Hydrogen: The next clean energy frontier

This article has since been updated to reflect the March 25, 2021 decision of the Supreme Court of Canada.

Hydrogen is currently enjoying unprecedented political and business momentum.[1] A global race to develop regional and national hydrogen economies is underway, with the number of projects and regional policies around the world expanding rapidly. The federal government intends that Canada be at the forefront of this race, alongside other leading players like California, China, Japan, and South Korea. The Province of British Columbia has long been a leader in the hydrogen space and is strategically positioned to help drive Canada towards its goal to be a top hydrogen exporter and a leader in fuel cell technology and hydrogen infrastructure. In Canada, upcoming regulatory instruments that penalize fossil fuels and policies that support clean energy are driving further demand for hydrogen. In British Columbia, an upcoming hydrogen strategy will further define these trends.

This article summarizes the current and upcoming regulatory and economic forces acting on this emerging market in British Columbia and Canada.

Introduction to Hydrogen

Recent interest in hydrogen concerns its ability to act as a fuel or energy carrier, and therefore as an alternative to fossil fuels. Hydrogen carries roughly three times more energy per mass than fossil fuels and produces only water when consumed, not greenhouse gas ("GHG"). Hydrogen is also light, transportable, widely available in natural compounds, and can be derived from many different feedstocks (e.g., natural gas, agricultural waste, forest products, and water) and chemical processes.

The drawback is that hydrogen is currently more expensive than fossil fuels. The price differential between hydrogen and fossil fuels depends on the method of hydrogen production. Today, most hydrogen is extracted from natural gas. This "grey hydrogen" includes carbon emissions when measured over the lifecycle of the product, from extraction to consumption. However, as hydrogen has no emissions at the point of consumption, the lifecycle emissions of grey hydrogen are lower than those of traditional fossil fuels.

Grey hydrogen can be paired with carbon capture and storage ("CCS") technology to create "blue hydrogen", which has reduced lifecycle carbon emissions but at a greater production cost.[2] Hydrogen can also be created directly from water through the electrolysis method.[3] When the electricity comes from a non-emitting source (i.e., hydroelectric, nuclear, solar, wind), the entire process is emission-free and creates "green hydrogen". However, green hydrogen is the most expensive.

Hydrogen is a potential alternative to fossil fuels across many sectors of the economy including transportation, manufacturing, heating and cooling, industrial equipment, and materials production.

Global Hydrogen Market

While global hydrogen demand has been rising steadily since 1975, renewed momentum for cleaner energy solutions, assisted by a variety of regulatory levers and government policies discussed below, is now rapidly accelerating demand.

New markets are emerging for vehicles powered by hydrogen fuel cells. In addition to the passenger vehicle market, hydrogen fuel cells can be used in freight trucks, coach buses^[4], city transit systems, trains^[5], marine vessels, and even aircraft.^[6] In Switzerland, a stringent road tax on diesel trucks resulted in Hyundai's decision to deploy 1,600 hydrogen fuel cell heavy-duty cargo trucks in order to avoid the tax.

Private companies and government agencies with large warehouses and distribution centers are starting to adopt fuel cells to power their materials-handling equipment.[7] Many major automakers (e.g., Hyundai, Toyota, Honda, GM, Mercedes, Ford, Nissan, and Volkswagen) now have fuel cell vehicles either on the market or in development.[8]

From a policy and regulatory perspective, leading jurisdictions include California, China, Japan, and South Korea, all of which invested early in national hydrogen strategies for their respective economies. In the past year, many western economies have joined the race, including France, Germany, the Netherlands, the UK, Norway, Portugal, Australia, and New Zealand. The European Union announced its hydrogen strategy on July 8, 2020.

Canada's Hydrogen Market

On December 16, 2020, the Government of Canada released its Hydrogen Strategy for Canada (the "Strategy"), which seeks to catalyse the mass production and adoption of hydrogen as a fuel and energy source across all sectors of society, industry, and government. The Strategy sets out an ambitious framework to diversify and redefine the Canadian energy landscape over the next 30 years, achieving Canada's goal of net zero emissions by 2050 while also generating over 350,000 jobs and direct revenues of $50 billion per year.

The Strategy touts the enormous potential of hydrogen in areas such as transportation, heating (both residential and commercial), power generation, chemical manufacturing, refining, and materials production (e.g., high-grade heat sources for industries such as cement, steel-manufacturing, and pulp and paper). The Strategy also emphasizes Canada's competitive advantages in the global hydrogen race due to its abundance of every major hydrogen feedstock (e.g., water, natural gas, and biomass), leading intellectual property position, dominant energy sector, established pipeline and transportation infrastructure, well-positioned export channels, and proximity to hydrogen import markets like Japan, South Korea, California, and Europe.

See our previous article for more information on Canada's Hydrogen Strategy.

BC's Hydrogen Market

The Province of British Columbia is expected to announce its own hydrogen strategy in the near future.[9]

Historically, BC has been a globally pioneering hydrogen jurisdiction due to a multitude of different technological, regulatory, and geographic factors.

The Province enjoyed early private sector innovation. Ballard Power Systems has been developing fuel cell technology since 1979, and now deploys fuel cells in buses, heavy duty trucks, marine devices, and rail systems across the world. In 2018, Hydrogen Technology and Energy Corporation ("HTEC") opened Canada's first retail hydrogen refueling station in collaboration with Shell in Vancouver. HTEC currently owns and operates four hydrogen refueling stations in the Province, with five more planned or in development.[10] An additional station is being developed by the University of British Columbia, and on September 10, 2020 the Province announced funding for the construction of an additional 10 stations.[11]

The Province was also an early adopter of climate-related regulatory instruments such as its carbon tax (in force since 2008) and its low carbon fuel requirements (in force since 2010). These regulatory instruments, discussed further below, place a financial penalty on carbon-emitting processes. Since the financial penalty increases every year, these mechanisms steadily increase the demand for hydrogen (which has lower lifecycle emissions than fossil fuels) by making any product with lifecycle emissions more expensive every year. The proliferation of hydrogen technology in response to these measures is part of an overall pattern of diversification and decarbonization observed in BC. Another example of this trend is the accelerating adoption of battery electric vehicles in the province.

In 2018, the Province released its CleanBC plan, through which it aims to achieve an escalating amount of GHG reductions required by the Climate Change Accountability Act. According to this Act, by 2050 the Province must have reached an 80% reduction in GHGs from 2007 levels.

BC's Transportation Sector

To achieve these ambitious targets, the Province has focused particular attention on the transportation sector, which produces the largest share (approximately 40%) of GHG emissions.[12] Hydrogen has the potential to decarbonize the transportation sector through two main applications.  The first is through fuel cell vehicles, which use hydrogen gas to power an electric motor without generating emissions. To specifically address the passenger vehicle market, the Province enacted the Zero-Emission Vehicles Act. This Act requires automakers to meet escalating proportions of zero-emission vehicle sales over time until 2040, when 100% of sales must be zero-emission vehicles.[13]

However, the passenger vehicle market creates only a small portion of the GHG emissions from the transportation sector. Most emissions come from larger vehicles such as commercial trucks, buses, municipal transit vehicles, marine shipping, trains, and aircraft. All of these vehicles have the potential to be powered by hydrogen fuel cells. However, the large vehicle fuel cell industry is still in a nascent stage due to low adoption rates, lack of widespread hydrogen refueling infrastructure, and high costs. Thus, many vehicles may continue to run on liquid fossil fuels for the foreseeable future.

However, hydrogen can also be used to create these liquid fuels synthetically and lower the carbon-intensity of these fuels in the refinement process. On this front, further demand for hydrogen is being driven by BC's clean fuel standard, which will be further discussed below.

BC's Built Environment

Another high-emitting sector is known as the "built environment" (i.e., residential, commercial, industrial, and government structures), which uses natural gas as a primary heat source.[14] For this sector, clean hydrogen can be blended into the natural gas grid in order to reduce the net emissions. 

Western Canada's Competitive Advantage

A comprehensive hydrogen study commissioned by the Province in 2019 found that BC's abundant clean energy and natural resources give it a distinct comparative advantage in the hydrogen economy. The Province has an abundance of three important hydrogen feedstocks - water, natural gas, and biomass - and also has a significant supply of by-product hydrogen.[15] BC's production capacity exceeds provincial demand, such that excess capacity could be exported to leading hydrogen markets such as California, Japan, South Korea, and China.[16] Alberta also shares these advantages, along with ideal geological reservoirs, infrastructure and regulatory regimes for carbon capture and storage in the blue hydrogen market.

Hydrogen: Regulatory and Policy Pressures

New and upcoming regulatory instruments, funding incentives, and political pressures are expected to further propel demand for hydrogen in BC, Canada, and globally.

Carbon Taxes

BC's carbon tax, which rises by $5 per year and is currently at $40 per tonne, will soon be eclipsed by the faster accelerating federal carbon tax. While the federal carbon tax is currently at $30 per tonne, the government recently announced (through its December 11, 2020 Climate Plan) that it will accelerate the rate of tax increase to $15 per year, such that by 2030, the price of carbon will be $170 per tonne.[17]

This quickly rising federal carbon tax is expected to raise the costs of many consumer products including transportation fuel (gas and diesel), and heating (natural gas). The rising price of fossil fuels, given the Supreme Court of Canada upheld the tax,[18] is expected to drive further demand for hydrogen across all of its applications. The escalating nature of the carbon tax may cause demand for the type of hydrogen to shift over time; green hydrogen (given its lack of lifecycle carbon emissions) would not be taxed, while blue hydrogen would be taxed at a lower rate than grey hydrogen. Thus, demand may initially be strongest for the cheaper grey hydrogen, but shift over time to the more expensive green hydrogen.

BC's Clean Fuel Standard

BC's Renewable and Low Carbon Fuel Requirements Regulation, a form of low carbon fuel standard or "clean fuel standard", is also driving demand for hydrogen in BC (the "BC-CFS"). The BC-CFS is made up of two components - the renewable content requirement for diesel and gasoline, and the decreasing carbon intensity of liquid fuels generally.

The BC-CFS imposes a performance standard based on the carbon-intensity of the liquid fuel, measured over the lifecycle of the product, from extraction to consumption. The performance standard gets stronger every year, with each increase making hydrogen more competitive compared to fossil fuels. Further, the cap-and-trade system set up by the BC-CFS (in which compliant fuel suppliers receive credits, while non-compliant fuel suppliers receive debits and face financial penalties) will allow hydrogen producers to generate additional revenue by selling their credits to fuel suppliers who did not meet the standard. The cleaner the hydrogen supply chain, the greater the credits. Green hydrogen could generate more credit revenue than blue hydrogen, followed by grey hydrogen, all of which would be expected to receive more credits than a "clean" gasoline or diesel product with a low enough carbon intensity level to be compliant with the standard.

Following in BC's footsteps, the federal government plans to impose its own clean fuel standard. If executed as proposed, this is expected to further increase hydrogen demand across the country.

Canada's Upcoming Clean Fuel Standard

The proposed federal Clean Fuel Regulations were released on December 19, 2020. Like the BC standard, the federal clean fuel standard ("CFS") covers liquid fuels and imposes a performance standard based on lifecycle carbon intensity. The federal standard also becomes stronger over time, and also installs a tradable credit system. However, unlike the provincially-constrained BC-CFS, the federal CFS will cover all fuel producers and importers across Canada.

The CFS is still under a consultation period, but is proposed to take effect in December 2022. See our previous article for a comprehensive analysis of the proposed CFS.

Market Incentives and Funding

To further encourage participation in the hydrogen economy, the BC and federal governments are offering various hydrogen-related incentives, both for its use in the fuel cell vehicle market as well as an industrial energy or fuel source. The federal incentives include monetary rebates, grants, and tax write-offs. In addition, new incentives are expected as a result of the recently announced federal Climate Plan, which contains $15 billion in investments in support of clean energy programs.

BC is also offering incentives and funding, including an additional $10 million in funding for the construction and operation of 10 hydrogen fueling stations in the province. On January 28, 2021, the Province announced that it will provide discounted electricity rates until 2037 for industrial customers with operations that will reduce GHG emissions. For example, the Clean Energy Customer Rate applies for customers whose plants remove GHGs from the atmosphere or produce a renewable or low carbon fuel. This could include the production of green hydrogen via electrolysis; the production of synthetic fuels from hydrogen, carbon dioxide or biomass; or the capture and/or storage of carbon dioxide.[19]

Upcoming Issues and Expected Future Trends

As the global hydrogen race accelerates, a variety of practical and legal issues will surface as consumers, industries, and governments look to hydrogen to help transition their fuel and energy systems into a lower carbon economy.

Regulatory Implications

The current framework governing BC's gas production, transmission, and distribution sectors requires further corporate and regulatory decision making to ensure the efficient integration of hydrogen. BC's natural gas infrastructure can be leveraged effectively, given the Province's support for the industry, with the right measures to ensure compatibility with hydrogen. Ancillary questions pertain to the optimal mode of transport (truck vs hydrogen pipeline) and optimal location of manufacturing and processing facilities. A critical question is how hydrogen fits into the current energy framework around Site C. Rising hydrogen production, which may initially be derived primarily from natural gas, may enhance environmental concerns regarding fracking, port operations, and marine tanker traffic.

We will address these issues in detail in a future article.

Upcoming BC Hydrogen Strategy

It is expected the Province will soon announce a hydrogen strategy.[20]

In 2019, the BC Hydrogen Study found that the Province cannot meet its climate commitments without integrating hydrogen into its economy.[21] The study also found that despite being a leader in hydrogen and fuel cell research and development, BC currently has no technology deployments. As a result, there is a risk that talent, innovation, and investment will flee to more favourable jurisdictions like Europe, China, and California, where fuel cell buses designed in BC are currently deployed.[22]

Any upcoming strategy might be expected to continue BC's policy trajectory of encouraging the gradual transformation from higher carbon fuel and energy sources to lower carbon sources over time. For hydrogen, this could entail a gradual transition from grey hydrogen derived from natural gas to the more expensive green hydrogen derived from water. However, the type and quantity of support that the Province will provide to consumers and industry remains to be seen. A critical question is whether the Province will increase support for the fuel cell industry, which is currently ineligible for a variety of incentives offered to battery electric vehicles, the main competition of hydrogen fuel cell vehicles.[23]

Takeaways

While hydrogen is currently enjoying significant momentum, there are still challenges, including the price premium on hydrogen, lack of infrastructure, low adoption rate, low government support for the fuel cell industry, overlapping regulatory frameworks, compatibility issues with infrastructure and appliances, and environmental concerns regarding fracking, port operations, and marine tanker traffic. In the face of these challenges, it remains to be seen whether hydrogen, and particularly green hydrogen, will become cost-competitive with other fuels. Nevertheless, hydrogen demand is expected to continue growing, spurred in part by a growing number of regulatory levers and government policies encouraging the decarbonization of fuel and energy systems across many sectors of the economy.  Both Canada and British Columbia are expected to play a significant role in this emerging sector. The exact scope of this role remains to be seen, but may be informed by BC's upcoming hydrogen strategy and future action taken under Canada's recently announced Hydrogen Strategy in conjunction with its Climate Plan.

Gowling WLG is actively monitoring the economic and regulatory landscape of this emerging sector. Please contact us if you would like to learn more about the opportunities in this area.