comment on July 25, 2011 Proposed 15-Day Modifications to Cap on Greenhouse Gas Emissions and Market-Based Compliance Mechanisms, August 11, 2011

Linklaters

(ii) The Community Emissions Trading Scheme (Auctioning of allowances) Scheme 2009 -

these were revoked and replaced by (iii); and

(iii) The Community Emissions Trading Scheme (Auctioning of Allowances) (No.2) Scheme

2009 (the "CETSS 2009") - currently in force.

2.5 Regional Greenhouse Gas Initiative

The Regional Greenhouse Gas Initiative ("RGGI") has an auction purchase limit of 25% and no holding limit. Under RGGI 's auction purchase limit, a participant may only purchase up to 25% of the allowances offered for sale in any given auction.15 For a number of reasons, we do not believe that the auction purchase limit concept in RGGI should be adopted into the Regulations. First, RGGI's market design was orig inated in 2006/2007 and therefore does not build upon or otherwise reflect the recent experience of the major carbon markets across the globe. Second, due to (i) RGGI's relatively low trading volume and (ii) the difference between the compliance obligations of RGGI covered entities and the auction purchase limit of 25%, RGGI cannot be used as a reliable example of how the California carbon market will be

impacted by the proposed auction limit in the Regulations.

In regards to point (ii) above, it is important to note that none of RGGI's covered entities has a compliance obligation that exceeds the auction purchase limit (the largest covered entity of RGGI requires less than 15% of the allowances, which is far below the 25% RGGI auction purchase limit). Therefore, covered entities under RGGI will be able to purchase all of the allowances they need in auctions plus a margin allowing for hedging, and will not be forced to buy under unfavorable conditions in the secondary market.16 This is an important distinction

from the California carbon market, where the Regulations will cover entities that have compliance obligations in excess of the proposed auction purchase limit, thereby requiring such covered entities to purchase add itional allowances in the secondary market under potentially disadvantageous conditions.

Based on the foregoing, it is our view that RGGI does not accurately reflect the state of the carbon markets today, nor is it a reliable model for projecting how the California carbon market

would respond to auction purchase limits.

3 Discussion

Our analysis of the Relevant Provisions has identified a number of concerns, including the following.

3.1 Holding Limit is a Futures Market Rule

Source of Rule. The holding limit rule contained in Section 95920 of the Regulations originates from a formula designed by the CFTC to govern futures markets.17 The purpose of

15 RGGI, Fact Sheet: RGGI C02 Allowance Auctions, available at http://www.rggi.org/docs/RGGI_Auctions_in_Brief.pdf. 16 Based on information provided by Thomas Reuters, dated Aug. 10, 2011 . 17 Generally speaking, a futures market is a financial exchange where parties can trade contracts to buy quantities of a

particular commodity at a specified price, with delivery of the commodity set at a specified time in the future. To be clear, none of the auctions to be administered pursuant to the regulations would constitute a "futures market".

A 13848200/2.0a/11 Aug 201 1 Page 7 of 14

Linklaters

the rule was not to curb potential market power issues, but rather to protect the market from the systemic risk that arises where any one market participant takes on too large a position. 18

ARB Extension of CFTC Rule. In proposing the holding limit rule, the ARB has taken a rule

designed by the CFTC to prevent systemic risk in the futures market and has applied it to an inventory carbon market. The distinction between futures markets and inventory carbon markets is significant, in part because the CFTC does not have reliable data on what the holding limit's impact would be on the inventory carbon markets.19 We have reviewed the record and have found no support for the extension of a rule designed to regulate futures

markets to a rule applicable to the inventory market.

WCI Report. In its Staff Report: Initial Statement of Reasons released in October 2010, the ARB explained that its holding limit formula for the current vintage year was selected primarily

on the recommendation by Professor Jeffrey H. Harris of the University of Delaware.20

Professor Harris recommended this formula in his analysis of holding limits for the Western Climate Initiative (the "WCI Paper").21 We have reviewed the WCI Paper and do not believe

that it properly assesses the risks associated with the extension of the holding limit rule to the inventory market. In particular, (i) the WCI Paper simply refers to the futures market position limits, and assumes that there is no meaningful distinction between a futures market and an inventory market; (ii) the WCI Paper does not examine or review the extensive experience gained in the EU with carbon markets, and (iii) the WCI Paper does not contemplate in any respect the situation where the compliance obligation of a covered entity exceeds the holding limit. In addition, the WCI Paper itself does not even offer any support, analysis or data for the proposition that the CFTC position limit rules can or should be applied in the context of

inventory carbon markets.

Risks. To our knowledge, there is no data, information, or research that d~monstrates or otherwise purports to show precisely what positive impact the holding limit rule will have on the carbon market. On the other hand, a number of negative developments would likely follow the imposition of a holding limit rule, including a reduction in liquidity (caused by forcing covered entities to remove allowances from the market by moving them into their compliance accounts) and effective price discovery, each of which would increase the costs and risks of implementing legitimate hedging strategies.

18 See supra n. 1. 19 In its report to Representative John Boehner, the CFTC does not consider holding limits in the context of the carbon

inventory market, but rather only in the context of its discussion on the derivatives market. The CFTC also states that the inventory markets should not be subject to the same comprehensive oversight as derivative markets. U.S. Commodity Futures Trading Commission's Report on the Oversight of Existing and Prospective Carbon Markets (Jan. 18 2011), available at http:l/www.cftc.gov/ucm/groups/publicl@swaps/documentslfile/dfstudy_carbon_011811.pdf.

2ll ARB, Staff Report: Initial Statement of Reasons (Oct. 28, 2010), available at http://www.arb. ca.gov/regact/201 0/capandtrade 1 0/capisor. pdf.

21 Jeffrey H. Harris, Western Climate Initiative Markets Committee Report on Holding Limits (Apr. 5, 2010), available at http://www.westernclimateinitiative.org/news-and-updates/108-markets-committee-invites-comments-on-holdings-limits­report .

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linklaters

3.2 Holding Limit Should Accou11t for Differences Between Covered e.n.d Non..Covered EntHios

ihe hold,ing limit rule does not account for material differences 1n the tleb.a:v1or a()d Interests of Covered entities and non-oovet~ entitles. Whereas the primary objective of oovered entitles Is ~ purchas.e sufficient allowances to satisfy therr compliance obltgatlons, the Objective of non..covered enti1ies iS to purthBse allowances and subsequently seU them at a llig.her price,

By treating OOth covered aM non..covered entJ.ties tne same. the holdtng limlhule does not talte mto account the fact that a oovered entity must retatn most (if not aU) of the allowances tt acquifes In o(der to fulfiU Its compUance obftgatJons. Therefore, if It is detennlned thai hokllng lfmits mus't be implemented, such holding lim)ts should only apply to the number of allowances In excess of a particUlar covered entity's, compliance obligations. In other words. a covered entity hotding the number of allowances equal tO lts compllance oMgation should be treated no differently for holding limits purposes than a non·oovered entity that. rs noc. holding any allowance;&. · OthetwJs&, a t<&y poi)Cy objective tor imposing holding limits (1.e., limiting market manip~lation) will be undermined as non·covered entitles wilt be given an advantage over aD other participants.

3.3 Th& Pureha&& Llmft ShoUld Account for Compliance Obligations

The auction p.urchase imtt, proposed 1n the Regulations may tead to mark.et manrpulahon and the exercise or ~rket p<;>wer as it could enable certain market participants to tncrease the price or a;~Qwaf\Cos In the secondary ma1ket, !hereby harming oovered entities required to purctlase allowances tn O(der to comply Vidh the law. In partic~lar, insofar as the purchase limit-is less than the percentage of altowances: a covered entity must acquite In order to satisfy Its compliance obligations, such oovered entily will be forced to purchase the remaining allowances tn the secondary mart<et Whl!& a.ddltiQnal rradiflg in the: secondary market would genere.t~y be considered benefl()a} (In that It would increase lfquldi!y and price discovery), thJs may not be the case Where ma11ce1 participants ate aware that a covered eritfty must acquire additionaJ 8tlowances (n order to comply wfttl the law. Under suc:h ci.rcumstances. non .• coveled entities will have an incentive to ac.quTre as many allowances as possib!e in the auctton·wl.th the !)ope that covered entities wtU purchase ~1\em in the secondary me)fket at an innated pnoe Un<ler these facts. the over&U liqufdlty of the market foe allowances may actua!ry ~ecceaseJ wh.ile a transfer of wealth will occur tram the covered enlilies to the non.·covered en1ities..

1{ impJemented at an. the pu!chase !Jmlt should prov1de. that au entitles ma·y purchase up to an amounl equ.al to such enti\Ys compliance obligation plus an additional buffer (e.g •• lhe 4% limit granted to non-<:overed entities). This would.enabt.o covered entHi&s to acquire allot the~r

~llowances through the aucGon, and wovld thereby limn the a:bmty of speculators to exercise mat1<et power\

3.4 The Floldlng lfmtt Further Rtducu Mari<et Liquidity

All additional problem with U)e current l\OIC11ng limn !S that n will have a negative eifeet on (J!e Qverall Oquielity for allowances m the seoondary market Speciflcalty, au covered entlties that have compCionce obligations fn excess of the- hOlding ltmit wlll be forced to move lnt? a oornplia.nce account a number of lheir allowances early Once in the compliance ac:count.

A13114820012.0at11 Aug 201~ Page9oft4

Linklaters

these allowances will no lon.ger be available for trading in the seoondary market. thereby reducing l quldity. This will give certain mar1<et par1i<;ipaots an opport\lni1y to drwe up th.e poce of ttu~ allowances lhat remain free tot trac:t!ng. ThJs Is o.t particutar concern here due to the relatively small size of the California carbon markeL

3.5 The Compliance Account Exemption

Mitigation of Costs. Under the comp~ance acoount exe-mption., allowances deposited in a covefed entity's compliance account will noi count towards sud\-covered entity's t\oldlng tlmll The compliance accot~nt exemption, however, faPs to- adequately mitigate the Increased costs resulting from Ule hoJcfing llmi1 rule that qre imposed on covered entitles w!th c.on'lpli.ance cbHgatoos In excess or the holding llmll In particular, Instead of enabling a covered entity to pc.~rchase !1s allowa~es based on rationat economic analysis, It· forces coveted entities to buy their allowances periodlca!ly, and to move·them to its comPliance accoont wh-ere tney will no long-er be available for trading o.r hedg1ng.

Compliance Ob/Jgatlons. The compliance account exemption does not address a fundamental tn00t'l6ist~ncy In the a,op!ieation of 1he 1\0:dmg limit rule that ~lates ro covered entities·. In shOrt, covered entitles who ha\1'9 compli.arice obllgaflotls in excess· Oif the hokling limit wa·l generally adopt a strategy of purchas!'ng their allowances throughout the entire year ($0 that they will be i!b!e to periodically mov.e allowances· 10 their compliaoce accounts}, llftlereas other covered entitles wiU have the ftexlbillty .of purchasing a larger percentage of their allowances at once when eco.nomic conditions make 11 favorable to do so.

Covered· versus Non-Covered. Lasts:y, ~:II a\IQY.oances held by the coveted entities. lncludrng thOse needed to salisfy their compliance obfigatlons. count toward tne limit under the holding hmit n.tles. Noth1ng in the compliance accou!lt exemption addresses ttlls disparate treatmen• tietween covOreef entities and non-eovefed entitles, an" eonsequenlly, ·non..covered Mtltle$ continue to enjoy more flexlbillty and disa:etion than covered entities

Solution. In our vlew1 the most appropriate manner to address the increased eosts and added burdens imposed on covered entities by the holding limit is to exclude from tlle hok:ling fimit the number of .atlowances needed by ~;overed enti1ies to siit!sfy thefr compliance obligations. In other words, a covered entity holding lhe number of allowances equal to Its compliance obligation ~houtd be treated no differently ror holding limit putposes than 8 oon-covered enii\Y that is oot hotd.tng any allowances. ·

4 Auction Frequency

Our research demonstratlls that the European Union, Germany. France, the United KfogdQm, aod the U.S. (In the case of Treasucy auctions) hold auctions more frequently than on a quaner1y sc:hedure.22 As discussed below, holding rrequent auction$ is deslrabte fOI a number of reasons, lnctuding .lmproved llquldJty and prk:e discovery in the setondary mali\et., thereby reduefng the riSk .or market manlputaOOn and marKet abuse.

A 1384320012.03/t l Aug 201 1 Page 10 of 14

Tab 9

Western States Petroleum Association, Comments on the May 9, 2012 Amendments for Linking California’s and Quebec’s Cap-and-Trade (C/T) Programs, June 27, 2012

1415 L Street, Suite 600, Sacramento, California 95814(916) 498-7752 Fax: (916) 444-5745 Cell: (916) 835-0450

cathy@wspa.org www.wspa.org

1

Western States Petroleum AssociationCredible Solutions Responsive Service Since 1907

Catherine H. Reheis-BoydPresident

June 27, 2012

Submittal electronically: http://www.arb.ca.gov/lispub/comm/bccommlog.php?listname=capandtradelinkage12;http://www.arb.ca.gov/lispub/comm/bcsubform.php?listname=capandtrade2012&comm_period=A

Mr. Steve CliffAir Resources Board1101 I Street,Sacramento, CA

RE: Comments on the May 9, 2012 Amendments for Linking California’s and Quebec’s Cap-and-Trade (C/T) Programs

Dear Mr. Cliff:

The Western States Petroleum Association (WSPA) represents 27 companies that explore for, develop, refine, market and transport petroleum and petroleum products in the Western United States. Many of our members operate extensively in California and have been following all the proposed regulations governing the Cap and Trade(C/T) Program.

Our interest reflects the importance with which the regulations, provisions and other requirements directly affect the effectiveness of the C/T program and, in particular, how the California program could link with other regions, including those of Quebec and WCI. We see this program as one of many elements in the California Air Resources Board’s (ARB’s) plan to achieve AB 32 targets using market-based mechanisms.

We are concerned, however, that many comments we made, particularly in our March 29, 2012 and April 12, 2012 letters, remain unaddressed. In fact, the concerns we cite below relating to the May 9, 2012 amendments reflect lack of progress in addressing issues that we identified in our earlier comment letters. We encourage ARB to address these issues and recommendations so that California’s cap and trade rule helps achieve the GHG reduction goals while minimizing cost and creating a business environment that encourages continued investments in CA.

1415 L Street, Suite 600, Sacramento, California 95814(916) 498-7752 Fax: (916) 444-5745 Cell: (916) 835-0450

cathy@wspa.org www.wspa.org

3

such assumptions may not be valid where the cap and trade program has not ensured that its features minimize leakage.

Recommendation: WSPA recommends that ARB re-evaluate the 90% “of average” benchmarking policy and the trade exposure analysis for the refining sector to ensure that leakage is minimized. As demonstrated by the analysis in the BCG Study, we believe that the refining industry should be designated as highly trade-exposed.

The Combined Market will Propagate Flawed Market Policies

Quebec has followed the WCI design and California regulations closely in preparing its own program. As a result, the Quebec program contains a number of market design flaws that are identical to those of California. A prime example is the holding limit which will remove from the California market a quantity of allowances in excess of the entire amount of GHG allowances contained in the Quebec program.

Recommendation: WSPA recommends simpler linkage approaches that would not require detailed market harmonization and that would facilitate linkage with Quebec and other programs as well.

Priority should be given to getting the California program up and running

California (both the ARB and possible market participants) needs to “learn to walk before they run”. There are great benefits in gaining experience with California Cap and Trade Program prior to taking on tasks associated with linkage with other programs. We should take the time to understand what is going well and not going well before expanding the universe of trading further.

Recommendation: WSPA believes certainty is critically important, we urge ARB to not divert vital resources that are needed to ensure compliance tools and guidance are delivered to compliance entities in a timely manner. The details to link the two programs could distract from the overall need to establish a sound and reliable trading program within California.

ISSUES WITH OTHER REGULATORY AMENDMENTS

Holding limits The holding limits have been increased to account for the increase in combined allowance budgets. Changing the holding limit to account for the increased combined allowance budget does not mitigate the underlying problem. WSPA has opposed the “one size fits all” holding limit applied regardless of an entity’s compliance obligation because it (1) it restricts liquidity in the market, (2) it creates opportunities for financial intermediaries to exercise market power, (3) it is without factual basis and is thus arbitrary, and (4) it does not take into account the need for different limits for larger compliance entities and does not provide a level playing field between market participants. Some entities that have corporate associations in Quebec may find the holding limit restriction even tighter, relative to their compliance obligations. The California Legislative Analyst Office in their February 9, 2012 report recommends eliminating holding limits to improve the way the carbon market functions.

Recommendation: WSPA recommends eliminating the holding limits or at a minimum, consider increasing the holding limits for covered entities with compliance obligation so that these entities are

Holding limits gThe holding limits have been increased to account for the increase in combined allowance budgets. g gChanging the holding limit to account for the increased combined allowance budget does not mitigateg g g g gthe underlying problem. WSPA has opposed the “one size fits all” holding limit applied regardless of y g p pp g pp gan entity’s compliance obligation because it (1) it restricts liquidity in the market, (2) it creates y p g ( ) q y , ( )opportunities for financial intermediaries to exercise market power, (3) it is without factual basis and is pp p , ( )thus arbitrary, and (4) it does not take into account the need for different limits for larger compliancey, ( ) g pentities and does not provide a level playing field between market participants. Some entities thatp p y g p phave corporate associations in Quebec may find the holding limit restriction even tighter, relative to p Q y g g ,their compliance obligations. The California Legislative Analyst Office in their February 9, 2012p g g y y ,report recommends eliminating holding limits to improve the way the carbon market functions.

Recommendation: WSPA recommends eliminating the holding limits or at a minimum, consider g g ,increasing the holding limits for covered entities with compliance obligation so that these entities are

1415 L Street, Suite 600, Sacramento, California 95814(916) 498-7752 Fax: (916) 444-5745 Cell: (916) 835-0450

cathy@wspa.org www.wspa.org

4

allowed the currently proposed limit plus 50% of the difference between the entity’s compliance obligation and the currently proposed limit. If, notwithstanding these comments, ARB elects to continue to place holding limits, WSPA further recommends that the holding limits for future vintage year allowances be applied to all vintages within that compliance period rather than for each year. We believe that applying the holding limit to each vintage year places an unnecessary restriction.

“Know Your Customer” (KYC) requirements should minimize collection of individual’s confidential information

WSPA recognizes the need to ensure the identity of individuals accessing the tracking system.However we believe that KYC should (1) recognize the differences between a representative of acovered entity and a representative for a non-covered entity and, (2) minimize collection ofindividuals confidential information only to the extent required to ensure the identity of theindividuals. Requiring information beyond what is required solely to determine identity isunnecessarily intrusive.

As an example, assume that a covered entity has assets which include one or more processes or other operations in California. In this situation, ARB holds those covered entities responsible for complying with numerous C/T requirements, including significant compliance obligations. If these covered entities have the capacity to manage these operational and compliance activities, then they should be assumed to also have the capacity to ensure the identity of their employees who the entities authorize and attest are acting on their behalf. Therefore documentations, such as an open bank account in the US and/or Canada, addresses of permanent residents, and passport numbers which are particularly intrusive, should not be necessary for an authorized representative for a covered entity.

Recommendation: Add an additional paragraph to Section 95834(b) as (10) below:

95834(b) The individual must provide documentation of the following: (1) Name; (2) The address of the primary residence of the applicant, which may be shown by any of the following: (A) A valid identity card issued by a state with an expiration date; (B) Any other government-issued identity document containing an individual’s primary address; or (C) Any other document that is customarily accepted by the State of California as evidence of the primary residence of the individual; (3) Date of birth; (4) Employer name, contact information, and address; (5) Either a passport number or driver’s license number, if one is issued; (6) An open bank account in the United States; (7) Employment or other relationship to an entity that has registered or has applied to register with the California Cap-and-Trade Program if the individual is listed by an entity registering pursuant to section 95830;

allowed the currently proposed limit plus 50% of the difference between the entity’s compliancey p p pobligation and the currently proposed limit. g y p pIf, notwithstanding these comments, ARB elects to continue to place holding limits, WSPA further , g , p g ,recommends that the holding limits for future vintage year allowances be applied to all vintages withing g y pp gthat compliance period rather than for each year. We believe that applying the holding limit to each p p yvintage year places an unnecessary restriction.

Tab 10

Chevron, Comments on the Air Resources Board July 15, 2013 Discussion Draft Proposed Amendments to Cap and Trade Regulation, August 2, 2013

Lloyd Avram Manager State Government Affairs

Chevron Corporation Policy, Government & Public Affairs6101 Bollinger Canyon Road San Ramon, CA 94583 Tel (925) 790-6454 lloydavram@chevron.com

August 2, 2013

Dr. Steven Cliff Chief, Climate Change Program Evaluation Branch Stationary Source Division Air Resources Board 1001 I Street Sacramento, CA 95814

Submitted via web: http://www.arb.ca.gov/lispub/comm2/bcsubform.php?listname=cap-trade-draft-ws&comm_period=1

RE: Comments on the Air Resources Board July 15, 2013 Discussion Draft Proposed Amendments to Cap and Trade Regulation

Dear Dr. Cliff:

Chevron has been a California company for more than 130 years and is the largest Fortune 500 corporation based in the state. We have participated in stakeholder meetings, broad-based industry and environmental group meetings, and discussions with ARB and its staff in order to make the program and this proposed rule workable for California, while meeting the goals of AB 32.

The proposed amendments to the cap-and-trade regulation offer a key opportunity to make needed changes, and address challenges and uncertainties. For example, Chevron strongly supports the proposed amendment to extend the industry assistance factor into the second and third compliance periods. This is an important step that will help to maintain the environmental integrity of the cap-and-trade program by limiting leakage and protecting jobs in California. We also recognize that progress is being made on cost containment both through future offset protocol development and limited borrowing. However, we are concerned that work remains to ensure expansion of offset supply, add further cost containment measures, and address market design elements. We look forward to continuing to work with ARB on these critical issues, including allowance allocation, trade exposure, offset supply, and market design.

August 2, 2013 Page 4

Detailed Comments on the Air Resources Board July 15, 2013 Discussion Draft Proposed Amendments to Cap and Trade Regulation

reviews of the OPR’s and the verifiers’ work. Once the OPR has been approved by ARB, further double-checking of the OPR’s work would appear to be unnecessary.

7) Market Design a) Holding Limits: Among the proposals in the Joint Utilities Proposal is an element that

includes changes to the restrictive holding limits. Chevron supports changing the requirements for the limited exemption, enabling allowances corresponding to the limited exemption to be placed in the compliance entity’s holding account, not requiring those allowances to be placed in the compliance account.

b) Transaction Reporting: ARB requests all possible information with the apparent intent to use it to look for some type of unspecified irregularities. The overwhelming majority of the information gathered will never be useful and represents a waste of resources. Chevron recommends that ARB take a “for cause” or “as needed” approach for anything beyond the current regulatory language. We believe that giving ARB leeway to ask for additional information when the need arises can accomplish ARB’s need to investigate unusual situations without burdening every compliance entity with reporting data that will never be the subject of concern. This type of conditional data request which is used in other market settings provides the ARB an efficient and effective means to gather data when needed.

c) Registration Requirements: the requirement to report all employees who are knowledgeable of cap and trade strategy is unreasonable and similarly challenging from an enforcement perspective. Companies have internal governance processes to manage market sensitive information. We recommend that ARB use the same guidance as they developed for “know your customer” employee reporting requirements.

d) Complexity of Market Rules: Chevron requests that ARB provide guidance to clarify the application of its prohibitions on certain market behavior. We understand that the agency thinks that it needs a level of appropriate latitude to identify bad actors however honest parties must be able to avoid inadvertent missteps. For example, the language around “any trick, scheme, or artifice” is very broad with a large potential range of applications that could apply in an enforcement context. We need guidance similar to guidance issued for resource shuffling that explains specific safe harbors or specific examples of bad behavior. This is needed in the rulemaking to provide some measure of definition to allow regulated parties to understand the limits or boundaries that ARB mean to enforce.

8) General Prohibition on TradingProhibitions on trading requiring that “an entity cannot acquire allowances and hold them in its own holding account on behalf of another entity” are generally overbroad and should be curtailed to permit legitimate transactions that support program objectives and create liquidity. For example, it could be interpreted to interfere with the ability of entities to

gHolding Limits: Among the proposals in the Joint Utilities Proposal is an element that g g p p pincludes changes to the restrictive holding limits. Chevron supports changing theg g pp g grequirements for the limited exemption, enabling allowances corresponding to the limited q p , g p gexemption to be placed in the compliance entity’s holding account, not requiring those p p p yallowances to be placed in the compliance account.

Tab 11

Chevron, Comments on the Air Resources Board September 4, 2013 Proposed Regulation Order, October 16, 2013

Lloyd Avram Manager State Government Affairs

Chevron Corporation Policy, Government & Public Affairs 6101 Bollinger Canyon Road San Ramon, CA 94583 Tel 925 790 6454 lloydavram@chevron.com

October 16, 2013 Clerk of the Board Air Resources Board 1001 I Street Sacramento, CA 95814 Submitted via web: http://www.arb.ca.gov/lispub/comm/bclist.php

RE: Comments on the Air Resources Board September 4, 2013 Proposed Regulation Order Dear Sir or Madam: Chevron has been a California company for more than 130 years and is the largest Fortune 500 corporation based in the state. We have participated in stakeholder meetings, broad-based industry and environmental group meetings, and discussions with ARB and its staff in order to make the program and this proposed rule workable for California, while meeting the goals of AB 32. We support the substantial progress being made on industry assistance and cost containment both through future offset protocol development and limited borrowing. As ARB has noted in meetings and workshops, additional work remains before 2015 to develop a refinery benchmark that will fairly allocate refinery allowances, complete trade exposure analysis, ensure expansion of offset supply, add cost containment measures and address market design elements and administrative concerns. We sincerely appreciate the opportunity to work with ARB staff and leadership and submit these comments on the September 4, 2013 Proposed Regulation Order for consideration. Introduction Chevron is pleased that ARB is considering adoption of the following policies which represent improvements in the cap and trade program:

Industry Assistance – Chevron supports the proposed change in the application of the industry assistance factor that recognizes the competitive environment in the refining sector and other energy intensive trade exposed industries which if left unchanged, could lead to leakage and loss of California jobs.

Mine Methane Capture Protocol and Offsets – Offsets afford California a critical opportunity to meet the AB 32 environmental goals in the most efficient and low cost

October 16, 2013 Page 6 to be challenged by holding limits that impact our ability to operate efficiently in the market. To that end, Chevron supports the Joint Utilities Proposal changing the requirement for the limited exemption. Enabling allowances corresponding to the limited exemption to be placed in the compliance entity’s holding account will allow compliance entities the flexibility to efficiently manage their compliance instrument portfolio within the confines of a quantitative holding limit. Because the holding limit does not account for the size of a compliance obligation, this change is particularly important for large compliance entities. Chevron is concerned with the trade restrictions and market complexity introduced in the proposed amendments. These proposed restrictions will eliminate critical transactions such as options, futures, forwards, right of first refusal contracts. These promote a robust and efficient market structure. Chevron understands the agency’s need to identify bad actors, but rules must be designed so that honest parties are able to avoid inadvertent missteps. ARB should provide guidance similar to guidance issued for resource shuffling that explains specific safe harbors or specific examples of bad behavior. This is needed in the rulemaking to provide some measure of definition to allow regulated parties to understand the limits or boundaries that ARB means to enforce. Prohibitions on trading are generally overbroad and should be curtailed to permit legitimate transactions that support program objectives and create liquidity. For example, requiring that “an entity cannot acquire allowances and hold them in its own holding account on behalf of another entity” could be interpreted to interfere with the ability of entities to purchase allowances from market makers at auction prices.

The Proposed Regulation Order includes additional language that deviates materially from the guidance provided by ARB in December 2012 (which Chevron supports). The new language uses very broad language that could be read to prohibit legitimate transactions discussed above. This language needs to be scaled back to be consistent with the December 2012 guidance – or at the very least, ARB needs to explain why it is making changes to its December 2012 position. Additionally the prohibition on beneficial holding does not allow escrow arrangements, because by definition, such arrangements involve a holding on behalf of another. Escrow is a fundamental component of corporate transactions and this could create unnecessary obstacles to numerous corporate transactions involving covered entities. We support the addition of a safe harbor for escrow accounts, in addition to the safe harbor for forward contracts and for direct corporate associations. Chevron believes that market makers have an important role to assist entities that need to participate in the market but do not have internal resources devoted to learning all the detailed rules. ARB should support this role. We support workable rules for market makers that do not increase their market power.

To that end, Chevron supports the Joint Utilities Proposal changing the requirement for the limited exemption. Enabling allowances corresponding to the limited exemption to be placed in thecompliance entity’s holding account will allow compliance entities the flexibility to efficiff ently manage their compliance instrument portfolio within the confines of a quantitative holding limit.Because the holding limit does not account for the size of a compliance obligation, this change isparticularly important for large compliance entities.

Tab 12

Pacific Gas & Electric, Comments on the Air Resources Board 45-Day Amendments to the Cap-and-Trade Program, October 18, 2013

Pacific Gas and Electric Company,

October 18,2013

Mark C. Krausse State Agency Relations Senior Director

E-Filing

1415 L Street, Suite 280 Sacramento, CA 95814

(916) 386-5709 (916) 995-6827 Mobile

MCKd@pge.com

ARB's Cap-and-Trade Website Steven Cliff, Ph.D. Chief- Climate Change Market Branch Califmnia Air Resources Board 1001 I Street Sacramento, CA 95812-2828

Re: Pacific Gas and Electric Company's Comments on the Air Resources Board 45-day Amendments to the Cap-and Trade-Program

Dear Dr. Cliff:

Pacific Gas and Electric Company (PG&E) welcomes the oppmtunity to submit these comments on the Air Resources Board's (ARB) 45-day Amendments to the Cap-and-Trade Program.

INTRODUCTION

PG&E's comments on the staff proposals are detailed in Section II below. The following summarizes the key issues:

• PG&E Supports Staffs Cost Containment Proposal and Encourages Staff To Continue Exploring Additional Mechanisms To SatisfY The Board Resolution

• PG&E Supports Natural Gas Allowance Allocation to Natural Gas Suppliers on Behalf of their Customers, to Gradually Introduce the Cost of Carbon Into Natural Gas Bills

• The Potential for Allowance Withholding Should be Explicitly Stated and the Penalty Should Be Tailored to the Nature of the Violation

• ARB Should not Unreasonably Restrict an Entity's Auction Participation • PG&E Suppmis The Adoption Of Additional Offset Protocols • Generators That Have Already Bargained For Costs Associated With GHG Regulation

Should Not Quality for Transition Assistance • Holding Limit Should Ensure Equitable Treatment of Regulated Entities • ARB Regulations Should Not Conflict with CPUC Requirements • Prohibitions on Trading Provisions Should Be Modified • Investigation Disclosure Language Should be Modified • Resource Shuffling "Safe Harbors" Should Include (I) Activities to Comply With Rules,

Orders, or Decisions Issued By A Governmental Authority; (2) Activities Resulting from Pmiicipating in Energy Imbalance Markets

Steven Cliff, Ph.D. October 18, 2013 Page 12

in a dispute resolution proceeding between the parties to the agreement finds that, at the time the agreement was executed, the seller understood that if there were a future change in the law that imposed a cost on the facility because of its greenhouse gas emissions, the seller would be responsible for paying that cost.

3. ARB Should Clarify that Entities Covered by CPUC Decision D-10-12-035 are Ineligible

PG&E understands that ARB does not intend for transitional assistance to be provided to entities eligible to execute standard contracts pursuant to the Combined Heat and Power Program Settlement approved by CPUC D. 10-12-035. Above, PG&E also suggests an edit to "Legacy Contract" to clarifY this understanding.

G. Section 95920. Holding Limit Should Ensure Equitable Treatment of Regulated Entities

By imposing the same holding limit calculation on all entities, regardless of operational size and relative compliance obligations, the regulation unfairly and unnecessarily discriminates against larger regulated entities, effectively forcing them to procure at higher costs that, in the case of

utilities, are then passed on to their customers. Below, PG&E outlines its holding limit proposal which would address this inequity. In addition, changes to the Proposed Regulation between the July discussion draft and the 45-day language inadvertently impact the limited exemption to the holding limit, effectively decreasing the quantity of allowances dedicated for compliance that are exempt from the holding limit. PG&E also proposes a simple modification to address this issue.

1. Allowances in a Compliance Account Should not Count Against the Holding Limit

The holding limit calculation permits smaller entities to comply at lower costs by effectively allowing them to bank a higher propmtion of lower-cost instruments for their compliance obligation. While the current holding limit/ limited exemption allow larger entities to procure allowances to meet their obligation over time, it fully limits the cost containment aspects of

banking allowances. PG&E proposes that ARB retain the standard holding limit for all entities registered with ARB. In addition to the standard holding limit:

• Entities with a compliance obligation may apply their limited exemption to allowances held in their holding account; and

• Allowances in a compliance account would not count against the holding limit.

This minor modification will provide compliance entities with flexibility and planning oppmtunities that any successful carbon market should have. The proposal would only impact entities with compliance obligations, enabling them to maintain more banked allowances in their holding accounts, thus increasing the number of allowances available to trade or transfer, reducing operational risks, and improving market liquidity. The proposal also enables larger compliance entities to more effectively utilize the banking provision cutTently available in the

Steven Cliff, Ph.D. October 18, 2013 Page 13

regulation, and provides greater flexibility to manage compliance costs. At the same time, by allowing entities to place more allowances in their compliance accounts, ARB would in effect make those allowances usable only for compliance purposes, reducing the possibility of market manipulation with respect to those allowances. Also, this proposal does not interfere with or undermine the suite of market manipulation prevention tools already in place (purchase limits, continuous market monitoring, an extensive registration process, and personal attestations).

95920( d)(2) Limited Exemption from the Holding Limit. A Limited EReflljltion from the Holding Limit is ealet~lated as: (A) The limited exemption from the holding limit (limited exemption) is the

maximum number of allowances which can be held in an entity's holding account that will not be included in are elteflljlt from the holding limit calculated pursuant to section 95920(c)(l). To at~alify fer inelt~sion w-ithin the limited

eJrernption, Allowances mt~st lJe placed in the a Covered Entity's Compliance Account are (1) exempt from the holding limit calculated pursuant to section 95920 (c)(l); and (2) are exempt from the limited exemption from the holding limit calculated pursuant to this section 95920 (d)(2). Calet~lation after they are transfenedlJy a eovered entity or an opt in eovered entity to its

eoflljllianee aeeot~Ht.

2. Removal of The Annual Compliance Obligation Should Not Decrease an Entity's Limited Exemption Ji'om the Holding Limit

The Proposed Regulation's removal of the annual compliance obligation inadvertently decreases an entity's limited exemption from the holding limit because those otherwise-retired annual allowances remain in the compliance account and count toward the limited exemption. This outcome introduces an additional constraint because under the cmTent Regulation, those allowances associated with an annual compliance obligation are retired and removed from the

compliance account, effectively increasing the limited exemption by the amount of the retirement. To address this issue, PG&E proposes that ARB increase the limited exemption calculation by the annual compliance obligation that otherwise would have been retired under the cmTent Regulation. With this change to Section 95920(d)(2), ARB's regulatory changes intended to preserve the value of offsets, do not negatively impact an entity' limited exemption

amount.

Section illfHJ On November 1 of the calendar year following the year a covered entitv has an annual compliance obligation pursuant to section 95855, the limited exemption will be increased by the sum of the entity's annual compliance obligation over that year. On December 31 of the calendar year following the end of a compliance period, the limited exemption will be reduced by the sum of the entity's compliance obligation over that compliance period.

Tab 13

California Council for Environmental and Economic Balance, Comment on Proposed Amendments to the California Cap-and-Trade Program, October 23, 2013

October 23, 2013 Chairman Nichols and Members of the Board California Air Resources Board 1001 I Street Sacramento, CA 95814 Via email: http://www.arb.ca.gov/lispub/comm/bclist.php RE: Proposed Amendments to the California Cap-and-Trade Program Dear Chairman Nichols and Members of the Board: The California Council for Environmental and Economic Balance (CCEEB) is a non-partisan, non-profit coalition of business, labor, and public leaders that advances strategies for a strong economy and a healthy environment. CCEEB appreciates the work the California Air Resources Board (ARB) has completed since the adoption of the California Cap-and-Trade Program (Cap-and-Trade). We would also like to thank you and your staff for being open and accessible to our membership as this program developed.

Cost Containment Resolution 12-51 directed ARB staff to examine several parts of the Cap-and-Trade program for cost containment. While this work may have taken place internally, it is important for ARB to present its findings to stakeholders along with potential amendments to or justifications for the program’s status quo. Additionally, CCEEB recommends that ARB incorporate the “Three Key Elements of Cost Containment” as described by the Joint Utility Group (JUG)1. The three elements include:

A) Measures that take effect now to reduce the likelihood of prices rising above the Allowance Price Containment Reserve (APCR) by: 1) reducing demand for compliance instruments; 2) increasing the supply of compliance instruments; and 3) ensuring that compliance instruments are accessible in the marketplace.

1 http://www.arb.ca.gov/cc/capandtrade/meetings/062513/industry-present.pdf

3

Market Design CCEEB believes that an open market allows participants to comply at the lowest increment cost,thereby improving program cost effectiveness and freeing market entities to find the best and most innovative solutions to reduce GHGs. Unfortunately, portions of the current regulation may unnecessarily constrain market liquidity. Of particular concern are:

Holding Limits

• The current holding limit is too restrictive for regulated entities with large compliance obligations and unnecessarily locks away significant amounts of allowances that might otherwise be available to the market. This creates an uneven playing field that favors traders over regulated entities. Compliance entities, especially those with large compliance obligations, must be able to hold and trade a larger portion of their allowances in order to adequately manage risk.

• CCEEB recommends that the program allow compliance entities to hold, in holding accounts, sufficient allowances to cover their obligation for the entire compliance period based on a rolling three-year emissions obligation. This change would free up allowances for the major compliance entities and improvemarket liquidity because an entity could hedge its forward risk without major complications. While there are still allowances locked in compliance accounts in some years, the increase in holding limits makes these limitations much more manageable.

• Holdings limits are intended to prevent one entity from cornering the market. However, holding limits also place significant strain on compliance entities. Instead, CCEEB recommends moving towards monthly auctions, which would prevent any one entity from cornering the market while at the same time improving liquidity market.

Compliance Process

• Business fluctuations at the end of a compliance period are anticipated. These fluctuations could adversely impact the smooth operation of the market. CCEEB recommends that current vintage allowances (i.e. borrowing from the current year) be allowed during the true-up period (i.e. the time between the end of a compliance period and when that compliance period’s obligation is due). This will provide a mechanism for end of compliance period truing-up that will increase market confidence.

Timely Surrender of Compliance Obligations

The new proposed section 95856(h)(2) imposes new requirements for the Executive Officer to retire compliance instruments in a certain order. This action continues to include additional restrictions and constraint on trading. The regulation should not require covered entities to retire

Tab 14 Chevron, Analysis of the Effect of Holding Limits on the Largest Emitters in the California Cap-

and-Trade System, June 4, 2014

Analysis of the Effect of Holding Limits on the Largest Emitters in the California Cap-and-Trade System

Prepared by Chevron, June 4, 2014

Compliance Period 11

Compliance Entity2

Emissions 2013 Emissions 2014 30% Surrender November 1, 2014

CP1 Surrender Obligation Nov. 1 2015

Holding Limit CP1

Quantity of Allowances in Compliance Account

Percentage of Allowances Stuck in Compliance Account

Company A 12,000,000 12,000,000 3,600,000 20,400,000 6,447,500 13,952,500 68% Company B 22,300,000 22,300,000 6,690,000 37,910,000 6,447,500 31,462,500 83% Company C 9,900,000 9,900,000 2,970,000 16,830,000 6,447,500 10,382,500 62% Company D 8,100,000 8,100,000 2,430,000 13,770,000 6,447,500 7,322,500 53% Company E 3,392,000 3,392,000 1,017,600 5,766,400 6,447,500 0 0% Company F 4,516,000 4,516,000 1,354,800 7,677,200 6,447,500 1,229,700 16% Company G 4,055,000 4,055,000 1,216,500 6,893,500 6,447,500 446,000 6% Company H 12,900,000 12,900,000 3,870,000 21,930,000 6,447,500 15,482,500 71% Company I 3,740,000 3,740,000 1,122,000 6,358,000 6,447,500 0 0% Total 80,903,000 80,903,000 24,270,900 137,535,100 58,027,500 80,278,200

Note: All emissions based on 2012 data “ARB Calculated Total Covered Emissions.” These figures assume that the largest compliance entities (1) have acquired and obtained the delivery in 2015 and 2018 of a quantity of allowances equal to their

outstanding compliance obligation for, respectively, Compliance Period 1 and Compliance Period 2 and (2) have kept as many allowances as legally possible in their holding account and moved the remaining allowances in their compliance account.

Source: http://www.arb.ca.gov/cc/reporting/ghg-rep/reported-data/ghg-reports.htm

1 CP1 data (2013 and 2014) does not include “supplier emissions 2 Includes all directly associated entities

Compliance Period 23

Compliance Entity

Emissions 2015

Emissions 2016

Emissions 2017

30% Surrender November 1, 2016

30% Surrender November 1, 2017

CP2 Surrender Obligation Nov. 1 2018

Holding Limit CP2

Quantity of Allowances in Compliance Account

Percentage of Allowances Stuck in Compliance Account

Company A 43,000,000 43,000,000 43,000,000 12,900,000 12,900,000 103,200,000 12,662,000 90,538,000 87.73% Company B 22,300,000 22,300,000 22,300,000 6,690,000 6,690,000 53,520,000 12,662,000 40,858,000 76.34% Company C 9,900,000 9,900,000 9,900,000 2,970,000 2,970,000 23,760,000 12,662,000 11,098,000 46.71% Company D 58,700,000 58,700,000 58,700,000 17,610,000 17,610,000 140,880,000 12,662,000 128,218,000 91.01% Company E 12,000,000 12,000,000 12,000,000 3,600,000 3,600,000 28,800,000 12,662,000 16,138,000 56.03% Company F 23,400,000 23,400,000 23,400,000 7,020,000 7,020,000 56,160,000 12,662,000 43,498,000 77.45% Company G 14,767,000 14,767,000 14,767,000 4,430,100 4,430,100 35,440,800 12,662,000 22,778,800 64.27% Company H 12,900,000 12,900,000 12,900,000 3,870,000 3,870,000 30,960,000 12,662,000 18,298,000 59.10% Company I 17,700,000 17,700,000 17,700,000 5,310,000 5,310,000 42,480,000 12,662,000 29,818,000 70.19% Total 214,667,000 214,667,000 214,667,000 64,400,100 64,400,100 515,200,800 113,958,000 401,242,800

Note: All emissions based on 2012 data “ARB Calculated Total Covered Emissions.” These figures assume that the largest compliance entities (1) have acquired and obtained the delivery in 2015 and 2018 of a quantity of allowances equal to their

outstanding compliance obligation for, respectively, Compliance Period 1 and Compliance Period 2 and (2) have kept as many allowances as legally possible in their holding account and moved the remaining allowances in their compliance account.

Source: http://www.arb.ca.gov/cc/reporting/ghg-rep/reported-data/ghg-reports.htm

3 CP 2 data (2015-2017) includes “supplier” emissions and emissions associated with fuels

Tab 15 Int’l Swaps and Derivatives Ass’n, et al. v. U.S. Commodity Futures Trading Comm’n, Civil

Action No. 11-cv-2146 (D.C., September 28, 2012)

UNITED STATES DISTRICT COURT FOR THE DISTRICT OF COLUMBIA

INTERNATIONAL SWAPS AND DERIVATIVES ASSOCIATION, et al.

Plaintiffs,

v.

UNITED STATES COMMODITY FUTURES TRADING COMMISSION

Defendant.

Civil Action No. 11-cv-2146 (RLW)

MEMORANDUM OPINION

Plaintiffs International Swaps and Derivatives Association (“ISDA”) and Securities

Industry and Financial Markets Association (“SIFMA”) (collectively “Plaintiffs”) challenge a

recent rulemaking by Defendant United States Commodity Futures Trading Commission

(“CFTC” or “Commission”) setting position limits on derivatives tied to 28 physical

commodities. See Position Limits for Futures and Swaps, 76 Fed. Reg. 71,626 (Nov. 18, 2011)

(“Position Limits Rule”). The CFTC promulgated the Position Limits Rule pursuant to the

Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L. No. 111-203, 124 Stat.

1376 (2010) (“Dodd-Frank”).

The heart of Plaintiffs’ challenge is that the CFTC misinterpreted its statutory authority

under the Commodity Exchange Act of 1936 (“CEA”), as amended by Dodd-Frank. The central

question for the Court, then, is whether the CFTC promulgated the Position Limits Rule based on

a correct and permissible interpretation of the statute at issue. Before the Court are the following

motions: 1) Plaintiffs’ Motion for Preliminary Injunction (Dkt. No. 14), Plaintiffs’ Motion for

Summary Judgment (Dkt. No. 31) and Defendant’s Cross Motion for Summary Judgment (Dkt.

No. 38). For the reasons set forth below, Plaintiffs’ Motion for Summary Judgment is

4

eliminate, or prevent [excessive speculation].”). Title VII of the Dodd-Frank Act amended

Section 6a in several respects. The full text of Section 6a, with the Dodd-Frank amendments

reflected in red-lined format, is attached to this Opinion as Appendix A.

The Position Limits Rule

Notice of Proposed Rulemaking

Dodd-Frank went into effect on July 21, 2010. On January 26, 2011, the CFTC issued a

Notice of Proposed Rulemaking (“NPRM”), stating that Title VII of Dodd-Frank “requires” the

Commission “to establish position limits for certain physical commodity derivatives.” Position

Limits for Derivatives, 76 Fed. Reg. 4,752 (Jan. 26, 2011). At an open meeting on January 13,

2011 prior to the issuance of the NPRM, Commissioner Michael V. Dunn stated that, “to date

CFTC staff has been unable to find any reliable economic analysis to support either the

contention that excessive speculation is affecting the market we regulate or that position limits

will prevent excessive speculation.” Transcript of Open Meeting on the Ninth Series of

Proposed Rulemakings Under the Dodd-Frank Act at 9 (Jan. 13, 2011). Dunn also shared his

“fear” that “at best position limits are a cure for a disease that does not exist, or at worst it’s a

placebo for one that does.” Id. Commissioners Jill Sommers and Scott D. O’Malia also

expressed fundamental concerns with the position limits proposal before the agency. Id. at 12-

15; 18-22.

In the NPRM, the CFTC proposed to establish position limits for futures contracts,

options contracts and swaps for 28 physical commodities. In discussing its statutory authority,

the CFTC stated its view that it was:

not required to find that an undue burden on interstate commerce resulting from excessive speculation exists or is likely to occur in the future in order to impose position limits. Nor is the Commission required to make an affirmative finding that position limits are necessary to prevent sudden or unreasonable fluctuations

At an open meeting on January 13,

2011 prior to the issuance of the NPRM, Commissioner Michael V. Dunn stated that, “to date

CFTC staff has been unable to find any reliable economic analysis to support either the

contention that excessive speculation is affecting the market we regulate or that position limits

will prevent excessive speculation.” T

Dunn also shared his

“fear” that “at best position limits are a cure for a disease that does not exist, or at worst it’s a

placebo for one that does.” Id. Commissioners Jill Sommers and Scott D. O’Malia also

expressed fundamental concerns with the position limits proposal before the agency.

In discussing its statutory authority,

the CFTC stated its view that it was:

not required to find that an undue burden on interstate commerceqresulting from excessive speculation exists or is likely to occur ing pthe future in order to impose position limits.

yNor is the p p

Commission required to make an affirmative finding that positionffq g plimits are necessary to prevent sudden or unreasonable fluctuations

5

or unwarranted changes in prices or otherwise necessary for market protection. Rather the Commission may impose position limits prophylactically, based on its reasonable judgment that such limits are necessary for the purpose of ‘diminishing, eliminating, or preventing’ such burdens on interstate commerce . . . .

76 Fed. Reg. at 4754 (emphasis added). The CFTC stated that the “basic statutory mandate in

section [6]a of the Act to establish position limits to prevent ‘undue burdens’ associated with

‘excessive speculation’ has remained unchanged—and has been reaffirmed by Congress several

times—over the past seven decades.” Id. In discussing the Dodd-Frank amendments to Section

6a, the Commission noted that:

[P]ursuant to the Dodd-Frank Act, Congress significantly expanded the Commission’s authority and mandate to establish position limits beyond futures and options contracts to include, for example, economically equivalent derivatives. Congress expressly directed the Commission to set limits in accordance with the standards set forth in sections [6]a(a)(1) and [6]a(a)(3) of the Act, thereby reaffirming the Commission’s authority to establish position limits as it finds necessary in its discretion to address excessive speculation.

Id. at 4755 (emphasis added). At this stage of the rulemaking, therefore, when discussing the

“standards set forth in section [6]a(a)(1),” the Commission directly referred to its authority to

“establish position limits as it finds necessary in its discretion to address excessive speculation.”

Id.

The Final Rule

During an open meeting on October 18, 2011, the CFTC adopted the Position Limits

Rule by a vote of 3 to 2. 76 Fed. Reg. at 71,699. Chairman Gary Gensler and Commissioner

Bart Chilton voted in favor of the Rule, with Commissioner Dunn providing the third vote for the

majority. (Dkt. No. 31 at 10-11); 76 Fed. Reg. at 71,699. Dunn stated that “no one has

presented this agency any reliable economic analysis to support either the contention that

or unwarranted changes in prices or otherwise necessary for g p ymarket protection. Rather the Commission may impose position p y p plimits prophylactically, based on its reasonable judgment that such p p y y, j glimits are necessary for the purpose of ‘diminishing, eliminating, y p p g,or preventing’ such burdens on interstate commerce . . . .

17

the undue burden of excessive speculation in grain futures which causes unwarranted price

changes, it is necessary to establish limits on the amount of speculative trading under contracts of

sale of grain for future delivery on contract markets, which may be done by any one person.”)

(emphasis added); see also In the Matter of Limits on Position and Daily Trading in Cotton for

Future Delivery, 5 Fed. Reg. 3,198 (Aug. 28, 1940); Limits on Position and Daily Trading in

Eggs for Future Delivery, 16 Fed. Reg. 8,106 (Aug. 16, 1951); Limits on Position and Daily

Trading in Cottonseed Oil for Future Delivery, 18 Fed. Reg. 443 (Jan. 22, 1953); Limits on

Position and Daily Trading in Soybean Oil for Future Delivery, 18 Fed. Reg. 444 (Jan. 22,

1953); Limits on Position and Daily Trading in Lard for Future Delivery, 18 Fed. Reg. 445 (Jan.

22, 1953); Limits on Position and Daily Trading in Onions for Future Delivery, 21 Fed. Reg.

5,575 (July 25, 1956).

The CFTC argues that, although it made necessity findings in these prior rulemakings,

the agency never stated that a finding of necessity was required. (Dkt. No. 38 at 19, n.12). This

argument is without merit. The plain text of the statute requires that position limits be set “as the

Commission finds are necessary to diminish, eliminate, or prevent [excessive speculation].” §

6a(a)(1). The text does not state (nor has it ever) that the CFTC may do away with or ignore the

necessity requirement in its discretion. There is no ambiguity as to whether the statute requires

the CFTC to make such findings, and the CFTC has never apparently treated the statute as

ambiguous on this point. Accordingly, the Court concludes that § 6a(a)(1) unambiguously

requires that, prior to imposing position limits, the Commission find that position limits are

necessary to “diminish, eliminate, or prevent” the burden described in Section 6a(a)(1).

ii. The Commission’s Arguments That Section 6a(a)(1) Does Not Require a Necessity Finding Are Unavailing.

The CFTC argues that, although it made necessity findings in these prior rulemakings,

the agency never stated that a finding of necessity was required. (Dkt. No. 38 at 19, n.12). This

argument is without merit. The plain text of the statute requires that position limits be set “as the

Commission finds are necessary to diminish, eliminate, or prevent [excessive speculation].” §

6a(a)(1). The text does not state (nor has it ever) that the CFTC may do away with or ignore the

necessity requirement in its discretion. There is no ambiguity as to whether the statute requires

the CFTC to make such findings, and the CFTC has never apparently treated the statute as

ambiguous on this point. Accordingly, the Court concludes that § 6a(a)(1) unambiguously

requires that, prior to imposing position limits, the Commission find that position limits are

necessary to “diminish, eliminate, or prevent” the burden described in Section 6a(a)(1).

42

The CFTC is correct that the Court has discretion to decide whether to vacate the rule on

remand. See Advocates for Highway & Auto Safety v. Fed. Motor Carrier Safety Admin., 429

F.3d 1136, 1151 (D.C. Cir. 2005) (“While unsupported agency action normally warrants vacatur

. . . this court is not without discretion.”) (internal quotation marks and citations omitted). When

deciding whether to vacate the Court considers two factors: “seriousness of the order’s

deficiencies” and “the disruptive consequences of an interim change that may itself be changed.”

Allied-Signal, Inc. v. U.S. Nuclear Regulatory Comm’n, 988 F.2d 146, 150-51 (D.C. Cir. 1993).

In this case, both factors weigh in favor of vacating the rule on remand.

First, as set forth above, the CFTC’s error in this case was that it fundamentally

misunderstood and failed to recognize the ambiguities in the statute. In circumstances such as

this, our Circuit has found it appropriate to vacate the agency action on remand. See, e.g., Peter

Pan, 471 F.3d at 1354-55; Nat’l Cement, 494 F.3d at 1077; PDK Labs., 362 F.3d at 799. By

failing to acknowledge the statutory ambiguities in Section 6a, the CFTC instead relied

exclusively on a “plain meaning” reading of the statute. The agency failed to bring its expertise

and experience to bear when interpreting the statute and offered no explanation for how its

interpretation comported with the policy objectives of the Act. The Court cannot be sure that the

agency will interpret the statute in the same way and arrive at the same conclusion after further

review and cannot be sure whether a similar position limits rule will withstand challenge under

the APA. See Humane Soc’y, 579 F. Supp. 2d at 21.

Second, it would be far more disruptive if the Position Limits Rule were allowed to go

into effect while on remand. As Plaintiffs note, remand without vacatur is often warranted once

a rule has gone into effect and, as such, there is no apparent way to restore the status quo. (Dkt.

No. 31 at 18, n.12); Sugar Cane Growers Coop. of Florida v. Veneman, 289 F.3d 89, 97 (D.C.

The agency failed to bring its expertise

and experience to bear when interpreting the statute and offered no explanation for how its

interpretation comported with the policy objectives of the Act.

43

Cir. 2002) (holding that remand without vacatur was warranted where the rule had already gone

into effect and, as such “[t]he egg ha[d] been scrambled and there [was] no apparent way to

restore the status quo ante.”). In this case, the Position Limits Rule, which according to both

parties is a significant and unprecedented change in the operation of the commodity derivatives

market, has not yet gone into effect. Moreover, the CFTC itself is reviewing and possibly

revising its aggregation policies. (Dkt. Nos. 61, 63). The Court finds that vacatur of the rule

would merely maintain the status quo and cause far less disruption than vacating the regime after

it has gone into effect.

CONCLUSION

For the foregoing reasons, the Position Limits Rule is vacated and remanded to the

Commission for further proceedings consistent with this Opinion. Moreover, Plaintiffs’ Motion

for Summary Judgment is granted and Defendant’s Motion for Summary Judgment is denied.

An Order accompanies this Memorandum.

Date: September 28, 2012 ROBERT L. WILKINS

United States District Judge

For the foregoing reasons, the Position Limits Rule is vacated and remanded to the

Commission for further proceedings consistent with this Opinion.

Tab 16 ISDA/SIFMA, Comment on Proposed Rulemaking – Position Limits for Derivatives (RIN 3038-

AD99), February 10, 2014

February 10, 2014 Ms. Melissa Jurgens Secretary Commodity Futures Trading Commission Three Lafayette Centre 1155 21st Street NW. Washington, DC 20581 Re: Notice of Proposed Rulemaking – Position Limits for Derivatives (RIN 3038-AD99) Dear Ms. Jurgens: The International Swaps and Derivatives Association, Inc. (“ISDA”)1 and the Securities Industry and Financial Markets Association (“SIFMA”)2 appreciates the opportunity to provide the Commodity Futures Trading Commission (the “CFTC” or “Commission”) with comments and recommendations regarding the Notice of Proposed Rulemaking for Position Limits for Derivatives (the “Proposal”).3 In submitting this letter, we also reference and re-incorporate the previous comments we have submitted to the Commission (our “Previous Comments”)4 with 1 ISDA’s mission is to foster safe and efficient derivatives markets to facilitate effective risk

management for all users of derivatives products. ISDA has more than 800 members from 58 countries on six continents. These members include a broad range of OTC derivatives market participants: global, international and regional banks, asset managers, energy and commodities firms, government and supranational entities, insurers and diversified financial institutions, corporations, law firms, exchanges, clearinghouses and other service provides. For more information, please visit: www.isda.org.

2 SIFMA brings together the shared interests of hundreds of securities firms, banks and asset managers. SIFMA’s mission is to support a strong financial industry, investor opportunity, capital formation, job creation and economic growth, while building trust and confidence in the financial markets. SIFMA, with offices in New York and Washington, DC, is the U.S. regional member of the Global Financial Markets Association. For more information, visit www.sifma.org.

3 Position Limits for Derivatives, 78 Fed. Reg. 75680 (Dec. 12, 2013). 4 See, for example, our letters dated January 11, 2011 (available on ISDA’s website at:

http://www.isda.org/speeches/pdf/CFTC-Position-Limits-Pre-Comment.pdf); March 28, 2011 (available on the Commission’s website at: http://comments.cftc.gov/PublicComments/ViewComment.aspx?id=33568); and January 17, 2012 (available on the Commission’s website at: http://comments.cftc.gov/PublicComments/ViewComment.aspx?id=50066).

12

CFTC-imposed position limits for a broad range of commodities. To the contrary, the limited, outdated and unpersuasive “evidence” discussed by the CFTC, as an alternative to its flawed reading of the statute, merely serves to underscore the fact that the CFTC has not satisfied the statutory requirements and has made no investigation whatsoever into the questions of whether “excessive speculation” exists, what kind of “burden” excessive speculation imposes, and whether limits are “appropriate” under the statutory standards set forth in the CEA for any of the commodities on which it purports to impose position limits. We believe that the CFTC’s alternative “necessity finding” should be disregarded in its entirety.

1. The CFTC’s Proffered Necessity Finding is Inadequate, Irrelevant, and Misapplied

In the Proposal, the CFTC attempted to ground its necessity finding in a “review” of two dated and irrelevant instances of market disruptions.38 Specifically, the Commission used two case studies of markets in prior decades, and focused on futures contracts in the spot month for a single commodity, as the foundation for an across-the-board rule permanently imposing position limits on the 28 core referenced futures contracts and on any economically related futures contract, option, or swap. One of the two disruptions that the CFTC cites occurred in the late 1970s, in the silver futures market (the “Hunt Silver” incident).39 The other disruption occurred in the mid-2000s, in the natural gas futures market (the “Amaranth Natural Gas” incident). The CFTC’s case studies of these two instances of market disruption do not provide a basis for conclusions that are useful or relevant to addressing the current market and current market participants—certainly not with regard to the commodities at issue in the position limits proposed by this rulemaking.

The 1979–1980 Hunt Silver incident does not provide a basis for the Proposal.

The Proposal’s first case study, an analysis of the Hunt Silver incident from 1979–1980, is in no way relevant to the Commission’s required analysis or responsive to the statutory criteria under the CEA. The market has evolved in many ways over the past 34 years, including in terms of liquidity, size, types of market participants, types of contracts, and manner of trading. The only possible value that may be obtained by examining a 34-year-old case of market disruption is by 38 See 78 Fed. Reg. at 75695–96. To make its necessity finding, the CFTC relies on “two

studies”—one from over 30 years ago and the other by a Senate subcommittee—of the 132 studies and reports by a wide range of economists, regulators, and other market experts that it has reviewed. Cf. Bus. Roundtable v. SEC, 647 F.3d 1144, 1151 (D.C. Cir. 2011) (“The [SEC] completely discounted those studies [that reached the opposite result from the SEC] ‘because of questions raised by subsequent studies, limitations acknowledged by the studies’ authors, or [its] own concerns about the studies’ methodology or scope.’ The [SEC] instead relied exclusively and heavily upon two relatively unpersuasive studies . . . .” (citation omitted)). Further, these reports are not congressional “findings,” (they were not approved by either a House of Congress or the President), or legislative history to the CEA.

39 See 78 Fed. Reg. at 75685 (“A rapid rise and subsequent sharp decline in silver prices occurred from the second half of 1979 to the first half of 1980 when the Hunt brothers and colluding syndicates attempted to corner the silver market by hoarding silver and executing a short squeeze.”).

In the Proposal, the CFTC attempted to ground its necessity finding in a “review” of two dated 38and irrelevant instances of market disruptions.3 Specifically, the Commission used two case

studies of markets in prior decades, and focused on futures contracts in the spot month for a single commodity, as the foundation for an across-the-board rule permanently imposing positionlimits on the 28 core referenced futures contracts and on any economically related futures contract, option, or swap. One of the two disruptions that the CFTC cites occurred in the late

391970s, in the silver futures market (the “Hunt Silver” incident).3 The other disruption occurred in the mid-2000s, in the natural gas futures market (the “Amaranth Natural Gas” incident). The CFTC’s case studies of these two instances of market disruption do not provide a basis for conclusions that are useful or relevant to addressing the current market and current market participants—certainly not with regard to the commodities at issue in the position limitsproposed by this rulemaking.

17

Further, the CFTC fails to present economic evidence in support of the Proposal, nor could it because of the virtually unanimous academic agreement that commodity price changes have been driven by market conditions, rather than speculation.50

The CFTC attempts to evade this reality by asserting that “[s]ome studies may be read to support the imposition of Federal speculative position limits” and that there is a “lack of consensus” in the literature.51 But these statements are mistaken, as the studies that the CFTC considers supportive of limits have been consistently and thoroughly refuted by subsequent scholarly work.52 It is telling that the CFTC dismisses this work on the ground that it “do[es] not address or provide analysis of how the Commission should specifically implement position limits under section 4a of the CEA.”53 The fact that this literature does not address the CEA, or the Commission’s erroneous construction of the CEA, does not make its refutation of the studies cherry-picked by the Commission any less telling.

Altogether, the Commission cites fourteen studies as confirmation of the need for position limits. Two of these studies are addressed above.54 Of the remainder, seven address purported speculation in the oil and natural gas markets and thus provide no basis on which to impose limits on the twenty-seven additional commodities covered by the Proposal.55 Likewise, the 50 Although the CFTC does not present an economic case for position limits or claim that a review

of the economic evidence would support the Proposal, the CFTC does list 132 studies and reports “relating to position limits” that it claims to have “reviewed and evaluated.” See id. at 75784–87. Of these 132 documents, only 31 are cited at any point in the Proposal. Of these 31 documents, 25 are cited only in the part of the Proposal titled “Studies and Reports.”

51 Id. at 75694. 52 For example, the CFTC favorably cites a 2009 study from Rice University that has been heavily

and exceptionally criticized. See id. at 75695 n.142 (citing Kenneth B. Medlock III & Amy Myers Jaffe, James A. Baker III Inst. for Pub. Policy, Rice Univ., Who Is in the Oil Futures Market and How Has It Changed? (2009)). For an exposition of the deficiencies of this paper, see the assessment in Craig Pirrong, Have You Heard the One About the Baker Institute and the Oil Speculators?, Streetwise Professor (Aug. 28, 2009, 8:50 PM), http://streetwiseprofessor.com/?p=2454: “[T]his report is bilge. It relies on no rigorous economic analysis to support its contentions. Moreover, it is unscientific, eschewing any serious statistical analysis.”

53 78 Fed. Reg. at 75694. 54 See supra Part I.B.1. 55 See Medlock & Myers Jaffe, supra note 52; Michael Greenberger, The Relationship of

Unregulated Excessive Speculation to Oil Market Price Volatility, in Report of the Expert Group as Convened by the 2008 Ad-Hoc Energy Ministers Meetings Held in Jeddah and London (Int’l Energy Forum, Jan. 16, 2010); James D. Hamilton, Causes and Consequences of the Oil Shock of 2007–08, Brookings Papers on Econ. Activity, Spring 2009, at 215; Luciana Juvenal & Ivan Petrella, Speculation in the Oil Market, in Econ. Synopses (Fed. Reserve Bank of St. Louis, No. 8, 2012); Mohsin S. Khan, The 2008 Oil Price “Bubble,” (Peterson Inst. for Int’l Econ., Policy Brief No. PB 09-19, 2009); Matteo Manera et al., Futures Price Volatility in Commodities Markets: The Role of Short Term vs Long Term Speculation (Fondazione Eni Enrico Mattei,

The CFTC attempts to evade this reality by asserting that “[s]ome studies may be read to support the imposition of Federal speculative position limits” and that there is a “lack of consensus” in

51the literature.5 But these statements are mistaken, as the studies that the CFTC considers supportive of limits have been consistently and thoroughly refuted by subsequent scholarly

52work.5 It is telling that the CFTC dismisses this work on the ground that it “do[es] not address or provide analysis of how the Commission should specifically implement position limits under

53section 4a of the CEA.”5 The fact that this literature does not address the CEA, or theCommission’s erroneous construction of the CEA, does not make its refutation of the studiescherry-picked by the Commission any less telling.

Altogether, the Commission cites fourteen studies as confirmation of the need for position limits. 54Two of these studies are addressed above.5 Of the remainder, seven address purported

speculation in the oil and natural gas markets and thus provide no basis on which to impose55limits on the twenty-seven additional commodities covered by the Proposal.5 Likewise, the

18

Senate subcommittee staff reports on speculation in the natural gas and wheat markets do not provide an adequate foundation upon which to base limits for twenty-eight different commodities, because they are limited to single commodities and reflect analyses performed over four years ago.56

The remaining studies are equally unavailing. For example, one paper addresses the “financialization” of commodity markets and concludes that futures prices of different commodities in the U.S. have become increasingly correlated with one another due to commodity index investment.57 But the paper says nothing about position limits, takes no position on the extent of excessive speculation in U.S. commodities markets—and even expressly attributes some of the observed price volatility to fundamental market conditions, and affirmatively acknowledges that commodity index investment can be beneficial in leading to a more efficient sharing of commodity price risk.58 Similarly, the UN studies cited by the Commission expressly concede that they lack evidence tying speculation to changes in commodity prices.59

Despite the obvious infirmities in the studies it cites, the Commission claims that some studies “conclude there is significant evidence of the impact of speculation” in futures markets and that some studies “have determined that . . . [speculative] activity may increase price pressures, thereby exacerbating [a] price movement.”60 In fact, almost all of the listed studies that address whether excessive speculation distorts prices find no adverse effects.

Nota di Lavoro No. 45.2013, 2013); Kenneth J. Singleton, Investor Flows and the 2008 Boom/Bust in Oil Prices (March 23, 2011) (unpublished manuscript), available at http://ssrn.com/abstract=1793449. The attached Verleger report, infra Annex A, provides a powerful demonstration of the adverse effects that position limits would have in the energy markets.

56 See U.S. Senate Permanent Subcomm. on Investigations, supra note 42; U.S. Senate Permanent Subcomm. on Investigations, Excessive Speculation in the Wheat Market: Majority and Minority Staff Report (2009).

57 Ke Tang & Wei Xiong, Index Investment and Financialization of Commodities, 68 Fin. Analysts J. 54 (2010).

58 Id. at 3. 59 UN Conference on Trade and Development, The Global Economic Crisis: Systemic Failures and

Multilateral Remedies 38 (2009) (“[T]he non-transparency of existing data and lack of a comprehensive breakdown of data by trader categories make it difficult to examine the link between speculation and commodity price developments directly. The strongest evidence is found in the high correlation between commodity prices and the prices on other markets that are clearly dominated by speculative activity.”); UN Trade and Development Report, Financialization of Commodity Markets 78 (2009) (noting that “it is difficult to conduct a detailed empirical analysis of the link between speculation and commodity price developments” due to lack of empirical evidence).

60 Position Limits for Derivatives, 78 Fed. Reg. 75680, 75694 (Dec. 12, 2013) (emphasis added).

Senate subcommittee staff reports on speculation in the natural gas and wheat markets do not provide an adequate foundation upon which to base limits for twenty-eight different commodities, because they are limited to single commodities and reflect analyses performed

56over four years ago.5

The remaining studies are equally unavailing. For example, one paper addresses the“financialization” of commodity markets and concludes that futures prices of different commodities in the U.S. have become increasingly correlated with one another due to

57commodity index investment.5 But the paper says nothing about position limits, takes noposition on the extent of excessive speculation in U.S. commodities markets—and even expressly attributes some of the observed price volatility to fundamental market conditions, and affirmatively acknowledges that commodity index investment can be beneficial in leading to a

58more efficient sharing of commodity price risk.5 Similarly, the UN studies cited by theCommission expressly concede that they lack evidence tying speculation to changes in

59commodity prices.5

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investing is exerting a measurable effect on commodity futures prices.”67 Similarly, the CFTC relies on a UN rapporteur’s report68 that has not withstood scrutiny.69 Uncritical reliance on these discredited findings in marginal studies that go against the weight of the available economic evidence cannot be the foundation for a necessity finding.

The unrefuted findings cited by the CFTC uniformly demonstrate that speculation has not caused commodity price changes and that position limits are ineffective at reducing volatility.

Aside from two outdated, discredited reports, the CFTC does not put forward any academic support for the need for, or efficacy of, position limits and wholly disregards studies in the record that are adverse to position limits. Instead, the CFTC claims that “[s]tudies that militate against imposing any speculative position limits appear to conflict” with two conclusions that the CFTC has reached about Section 4a(a): first, “with the Congressional mandate . . . that the Commission impose limits on futures contracts, options, and certain swaps for agricultural and exempt commodities,” and second, “with Congress’ determination, codified in CEA section 4a(a)(1), that position limits are an effective tool to address excessive speculation as a cause of sudden or unreasonable fluctuations or unwarranted changes in the price of such commodities.”70

But the Commission cannot answer an economic question—are the limits at issue necessary, effective, and appropriate?—with a legal proposition, especially not one in the section of the Proposal that purports to base new position limits on empirical evidence rather than a supposed congressional mandate. And in fact, the studies and evidence that the Commission seeks to ignore are overwhelming. A 2009 study analyzed data collected by the Commission and found “that speculative activity does not affect prices” and “actually reduces volatility.”71 A study conducted by an economist at the Divisions of Research & Statistics and Monetary Affairs of the Federal Reserve Board found “no evidence that speculative activity in futures markets for industrial metals caused higher spot prices in recent years.”72 The International Organization of 67 James D. Hamilton & Jing Cynthia Wu, Effects of Index-Fund Investing on Commodity Futures

Prices 29 (Univ. of Cal. Ctr. for Energy & Envtl. Econ., Working Paper No. WP-070, 2013), available at http://www.uce3.berkeley.edu/WP_070.pdf; see also infra Annex A, at 10 (“Prices quoted in cash-settled markets cannot influence these markets unless the party with a large position in the cash-settled market also has a position in the physical market.”).

68 78 Fed. Reg. at 75695 (quoting Olivier de Schutter, Briefing Note 02, Food Commodities Speculation and Food Price Crises: Regulation to Reduce the Risks of Price Volatility 8 (2010)).

69 See, e.g., Brian D. Wright, The Economics of Grain Price Volatility, 33 Applied Econ. Persp. & Pol’y 32, 51–52 (2011) (criticizing the analysis of price jumps by de Schutter, supra note 68, that forms the basis for the rapporteur’s recommendations).

70 78 Fed. Reg. at 75695. 71 Celso Brunetti & Bahattin Büyükşahin, Is Speculation Destabilizing? 4 (Apr. 22, 2009)

(unpublished manuscript). 72 George M. Korniotis, Does Speculation Affect Spot Price Levels? The Case of Metals with and

Without Futures Markets abstract (Fed. Reserve Bd. Divs. of Research & Statistics & Monetary Affairs, Fin. & Econ. Discussion Series No. 2009-29, 2009).

A 2009 study analyzed data collected by the Commission and found 71“that speculative activity does not affect prices” and “actually reduces volatility.”7 A study

conducted by an economist at the Divisions of Research & Statistics and Monetary Affairs of theFederal Reserve Board found “no evidence that speculative activity in futures markets for

72industrial metals caused higher spot prices in recent years.”7 The International Organization of

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Securities Commissions (“IOSCO”)—an organization to which the Commission belongs—concluded that “[r]eports by international organizations, central banks and regulators . . . suggest that economic fundamentals, rather than speculative activity, are a plausible explanation for recent price changes in commodities.”73

Numerous studies also showed that position limits were ineffective at reducing price volatility and may actually increase it. For example, one study assessed speculative activity before and after a 2005 decision by the Chicago Board of Trade to relax position limits.74 The study found “no large change in measures of volatility after the change in speculative limits” and concluded that “there is little suggest that the change in speculative limits has had a meaningful overall impact on price volatility to date.”75 A 2011 study found that rather than “curtailing price swings,” position limits “could exacerbate them” by “inhibit[ing] the freedom of hedgers, thereby reducing [liquidity].”76

The published findings that the CFTC quotes, but does not bother to refute, include:

“that position limits will not restrain manipulation;”77 “that position limits in the agricultural commodities have not significantly affected

volatility;”78 that position limits “will not prevent asset bubbles from forming or stop them from

bursting;”79 that position limits “should be set at an optimal level so as to not harm the affected

markets;”80 73 Technical Comm., IOSCO, Task Force on Commodity Futures Markets: Final Report 3 (2009). 74 See Scott H. Irwin et al., The Performance of Chicago Board of Trade Corn, Soybean, and Wheat

Futures Contracts After Recent Changes in Speculative Limits 1 (Am. Agric. Econ. Ass’n, Selected Paper, 2007).

75 Id. at 16. 76 M. Shahid Ebrahim, Can Position Limits Restrain “Rogue” Trading? 9, 27 (Working Paper,

2011), quoted in part in Position Limits for Futures and Swaps, 76 Fed. Reg. 71626, 71664 n.378 (Nov. 18, 2011), vacated, ISDA v. CFTC, 887 F. Supp. 2d 259 (D.D.C. 2012).

77 Position Limits for Derivatives, 78 Fed. Reg. 75680, 75695 (Dec. 12, 2013) (citing Muhammed Ebrahim & Rhys ap Gwilym, Can Position Limits Restrain Rogue Traders?, 37 J. Banking & Fin. 824 (2013)).

78 Id. (citing Scott H. Irwin et al., supra note 74). 79 Id. (citing John E. Parsons, Black Gold & Fool’s Gold: Speculation in the Oil Futures Market

(Ctr. for Energy & Envtl. Policy Research, No. 09-013, Sept. 2009)); see also Letter from John M. Damgard, President, Futures Indus. Ass’n, to David Stawick, Sec’y, CFTC 7 n.14 (Mar. 25, 2011) (“[A]ll of the empirical evidence, including evidence developed by the Commission’s Staff, shows that speculative investments in commodities and related listed and OTC derivatives have . . . , if anything, had a moderating influence on commodity prices.” (citing additional empirical evidence)).

Securities Commissions (“IOSCO”)—an organization to which the Commission belongs—concluded that “[r]eports by international organizations, central banks and regulators . . . suggest that economic fundamentals, rather than speculative activity, are a plausible explanation for

73recent price changes in commodities.”7

Numerous studies also showed that position limits were ineffective at reducing price volatility and may actually increase it. For example, one study assessed speculative activity before and

74after a 2005 decision by the Chicago Board of Trade to relax position limits.7 The study found “no large change in measures of volatility after the change in speculative limits” and concluded that “there is little suggest that the change in speculative limits has had a meaningful overall

75impact on price volatility to date.”7 A 2011 study found that rather than “curtailing price swings,” position limits “could exacerbate them” by “inhibit[ing] the freedom of hedgers,

76thereby reducing [liquidity].”7