Commission should move to structural reform of the ETS
The EU regularly describes the ETS as the centrepiece of its climate policy. This centrepiece is currently a failure. Climate change is already killing hundreds of thousands of people each year, and costing the global economy hundreds of billions of dollars. Yet European efforts to strengthen the ETS are moving at a snail’s pace.
Last month the European Parliament rejected Commission proposals to postpone the auction of carbon allowances under the Emissions Trading System (ETS). The Commission had proposed this in an attempt to stop the carbon price falling even further, but Parliament’s rejection of such ‘backloading’ means that the carbon price is now down to about €3 per tonne. This is far too low to encourage firms to invest in low-carbon technologies.
In June 2012 I argued in a CER policy brief 'Saving emissions trading from irrelevance' that withdrawing allowances from the market - which could be done either temporarily, as the Commission proposed, or permanently - was necessary to prevent the ETS becoming irrelevant. I assumed that allowance withdrawal was the approach that had the best chance of being agreed quickly. Nearly a year later, allowance withdrawal has still not been agreed. A second vote in Parliament is scheduled for early July. MEPs ought to pass the Commission proposal.
However, allowance withdrawal will not be enough to rescue the ETS. It needs to be combined with structural reform. I argued last year that the EU should also set an ETS price floor, to provide price stability and make the carbon price high enough to attract investment to low-carbon options. I concluded that the Commission should make these proposals as soon as possible.
In November 2012 the Commission did suggest structural reform. In its report ‘The state of the European carbon market in 2012’ it wrote: “A carbon price floor would create more certainty about the minimum price, giving a better signal for investors.” But it went on to repeat long-standing objections to price intervention. Price-based mechanisms would “alter the very nature of the current EU ETS being a quantity-based market instrument. They require governance arrangements, including a process to decide on the level of the price floor”.
A price floor would indeed alter the nature of the ETS. It would turn the ETS from a quantity-based instrument into a price-based instrument. But it would also turn the ETS from an irrelevant instrument into an effective one. The Commission’s concerns about governance (with their implicit worries about political interference) are greatly overstated. Governance arrangements already exist to decide the quantity of allowances. Similar arrangements could be created to decide the price level.
On 7th May 2013 nine energy and environment ministers, from Germany, France, the Netherlands, Sweden, Denmark, Portugal, Finland, Slovenia and the UK, signed a statement urging the European Parliament to support the postponement of auctions and the Commission to “bring forward, by the end of the year at the latest, proposals to perform a proper structural reform of the EU ETS”. This statement is welcome. But the Commission should not wait until the end of the year before making its structural reform proposals. The backloading proposal was only ever a small first step. The Commission should not be distracted by continuing exchanges with Parliament on allowance withdrawal from the much more important task of proposing structural reforms.
Germany’s Peter Altmaier, environment minister, signed the statement. However, this does not mean that the German government is fully behind either backloading or ETS structural reform. Different lines have been taken by the German economic and environmental ministries. Chancellor Angela Merkel has spoken of the need for reform of the ETS, but is yet to take a clear position on what that reform should be. She probably will not do so before the federal elections in September.
The UK House of Lords European Union Committee issued a report on 2nd May calling for an ETS price floor. The Committee argues that this “would simultaneously increase investor confidence and help to stabilise possible financing for infrastructure, low carbon innovation and related applications.” The UK government has introduced its own ETS floor price, which may attract low-carbon investment to the UK but will not help the global climate, because fewer allowances bought in the UK will lead to more allowances being available elsewhere. And the UK government has said in the past that it opposes a Europe-wide price floor because it vehemently opposes EU involvement in revenue raising.
This is not a sensible position for any government to take. EU measures are not imposed by ‘Brussels bureaucrats’ – despite what parts of the British media like to claim – but negotiated by European institutions, including national governments in the Council.
National governments’ desire for extra revenue may actually help the ETS reform process. A €30 carbon price, rather than the current €3, would increase tenfold the amount of revenue that governments receive from the auctioning of emissions allowances. Many European governments badly need extra revenue. Even the German government needs more money in order to pay for its Energiewende.
So the Commission should be ambitious and press ahead with structural reform proposals, including a price floor. The ETS was a creditable experiment. But the experiment has not worked. The ETS must be transformed or abolished. Otherwise it is just a fig leaf, hiding Europe’s tardiness on climate change.
Stephen Tindale is an associate fellow at the Centre for European Reform.