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One of the two final targets that have already been set by the Secretary has included a small increase in the figure proauced by the leasing target formula. In the first planned lease sale, in the Green River-Hams Fork Region, increment of twenty-five percent was added. In the planned Powder River lease sale, the preliminary target includes similar incre- . ment. 14/

The aaverse efficiency and competitive effects of limiting leasing to these targeted amounts

severe, and can be aivideo into (1) problems that arise from the uncertainty in ano imprecision of the forecasts and estimates involved, and (2) problems that are inherent in any attempt to match leasing with needed production. The most obvious shortcomings are in the first category.

The information available to DOI is simply not sufficient to allow it to determine ten years in advance the amount of coal that shouló be produced or the deposits from which that coal shoulo come. 15 One cannot know with any reasonable segree of certainty the tuture demand for coal by electric utilities and producers of synthetic fuels. Even if these things were known, there still would not be enough information to set precise leasing targets because DOI does not know the amount of coal that will be produced from any tract it may lease or even how much coal will be produced by existing mines. 16/ Thus, any attempt to match leasing levels to needed production on a ton-for-ton basis guarantees that much of the

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14/ See

Secretarial Issue Document, Federal Coal Management Program, Part II, at 58 (1979). 15. Actually DOI is forecasting only six to eight years in aavance on the assumption that the planning and administration of a lease sale will take two years and there will be a four to six year lead time between leasing a tract and its beginning production. This appears to be a much shorter lead time than is currently being experienced.

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16) A recent report by the General Accounting Office ("GAO") concluded that DOI has miscalculated in setting the target for the first scheduled lease sale. GAO's figures indicate that demand will be 20 percent higher than DOI assumed and that production from mines not dependent leasing would be 75 percent:; less than DOI assumed. Together these two corrections cause a 135 percent increase in annual coal production that federal leasing must provide for. GAO, A Shortfall in Leasing: Coal from Federal Lands: What Effect National Energy Goals 24 (August 22, 1980).

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time there will be significant shortfalls in leasing because demana is underestimatea. 17/ Whenever this happens, private reserves that are more costly to mine than federal reserves will be forced into production, and coal prices will rise.

In order to make the target approach workable, it would be necessary to allow a substantial margin for error in the target to prevent the otherwise inevitable shortfalls. In the first sche auled lease sale, DOI has allowed only a twenty-five percent increment--an amount sufficient to support only about two additional fairly large mines. The inadequacy of this margin is made clear when one considers that this margin would not provide sufticient coal for electric utilities if electricity demand were to grow by one percentage point per year more than has been forecast, and would not provide sufficient coal for a single large synthetic fuel plant. 18/. And, of course, this margin is much too small to allow the continuation of the present system in which a utility can choose among the supply packages offered by many different producers. Even if DOI forecasted correctly. the total number of supply packages available would only slightly exceed the number of utilities seeking such packages.

Despite the obvious severity of these problems, they are not at the heart of the efficiency and competitive effects of DUI's system ot leasing targets. Even if it were possible to match leasing with production needs on a ton-by-ton basis, such a policy would have an inhibiting effect on competition. It implies the abandonment of the market the allocator of

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17/ The underestimation of deman, a substantial proportion of the time is inevitable when expected demand is used as the basis of the target. The quantity of coal demanded in any tuture year is a random variable. Like any random variable it will turn out to be below its expected value a substantial percentage of the time and above its expected value a substantial percentage of the time. For many common distributions of rancom variables, the actual value will fall below the expected value about half of the time.

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A large synfuels plant could use 10 million tons of coal per year. The entire leasing target will support proo auction of only about 20 million tons. Bureau of Land Management, Green River - Hanis Fork Draft Environmental Statement, Part 1, at 52 (April 1980). If electricity demand growth were fore

to be 3 percent per year, but turneo out to be 4 percent : per year, the demana tor coal for new plants would be 39.6 percent higher than forecast ano could not be met with the 25 percent iniciement.

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and elimination of competition among co al panies to supply particular utilities.

At present, competition takes place in the coal industry through the rivalry among many sellers, each of which has one or more parcels of coal to supply to a given utility. This competitive market efficiently matches coal deposits with utilities ana causes the coal that is cheapest to mine to be proaucea, the most efficient mining techniques to be uses, and coal to de sold at a price commensurate with its cost. The current program of setting restrictive leasing targets will

a gradual decline in the use of market mechanisms for making these decisions and may lead to an eventual elimination of competition.

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As was notes in the Department's 1979 report, the federal government

estimated 72 percent of all western coal reserves, ana, because of scatterea ownership, the federal government controls another 14 percent of western coal reserves. 19/ Over time, the proportion of western coal proauction that is on federal land must rise dramatically, and, ultimately, production from private land will become relatively unimportant. 20/ If the federal government leases only one ton ot recoverable coal for every ton of needed coal production, tnere can be competitive market because there

be rivalry among sellers. Any coal producer could drive up coal prices by withholding production. Under such a scheme, the government will make all the resource allocation decisions. The government will determine which tract it finds best meets the neeas of a utility planning a new coal plant and will lease that tract. Efficiency in the matching of utilities with coal supplies inevitably will suffer if the government supplants the torces of the market. costs are likely to rise substantially, and prices are likely to rise more than costs. Each government lessee will have substantial power over the price of its coal because it has the tract that the government has allotted to a particular utility.

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The only possible solutions to this problem are to abandon the setting of targets and to begin leasing on demand or to set targets at a level far in excess of present plans. The Department has previously stated that at least two to three times the

19 See 1979 DWJ Coal Report at 24. 20/ A DOE study concludes that "federally owned coal (will be) a majoč if not the dominant coal supply source by the mid1990's. DOE, The Use of Federal Lands for Energy Development, Energy policy study, Vol. 8, at 13 (March 1980).

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current targets would be necessary to provide reasonable margin for error ana to promote competition. 21/

The Department also believes that the concept of setting leasing targets shoul, be reevaluate, to determine whether preterable system would be to simply lease what the industry desires.

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The FCLAA bars the Secretary of the Interior from accepting lease bids that are less than what he determines to be "fair market value." 22/ By regulation the Secretary has defined this term to be *that amount in cash, or in terms reasonably equivalent to cash, for which in all probability the coal aecosit woulo be sold or leased by a knowledgeable owner willing but not obligated to sell or lease to a knowledgeable purchaser who desires but is not obligated to buy or lease. 23/ while neither the statute

the regulation is itself anticompetitive, the policies developed to implement them may be. The Secretary recently has approved a plan under which DOI will attempt to obtain, not simply a fair return to the government, but rather something considerably greater. 24/

DOI's regulations imply that the market will govern what is fair market value. where coal is leased in a competitive sale with many bidders, none of which has any informational or other a avantages over any others, the resulting bids by definition will equal the fair market value of a tract according to DOI'S regulations. Thus, the law does not require the Secretary to reject any bias made in such competitive sales. However, the Secretary has decided that the market will not be relied upon,

instead he will use a combination of information from private lease sales ans from an estimate of the profit a lease will generate to

reservation bio below which all bias are rejected.

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21/ See testimony of Deputy Assistant Attorney General Donald Flexner before the Subcomm. on Mines and Mining of the House Comm. on Interior and Insular Affairs, June 25, 1979.

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24/ The Secretary fortunately decide not to try to achieve the maximum revenue, but he also decided, not to settle for the return; the marketplace would give the government. DOI, Secretarial Issue Document; Fair Market value and Minimum Acceptable Bids on:Federal Coal Leases C-1 (May 28, 1980).

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Under the secretary's decision, DOI will

Coal Reserve Economic Value Model of the Geological Survey to esti. mate the value of a coal lease. The model considers costs and revenues that could be expected if a tract were mined, and calculates the estimated cash value of these anticipated costs and revenues. This technique is called "discounted cash flow" or *DCF." The DCF method is highly sensitive to assumptions made concerning future coal prices, mining costs, risk, and the appropriate interest rate. 25/ DOI will also examine data from comparable sales to produce an estimate of a tract's value. Bios that are less than either of these estimates of value will be rejected, even though they satisfy the definition of fair market value in doi's regulation. 26/

If this complicated and expensive valuation process were to result in neither the rejection of any bids nor bids that were higher than they otherwise woul, have been, then the process woudo simply have wastes all the expended time an, money. How ever, it the process were to result either in the rejection of some high bias or in higher bids than otherwise would have been ma ae, this woulo be far worse. Where the market in which tederal coal is leased is competitive and no firm has any advantage over its rivals, bids will be at fair market value. If DOI torces the bias up, then the added cost will push up the price of coal. Because the federal government is the dominant holder of coal in the West, it can insist on high payments for its coal aná drive up prices if it so chooses. Moreover, if LGI were to set minimum bids so high that the government simply priced itself out of the market or if companies were to fail to anticipate how high DOI's minimum bids would be, the result would be retarded coal development an, increased coal prices. This point is closely related to the problem with leasing targets. In both cases, federal coal is withheld from the market thereby forcing into production

costly-to-mine private coal.

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while some tracts may require the sort of second guessing of the market DOI will undertake, it would be undesirable to apply such an absolute procedure to all tracts. DOI should strive to promote competition in lease sales and rely on the Market where it is competitive and where no firni has any infor

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See ICF, Inc., Final Report, Observations Fair Market Value for Federal Coal Leases 14-15 (December 1979). 26/ DUI, Secretarial Issue Document; Fair Market Value and Minimum - Acceptable Bids tor Federal Coal Leases

C-2 (May 28, 1980).

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