The Long Decline and Death of 45V’s Three Pillars
It is hard to see a path for a renewable hydrogen ecosystem in the US with the current three pillars. Now three pillars will probably be dead within 2-4 years. The recent Loper Bright Supreme Court case ends any deference to the Treasury on their three pillars for 45V, and it’s pretty clear that the current court will vacate the idea of induced emissions.
This death of the poorly thought out three pillars will likely be long, slow, and result in further delay of an expanding hydrogen ecosystem. After the funeral, however, newly available credits should be sufficient for the expansion of the renewable hydrogen industry by the turn of the decade. This will be a boon for clean energy long term.
Here are the details covered here:
What background info is important?
How does the overturn of Chevron matter to 45V?
How does this play out?
What does this mean for the hydrogen industry?
Before we get into the details, what is my experience in this space? I have an environmental engineering PhD from Harvard, I’ve done commercial hydrogen deployment worldwide with Shell, I led the commercial analysis for the US Department of Energy’s 45V recommendation to Treasury, and I am a published co-author of a constitutional law white paper on regulation of emissions. My experience in this space covers more bases than anyone[1].
The background:
Two weeks ago the supreme court case Loper Bright overturned the 1984 Chevron[2]. Prior to the overturn circuit courts (the step below Supreme Court) would defer to the agencies interpretation of a law if the original writing was ambiguous[3].
In other words, Chevron told circuit courts to defer to executive branch agencies like Treasury and EPA in the case of enforcing ambiguous laws. With the end of Chevron the courts themselves are supposed to determine the interpretation of ambiguous cases, and the opinion of the executive branch matters much less – or not at all. One major result will be a dampening of the flip-flopping in regulation at the change of administrations.
Treasury and Department of Energy were supposed to determine how to enforce how the 45V credit would be regulated. Instead the Executive Office of the President (EOP) decided the entire process, pretty much beholden to a group comprised of the National Resource Defense Council, RMI, and some academic group[4]. They chose to ignore the experts at the DOE who suggested a grace period and grandfathering on any strict controls for early projects in keeping with what the EU already has in place. EOP’s response wasn’t exactly what you would call good science.
How does the Chevron overturn matter to 45V?
Loper Bright is important for 45V for two reasons: First, the assumption that induced emissions was the original intent of the bill, which specifically called to regulate emissions not induced emissions. Historically in bills, emission assessment was on direct emissions – induced emissions is something that the EOP introduced themselves. The bill does specifically call for the use of the GREET model to determine emissions. And guess what? GREET has never accounted for induced emissions. Moreover, GREET is an annual averaging tool, so hourly matching, the most difficult of the three pillars, is absolutely not a fair interpretation of what Congress intended. It’s not a far leap to see that the current Supreme Court would gut the induced emissions idea used for strict 45V and that a more rational version will replace it.
The second reason for overturn the science and economics of strict 45V are suspect and roughly what you’d expect from someone who just finished their first semester of intro economics. The guidance relied on an idea of induced emissions requiring that energy markets are completely inelastic – that a purchase of one clean energy will be offset only by polluting power in both short and long term, and that there is no price competition. Any experienced economist will tell you that the power market, with characteristics like “locational marginal pricing” is rather inelastic – and that an assumption of 1:1 permanently induced emissions is naïve at best and purposefully misleading at worst.
Loper Bright guarantees this is going to the courts. The headline size of the subsidy, which could easily breach $500B over 20 years, guarantees this goes to the Supreme Court as an appeal if any lower courts hold up the EOP’s version of 45V. The current Supreme Court is hostile to executive overreach, as the overturn of Chevron shows, making it inevitable that a strict 45V will be gutted and reverted to a more relaxed version or to a version based on actual science rather than the EOP’s policy overreach.
How does this play out?
This plays out one of two ways:
1. The EOP sees the writing on the wall, also listens to the deluge of comments on the unfeasibility of strict 45V guidance, and also listens to the DOE recommendation that was more science based to back down from their strict no-grandfathering stance, OR
2. The EOP spends the next five months trying to proof their initial guidance against the inevitable Supreme Court case, dragging this issue out for another three years
The former case seems unlikely. I’ve been told by folks in the DOE that Podesta’s team in the EOP remains stubborn. So we’re at the second case. Likely final 45V guidance will come out later this year, will be challenged almost immediately, and then will wind its way through the courts over 2-3 years.
There is an outside chance that the courts will align in favor of strict 45V. Given how far the administration overstepped established science and emissions analysis, however, I think it is highly likely that strict green 45V is in an indefensible position.
What does this mean for the hydrogen industry?
It’s not good in the short term – probably until the mid point of the next administration. It’s great in the long term.
In the short term,
The stalling of 45V final guidance halts H2 development will cause some bankruptcies. As an example, assume we’re a developer of H2 projects. If we’re planning on strict 45V, build a project adhering to it, and then strict is knocked down, suddenly our hydrogen is more expensive than new builds with access to relaxed 45V. No H2 buyer will sign up for a long term H2 contract with us when they think H2 prices are going to drop. Without these contracts, we can’t get financing to build our H2 project. Development grinds to a halt.
Let’s say we are in the supply chain, like Plug Power’s electrolyzer section. Without development, no one buys Plug’s electrolyzers, and the production capacity is dead weight on their balance sheet. Or, worse, a company like Electric Hydrogen that relies entirely on sales of electrolyzers at massive scale will struggle to survive for the 30 months it will take to work through all of this. These issues are across the entire supply chain, including globally, who can’t determine whether and when to build a supply base in the US.
In the long term
Once strict 45V is killed, expansion in electrolytic hydrogen production will proceed at pace. cost-learning and standardization will bring down the total installed called of electrolysis to the point where islanded production – producing hydrogen from clean power sources that are never connected to the grid – will be one of the lowest cost ways of producing hydrogen and getting clean energy to end users.
The reason for this is simple – connecting any new power to the grid is expensive because expanding the grid is extremely expensive. Bypassing the grid is cost-effective. Pipelines are more effective ways of moving energy for large scale systems, and trucks are more cost effective than power lines for small scale systems.
We need relaxed 45V to allow grid support to get to this point. Currently, electrolyzers are expensive (see graph below). They need grid support for the high utilization to average out the cost they attribute to each kg of H2 they produce. Once the electrolyzer costs come down, they can be economic to have lower utilization and thus not need grid support. This leads to islanded renewable H2 production.
The graph above shows at the far left where we are now – requiring grid support even with high grid fees – compared to 5GW of annual deployment where it’s likely that connecting to the grid instead if islanding will reduce the value of a project. Strict 45V kills the opportunity for electrolyzers to get here because we don’t deploy at scale to bring costs down. Relaxed 45V for green H2 allows expansion and costs to drop to the point where the most cost-competitive H2 is from islanded renewable-only electrolyzers.
How to prepare for this:
If you have a green H2 project that is profitable under strict 45V, you can probably go forward with it pending whatever comes out for “final” guidance later this year. Rational 45V likely won’t come for 2.5 years, and projects taking FID won’t come online for four to five more years.
If you have capital waiting in the wings for rational electrolytic 45V guidance, wait until final guidance comes out to see if it is rational. If it isn’t, redeploy the capital and hold the course – rational 45V is almost inevitable eventually.
If you’re in the supply chain – make contingency plans to expand rapidly when the final results are announced, both the set coming at end-of-year and the new set that the Supreme Court will eventually mandate. If you want support, I can make some suggestions for consultants that are actually experienced with hydrogen supply chain. I recommend against traditional top 3 strategy consultancies or top 4 consultancies - their teams, particularly in the US, have no commercial hydrogen experience.
Footnotes
[1] I defer to professional tax and constitutional lawyers on the legal side. From what I’ve seen, however, do not have a great opinion of many in-house tax lawyers. The few opinions I’ve read from in-house lawyers have been garbage.
[2] You will hear this case referred to as both Loper Bright and Chevron.
[3] I would recommend this in-depth but readable review of Loper Bright to get more background. I have purposely skipped all the nuances here, because you aren’t here for a law review.
[4] Given that I was only a federal employee for fifteen months, I’m not sure if EOP control is common with every piece of guidance and regulation in every administration, but it was entirely the EOP under Podesta that rammed this version of 45V through the Treasury and DOE.
