CEPS policy paper March 21, 2016 Andrei Marcu & Milan Elkerbout - - PowerPoint PPT Presentation

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CEPS policy paper March 21, 2016 Andrei Marcu & Milan Elkerbout - - PowerPoint PPT Presentation

Sep 23, 2022 156 likes •426 views

EU ETS Phase 4 revision: CEPS policy paper March 21, 2016 Andrei Marcu & Milan Elkerbout 3/21/2016 Centre for European Policy Studies (CEPS) Place du Congrs 1, 1000 Brussels, Belgium www.ceps.eu 1 Background Phase 4 revision

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SLIDE 1

EU ETS Phase 4 revision: CEPS policy paper

March 21, 2016

3/21/2016 1 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Andrei Marcu & Milan Elkerbout

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SLIDE 2
  • Phase 4 revision as the capping stone of a long reform process
  • Backloading; Market Stability Reserve

 addressing price?

  • Phase 4 revision

 addressing cost?

  • Next step: MSR review in 2022?
  • Needs to confirm (or re-establish?) EU ETS as the central pillar of

EU climate policy

  • Be the main driver of GHG emission reductions
  • Ensure cost-efficiency both in short and long run
  • Support innovation that is necessary to reach long-term goals

2 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Background

3/21/2016

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SLIDE 3

The current revision talks take place in a different environment compared to when the EC proposal was released in July 2015

  • Paris Agreement adopted
  • Higher long-term ambition than the pathways which led to the 2030

Framework

  • 5-yr review cycles – which will lead to updated commitments over

time both for the EU and for other countries

  • High volatility in EU carbon market
  • Multi-year ascend in the run-up to Paris came to abrupt end in early

2016, with EUA prices dropping below 5 EUR; back to 2013 levels

  • In April: ETS emission data for 2015 to be released; some indication

that ETS emission may have increased YoY

3 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Background

3/21/2016

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SLIDE 4

The Paris Agreement formulates a new long-term goal: “Holding the increase in the global average temperature to well below 2 °C above pre-industrial levels and to pursue efforts to limit the temperature increase to 1.5 °C” [Art 2(1a)]

  • “Well below 2C” and “Pursue efforts [for] 1.5C” are new elements

that go beyond the long term goals on which the 2050 Roadmap, 2030 Framework Communication as well as the 2014 EUCO Conclusions and the EC’s ETS proposal are predicated.

  • Overall EU ambition set by EUCO – MS in the Council have

divergent views on what needs to happen with the EU’s ‘at least - 40%’ goal by 2030

  • EUCO requires unanimity
  • EU ETS revision requires co-decision and QMV  changes to LRF?

4 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Impact of the Paris Agreement

3/21/2016

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SLIDE 5

Other key elements of the Paris Agreement

  • “[…] achieve a balance between anthropogenic emissions by

sources and removals by sinks of greenhouse gases in the second half of this century” [Art 4(1)] Implies that attention to carbon sinks will be required

  • Art 6 of P.A. – Sustainable Development Mechanism
  • Introduces an option for international carbon markets
  • EU 2030 ambition currently wholly domestic
  • International credits could make increased ambition more attractive

5 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Impact of the Paris Agreement

3/21/2016

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SLIDE 6
  • 1. Provide a LRF that would re-assure stakeholders that the EU ETS is providing all

the necessary contribution to reach its decarbonisation goal for 2050

  • 2. Revisit the provisions for addressing the risk of carbon leakage in light of

decreasing overall allocation – make sure that there is enough free allocation for those that truly need it, by identifying those that need less, or are not truly at risk.

  • 3. Ensure flexibility on the supply for free allocation
  • 4. Provide additional tools to complement the EU ETS, as needed. This is

especially true to make the whole EU ETS complex forward looking. In this respect special care and attention should be given to provisions that would encourage and catalyse innovation.

  • 5. Does it provide an effective and credible contribution to the implementation of

the EU’s new obligations and commitments under the Paris Agreement?

6 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

When is the EU ETS ‘fit for purpose’?

3/21/2016

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SLIDE 7
  • The LRF will drive the ambition of the EU ETS – the proposed value of 2.2 would

lower the cap annually by 48 million allowances (up from 38 million under the current LRF)

  • Having a LRF based on a fixed quantity by which the cap is lowered every year

indeed leads to a constant, gradual decrease in allowances available, but it also implies that the effort required will increase relatively speaking as time moves

  • n
  • A LRF of 2.2 is not consistent with the EU’s long-term ambition
  • 2.2 LRF does not lead to the 90% emission reductions (compared to 2005) in ETS sectors by 2050

that is consistent with a pathway to -80% by 2050 [as noted in the ETS proposal I.A.]

  • 2.2 LRF scenario presumed lower targets for RE/EE when it was analysed for the 2030 Framework
  • This is notwithstanding the outcome of Paris

7 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Linear Reduction Factor

3/21/2016

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SLIDE 8

Governance of the LRF

  • Currently the LRF value is explicitly included in an Article in the main ETS

Directive

  • 2.2 LRF directly taken from EUCO Conclusions
  • Any value of the LRF should take into account the targets for RE and EE
  • Overlapping policies: extra reductions triggered by more RE or EE would be undone if the cap is

not adjusted commensurately

  • Is it optimal to require co-decision to make changes to the LRF, or should there

be some kind of delegated act procedure applicable?

  • Paris Agreement review cycles create the possibility that there will be pressure

to increase ambition mid-trading period.

  • Given how a LRF increases the relative required effort over time, it may be

considered not to wait until after 2030 to increase it as by then, as the current EUA surplus may serve as a ‘cushion’ which may not exist in the future

8 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Linear Reduction Factor

3/21/2016

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SLIDE 9

Market balance (Mt) under different LRF scenarios

200 400 600 800 1000 1200 1400 1600 1800 2000 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030

Carbon market balance (Mt)

Linear reduction factor (LRF) 2.2% LRF 2.5% LRF 2.75%

Source: Thomson Reuters

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SLIDE 10

Nominal EUA prices (€/t) under different LRF scenarios

5 10 15 20 25 30 35 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030

EUA price (€/t)

Linear reduction factor (LRF) 2.2% LRF 2.5%

Source: Thomson Reuters

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SLIDE 11

The EC’s proposal states:

“From 2021 onwards, the share of allowances to be auctioned by Member States shall be 57%”

The EUCO Conclusions state:

“…without reducing the share of allowances to be auctioned”

  • How much for free allocation?
  • Funds still need to be subtracted (NER, Innovation Fund)
  • What happens to ‘unused’ allowances if free allocation quantities are

lower than expected?

  • Wording “shall be at least 57%” could have been considered
  • Alternatively: fixing free allocation share at X%, while allowing

carry-over of such earmarked allowances to subsequent trading periods

11 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Auctioning Share

3/21/2016

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SLIDE 12

The quantity of free allowances an installation will receive from one year to the next depends on 3 elements:

  • Benchmark provisions
  • Carbon leakage criteria
  • Production/activity level rules
  • These elements interact with each other, and will need to

be considered in unison: significant changes to one set of provisions may relieve the need to

12 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Free allocation

3/21/2016

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SLIDE 13
  • Flat-rate reductions imply that all sectors will receive fewer free allowances due

to the benchmark updates

  • Standard annual flat-rate of 1%, but 0.5% or 1.5% also possible
  • Some sectoral differentiation
  • Minimum of 10%
  • Maximum of 30%
  • Annual flat-rate reduction also have as a consequence that it reduces the impact
  • f a potential Cross-sectoral Correction Factor (CSCF) as the BM-reductions

simply achieve a similar effect

  • Using flat-rates instead of updating all benchmarks clearly prioritizes

administrative simplicity over accuracy

  • Fallback approaches to benchmarks should be avoided as much as possible 

more product benchmarks

  • Investment and technology cycles may differ considerably across sectors; the

proposed system only allows for limited differentiation to account for this

13 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Free allocation: benchmarks

3/21/2016

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SLIDE 14
  • New combined criteria of trade intensity and

emission intensity

  • Cuts down on # of sectors (about 50)
  • Does not cut down substantially share of emissions

covered

  • Criteria used are proxies for carbon leakage risk but

not perfect

  • Ignores pass-through rates

14 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Free allocation: carbon leakage criteria

3/21/2016

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SLIDE 15
  • Binary system remains: only two carbon leakage groups
  • Continued free allocation (30%) for those sectors not at risk of

carbon leakage

  • Even if it only concerns a small share of industrial emissions, why give

free allowances to those not at risk?

  • Phase 3 rules would phase out F.A. to non-CL sectors by 2027
  • Free allocation is not focused with the binary system –

there is no differentiation for risk

  • Free allocation is dominated by only a few sectors:
  • Steel; Refineries; Cement receive over 55% of F.A.
  • The asymmetry of climate change policies should

continued to be monitored when deciding on CL provisions  EC proposal removes such a provision

15 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Free allocation: carbon leakage criteria

3/21/2016

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SLIDE 16

16 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Free allocation: sectoral shares

3/21/2016

Steel: +/- 27% Cement: +/- 15% Refineries: +/- 15%

  • 3 sectors = +/- 57% of

total free allocation

  • These sectors cannot

all end up in the same carbon leakage group; if you want to focus free allocation

Source: IA p. 36

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SLIDE 17

Tiered free allocation

  • Introducing more than two carbon leakage groups (or tiers) has been

discussed as an option to allow for differentiation according to risk

  • What are the design elements of tiered free allocation:
  • How many tiers?
  • Which thresholds for demarcation?
  • How much to compensate each tier (CLEF)?
  • Which base period & how frequently updated?
  • Some considerations:
  • Uncertainty on where sectors would end up – will be determined by the trade and

emission intensities in the base period chosen

  • Fewer tiers: demarcation values more important, high impact if a sector with a lot of

F.A. moves between tiers

  • More tiers: more complexity, but more gradual impact if sectors move between tiers,

as the difference between CLEFs can be made smaller

17 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Free allocation: carbon leakage criteria

3/21/2016

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SLIDE 18

18 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Different base years: using CL list 1 data

3/21/2016

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SLIDE 19
  • The proposal creates 5-year periods of free allocation, for

which the production levels (but also the benchmark reductions) will be updated

  • 1st period: 2021 – 2025 (Prod. Lvls 2013-2017)
  • 2nd period: 2026 – 2030 (Prod. Lvls 2018-2022)
  • More frequent updates to production levels can be crucial to

avoid overallocation, but lags remain as levels as old as 8 years will be used

  • No output-based allocation, but the system can be made

more dynamic if a low threshold is chosen for triggering adjustments due to production decreases & increases

19 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Free allocation: production levels

3/21/2016

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SLIDE 20
  • The proposal creates 5-year periods of free allocation, for

which the production levels (but also the benchmark reductions) will be updated

  • 1st period: 2021 – 2025 (Prod. Lvls 2013-2017)
  • 2nd period: 2026 – 2030 (Prod. Lvls 2018-2022)
  • More frequent updates to production levels can be crucial to

avoid overallocation, but lags remain as levels as old as 8 years will be used

  • No output-based allocation, but the system can be made

more dynamic if a low threshold is chosen for triggering adjustments due to production decreases & increases

20 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Free allocation: production levels

3/21/2016

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SLIDE 21
  • EC proposal: Member States “should” compensate indirect carbon

costs

  • “Should”, while stronger wording than “may” is still not legally

binding

 no harmonized approach for indirect carbon costs MS discretion remains

  • Potential perverse incentives if firms opt for a more emission

intensive process because of the more generous compensation through free allocation

  • State Aid guidelines for indirect carbon cost compensation also

treat this as ‘operating aid’, which needs to be tapered over time

  • Harmonisation could be done through EU funds, or by

granting free allowances

21 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Indirect carbon costs

3/21/2016

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SLIDE 22
  • Allowances from the NER will be available for covering

production increases, not just capacity increases  critical element to make allocation less rigid, more dynamic

  • Where do the allowances come from?
  • 250 million to come from MSR
  • 145 million from unused Phase 3 allowances

 implies some shift from P3 EUAs to P4

  • P4 NER (about 400 M) smaller than the P3 NER (about 480

M); while P4 is also longer

  • NER not depleted during P3 however

22 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

New Entrants Reserve

3/21/2016

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SLIDE 23
  • Innovation Fund important forward-looking element of

EU ETS; ETS price signal as such is not very successful at directly triggering innovation

  • By creating the Innovation Fund by polling EUAs, the

success and potency of the Innovation Fund is inextricably linked to the EUA price

  • The NER300 resulted in a large variety of projects, both

big and small – low EUA prices would in any case lead to far fewer projects

  • CCS projects not successfully launched under NER
  • Enhanced scope for industrial projects requires an even

larger pool of funding if the Innovation Fund is to make a difference

23 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Innovation Fund

3/21/2016

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SLIDE 24
  • MSR intended to systematically address surpluses
  • Parameters rather soft
  • ‘Target bandwidth’ not expected to be reached before

after the middle of Phase 4

  • EC’s ETS proposal suggest that EUAs be moved from

the MSR for use in various funds

  • Earlier return to market of these EUAs; makes the MSR’s

work (to create scarcity) harder

  • Permanently moving EUA from MSR entails loss of

auctioning revenue for MS

24 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Market impact

3/21/2016

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SLIDE 25
  • EU ETS implementation highly complex, which may be a burden

for small emitters in particular

  • Small installation may be exempted at MS discretion; but many

small installations are owned by bigger firms  no compulsory exemptions always appropriate

  • Some trade-off between administrative simplicity and accuracy
  • What options:
  • Reduce reporting obligation for SMEs
  • Production increases versus capacity extension
  • Rules on capacity extension particularly complex, but if in P4 free allocation

may be adjusted anyway for production increases, why not only focus on these levels, irrespective of capacity?

  • More product benchmarks: may help avoid complex situations with

various fallback benchmarks and sub-installations

  • Transparency: publish emissions on basis of NACE4, to allow for

better comparability and transparency of carbon leakage rules

25 Centre for European Policy Studies (CEPS) • Place du Congrès 1, 1000 Brussels, Belgium www.ceps.eu

Simplification & Transparency

3/21/2016