FEDERAL LEGISLATIVE UPDATE ON 110TH CONGRESS RE: ENERGY AND ENVIRONMENT ISSUES

1. FEDERAL LEGISLATIVE UPDATE ON 110TH CONGRESS RE: ENERGY AND ENVIRONMENT ISSUES GLOBAL ENERGY MANAGEMENT INSTITUTE’S ENERGY TRADING CONFERENCE JANUARY 25, 2007 PRESENTED BY: GEORGE D. BAKER PRINCIPAL WILLIAMS & JENSEN PLLC SUITE 300 1155 21ST STREET, NW WASHINGTON, DC 20036 202-659-8201 gdbaker@wms-jen.com

2. For those who have been in a cave for the past several months here is the big political news: Democrats Take Control on Capital Hill!

3. So what does the Democratic takeover of Congress mean? Energy and environment are at the very top of the new Democratic-controlled Congress So how should you feel about that? Depends on who you are.

4. If you are a Democrat, or are in the environmental, ethanol, renewable fuels community, you may feel like this kid:

6. If you are a Republican, or in the coal, utility, or oil and gas community, (or pharmaceutical, tobacco, or health care) you might feel like this kid:

8. Neither perception is completely accurate, and outcomes of the 2007 energy and environment debate on the Hill remain subject to a range of uncertainties. But several overarching realities will influence the outcome:

9. House Democrats are empowered by the traditional House rules that allow the majority to largely control what gets to the floor and how it is considered. • You can pass a ham sandwich in the House!! • Speaker Pelosi wants to have energy and global climate legislation through the House Committees by June and on the House floor by July 4: “Energy Independence Day.”

10. 2. Senate rules still empower the minority to block and obstruct action of the majority, which gives them leverage and political relevance. • Under Constitution, Senate is the place where the “hot tea of the House of Representatives cools” • To break a filibuster/invoke cloture, 60 votes needed to move anything controversial • Democrats have narrow majority (51-49)

11. 3. Although his popularity is low and he may increasingly be viewed as a “Lame Duck,” the President still is very relevant with his veto power • Congress needs two-thirds vote of each body to override vetoes • Bush will also make his compromises • - Has already said some oil & gas subsidies are unnecessary. • - Speculation about a compromise on global warming? (Bodman, Paulson)

12. 4. Stabilization of energy prices vs 2006 allows Congress to consider whatever it may do in a calmer atmosphere than during crisis of 2005-2006 price spikes. • Traditionally, you need either a consensus or a crisis to move energy legislation. • In energy, consensus is difficult without a crisis and legislative response in a crisis too often is premised on perpetual continuation of the crisis itself rather than a return to “normal” supply/demand equilibrium. • Fuel Use Act, SynFuels Corporations, Oil and Gas Price Controls.

13. However, there is a sense that nation’s political perceptions on energy and environment may have changed based on several factors including: • Democrats certainly believe they are correct in elevating the priority of energy and environment. • Domestic manufacturing hit hard by sustained high energy costs • Domestic job flight overseas • Iraq War • Note: passage of Gulf of Mexico OCS bill in ‘06 • Wider acceptance of Global Warming threat • Listing of polar bears as endangered species • Melting ice caps • Greater acceptance of nuclear power • Farm belt advocacy of domestically grown agri-fuels

14. So what should you expect from the 110th Congress?

15. Let’s start with what NOT to expect: ANWR More favorable tax benefits for major oil and gas companies The repeal of oil and gas tax provisions has already begun Expansive OCS drilling on Atlantic and Pacific coasts

16. House Democrats’ Energy and Environment priorities/themes: Energy Taxes Energy Oversight Renewable Energy Development Price Gouging/Anti-Manipulation Global Climate

17. I. Repeal Oil and Gas Industry Tax Benefits One of the top Democratic priorities already passed by the House was energy related: The “Creating Long-term Energy Alternatives for the Nation (CLEAN) Act” (HR 6) - Gulf of Mexico OCS Royalty reform - Rollback “G&G” depreciation from 5 to 7 years for Majors - Section 199 repeal - Creation of new $8 billion “Strategic Energy Efficiency and Renewables Reserve”

18. Note: HR 6 could have been a lot worse for the Oil and Gas Industry. Thanks to the “Oil Patch” Blue Dog Democrats the bill was significantly modified to EXCLUDE various big ticket items such as: Repeal of last-in-first-out (LIFO) accounting Repeal of expensing of intangible drilling costs Repeal of accelerated depreciation for natural gas distribution lines Repeal of refinery expansion expensing Repeal of foreign tax credit Imposition of a windfall profit tax

19. Note: ALL OF THESE TAX ITEMS, AND MORE, REMAIN AT RISK FOR FUTURE ENERGY TAX BILLS! Oil and Gas Industry hopes that HR 6 is its only tax hit in 110th Congress Wishful thinking?

20. Note: Senate will likely not consider HR 6 immediately But expect a broader energy tax package in Senate and in House which will create exposure for all energy sectors - Significant “Pay-Go” Risk

21. II. Heavy Dose of Oversight: • - Both Chairman John Dingell at Energy and Commerce and Chairman Henry Waxman of Government Oversight will conduct substantial oversight of Bush Administration’s energy policy: • Stupak Subcommittee hearings onenergy market manipulation and price gauging. • - Senate Energy and Senate Homeland Security/Government Affairs Oversight

22. III. Renewable Energy Development: • HR 6 provided for a new Renewable Energy Fund ($8 billion) that can pay for renewables. • More ethanol, bio-fuel subsidies? • 25% in 2025 goal? • Farm Bill in ‘07

23. Renewable Portfolio Standard for electric utilities? - Senate likely has majority in favor - Previous Republican Majority prevented this from coming to House floor in Energy Policy Act of 2005 - New Democratic House majority might favor an RPS

24. Price Gouging/Anti-Manipulation • Senate: Cantwell and Stevens Bill • - Empower FTC to monitor for “unconscionable” price increases for gasoline or petroleum distillates. • - “Unconscionable” means substantially exceeds the supplier’s average price during prior 30 days and supplier’s competitors’ average prices, and cannot be justified by increased costs of the sold product, operational costs or local, regional, national, or international market conditions.

25. House: Stupak Bill (H.R. 594): - Gives CFTC regulatory authority to investigate OTC energy contract trading subjects OTC energy trading to CFTC’s anti-fraud and anti-manipulation, reporting, and recordkeeping provisions and penalties.

26. Energy Tax Risks: • Repeal of last-in-first-out (LIFO) accounting • Repeal of expensing of intangible drilling costs • Repeal of accelerated depreciation for natural gas distribution lines • Repeal of refinery expansion expensing • Repeal of foreign tax credit • Imposition of a windfall profit tax • Reimpose long-expired Superfund taxes?

27. VI. Global Climate:“RED HOT” issue House: Speaker Pelosi appointed “Select Committee on Energy Independence and Global Warming”: Select Committee lacks legislative authority but is designed to develop research and inform public on the issues Chaired by Representative Ed Markey of Massachusetts Underscores priority Democratic leadership gives issue Dingell: “These select committees are as useful as feathers on a fish.”

28. Viewed as strong signal to more cautious/deliberate Energy Committee Chairman Dingell Dingell vowed to hold hearings and “carefully consider” all views to create a consensus Dingell’s concern for constituent auto industry Energy and Environment Subcommittee Leadership: Democratic: Chairman Boucher of Virginia Republican: former Speaker Denny Hastert of Illinois

29. Senate: Senate Environment and Public Works: Boxer vs. Inhofe Generally: Major change in philosophyhere. Boxer to conduct aggressive oversight into EPA clean air, clean water, global climate, children's health, chemical safety issues

30. Global Climate: Major difference between Boxer and Inhofe: Boxer Views California’s new global climate regime as “gold standard” California provisions: Rollback GHG emissions to 2000 levels by 2010; to 1990 levels by 2020, and 80% below 1990 levels by 2050. Inhofe: “Global warming is the greatest hoax ever perpetrated on the American people.”

31. A Range of Global Climate proposal to consider: Boxer will start hearings on January 30 to hear from sponsors of competing proposals McCain, Lieberman, Obama - Reduce GHG by 2% per year after 2012 until one-third below current levels by 2050. - Embraces nuclear power as a solution. - Earlier version defeated in 2005 (36-60). Leahy Sanders Feinstein Carper

32. Bingaman: Viewed as more moderate proposal, designed to garner industry support as a compromise - Goal: Reduce emissions 14% by 2030. - Contains offsets and safety valves.

33. These proposals vary in terms of aggressiveness of emissions reductions targets, timetables, scope of industries affected, conceptual approaches. But all allow some form of emissions trading. They all would affect US industry sectors substantially. Query: Is America ready to accept the changes required by any of the global climate bills? - Democrats believe “yes” and believe they will be credited for their leadership.

34. Note: McCain, Lieberman, Obama: Presidential Politics anyone? Note criticism of Obama from enviros for supporting coal to oil program Note: Global Climate solution may mean increased nuclear power

35. VII. Renewable Energy: Another Huge priority • Agriculture Committees: • Farm Bill will dominate agenda of two Congressional Ag Committees • Increased ethanol and other bio-fuel production will drive the Farm Bill • Chairman Harkin: Targets getting “Food, Fiber and Fuel” bill through Senate Ag Committee before July • Chairman Peterson: Targets getting bill to President by September 30.

36. Expect significant increase in current 12 billion gallons of ethanol Perhaps new production target in 30-60 billion gallons? Concerns: Impact on cost of corn for animal feed and for human consumption Cellulosic bio-fuels supports?

37. Other Energy Issues: - Increase in CAFÉ standards? - Coal to liquids; coal gasification - Renewable Portfolio Standard (RPS) for electric utilities Expect Chairman Bingaman to move a Renewable Portfolio Standard mandate for electric utilities Bingaman RPS passed the Senate in prior Congresses; Start at 3% and graduate percentage to 15% in 2020

38. Query: Greater support now with Democratic majority in Senate? Query: Will Democratic House support an RPS?

39. Other Legislative Policy Issues of Interest to Energy Trading: CFTC Reauthorization Hedge Fund oversight/regulation Capital Markets Reform

40. VIII. Commodity Futures Trading Commission (CFTC) Reauthorization:

41. Congress failed to complete reauthorization in 109th Congress • House passed its version (HR 4473) • Senate negotiated floor consideration but failed to get bill on the floor • - Opposition from OTC and Energy Sectors over various concerns from perceived expansion of CFTC’s jurisdiction.

42. Bills in House and Senate were largely similar; increasing fines and penalties for violations, especially manipulation; clarifying CFTC jurisdiction over fraud and retail FX abuse.

43. But controversy arose energy related issues: House-passed bill contained a compromise requiring CFTC to create rules compelling any entity with an interest in natural gas futures to maintain records for 5 years regarding its natural gas futures position and any related contract in natural gas to which that entity is a party.

44. Senate leaders prepared for fight over four amendments: Conrad: would create a rebuttable presumption that CFTC has anti-fraud jurisdiction over any contract with a retail customerthat is leveraged or margined if that customer lacks a commercial use for the underlying commodity or lacks the financial and physical capacity to take/make delivery or to effect a cash settlement - Would apply to any commodity: Fx, energy, ag.

45. Cantwell and Stevens: Gasoline and distillates price gouging

46. Feinstein: Expand CFTC jurisdiction to require record keeping and reporting of OTC energy trading in any energy commodity • Broader than just natural gas (includes electricity, coal, oil, petroleum and natural gas products) • Covers trading of any energy commodity contract on any domestic electronic trading facility OR any contract involving an underlying energy commodity that has a physical delivery point in the US and is executed throughany US terminal of a foreign board of trade

47. These Senate amendments may appear again if and when CFTC bill is taken up in Senate. Additional amendments possible? Query: will Senate Democrats hold upper-hand on their amendments? Query: will House Democrats entertain the Conrad, Feinstein, Cantwell amendments as well?

48. Complications and Prospects in ’07: - CFTC bill is within Ag Committees’ jurisdiction - House and Senate Ag Committees top priority is the Farm Bill - Big incentive to avoid political controversy that will demand time, resources and political capital and divert attention from Farm Bill. House: Chairman might report out ’06 bill Senate: Feinstein, Conrad, Cantwell might want their amendments adopted in Ag Committee.

49. OTC Energy industry would prefer to avoid fight over Feinstein and Cantwell/Stevens amendments, or having to deal with House natural gas provision. Cantwell/Stevens gouging amendments could be re-directed to any Senate Energy bill OTC would prefer to avoid fight over Conrad amendment

50. IX. Capital Markets Reform: