September 24, 2001

Dear Mr. Holmstead:

     We have just completed review of a draft Notice of Proposed Rulemaking (NPRM) from the Environmental Protection Agency's (EPA) Office of Transportation and Air Quality entitled, "Control of Emissions from Nonroad Large Spark-Ignition Engines and Recreational Engines (Marine and Land-Based)," submitted to the Office of Management and Budget (OMB) under Executive Order (E.O.) No. 12866 on August 1, 2001. In the course of our review, we have identified a number of important concerns which we describe below.

     This NPRM would propose new regulations under Title 40 of the Code of Federal Regulations containing emission standards for several categories of non-road equipment -- spark-ignition (SI) engines with rated power over 19 kW, recreational marine compression-ignition (CI) engines, and engines used in land-based recreational equipment such as snowmobiles, all-terrain vehicles (ATVs), and off-road motorcycles. EPA estimates that the proposed rule would reduce emissions of carbon monoxide (CO) by 2 million tons and hydrocarbons (HC) and nitrogen oxides by 2 million tons in 2020. EPA estimates that the proposal will yield annualized fuel savings of $430 million. The projected fuel cost savings vary substantially across engine category; EPA projects large SI engines would realize three fourths of the estimated savings. With the exception of the projected fuel savings, EPA has not attempted to quantify or monetize the eventual benefits associated with the proposed rule. EPA projects the aggregate costs of compliance with the proposed standards would be $180 million in 2020. The monetized cost estimates reflect engineering compliance costs, rather than economic costs.

     Under Executive Order 12866, agencies should "... select the approaches that maximize the net benefits ..." (Section 1(a)). While we support many of the objectives of the draft proposed rule, we are concerned that the regulatory analysis is not sufficient to support a reasoned determination on the appropriate regulation of these sources.

Economic vs. Engineering Costs

     EPA's analysis is focused on evaluating the direct (engineering) costs and the projected emission reductions for the selected proposal. In this respect, the analysis provides a useful "accounting" of the directly measurable effects of the proposed standard but does not provide a benefit/cost analysis integral to the decision-making process.

     The distinction is an important one, particularly given the very diverse set of engines covered in this rulemaking. The engines in use today in the covered product categories have a range of attributes that are specific to their particular category of use. For example, the attributes of engines currently used in snowmobiles include: versatility, reliability, and compactness (with a high power to weight ratio). For entry-level machines, the availability of relatively low-cost engines may be an important additional "attribute" in order to make this class of snowmobiles more affordable. EPA's analysis does not evaluate the effect of its standards in terms of these attributes, the effect on consumers of limiting the availability of snowmobiles with more desirable features, and the ultimate effect of the standards on sales.

     EPA's estimate that adoption of the proposed standards will yield substantial cost savings further illustrates the problem with the analysis. EPA estimates that the proposal will yield fuel cost savings of $430 million per year, an amount more than double the expected costs of the proposal. Much of the fuel economy savings will come from the adoption of different technological approaches (e.g., 4-stroke engines in the place of 2-stroke engines). Ordinarily, one might expect that market forces would operate to realize these fuel economy savings without regulatory intervention.⁽¹⁾ EPA staff have explained to us, however, that they believe that the transition to different technologies will not occur in the absence of regulation because of the other attributes of 2-stroke engines -- reliability, versatility, compactness, - and because of the one-time costs of making the transition from a "tried and true" engine technology. We believe it is important to develop an estimate of the value of these attributes in order to understand the effect of this proposal on these various product categories.

     Any estimate of the economic costs of these standards should also include the loss in consumer surplus associated with the substantial costs of the proposal. In some of the markets -- particularly "entry level" products -- covered by the proposal, demand may be sensitive to changes in the price of the engine. To the extent that this is the case, the consumer surplus loss could be large and EPA should evaluate this possibility. OMB's March 2000 Guidelines (p. 13) specifically include the loss in consumer surplus among the cost categories that agencies should evaluate.

Analysis of Regulatory Alternatives

     The analysis focuses on the emission reductions and costs of the proposed rule; it does not evaluate other alternatives as required by the Unfunded Mandates Reform Act of 1995 and E.O. 12866. OMB's March 2000 guidance requires consideration of alternatives in order to assess the likely net benefits of alternative regulatory options. (OMB March 2000 Guidelines (M-00-08), pp. 3 and 4.) Some of the choices EPA should consider in developing a final rule include:

• different levels of stringency for emission standards. Under OMB guidelines, agencies should evaluate at least one standard that is more stringent and one standard that is less stringent.⁽²⁾ (OMB March 2000 Guidelines, p.4.)

• alternative phase-in schedules.

• different degrees of coverage of engine types. The proposal covers a very diverse set of engines. EPA should evaluate the merits of regulating a narrower set of engines or regulating some classes of engines differently.

Analysis of Environmental Benefits

     I recognize that EPA has estimated substantial fuel economy savings, and I am quite open to the possibility that additional analysis will further support the proposed regulatory options. Nevertheless, I believe it is important to prepare a refined cost-benefit analysis to provide decisionmakers, the Congress, and the public with a better understanding of the effects of this rule. Moreover, the refined analysis that EPA will generate may justify alternate standards, phase-in periods and/or scope of engines covered, leading to a final rule that differs from the proposed.

     I expect these improved analyses to be completed prior to submission of the final rule. In order to do so, we should schedule quarterly meetings to review the progress in developing a refined analysis. My staff looks forward to working with you to satisfy the basic analytical requirements of Executive Order No. 12866.

cc: Linda Fisher

1. There are other possibilities, of course. The analysis may overstate substantially the likely fuel savings, or there may be a "market failure" that prevents competitive forces from realizing the substantial cost savings projected by EPA. If the latter is the case, EPA should explain the source of the market failure.

2. OMB, p.4.