Energy Policy, Vol. 26, No. 5, pp.

413—423, 1998
( 1998 Elsevier Science Ltd. All rights reserved
Printed in Great Britain.
0301-4215/98 $ 19.00#0.00
PII: S0301-4215(97) 00149-3

Investing in industrial innovation:

a response to climate change

R Neal Elliott* and Miriam Pye

American Council for an Energy-Efficient Economy, 1001 Connecticut Avenue, N.W., Suite 801, Washington, D.C.
20036, USA

In this paper, we review industrial energy use and energy intensity trends, and discuss industrial decision making and
how it relates to changes in energy intensity. Based on this review, we propose that policies that promote technology
innovation and investment in process equipment are most likely to lead to greater industrial energy efficiency. We
propose and analyse four such policies and project that with full implementation of these policies, industrial energy
consumption and carbon emissions will be reduced in 2010 by 12.4% and 12.1%, respectively, over the base case
without changing economic growth. Reductions will increase to 35.65% and 33.1% in 2030. ( 1998 Elsevier
Science Ltd. All rights reserved.
Keywords: Industry; Efficiency; Innovation

Introduction directly use 23%. Aggregated non-electric fuels are used

Industry is the largest energy-consuming sector in the
United States, with its 1994 primary consumption of 35.5
exajoules (EJ) accounting for 38% of domestic consump-
tion (EIA, 1995a). Industry is very different from other
sectors and also very diverse, encompassing agricultural,
mining, construction, and manufacturing. How energy is
used by and within each sub-sector varies widely. The
manufacturing sub-sector accounts for about 70% of
industry’s energy consumption and is as diverse as the
industrial sector as a whole — each industry’s process and
energy requirements as different as the products it pro-
duces (Laitner et al, 1995).
Much of the energy consumed by industry is directly
involved in manufacturing processes required to produce
various products. Electricity accounts for about a third of
primary energy used by industries, with natural gas,
petroleum, and coal accounting for about 28, 26 and 7%,
respectively (EIA, 1995a). Industries also use what are
traditionally thought of as energy sources for non-fuel
purposes. For example, industries such as chemicals and
petroleum refining use crude oil, liquid propane gas
(LPG), and natural gas as feedstocks in producing prod-
ucts such as asphalt, gasoline, plastic resins and ferti-
lizers. This non-fuel use of energy sources accounted for
about 6.8 EJ in 1991 (EIA, 1994).
In manufacturing, motors use about 70% of electricity,
lighting uses 7%, and heating or electrolytic processes
* Author to whom correspondence should be addressed. Phone: 202-
429-8873, Fax: 202-429-2248
to generate heat, steam, or electricity. Some of these
applications (called combined heat and power [CHP]
systems) are designed to both meet thermal loads and
generate electricity, producing very high efficiencies of
fuel utilization. The manufacturing sub-sector generates
130 terawatt-hours (TWh) of electricity for internal con-
sumption or resale, either from dedicated generation or
cogeneration systems, while consuming 695 TWh net.
Non-electric fuels include purchased fuels (eg natural
gas) and waste by-products (eg paper pulping wastes
[black liquor]). Many industries can switch among fuels
based upon price and availability, so focusing on a par-
ticular fuel for a particular end-use is difficult. Steam
generation accounts for 26% of non-electric fuel con-
sumption, with direct process heating accounting for
23% (EIA, 1994).
Industrial trends
Industry significantly reduced its energy intensity (con-
sumption per constant dollar value of shipments) from
the early 1970s to the mid-1980s (Fig. 1). In contrast,
other sectors of the economy continued to increase their
energy intensity. Rapid increases in energy prices during
the 1970s in part motivated industry’s reduction, which
continued through the mid-1980s. This trend slowed in
the late 1980s as energy prices declined (EIA, 1995b).
Decreasing energy intensity traceable to technology
innovation has persisted since data have been recorded
and is projected to continue for the foreseeable future.

413
414 Investing in industrial innovation: a response to climate change: R N Elliott and M Pye
Figure 1 Total US primary industrial energy consumption
and manufacturing energy intensity
This trend is in part due to improvements in the energy
efficiency of production processes and equipment, and
changes in products that industry produces. The latter
trend reflects a dematerialization of manufactured prod-
ucts in which less physical material is required to produce
a product of a given functionality. For example, advances
in semiconductor technology have allowed electronic de-
vices to become smaller and lighter while increasing their
capabilities (Ross et al, 1993).
Industrial energy consumption peaked in 1979 and
then declined due to economic downturns in the early
1980s (Fig. 1). Consumption increased again in the mid-
1980s with economic recovery and continued into the
1990s, when total consumption reached a new peak in
1994 at 35.5 EJ (EIA, 1995a).
From 1970 to 1986, electricity’s share of industrial
energy consumption increased from 23% to 35%, natu-
ral gas fell from 33% to 25%, and coal fell from 16% to
10%. After 1986, electricity’s share stabilized and natural
gas began to recover its share because of its low price and
perceived environmental benefits. Petroleum consump-
tion declined sharply in the early 1980s and then began to
grow again slowly, driven mostly by increasing demand
for feedstock (EIA, 1996).
Current issues
While industrial consumption of all fuels has increased
over the last two decades, industry has become more
energy efficient. Industry has never responded well to the
concept of energy conservation, since reducing use usually
reduces production levels. Energy efficiency, however,
resonates with many industrial thinkers who seek to
optimize use of all resources. The importance of efficient
resource use is seen in some integrated industries, such as
petroleum refining, in which feedstock is used to produce
the product and generate energy required by the process.
The less feedstock consumed for energy, the more prod-
ucts that can be shipped.
All evidence suggests that potential still exists for effi-
ciency improvements. Efficient energy use is good for
industry because it reduces operating costs for the same
level of production, making the company more profit-
able. Nevertheless, for a variety of reasons the pace of
energy efficiency improvement has begun to stall in re-
cent years, as will be discussed later.
One way to revitalize progress toward energy efficien-
cy is to view it from a business/financial perspective.
Business management’s responsibility is to enhance
shareholder value. Thus, to get the attention of business
management, financial analyses that evaluate the
cost/benefit of efficiency measures must be presented to
them. Analyses may range from a simple payback analy-
sis to a detailed cash flow analysis calculating net present
value (NPV) or internal rate of return (IRR) for the
investment. We intentionally refer to an investment in
efficiency, rather than specifically in energy efficiency,
because often energy efficiency projects have non-energy
benefits and efficiency projects that are not specifically
targeting energy produce energy savings. It is critical that
all the savings related to such projects — energy and
non-energy — be included in the financial analysis so that
management understands the complete financial ramifi-
cations of an efficiency project.
Market barriers
Many studies have identified significant, economically
advantageous, energy efficiency improvements that are
not being implemented. The reasons for the lack of imple-
mentation are complex, stemming from factors both in-
ternal to the companies and from the market as a whole.
¸ow energy prices
A primary barrier to greater energy efficiency and in-
creased renewable energy use is that conventional energy
sources are cheap and are getting cheaper (Fig. 2).
Figue 2 US industrial energy, electricity, natural gas prices in
nominal and 1993 constant US dollars
 Investing in industrial innovation: a response to climate change: R N Elliott and M Pye
However, energy prices do not reflect all the social costs,
such as environmental damage, associated with energy
use. Industrial energy and electricity prices (constant
dollars) peaked in 1982 and natural gas peaked in 1983.
By 1993, real (ie constant dollars) average energy prices
had declined from their peaks by 42% — electricity by
34% and natural gas by 46% (EIA, 1987; EIA, 1992; EIA,
1995d; EIA, 1995c). With many ‘cheap’ efficiency
measures already implemented, lower energy prices make
further investments hard to justify. Continued declines in
industrial energy prices, anticipated by many in view of
utility deregulation, further reduce the incentive for effi-
ciency investments.
Energy is a small fraction of the production cost
For most industries, energy expenditures are a very small
part of operating costs, averaging less than 2% of the
value of shipments for the manufacturing sub-sector.
Industries such as primary aluminum, hydraulic cement,
and industrial gases are exceptions, with energy ac-
counting for more than 20% of the value of shipments.
However, for some of the fastest growing industries (elec-
tronics and computers) energy expenditures represent
only 1.2 and 0.6% of shipments, respectively (Census
Bureau, 1992). In most industries, larger costs, such as
labor and raw materials, receive attention before energy.
Energy is not a discrete issue
Most industries do not perceive energy as a discrete issue
but as part of broader issues such as cost of manufactur-
ing, environmental compliance, safety and productivity.
Since most energy efficiency projects impact some of
these issues, decision making becomes more complex,
involving evaluation of all these issues. Fortunately,
many energy efficiency projects yield non-energy benefits,
which are frequently greater than energy savings (Elliott
et al, 1997). Thus, energy efficiency advocates can
strengthen their case to business management by ap-
proaching projects from a broader perspective, taking
into account all costs and savings — both energy and
non-energy.
Competition for resources
Energy efficiency competes with other issues for a com-
pany’s finite resources. While capital is the most often
cited resource, staff time is also important. With indus-
trial downsizing, expenditures for issues not directly re-
lated to the company’s operation and near-term profitab-
ility have declined, and less staff are available to address
all issues. When choosing between addressing potential
emissions compliance, production reliability, or product
quality problems, or identifying and implementing en-
ergy efficiency projects, the former receive attention since
415
failure to address these may result in the plant being shut
down (Geller and Elliott, 1994).
Capital allocation remains a barrier to achieving
greater energy efficiency. Given a choice between ex-
panding existing production capability or introducing
new products, and reducing energy bills, production-
related projects will invariably win out. Fortunately, such
projects often save energy or create opportunities to
integrate energy savings into other projects, again sup-
porting the premise that both energy and non-energy
benefits must be taken into account when presenting
projects to management.
Factors influencing energy decisions
Industrial energy decisions are made within the context
of maximizing shareholder profits and insuring the com-
pany’s long-term viability. As a result, many factors influ-
ence decision makers, including investment in research
and development (R&D), planning and managing pro-
jects, and using recycled feedstocks. These issues are
discussed below.
Reduced R&D spending
R&D is the process by which new ideas are developed
and transformed into commercial products and services.
Innovation fuels economic growth and has allowed in-
dustry to achieve impressive energy efficiency and envir-
onmental gains. Continued innovation is critical to
achieving future goals in these areas (Steinmeyer, 1997).
The period since World War II saw a sustained commit-
ment to R&D by the private and public sectors, with
more than half of the economic growth during this period
resulting from technology improvements (Eisenhauer,
1996).
Recently, commitment to R&D has diminished, with
both federal and industrial R&D dollars declining
(Fig. 3). As part of corporate cost reductions, many
Figure 3 Recent US R&D expenditure trends
416 Investing in industrial innovation: a response to climate change: R N Elliott and M Pye
industries are closing their research laboratories and
focusing on more near-term activities, shifting from basic
and applied research toward commercialization. In 1988,
about 6% of corporate R&D budgets were directed at
basic research and more than 20% went to applied re-
search. By 1995 these shares had fallen to about 2 and
16%, respectively (Eisenhauer, 1996).
Project facilitation
Implementing an energy efficiency project involves more
than identifying the opportunity. The implementation
process has seven steps: (1) opportunity identification; (2)
technology identification and project design; (3) financial
analysis; (4) purchasing and procurement; (5) financing;
(6) installation; and (7) startup and training.
Most industrial and utility technical-assistance pro-
grams have focused on only one or two of these steps. It is
important that resources be available for all steps to
achieve high implementation rates. Final project phases,
particularly startup and employee training, can be the
most critical to maximizing long-term savings potential
(Elliott et al, 1996). As an example, New York’s FlexTech
program has achieved impressive results by facilitating
the entire implementation process at a modest cost (El-
liott and Weidenbaum, 1994).
Recycling
Americans have embraced recycling as a means of be-
coming involved with improving their environment. Re-
cycling by homeowners, offices, and companies is widely
accepted (Hershkowitz, 1997). In addition, recycled con-
tent has become a positive marketing issue for many
products. Many offices and businesses use some recycled
paper products and consumers seek out products like
fleece jackets made from recycled soft drink bottles.
Using recycled feedstocks in the production of primary
materials has energy and cost savings potential (Elliott,
1994a). Primary manufacturing industries transform
feedstocks into intermediate materials from which end-
products and their packaging are produced. These indus-
tries use chemical and physical processes to transform
feedstocks into more valuable materials, increasing the
material’s embodied energy along the way. Once a prod-
uct has served its useful life, the energy investment in
converting the material still remains. If the product is
discarded, the value of that energy is lost. Some of that
energy value can be recovered if the material is recycled.
Unfortunately, many recycling efforts have focused on
diverting recyclable material from the waste stream with-
out understanding how to best use these products. Since
a significant portion of energy used in initial material
transformation goes into feedstock separation and purifi-
cation, for a recycled feedstock to maintain its value it
must be kept clean (ie segregated by type and kept clean
of foreign materials). The recycling system needs to pro-
duce quality feedstocks to increase manufacturers’ use of
recyclables. In fact, lack of availability of quality recycled
feedstocks is one of the most important barriers to in-
creased recycled content.
Future opportunities for improved energy
efficiency
Few inside or outside industry question that potential
significant, cost-effective energy efficiency improvements
exist. Estimating the magnitude of potential energy sav-
ings accurately is difficult because so much industrial
energy is used by manufacturing processes. Since tech-
nologies and processes vary among industries, and even
among plants, the energy efficiency potential will be
unique to each plant. Companies such as Dow have
found that the more they look for energy efficiency op-
portunities, the more they find. These opportunities are
cost-effective, often very low cost, and often have non-
energy benefits that far exceed energy savings (Elliott,
1994b).
The largest energy-consuming industries have
achieved significant, cost-effective energy savings, imple-
menting many of the lowest cost opportunities. These
industries are typically large corporations with signifi-
cant technical and financial resources. Several studies
have identified abundant, low- cost efficiency opportuni-
ties for smaller firms that are less energy intensive. In the
United States, these smaller manufacturers (fewer than
500 employees) account for almost 99% of the manufac-
turing facilities, 42% of industrial energy use, 56% of
manufacturing electricity, and 74% of distillate fuel oil
(Hopkins and Jones, 1995). Through one-day as-
sessments of small- to medium-sized manufacturing facil-
ities conducted by engineering students, the US Depart-
ment of Energy’s (DOE’s) Industrial Assessment Centers
(IAC) program (formerly the Energy Analysis and Diag-
nostics Center program) has identified an average possi-
bility of 10% energy savings. Since the program began in
1976, 61% of the recommendations have been imple-
mented. Resource limitations have focused assessments
on easily implemented, short-term payback measures,
thus missing many savings that might be identified in
a more detailed process assessment (DOE, 1996).
The rate at which industrial end use energy intensity
can be reduced is finite. However, carbon emissions are
not necessarily directly linked to energy intensity. Car-
bon emissions can be reduced by reducing the carbon
intensity of a plant and through changes in the plant’s
energy balance and fuel mix. Combined production of
heat and power, often referred to as cogeneration, offers
perhaps the greatest opportunity to reduce carbon inten-
sity. Recent technology developments, especially in the
area of gas turbine technology, have reduced technical
barriers to widespread implementation of small-scale
CHP. Emerging technologies, such as biomass gasifica-
tion, natural gas diesel, and fuel cell technologies, will
 Investing in industrial innovation: a response to climate change: R N Elliott and M Pye
further expand the potential. CHP has the potential to
generate enough electricity to meet almost all of the
industrial sector’s demand. The following major
issues impede widespread implementation of this techno-
logy:
f cost of environmental permitting, which prohibitively
increases the first cost of smaller systems
f uncertain economic relationships with electricity sup-
pliers and the transmission grid
f industry’s use of CHP to satisfy only internal needs,
rather than as a revenue generator
If these issues are not addressed, the opportunity for
industrial CHP will significantly diminish. Following are
policies to overcome these and other barriers previously
discussed.
Policy packages for an energy-efficient industry
in the future
We analysed four sets of broad policies that would ad-
dress market failures unique to industry and encourage
more sustainable business practices that could lead to
a more profitable industrial sector:
f Provide Incentives for Investment in New Production
Equipment. Grant tax credits for investment in new
production equipment to encourage replacement of
older manufacturing plants and equipment.
f Expand Research, Development, and Demonstration
Investment in, and Accelerated Adoption of Efficient
¹echnologies. Fund research and support both pro-
grams that facilitate implementation of improved
process efficiency, and education to create a pool of
trained scientists, engineers, and technicians.
f Increase ºse of Recycled Feedstock. Eliminate favor-
able tax treatment of virgin materials and change
recycling practices to increase the volume of clean
feedstocks.
f Overcome Barriers to Combined Heat and Power Pro-
duction. Expedite environmental permitting of CHP
systems, incorporate provisions into utility restruc-
turing to allow sale of excess power, and provide
programs to educate end users on how to implement
CHP.
Since each policy addresses a different issue, effects of
these policies are additive. From the modeling perspect-
ive, these policies move the sectoral conservation supply
curve to the right (ie increase how much efficiency is
justifiable at a given energy price).
These policies, however, do not address the barrier of
low energy prices. Economy-wide carbon and energy tax
strategies would impact industrial energy consumption
by making more efficiency opportunities cost-effective.
From the modeling perspective, energy price increases
move us up the conservation supply curve.
417
Provide incentives for investment in new production
equipment
One effect of reducing the cost of capital is an increase in
the rate at which older manufacturing plants and equip-
ment are replaced. Many of the most energy-intensive
manufacturing industries are also the most capital-inten-
sive. Normal practice is for a new plant to be built with
the most modern and efficient technologies available.
Since the cost of new facilities is very high, plants are
operated as long as they can be cost justified. As a plant
ages and becomes less cost-effective, maintenance and
modernization expenditures decrease, and production
shifts to more modern facilities until it becomes un-
economic to operate the older plant, which is rebuilt with
modern equipment or replaced with a new plant (Stein-
meyer, 1997). As a rule, the more modern the plant
technology, the more energy efficient, and the lower the
level of environmental emissions.
A number of policy options are available to reduce the
cost of capital and encourage modernization of manufac-
turing plants. A tax credit could be offered for invest-
ments in new production equipment. In the past, the
federal government and many states have offered tax
credits for energy efficiency improvements. These past
credits have been problematic for industries in that it is
often difficult to segregate expenditures for energy effi-
ciency from other process-related expenditures. How-
ever, industry already segregates manufacturing and
non-manufacturing expenditures so no additional ad-
ministrative burden would be incurred by providing an
investment tax credit for investment in new manufactur-
ing equipment.
To reduce the cost of a new tax credit to the federal or
state government’s treasury, a tax could be imposed on
purchased energy while a firm’s investment tax credit
would be capped at its energy tax liability. Besides mak-
ing the tax and credit revenue neutral on an individual
basis, companies would be encouraged to make capital
investments so they could recover all the tax. Plant
modernization would also provide environmental bene-
fits from reduced emissions and enhance competitiveness
by improving productivity and reducing costs. It might
even be argued that revenues from increased industrial
profits that result from productivity and cost-contain-
ment investments would pay for the credit.
A tax credit offers greater benefits to larger companies,
who may have greater access to low-cost capital. Many
small- and medium-sized companies do not have access
to financial resources that would allow them to take full
advantage of the credits. For these capital-constrained
industries, loans, loan-guarantees, and interest rate subsi-
dization programs may be valuable. The FlexTech pro-
gram provided such incentives and proved very success-
ful and cost-effective for this audience (Elliott and
Weidenbaum, 1994).
Increasing the turnover in manufacturing capacity is
complementary with the other sectorial policies and
418 Investing in industrial innovation: a response to climate change: R N Elliott and M Pye
would accelerate investments. While the equipment turn-
over rate varies dramatically among different industries,
this policy set would increase the turnover rate across
industries. Thus, process efficiency opportunities identi-
fied and new technologies developed would be more
quickly implemented in plants. Manufacturing changes
necessary to increase recycled content would also be
made earlier. An economy-wide carbon tax would comp-
lement this policy set by increasing the number of cost-
effective efficiency options.
Expand research, development, and demonstration invest-
ment in and accelerated adoption of efficient technologies
A broad range of activities at all stages of technology
development and implementation is essential for achiev-
ing both near- and long-term technology results. This
policy set consists of complementary initiatives that pro-
vide a coordinated national industrial strategy to en-
courage research, development, and demonstration
(RD&D) and facilitate adoption of efficient technologies
and practices by industry. This policy set complements
the other sector-specific policies by identifying energy
efficiency opportunities while increasing the range of
opportunities by demonstrating new applications of
existing technologies and creating new technologies that
improve efficiency.
Research is a continuum of activities, all phases of
which must take place if innovation is to become mani-
fest in the marketplace. Results of research are, by defini-
tion, unsure since they involve discovery. While an area
may initially appear promising, as the technology evolves
and markets change, the potential may not materialize.
Conversely, technologies developed for one purpose may
emerge as important in unforeseen applications.
It is difficult to justify research on a project-by-project
basis; one must look at a portfolio of activities and
compare the total investment to the benefits from those
innovations that succeed in the marketplace. A recent
study of federal energy R&D expenditures draws rela-
tionships between R&D expenditures, and energy sav-
ings and shifts to renewable energy sources (Breger,
1997). The study found that, after 20 years, 1.4 EJ of
energy could be saved for each $100 million [US] in
efficiency R&D expenditure. It also found that each $100
million [US] in renewables R&D expenditure resulted in
0.4 EJ of energy consumption being switched from con-
ventional to renewable energy sources.
Since much government research is done cooperatively
with industry, declines in corporate research reduce
the effectiveness of government-funded research as well.
In addition, government’s R&D focus has become more
near-term due to tight budgets and a need to justify R&D
expenditures with results. If the United States is to move
toward sustainability, it must reverse the trend of declin-
ing R&D spending and revitalize long-term research.
Government should increase its R&D expenditures in
both fundamental science and existing technology ap-
plications. While the national laboratory system offers
physical resources, together with trained scientists and
engineers, the number of commercially valuable innova-
tions can be increased by involving engineers and scien-
tists from industry. They bring perspectives that can lead
to breakthroughs that have potential commercial ap-
plications.
Industry should also be encouraged to increase
RD&D spending by granting favorable tax treatment for
these expenditures and facilitating cooperative research
between industry and government. Not only will this
advance technology, but information in the form of tech-
nology development represents an important commodity
that can be sold by the commercializing company, thus
underwriting future development costs (Steinmeyer,
1997).
Commercializing innovation is important to increas-
ing energy efficiency potential. This process is fraught
with risk, something many companies are unwilling to
bear. Government can share the risk at modest cost by
providing a structure in which companies can collabor-
ate.
Accelerated implementation of improved technologies
For a new technology to be implemented, potential users
must be made aware of the technology and how to apply
it. This learning process involves demonstrations, train-
ing and technical assistance.
While many large companies continually search for
new technologies, many current technologies are not
being implemented. This problem is most pronounced in
small- and medium-sized companies. These companies
frequently do not have the time nor resources to identify
and implement energy efficiency opportunities. Govern-
ment and utility programs have provided assistance to
some of these companies in the past with great success, as
discussed above, but these programs have just begun to
meet the needs of the thousands of small firms. Expan-
sion of DOE’s IAC program — with additional coopera-
tive funding from state and local governments, founda-
tions, and utilities — could extend its reach. The lack of
specialized technical expertise and follow-up has been
identified as a limitation of this program. Governments,
utilities and the private sector can all contribute to meet-
ing these additional needs by creating technology centers,
providing technical assistance, and assisting in imple-
mentation (as seen in the FlexTech program).
Enhanced science education
R&D and accelerated implementation both need trained
scientists, engineers and technicians. US industries are
importing many of their experts from foreign countries.
Engineers and technicians within manufacturing plants
are in an ideal position to implement technologies and be
innovative. When Dow encouraged its employees to
identify energy efficiency opportunities, they found cost-
effective opportunities on a continuing basis (Nelson,
 Investing in industrial innovation: a response to climate change: R N Elliott and M Pye
1993). Creating trained engineers with practical experi-
ence is one of the strengths of DOE’s IAC program. It is
important that the US public supports our educational
system in producing trained researchers and engineers
needed to make future technical discoveries and imple-
ment them in our manufacturing plants.
Increase use of recycled feedstocks
Three groups of policies would help increase recycled
content: increasing the availability of quality recycled
feedstocks; further encouraging market acceptance of
products with high recycled content; and encouraging the
use of recycled feedstocks. These policies should focus
upon plastics and resins, container glass, paper and
aluminum, and products manufactured from these
materials.
Quality recycled feedstocks
Insuring that high-quality recycled feedstocks are avail-
able to manufacturers is important. The first step is to
keep material clean by encouraging states and local gov-
ernments, the waste industry, and consumers to use the
best practices to maintain segregation of different mater-
ial streams. Federal ‘bottle bill’ legislation of minimum
requirements for container and packaging reuse would
prove very effective. Those states with ‘bottle bills’ ac-
count for the majority of recycled aluminum and glass
feedstocks. Government could also fund research and
demonstration of new collection and separation tech-
nologies, and innovative and non-traditional uses for
waste materials, such as the recent introduction of lum-
ber made from mixed recycled plastics.
Manufacturers of durable goods (eg vehicles, buildings,
and appliances) should be encouraged to design for re-
cycling. Such ‘recycling friendly’ products can be easily
disassembled into reusable components or products
manufactured from readily recyclable materials (eg the
switch from multi-layer, squeezable, non-recyclable cat-
sup bottles; to clear, single-layer, readily recyclable plas-
tic bottles).
The government should initiate a review of current
policies to insure that recycled feedstocks are not disad-
vantaged. Favorable tax treatments for using virgin ma-
terials over recycled feedstocks should be eliminated.
Regulations that pose a barrier to recycling and the use
of products with a high-recycled-material content should
be considered for revision or elimination.
Market acceptance
Products produced from recycled feedstocks may have
different characteristics than those produced from virgin
materials. For example, recycled paper may not have the
same texture or be as white as virgin paper but can be just
as functional. The public should be encouraged to accept
these products. Purchasers should be encouraged to
eliminate specifications that exclude high recycled con-
419
tent products and give preference to goods with a high
recycled content. Federal and state governments have
already provided market leadership by changing their
procurement but further steps would increase demand
for these products (Lewis and Weltman, 1992). With
proper encouragement (eg voluntary programs), the mar-
ketplace can create further demand for products with
high recycled content.
ºse of recycled feedstocks
Voluntary targets, based on technical and economic po-
tential, should be set for recycled content of key materials
identified in this section and for products using these
materials. Targets should also be set on availability of
recycled feedstocks. Taxes should be considered for vir-
gin materials and credits for the use of recycled feed-
stocks and investment in process equipment that allows
the use of recycled feedstocks.
Policies that encourage use of recycled feedstocks are
complementary and additive with the other sectoral pol-
icy sets. By reducing the need to transform materials, we
reduce the base energy required to produce the products.
Investments in more modern and efficient production
facilities, and development and implementation of more
efficient processes, would reduce energy requirements
further.
Overcome barriers to combined heat and power
productions
To take advantage of the opportunities to reduce carbon
intensity that combined production of heat and power
offers, policies could be put in place that attempt to
overcome the barriers to wide-spread implementation of
this technology.
Though CHP equipment cost has declined, environ-
mental permitting costs continue to drive up total project
cost. These costs do not vary significantly with the sys-
tem’s capacity, so permitting costs as a percent of total
project costs increase as the unit size decreases, becoming
the dominant cost component in smaller systems. Many
of these new units are now being sold as integrated
systems in the five to 50-megawatt range, with the size
anticipated to drop to the 500 kilowatts range in the
future (Carroll, 1996). It would be appropriate to con-
sider rethinking the permitting process for these package
systems and moving toward certifying unit emissions,
much as we do now with automobiles and appliances.
This approach would expedite the permitting process,
significantly reducing the permitting cost. Certification
should also take into account the grid generation capa-
city that this unit displaces.
Impending utility restructuring may remove market
barriers for on-site generation of electricity, creating new
opportunities for CHP. Emerging market forces such as
new players and a redefined role of utilities, could include
420 Investing in industrial innovation: a response to climate change: R N Elliott and M Pye
the following:
f independent power producers providing on-site en-
ergy services
f utility energy service businesses siting generation at
customers’ sites
f industries entering the electricity generation business
How deregulation evolves will define how these market
players evolve. Restructuring should not be allowed to
inhibit implementation of CHP.
If CHP’s focus is extended to maximizing generation of
electricity for sale, CHP at industrial sites has the poten-
tial to become a major source of electricity generation.
One particularly exciting opportunity is the potential to
replace ‘black liquor’ boilers in the pulp and paper indus-
try with gasifiers powering turbine-based CHP systems.
This change in technology could move the industry from
being a net consumer of electricity to a major electricity
generator, with a national potential of 55 terawatt-hours
of annual capacity (Nilsson et al, 1996). This future,
however, requires fundamental rethinking of traditional
cogeneration. Rather than matching plant electrical gen-
eration to plant thermal loads, the focus is placed upon
generation of electricity for sale. Opportunities for find-
ing economic uses for the ‘waste’ heat will increase in this
scenario. Some industries may partner with a generation
company, while others such as paper companies may
view this as a market expansion opportunity.
Within the industrial sector, the impact of this policy
set depends upon the end-use energy within the sector. As
a result, this policy must be applied after all other sector
policies. This policy has a profound interaction with the
utility sector, since a significant portion of industrial
sector demand would be internalized within the indus-
trial sector. This results in modest increases in natural
gas consumption within the industrial sector but large
reductions in fuel use for generation in the utility sector.
Assumptions and analysis
The National Energy Modeling System (NEMS) forecast
was used for reasons of consistency despite the fact that
the model generates abrupt changes in energy consump-
tion and some anomalous fuel and industry-specific re-
sults. The Industrial Demand Module (IDM) of NEMS is
not well suited to modeling changes in energy policies
since it does not offer investment input parameters (eg
return rate) and the parameters that could be varied,
retirement rate and the technology potential curves, gen-
erated unstable results. Another model, Long-Term In-
dustrial Energy Forecasting Model (LIEF) (Ross et al,
1993), was used to estimate the impact of all policies
except recycling, which involved a separate off-line analy-
sis. The NEMS baseline was modified to reflect each
sector-specific policy.
LIEF was developed from an analysis of 1958—1985
sectoral energy intensities and prices. This analysis was
used to develop conservation supply curves for 18 indus-
trial sectors. These sectors reflect industry groupings that
have similar energy use characteristics based on histori-
cal energy use. Most conservation supply curves have
been developed by combining various energy efficiency
measures that are typically implemented for a particular
market. Such an approach is impractical for the indus-
trial sector because of the complexity and site-specific
nature of many measures. Since the efficiency of an
industrial system is determined by system design, analy-
sis of component efficiencies will produce misleading
results.
LIEF treats electricity and all other fuel use separately.
Since many industries have some capability to switch
among non-electric fuels, a fuel-specific analysis is diffi-
cult. In addition, efficiency is related to changes in the
process, not the specific fuel use. LIEF uses electricity
and industry-weighted fuel prices to estimate economi-
cally acceptable energy efficiency potential. In addition,
the approach used to develop LIEF also reflects the
behavior that characterizes these industry groupings
(Ross et al, 1993).
The investment incentives policy set was modeled by
reducing the effective capital cost by 10% to reflect
a capital investment tax credit and a real discount rate of
15%, which is common for efficiency investments among
more aggressive companies. LIEF estimates the change
in economically justified, energy efficiency potential. It is
assumed that 75% of this potential would be realized
during the analysis period ending in 2010 and that imple-
mentation will occur evenly over time. Since effects of this
policy would not be immediately apparent because of the
delay between making an investment decision and ac-
tually implementing it, first investments are not assumed
to occur until 1999.
RD&D policies that would accelerate investment in
efficient technologies were analysed as two components:
near- and mid-term development and deployment, and
long-term R&D. Effects of development and deployment
activities rely upon existing technologies and will have
immediate impact. Results of long-term R&D will not
manifest themselves for 15—20 years. Policies supporting
near- and mid-term activities were modeled by reducing
the effective discount used in LIEF from 15 to 5%. This
analysis assumes 80% of this potential is realized be-
tween 1998—2010, with the potential implemented in
equal annual amounts beginning in 1997.
To analyse long-term activities, one must look at
a portfolio of activities and compare the total investment
to the benefits from innovations that succeed in the
marketplace. A recent study found the following energy
savings/fuel shifts for each $100 million [US] in federal
R&D expenditures (Table 1) (Breger, 1997). To analyse
impacts of long-term R&D, both energy efficiency and
renewable R&D are assumed to be funded at the $100
million [US] annual level through at least 2010. Impacts
begin to manifest themselves in 2013, increasing at the
levels indicated by Breger (1997).
 Investing in industrial innovation: a response to climate change: R N Elliott and M Pye
Table 1 Energy savings and shifts to renewables from $1 million in
federal R&D expenditure
Energy savings/fuel shift (EJ per year)
20 years 30 years 40 years
Energy efficiency 0.6 1.4 2.0
Renewable energy 0.2 0.4 0.6
Source: Breger, 1997.
Analysis of policies to increase recycled feedstock use is
based on a study that estimated current recycled content
levels for the primary materials considered and projected
achievable targets for 2010 (Elliott, 1994a). Based on this
study, an annual rate of increase in recycled content, with
a corresponding decrease in energy intensity, was chosen
for each material that would achieve these targets. For all
materials except paper, reduction in intensity was as-
sumed to be distributed across fuels proportionally to
each fuel’s consumption. The change in energy consump-
tion for paper was adjusted to reflect a shift in fuel mix
resulting from the elimination of virgin pulp productions’
waste stream. This waste accounts for a significant por-
tion of the consumed fuel in this industry. Elimination of
this waste stream necessitates substitution of purchased
fuels, assumed to be natural gas and coal.
Regarding policies to overcome barriers to combined
heat and power, the analysis was based upon an assess-
ment of the current self-generation trend in industrial
self-generation in which approximately 12% of demand
electricity is generated and a net additional 3.4% of
sector electricity demand is sold. We assumed for reasons
of modeling simplicity that no significant additional ca-
pacity will become operational before 2010. After that,
both fractions of self-generation and net sales are anticip-
ated to increase rapidly. By 2020, an additional 395 TWh
of net generation is anticipated, increasing to 643 TWh in
2030. Fuel utilization in the CHP system is assumed to be
80%, producing equal amounts of steam and electricity.
The steam is assumed to displace existing steam from
fossil fuels.
Results
¹he present path
While the energy intensity of the industrial sector has
declined for many years and is projected to continue to
decline (Fig. 1), industrial energy consumption will con-
tinue to increase with growing economic activity (Fig. 4).
This article focused upon end-use energy consumption
only. Losses associated with electricity and gas distribu-
tion were not accounted for in this analysis, and fuels
used as feedstocks in making products (eg natural gas
used to produce plastic resins) are excluded since they do
not directly result in emissions. The Industrial Demand
Module of NEMS was used to project baseline energy
421
Figure 4 Projected end-use US industrial energy consump-
tion for different policy options
consumption. Industrial energy consumption is projected
to rise from 25 EJ in 1992 to over 31 EJ in 2010, and to
almost 38 EJ in 2030 (Fig. 4). Resulting carbon emissions
increase over 1990 levels of 29.3 million metric tons of
carbon (MTC) per year by 20% by 2010 and over 40%
by 2030.
¹he innovation path
Implementation of the four policy sets produces about
a 12% energy savings by 2010. No impact is yet seen
from the long-term R&D investments, nor from the ex-
pansion of CHP within the industrial sector. Beyond
2010, when results of pre-2010 projects are combined
with benefits from long-term R&D and CHP, results
become impressive.
2010 Results
Energy consumption and carbon emissions from the four
policy sets are summarized in Table 2. Results from all
the policies except CHP are plotted in Fig. 1.
The investment incentives policy set produces approx-
imately 4% reduction in total end-use energy consump-
tion in 2010. Assuming past trends in innovation persist,
new opportunities should continue to emerge, allowing
this increased efficiency trend to persist as long as the
incentive remains for increased investment. This policy
will require a levelized, annual investment of US$4.6 bil-
lion to implement.
Near- and mid-term RD&D activities and accelerated
adoption of efficient technologies are estimated to yield
approximately 7% reduction in end-use industrial energy
consumption from the NEMS baseline in 2010. Since it is
assumed these changes in equipment and practices will,
on average, persist for 15 years, savings build from about
2% in 2000 and benefits of these policies continue to
create new opportunities past 2010. To realize these sav-
ings, an annual investment of US$11.8 billion to imple-
ment is required.
422 Investing in industrial innovation: a response to climate change: R N Elliott and M Pye

Table 2 Summary of industrial sector results

1990 2000 2010 2020 2030

Base case energy consumption (EJ) 26.14 28.48 31.79 34.45 37.66
End-use energy savings from base case
Incentives for investment in new EJ 0.12 1.03 0.85 0.98
production equipment % Savings 0.4 3.3 2.5 2.6

Increased RD&D investment in and EJ 0.53 2.28 4.20 7.00

accelerated adoption of efficient % Savings 1.9 7.2 12.2 18.6
technologies

Increased use of recycled feedstocks EJ 0.04 0.20 0.36 0.51

% Savings 0.15 0.63 1.04 1.34
Overcoming barriers to combined EJ 0 0 1.43 2.32
heat and power production % Savings 0 0 4.2 6.2

Savings from all policies EJ 0.90 3.95 7.25 13.40

% Savings 3.2 12.4 21.1 35.6

All policies case energy consumption (EJ) 27.58 27.84 27.19 24.27
Base case carbon emissions (MTC) 279.3! 310.7 335.5 361.2 392.5
Carbon saving MTC 17.9 40.6 73.9 129.9
% Savings 5.8 12.1 20.5 33.1
All sector policies carbon emissions (MTC) 292.8 294.9 287.3 262.6

!Source: EIA, 1994a.

Effects of the recycling policy set are restricted to the
four sub-sectors considered: steel, aluminum, container
glass, and plastic resins. Impact in these sub-sectors will
result in an average 0.7% decrease in total industrial
consumption in 2010. Though this may appear a modest
impact, it does represent a reduction of 0.2 EJ in indus-
trial consumption. It is difficult to estimate the invest-
ment required to implement these policies, since many
are changes in behaviors, rather than major capital in-
vestment. If similar costing strategies are used for this
policy as for the other policies groups, the levelized
annual cost would be expected to be in the US$56 million
range.
Beyond 2010
It is difficult to project what will happen to industrial
energy use beyond 2010. If energy prices continue to
decline, new efficiency measures will become increasingly
difficult to justify, and industrial energy consumption will
continue to grow (Fig. 4). However, the three policies
that have resulted in the 2010 reductions will continue to
yield increasing benefits in the years beyond. In addition,
long-term R&D in energy efficiency, renewable technolo-
gies, and CHP will begin to contribute energy savings as
seen in Fig. 4, and produce sector carbon reductions. If
all these savings are realized, sector energy consumption
will decline, even with sectoral economic growth, to the
26 EJ level (last seen in 1990) by 2020, and 24 EJ by 2030.
While the annual increase of $200 million begins in
1998, benefits from long-term R&D all occur post-2010,
with efficiency reductions of about 1 EJ in 2020 and
3.7 EJ in 2030. A shift of 0.25 EJ in 2020 and 0.72 EJ in
2030 from conventional to renewable energy sources is
estimated to take place for combined feedstocks and
end-use energy consumption. Increased renewables pro-
duces no change in end-use energy consumption but
results in an additional 8.1 MTC reduction in 2030 car-
bon emissions.
It is assumed for reasons of analytical simplicity that
no additional industrial CHP capacity will become op-
erational before 2010. This assumption is reasonable
since the uncertainty associated with utility restructuring
and the lead time associated with permitting will likely
delay implementation. After that, both fraction of self-
generation and volume net sales are anticipated to in-
crease rapidly. By 2020, an additional 400 TWh of net
generation is anticipated, increasing to over 640 TWh in
2030. Fuel utilization in the CHP system is assumed to be
80%, producing equal amounts of steam and electricity.
The steam is assumed to displace existing steam from
fossil fuels. The result of this scenario is that the net
purchased industrial electricity is almost zero in 2030, if
all other policy options are implemented. Carbon im-
pacts of this policy in the industrial sector are very
modest since additional sectoral electricity generation in
2030 results in an additional 0.22 EJ of gas consumption
by the sector. The real benefits are realized in the utility
sector where electricity generation, with its intendant
emissions, is reduced by about 400 TWh in 2030.
Conclusions
The industrial sector is dramatically different from other
sectors of the US Economy. In contrast to other end-use
sectors, the industrial sector has experienced declining
 Investing in industrial innovation: a response to climate change: R N Elliott and M Pye
end-use energy intensities, a decline projected to continue
in spite of declining real energy prices. This sector is also
diverse, with many of the opportunities for improved
efficiency being unique to an individual facility.
Opportunities for efficiency in the industrial sector are
great, if industry is properly encouraged to seek and
implement them. Some efficiency can be realized through
improved operating practices but the greatest saving is
available from the innovation that has fueled the indus-
try’s history of improving energy intensity. Creating a fer-
tile climate for innovation requires a commitment to
research and education, with an understanding that be-
nefits are long term.
It takes time for energy efficiency improvements to be
realized in the industrial sector, with normal plant invest-
ment cycles usually exceeding ten years. As a result,
near-term savings in this sector are relatively modest, as
seen with this article’s pre-2010 results. With patience,
however, truly impressive savings can be realized.
It takes investment in new equipment and manufactur-
ing processes for improved efficiency to be realized. In-
dustry can be encouraged to make these investments by
providing favorable tax treatment for efficiency improve-
ments. Fortunately, returns from these investments far
exceed energy savings. Most energy efficiency inves-
tments are accompanied by other benefits, such as im-
proved productivity, reduced waste and pollution, and
improved product quality. Some innovations may lead to
new processes and products that change the structure of
how energy is used in our economy. Energy and eco-
nomic potential from innovation are bounded only by
imagination.
The industrial sector is poised to benefit from utility
sector restructuring. Developments in CHP technology
have created the possibility for the industrial sector to
become a major electricity generator in the future. Cost
and efficiency opportunities from this redefinition of elec-
tricity generation benefit not only the industrial sector,
but the US as a whole. Efficiency provides a bright path
for the industrial sector, for the future prosperity of the
US economy, and for an environmentally sustainable
future for our planet.
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