How Government Should Minimize Emission Disclosure and Reporting Burdens
Introduction
The carbon accounting, disclosure, and reporting world is facing a lot of change. Most notably, the Environmental Protection Agency (EPA) has proposed repealing the Greenhouse Gas Reporting Program (GHGRP). The Greenhouse Gas Protocol (GHGP), which is the most prominent third-party system that handles carbon accounting, is also undergoing a period of public consultation, which is part of the process needed to update its methodologies. In the private sector, firms seeking better carbon accounting tools than the GHGP have launched competitors such as Carbon Measures. Foreign governments implementing the use of carbon border adjustments (CBAM) are looking to impose greenhouse gas (GHG) measuring requirements on firms they import from, and California is expanding reporting and disclosure requirements on firms within the state. Given all these events, debates about appropriate policy responses are emerging, and the most important is arguably the one about which policies governments should avoid.
Understanding the Utility of Carbon Accounting, Reporting, and Disclosure
A serious debate regarding whether emission-related information is valuable is ongoing in this policy space. Some argue that there is no value in emission-related information because they believe it is immaterial to the profitability of firms or changes in policy. That is the position of the Trump administration as demonstrated by its proposed repeal of the GHGRP.
On the other hand, some argue that there is extraordinary value in such information, particularly as emission-controlling policies (like power plant regulations or carbon pricing) have increased in prevalence. This flows into the concept of a “transition risk,” where producers with high emissions risk profit losses as the world theoretically “transitions” to clean energy. In 2022, the Biden administration’s Securities and Exchange Commission (SEC) proposed climate disclosure requirements predicated on the idea that firms with higher emissions are more likely to be impacted by emission-controlling policy. This approach conflated emissions with financial risk, and the SEC argued that emissions data was material information that firms must disclose to meet their fiduciary obligations.
At R Street, we argue that the truth lies somewhere in the middle. Some firms are exposed to emission controlling policies, or transition risk, more than others. Emissions alone do not create financial risk, because not all emission sources face equal burdens under emission controlling policies, nor does the presence of such a policy automatically reduce sales. For example, such policies can sometimes increase sales for firms still subject to emission controlling policies (e.g. natural gas consumption rising to replace coal means that some fossil fuel industries can benefit from emission controlling policies).
R Street experts have also noted that the private sector values emission-related information. Some firms with customers who place a premium on lower-carbon supply chains, for example, increase their profitability through emission disclosure. As such, it is in the economic self-interest of many firms to favor a policy environment that requires emission reporting. However, government interventions can, ironically, devalue emissions information by creating excessive burdens (e.g., indirect emissions reporting and accounting) or forcing firms to disclose financially immaterial information that dilutes the value of other material information.
Simply, determining what emission or climate-related information is relevant to investors and how best to report it is largely the purview of the private sector. Exceptions to this, though, can arise when foreign governments, states, or third parties attempt to compel U.S. firms into unduly burdensome reporting schemas or result in misinformation that can lead to inefficient capital allocation. This was the ultimate flaw in the SEC’s approach under Biden: They pursued burdensome reporting and disclosure requirements that would not always be useful for investors.
Proper Role of Government
Importantly, policymakers ought to appreciate that it is not the role of government to supplant the efforts of the private sector to identify how best to produce and utilize information related to emissions. The Biden administration’s failed SEC disclosure requirements demonstrated that onerous government interventions created a number of unintended effects.
For example, the proposed SEC rule sought to impose additional disclosure requirements on firms that voluntarily engaged in emission abating efforts, penalizing firms for improving the environment. Additionally, the proposed SEC disclosure requirement would have required many firms to disclose ill-defined “scope 3” emissions, which would have significantly increased the burdens on firms that would have had to further report emissions from supply chains outside their control. R Street noted that a culmination of these factors would have resulted in worse capital allocation. This is because firms that would normally pursue investments valued by environmentally minded customers are instead dissuaded, since doing so would have triggered federal disclosure requirements. Another downside was that the information provided was likely immaterial to investors, which would have diluted the value of other disclosed information.
There is also, however, risk from total government retrenchment on emissions reporting and disclosure. One of the points we at R Street raised in our comment on the proposed repeal of the GHGRP is that states, foreign governments, and nongovernmental entities are actively developing their own reporting requirements, disclosure rules, and accounting systems. This introduces a risk to U.S. firms doing business in areas adopting such requirements that they may be forced to undertake emission reporting burdens despite current federal efforts to reduce reporting requirements. Consequently, there may be value in modest federal engagement in emission reporting and accounting systems to ensure that U.S. firms face minimal burdens. As such, policymakers should consider three broad objectives for policies on emissions reporting, disclosure, or accounting:
- Preempt foreign reporting requirements.
- Avoid patchwork schemas.
- Standardize definitions and reported information.
Preempt foreign reporting requirements
One real risk for U.S. firms exporting products to countries with emerging GHG reporting requirements and/or border adjusted carbon prices is that they will have to report the carbon content of their products. Beginning in 2027, U.S. liquefied natural gas (LNG) exports to Europe must comply with European Union (EU) emission reporting requirements. Last year, an effort was made to have the U.S.’ GHGRP meet equivalence requirements for U.S. firms so they would not have to comply with the more burdensome EU requirements. However, given the potential repeal or modification of the GHGRP, it is uncertain if this will be achieved.
As multinational firms engage in exporting products to foreign customers, they will likely face border adjusted carbon prices or emission reporting requirements beyond the jurisdiction of U.S. policymakers. While it would be unwise to adopt policies that are domestically onerous on the basis that it may benefit a select few firms, policymakers should recognize the opportunities to use existing or lower-cost policies that can avoid such potential problems. This is especially true for U.S. firms that are, on average, more carbon efficient than foreign competitors.
The United States has a general “carbon advantage” over most countries when it comes to producing emission intensive goods. However, foreign governments do not always recognize these comparatively lower emissions. For example, the French government intervened to prevent the firm Engie from importing U.S. LNG because it was allegedly less environmentally friendly than alternatives, even though research shows that U.S. LNG exports to Europe have lower life-cycle emissions than those from other origins. As such, there is a value in the U.S. having its own metrics and processes to protest foreign interventions that inaccurately frame U.S. producers as more emission intensive than competitors.
It would be wise for policymakers to engage in cost-benefit analyses that examine different burdens associated with various reporting requirements and identify the least costly ways to mitigate the risks to U.S. firms.
Avoid patchwork reporting schemas
While the federal government has the GHGRP, as well as other energy-related reporting requirements through the Energy Information Administration (EIA), there are also state emission reporting requirements that U.S. firms must comply with. Additionally, there are a growing number of nongovernmental carbon accounting frameworks that firms value participating in voluntarily. Five states, which host one-third of U.S. economic output, have already passed laws requiring scope 3 emission disclosure requirements on companies based there. There is a real risk that U.S. firms may be forced to comply with various balkanized, inconsistent, and flawed reporting and disclosure requirements in the future, even when such requirements offer little value to investors.
Regulatory policy teaches that sometimes there is a value in imperfect policy that can supplant the need for disparate requirements. For example, federal Corporate Average Fuel Economy (CAFE) regulations were enacted as a response to California’s legitimate regulatory authority over the emissions and fuel efficiency of vehicles within its state. However, it would have been disastrous for the U.S. vehicle market if California had adopted stringent standards that raised the cost of vehicles beyond what would be affordable in poorer states, as manufacturers would be unlikely to produce models that could not be sold in California. The federal regulatory requirements for CAFE preempt state level regulations, preventing the implementation of patchwork regulations that would be more burdensome for industry than a single federal regulation.
While policymakers should not look to bad policy within states as a justification for bad federal policy, they must be mindful of how an absence of federal policy can create additional burdens on firms. If U.S. firms are forced to comply with an increasing number of fragmented reporting, disclosure, and accounting requirements, it may be appropriate for the federal government to implement a uniform replacement policy that standardizes a lower cost framework.
Standardize definitions and reported information
R Street has noted that one underappreciated role of government is that it can facilitate private sector emission accounting by producing standardized definitions for emission measurement. Emission accounting, particularly when it includes offsets or sequestration of GHGs, involve “measurement reporting and verification” (MRV). However, many different methods of MRV exist, and there is little agreement about which approach is best.
The size of trading markets for carbon offsets or removal credits is currently small, at approximately $2 billion in 2020, but expected to reach $250 billion by 2050. However, as R Street research has noted, much of this capital is directed towards climate efforts that lack “additionality,” where lax definitions and verification standards result in funds flowing to credits that do not genuinely offset emissions. For example, over a third of the carbon offset market is from renewable energy credits, predicated on assertions that markets only value renewable energy if they are accompanied by offset credits. This is a suspect economic claim, as clean energy is economically viable even unsubsidized.
As such, better quality definitions of carbon offsets and other features of carbon accounting can prevent low quality accounting frameworks from inefficiently steering capital. For example, the GHGP is now undergoing consultations informing updates to their framework for estimating the emission benefits from zero emission energy. The reason for these updates is that the current methods allow firms to claim that zero emission energy produced elsewhere perfectly offsets fossil fuel emissions at other times. Accounting renewable energy under the current protocol is inaccurate though, because it does not reflect the spatial and temporal characteristics of power production and consumption, so it is incorrect to assume that allocating an equal amount of zero emission energy to a firm’s consumption eliminates GHG emissions. The current framework often leads to firms erroneously claiming to be “carbon neutral” even though the zero-emission energy they fund does not displace an equal amount of fossil fuel energy consumed.
Additionally, the GHGP has led to a heightened interest in firms reporting scope 3 emissions, which include the totality of anticipated emissions associated with a business, including the emissions of commuting employees. Given the difficulty of measuring scope 3 emissions, as well as the inability to compare such information across firms, policymakers should anticipate the economic inefficiencies inherent in a scenario in which firms must participate in such mechanisms (which share some flaws of the Biden administration’s proposed SEC disclosure rule).
If firms feel that they must comply with vague, ill-defined accounting frameworks, there may be a role for government oversight to ensure comparability of information and reduce compliance costs.
Conclusion
There is a healthy and vibrant private market aimed at improved accounting, disclosure, and reporting of emissions. The government should not interfere with firms engaging in voluntary actions that they believe provide value to their customers, investors, and employees. However, policymakers should be aware that there are also external pressures—such as state or foreign emission reporting requirements—that create a role for federal oversight.
Policymakers should take a light-touch approach on this issue and recognize that some existing programs—like the GHGRP—are useful for preempting foreign or state requirements. And if firms are forced into disclosure rules, there may be opportunities for federal oversight and standardization to improve outcomes by reducing the compliance burdens associated with emission reporting and improving the comparability of resultant information. Both policy sets should also increase the overall capital market appeal of U.S. industry, which holds a clean comparative advantage.