The US Court of Appeals in Washington DC today rejected the Environmental Protection Agency’s Cross-State Air Pollution Rule (CSAPR), saying the rule violated federal law. The rule was first issued by the EPA in July of last year, but suspended in December by the same court just days before it was due to take effect. Two of the three judges on the panel asserted that the rule “exceeds the agency’s statutory authority” and pushed the rule back to the EPA for revision.

CSAPR was intended to set state-by-state caps for Texas and 26 eastern states on the amount of sulfur dioxide and nitrogen oxide that could be released into the atmosphere. In ruling against the EPA, the court highlighted two areas where the rule violated federal law. First, the court found that CSAPR“imposes massive emissions reductions” on the impacted states without consideration of the existing federal laws. Second, under CSAPR, states were not given an initial opportunity to implement reductions in pollutants, as required under the existing Clean Air Act.

Forward markets for natural gas and electricity and all sold off sharply in the immediate aftermath of the ruling. Those markets had all rallied last July when the EPA first announced the new rules, but had fallen back due to abundant supply over the past 13 months.

As we have noted in our weekly Bulls & Bears commentary, traders were anticipating that the court would rule against the EPA (since this ruling was expected in July), so prices stabilized and rebounded slightly in the hour after the announcement since the decision was somewhat priced in. Forward heat rates in Texas were muted, despite the large drop in forward natural gas prices. Calendar strips inNEPOOL and PJM were also down, but clearly bottomed after the initial wave of selling. The market for Powder River Basin (PRB) coal, which is somewhat less-polluting and, therefore, would have benefitted from CSAPR, saw bids recede on the news.

This ruling is a victory for the power producers, coal companies, states and unions that challenged theEPA in court. It is also likely to ensure the reliability of the electric grid, since coal-fired plants that were targets of the rule have been spared, for the time being. The Texas electricity market, which already faced a forecast for declining reserve margins before CSAPR, is the biggest beneficiary of today’s judgment. While the EPA is certain to revise CSAPR under an Obama administration, a victory by the Republicans in the presidential election could mean a less aggressive EPA and perhaps a reduction in efforts to regulate greenhouse gases by the federal government.

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