IN-DEPTH: State-of-the-art of EU ETS post-2020 revision talks

On June 27, the European Union (EU) Council, Parliament, and Commission met for trialogues that focused on discussing the revision of the EU Emissions Trading System (ETS) for the period after 2020. The next trialogue is projected to take place around July 10, and more technical meetings are to follow in order to finalise revision plans. The three themes at the centre of the trialogues are the “strengthening [of] the EU ETS”, the implementation of “new funding sources for energy market innovation and modernisation”, and the avoidance of “the need for unpredictable future cutbacks to free allocation of carbon allowances for Europe’s trade-exposed industries”.

The legislative process around the EU ETS has been intense in the past few years, marked by continuous criticism, debate, and revision. The Commission proposed the first legislative draft for the post-2020 period in 2015, starting a process that resulted in EU parliament ratification in February 2017, after a phase of tense negotiations. EU lawmakers have since been criticised for having watered down previous reform proposals, and for having “missed out on an opportunity to strengthen the polluter pays principle”. Now, after having adopted their individual positions on the EU ETS revision earlier this year, the three EU entities are holding trialogues to reach an agreement.

The ETS is a core element of EU climate change policy and the central instrument to reduce greenhouse gas emissions cost-effectively. It is also the world’s biggest carbon market. The system works on a “cap-and-trade principle”. One the one hand, a cap is set on total greenhouse gas emissions of system-internal installations in the 31-country zone (EU plus Liechtenstein, Norway, and Iceland); this cap is reduced over time, according to the so-called linear reduction factor (LRF). On the other hand, entities receive free allocations and trade emissions through auctions within the system. This mechanism aims to keep prices for carbon allowances high and thus achieve a gradual decarbonisation of the EU economy. The ETS covers around 11,000 carbon-intensive installations and about 45 percent of the EU’s greenhouse gas emissions.

The main goal of the ETS is to cut system-internal greenhouse gas emissions by 43 percent by 2030, relative to 2005 levels. According to the latest studies, however, the ETS is falling short of achieving its major goals. In the past years, the mechanism has been affected by a supply excess of pollution permits as well as a decrease in demand for carbon allowances, resulting in a depression of prices. Allowances prices have followed a downward path from €30/ton in 2008 to below €5/ton in 2016. The political pressure to find agreement on the much needed reform of  the system is high due to the EU’s compliance with the nationally determined contributions (NDCs) under the Paris agreement, strongly relying on a healthy ETS. The pressure is increased even more through the approaching of the COP23 climate talks hosted by Fiji in Bonn, Germany, this November.

ETS Solutions?

The climate policy think tank Sandbag has published analyses and proposals concerning the ETS revision plan. In a 2016 report, Sandbag suggested setting the ETS cap at the actual level of system-internal greenhouse gas emissions rather than at the projected level that was set at the implementation of the system a decade ago. The report shows that 2015 emission levels were already below the cap level for 2020, and estimates that 2020 levels would be over 10 percent below the projected cap. It thus argues that the ETS foundation of projected emission levels “fails to reflect current realities”. A further 2016 report assessed the amount of unneeded allowances within the ETS scheme by 2030 at around 3.5 to 5 billion, further emphasising the need for a recalculation of emission levels to avoid a continuous weakening of carbon price.

Carbon Market Watch has also released an analysis of the problems of the current ETS, publishing a policy brief summarising their solution proposals. Calling for “removing favouritism and discrimination from the EU’s carbon market”, they advocate the following central adjustments: “increasing the LRF from 2.2% to 4.2% from 2021 onwards”; “divide the costs of the low-carbon transition more equally between citizens and industry, by limiting the amount of free allowances to industry”; “up-skill workers for the low-carbon transition through a new Just Transition Fund to be financed from auctioning revenues”; “remove discrimination between the industry and power sectors by eliminating unjust overcompensation to the steel sector”; “tailor carbon leakage approaches according to evidence of observed risks in industrial sectors”; and “auction all allowances in the future and thereby increase the revenues for low-carbon innovations”.

Local Solutions?

Amidst ETS critique and revision discussions, more localised solutions are cropping up as alternative political approaches to achieve emission reductions. One example is the carbon price floor introduced by the United Kingdom (UK) in 2013. The price floor works by setting a surcharge on the market price under the ETS carbon allowance price, currently at 18£/tonne in the period from 2016 until 2020. The effect of the UK carbon floor has been significant, according to EU policy director for Carbon Market Watch Femke de Jong. She considers it to having contributed to UK coal emissions falling by almost 60 percent in 2016. As a consequence, other countries and alliances are contemplating similar approaches. For instance, proposals for a regional carbon price floor have been directed towards the governments of the Nordic countries (Finland, Norway, Sweden, Denmark, and Iceland) and the Nordic Council, presented as a complement to the ETS.

Private Sector Solutions?

The private sector has come forward with alternatives and additions to the ETS as well. One of such proposals has manifested in the Make Power Clean initiative launched by thirteen EU’s energy industry leaders, thus ETS-internal entities, including such companies as Eni, Shell, and Siemens. One of the initiative’s aims is to cut subsidies for polluting power plants by implementing a carbon criterion as a complement to the ETS allowance scheme. Set at 550g CO2/kWh, the carbon criterion would put a condition on the eligibility for system-internal capacity mechanisms, thus counteracting the risk of rewarding pollution-intensive plants. The initiative’s main aim is to refocus policy on the need to integrate clean energy perspectives into EU decarbonisation debates rather than focusing solely on relevant emission level amounts. The initiative argues that the carbon criterion is therefore an effective addition to the ETS.

 

(Image: European flags in front of the Berlaymont building, headquarter of the European Commission, Brussels, Belgium. Photo credit: TPCOM/Flickr)