Viewpoint: California LCFS hits stride, hurdles remain

California regulators have solidified the role of the Low-Carbon Fuel Standard (LCFS) in the state's fight against climate change, but a series of fresh challenges await the program in 2019.

The Air Resources Board (ARB) in late September doubled the carbon intensity target of the LCFS to 20pc by 2030, as California ratcheted up its efforts to cut greenhouse gases (GHGs) from the transportation sector, which accounts for over 40pc of the state's emissions.

The move reflected growing confidence in the LCFS program, which started in 2011 with the goal of cutting the carbon intensity of gasoline and diesel used in the state by 10pc by 2020.

But after years of relatively gentle compliance targets, due in part to lawsuits that slowed the program, regulators and market participants alike say that they are buckling up for what could be a wild ride ahead.

The LCFS measures compliance in terms of deficits and credits. Fuels with carbon-intensity scores below the program's targets generate credits, while fuels with higher scores generate deficits. The refiners and fuel importers regulated by the program must match the number of deficits they incur with an equal amount of credits on an annual basis.

Aside from a drop in February, the credit price rose steadily in 2018, from a starting point of $117/t up to $197/t at the end of the year. The price briefly hit $200/t in early December, reflecting growing demand for alternative fuels and raising concerns the program may soon bump up against its price ceiling.

That could mean the program's main feature to control costs, known as a credit clearance market, will get tested. It would offer credits at roughly $215/t for the 2018 compliance year. The LCFS generated more deficits than credits through the first two quarters of the year, bringing the bank of surplus credits down to less than 9mn t.

That number may be smaller than it appears. Just three entities control 56.5-58pc of the banked credits, according to the ARB. Those entities, likely refiners, may decide to withhold their credits from the secondary market and use them for compliance in future years, further tightening supply.

The demand for credits will grow in 2019, particularly to cover deficits generated from diesel after a court lifted the freeze on the carbon intensity target for the fuel.

Both the diesel and gasoline requirements for next year equate to a 6.25pc cut in carbon intensity, up from 3.5pc and 5pc respectively, from a 2010 baseline.

The ARB will count on a number of new credit sources to ease some of the pressure. The changes adopted for 2019 added alternative jet fuel as an eligible credit generator and will incentivize carbon capture and storage projects.

The agency also approved the use of capacity credits for hydrogen refueling stations and electric vehicle fast chargers.

No amendment was more controversial. Critics argued the measure, which will allow station owners to claim credits based on the capacity of the infrastructure, not just the amount of fuel dispensed, amounted to an abandonment of the technology-neutral approach of the LCFS.

The agency may invite further lawsuits because of the move, just as it appears on the verge of resolving previous challenges.

Outside of the legal arena, the market will watch to see how quickly producers of low-carbon fuels can respond to the market signal sent by higher credit prices. Multiple companies increased capacity at their biofuel facilities last year or worked to finish plants that will open in 2019.

The LCFS, which for years has operated in the shadow of the cap-and-trade program, appears poised to attract more attention in 2019, particularly if new sources of alternative fuels fail to materialize quickly and the credit price pushes past $200/t.

ARB staff say they have sent a clear message to the companies regulated by the program: Make the market work, or else risk facing direct regulation.