U.S. District Court Upholds California’s Cap-and-Trade Agreement with Québec

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On July 17, 2020, the U.S. District Court for the Eastern District of California rendered its decision in U.S. v. California (Case 2:19-cv-02142-WBS-EFB), upholding the agreement between California and the Canadian Province of Québec that links California and Québec’s respective cap-and-trade programs.  In its opinion, the District Court rejected the federal government’s claim that the California-Québec agreement is preempted under the Foreign Affairs Doctrine.  The District Court ruled earlier this year on the federal government’s other claims, finding that the agreement did not violate either the Treaty or Compact Clauses of the U.S. Constitution.  With the decision on July 17, the California-Québec agreement will remain in place, allowing the two jurisdictions to continue to link their cap-and-trade programs.  The federal government has not yet stated whether it will appeal the District Court’s decision.

Since 2013, California and Québec have linked their cap-and-trade programs, holding joint auctions for carbon allowances and allowing regulated entities to use allowances and offsets from either jurisdiction to meet compliance obligations.  The agreement between Québec and California provided for the two jurisdictions “to work jointly and collaboratively toward the harmonization and integration of [their] cap-and-trade programs for reducing greenhouse gas emissions,” though this coordination did not substantively alter either jurisdiction’s cap-and-trade program.  In the lawsuit, the federal government alleged that the California-Québec agreement violated the U.S. Constitution’s Treaty and Compact Clauses and the Foreign Affairs Doctrine.

In March 2020, the District Court ruled on the constitutional claims related to the Treaty and Compact Clauses.  The Court held that the agreement between California and Québec was not a treaty within the meaning of Article I, Section 10, Clause 1 of the U.S. Constitution, the Treaty Clause, which provides that “No State shall enter into any Treaty, Alliance, or Confederation …”  The Court explained that in the Article I context, “treaty” is a term of art and does not mean all international agreements.  An agreement that qualifies as an Article I “treaty” may include a treaty of alliance for purposes of peace and war, mutual government, the cessation of sovereignty, or general commercial purposes.  The California-Québec agreement did not represent a “treaty” within Article I.

On the Compact Clause claim, the Court found that the California-Québec agreement was not a compact within the meaning of Article I, Section 10, Clause 3 of the U.S. Constitution, that “No State shall, without the Consent of Congress … enter into any Agreement or Compact with another State, or with a foreign Power … .”  The U.S. Supreme Court has limited the application of the Compact Clause to agreements that encroach upon federal sovereignty.  The District Court in U.S. v. California concluded that the California-Québec agreement lacked all of the classic indicia of a compact and did not enhance California’s power over that of the federal government, because the agreement did not allow California to exercise any power it would not normally have under its police power.

A claim under the Foreign Commerce Clause was also originally pled by the U.S., but later dismissed by the Court at the federal government’s request.

In the July 2020 decision, the District Court addressed the federal government’s claim under the Foreign Affairs Doctrine.  The Court held that the California-Québec agreement was not preempted by the Supremacy Clause of Article IV, Clause 2 of the U.S. Constitution, which preempts state laws that intrude on the federal government’s exclusive power over foreign affairs.  The agreement was not preempted under a conflict preemption theory because the agreement did not conflict with the express foreign policy of the federal government, including the Global Climate Protection Act of 1987 or the U.S. joining the United Nations Framework Convention on Climate Change of 1992.  Evaluating potential field preemption under the Foreign Affairs Doctrine, the Court concluded that the agreement did not impermissibly impact foreign affairs.  It found that the cap-and-trade program did extend beyond the area of traditional state responsibility by creating an international carbon market, with the intent to have “far-reaching effects” including “encouraging other … countries to act.”  But, the U.S. failed to show that California’s cap-and-trade program and linkage with Québec had impermissibly intruded on the federal government’s foreign affairs power.  Therefore, the California-Québec agreement was not preempted under the Foreign Affairs Doctrine.

Linkage of the California and Québec cap-and-trade programs is designed to increase market liquidity and flexibility, but neither program depends upon the other, legally or for the operation of related markets for allowances and offsets.  Experts predicted that even if the two cap-and-trade programs were delinked, the market for allowances would not be significantly disrupted.  While the federal government has not announced an intention to appeal the District Court decision, even if a successful appeal forced California to end its linkage with Québec’s program, the California cap-and-trade program, including California quarterly allowance auctions and the secondary market for allowances and offsets, would continue to operate without significant setback.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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