EU ETS: Long-term climate protection targets for European industry

In order to keep the increase in global mean temperature to below 2˚Celsius and to avert the harmful consequences of climate change, industrialised countries must reduce their greenhouse gas (GHG) emissions to nearly zero by 2050. Emissions trading is an instrument used to meet these long-term climate targets and was introduced in the European Union on 1 January 2005 for all member states.

The cap and trade principle

Power utilities and industrial plants are accorded a “pollutant budget”, which fixes an absolute limit or “cap” for their greenhouse gas emissions. This cap sets how much climate-damaging carbon dioxide they are allowed to emit. In order to provide an incentive to reduce emissions, this cap is set lower than emissions levels.

In order that the emission cap is not exceeded, the plant operators can technically improve their plants so that the associated CO2 emissions fall. Or they increase their emission cap by purchasing additional emission allowances. In turn operators can sell superfluous emission allowances, should they emit less CO2 than permitted by the emission rights which they received (trade).

Oeko-Institut advises on auctioning, benchmarks, emission targets

From 2013 member states will auction the emission allowances to plants of the energy industry, the total amount of which will decrease each year.

The legal basis for this is the revised Emissions Trading Directive 2009/29/EC. After wide-ranging discussions in 2008, it was passed by the European Council and the European Parliament. In this directive the total amount of emission allowances fall year for year up to and beyond 2020.

Oeko-Institut advises the German government, the EU Commission, companies and environmental associations in the specific improvement and further development of this climate protection instrument. Researchers at Oeko-Institut have been and are still extensively involved in the introduction and further development of the EU ETS.

Oeko-Institut’s current research and consultancy in this area:

• From 2013 a large share of the emission allowances will be auctioned. In particular electricity producers will no longer receive allowances allocated for free any more. Oeko-Institut is providing consultancy regarding the specific design of the auctioning process.
• Utility companies will only receive 100 percent free allocation of emission rights when there is a risk that they will otherwise suffer negative competitive effects. This free allocation aims at preventing companies moving their production abroad. Oeko-Institut has supported the EU Commission, amongst others, in determining which plants should still receive all emission allowances free of charge.
• From 2013 utilities will only receive free allocation of emission allowances according to ambitious emission reduction levels (product benchmarks). In this way the amount of free allocation is commensurate with the emission levels of an efficient power plant. Inefficient plants will have to purchase emission allowances on the market. Oeko-Institut is advising the EU Commission and the German government on how to design these benchmarks in such a way that incentives for reducing emissions are created.
• So far the EU has decided to reduce its GHG emissions by 20 percent up to 2020 compared to 1990 levels. If countries outside the EU likewise commit to reducing their emissions within the framework of a follow-up agreement to the Kyoto Protocol, the EU is planning to commit to a 30 percent reduction of their emissions compared to 1990. Oeko-Institut is making suggestions for ways in which and the extent to which economic sectors would have to reduce their emissions to meet this target.

Advantages of emissions trading

The EU ETS can function as a model for the introduction of similar schemes in other OECD countries and represents an important milestone in international climate policy. The benefits of such a scheme are clear:

• It can effectively cap the emission of damaging greenhouse gases.
• It creates a consistent CO2 price signal, with the effect that the further development of emission reduction technologies that are already on the market is incentivised.
• It could provide a fruitful opportunity for the globalisation of climate policy if different schemes are linked together.

Opportunities for improvement

In the design of the EU ETS there are, however, significant limitations: An emissions trading scheme cannot generate long-term carbon scarcity signals for a variety of reasons (e.g. opportunities for revising laws and agreements in democratic structures, operational realities, etc.).

Furthermore, there are only limited incentives for radical innovations in the EU ETS. Thus additional, complementary instruments for reducing GHG emissions need to be deployed (e.g. funding research, early market introduction programmes for renewable energies, CCS, etc.). Oeko-Institut is also concentrating on these instruments, analysing and exploring their potentials.