Carbon Briefing: Is there any hope for EU carbon trading?
- 01 Feb 2013, 14:00
- Mat Hope
Credit: Ell Brown
Europe's carbon price has dipped - again. It
currently costs major polluters in the European Union around €3.30
to emit a tonne of carbon dioxide - about the same price as
energy saving light bulb. This means
that emitters are currently releasing greenhouse gases that
contribute to climate change at very little cost.
The latest dip comes at the end of a bad month for
the carbon price - which dropped
below €5 for the first time last week.
And there was more bad news last night: Deutsche Bank has stopped trading in the EU Emissions Trading Scheme (EU ETS) -
further damaging the market's image. We look at what recent events
mean for the future of the troubled scheme.
The EU ETS's bumpy history
Companies buy and sell permits to emit carbon dioxide
under the EU ETS. If they emit less than their permits allow, they
can sell the excess for a profit. The scheme is meant to reward
those that cut their emissions, and it relies on a shortage of
The price of the permits has been in a steady decline
for a while now - as the graph below shows - but it has had
problems from the very beginning.
The EU ETS price from August 2012 to January
2013. Source: Bloomberg
One of the main problems is over-supply. There are
currently too many permits in the system which means that polluters
don't need to cut their emissions. This also means that the price
for the permits is low because supply is greater than demand.
One way the EU could deal with this is by intervening
in the market to remove some permits - known as backloading. The
European Parliament is currently considering a proposal that would
stop 900 million permits being released into the market -
preventing the equivalent of 900 million tonnes of carbon dioxide
being released into the atmosphere.
But it doesn't look good - last Thursday, a European
Parliament advisory committee recommended that parliament vote
against the plan. This sent the permit price tumbling to a
record low of €2.81. The price quickly
recovered to just under €5, but the crash shows how vulnerable the
EU ETS is to political uncertainty.
Some say the variation in price is what you get if
you decide to cut emissions using a market mechanism instead of
alternatives like a carbon tax.
Dr Cameron Hepburn of The London School
of Economics tells Carbon Brief:
"A risk of the way that the scheme is
designed is that you can get large movements in price either up or
down and the reason is that there were no soft or hard price
management mechanisms built into the design of the ETS."
This means that when the price drops too low to be
effective at cutting emissions, there is currently no way of
stopping it. Hepburn says one potential solution is to set a
reserve price below which the permits don't get released into the
system - preventing the price dropping too low and helping to fix
the issue of over-supply.
As it is, it's all about market confidence. The
advisory committee vote dented investors' confidence that the EU
would intervene to fix the market, and the Deutsche Bank
announcement yesterday may have led other market players to
reconsider their participation in the ETS.
It's not over yet, though - the current price dips
are just "preliminary skirmishes" before the bigger issue of market
reform is properly addressed, says Damian Morris from carbon
trading NGO Sandbag. He says the arguments over reform
will really "test the mettle of politicians" and their commitment
to the EU ETS.
Three important dates are coming up that could decide
the fate of the scheme in the long run. The European Parliament
environment committee are set to vote on 19 February on the
backloading plan that the advisory committee recommended rejecting
last week.The vote could be pivotal for the future of the EU ETS.
Konrad Handschmidt from market analysts Bloomberg New
Energy Finance tells Carbon Brief:
"If there is backloading in the way
they propose, which is 900 million permits, it moves the market
close to being balanced by the end of 2015".
This means the excess permits would re-enter the
system to be bought up, reducing the over-supply and lifting the
price. If the committee agrees to the plan then it will need to
guide it through a European Parliament vote set for 15 April.
Before that vote, the European Commission will
consider other expert proposals for ways to reform the EU ETS - for
which the deadline is 28 February. These could include suggestions
to cancel some allowances and adjust the EU's 2020 emissions target, both of which could
have a significant effect on how the market operates. The debate
about those proposals will be an important indicator of how
seriously the EU is taking market reform - and it could have a
knock-on effect on the permit price.
Low prices are bad for climate
The market reforms are important because "it's very
problematic for long term efforts to reduce climate change to have
low prices", Hepburn says. Polluters can keep contributing to the
problem of climate change without having to pay and have no
significant incentive to reduce their emissions if the price
remains at its current level.
So politicians in the EU need to make some smart
decisions on market reform if the EU ETS is going to work
effectively to address climate change. Either that, or they're
going to have to find an alternative.