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EU ETS Review

01 November 2009

In December 2008 EU Member States and the European Parliament agreed what the EU Emissions Trading Scheme (ETS) will look like from 2013.

The reviewed EU ETS sets the rules for the third phase of the scheme from 2013-2020, progressively capping industrial emissions from the power and manufacturing sectors up to -21% (based on 2005 emissions) by the end of the period. This amount represents 2/3 of the reduction effort for the EU’s obligation for unilateral -20% emissions reduction below 1990 levels by 2020.

EU wide cap-setting and allocation rules

An important improvement in the EU ETS is the fact that the cap is now set at EU level and not through the allocation plans of Member States. The rules for allocating/auctioning allowances are also set at EU level. This is a major and structural improvement, giving the EU ETS more transparency and international credibility.

Allocation of allowances for the power sector
The power sector in most countries will be subject to 100% auctioning from 2013. Separate treatment is foreseen for some CEE countries (based on a formula), where the power sector will be subject to buy 30% of its permits in auction from 2013, and 100% by 2020. Those countries however have to apply for such opt-out from 100% auctioning for the power sector. It is not certain whether all of the potential candidates will apply for such opt out.

Allocation of allowances for the manufacturing sector
The general rule (for sectors NOT deemed to be exposed to serious risk of ‘carbon leakage’, ie relocation outside of the EU) establishes 20% auctioning from 2013, rising to 70% by 2020, with a view to rising to 100% by 2027.

Allocation for sectors at risk of ‘carbon leakage’ (relocation outside EU)
Criteria, establishing the carbon leakage thresholds, imply that a significant majority of the manufacturing sector’s emissions will be defined as at risk of carbon leakage, and will get 100% free allocation at the level of a benchmark of the best available technology for these sectors. These benchmarks, however, can be quite ambitious (average efficiency of 10% best EU performers), which means that the allocation for many installations will be well below current emission levels.

At the latest by 31 December 2009 the list of sectors and sub-sectors exposed to carbon leakage will be determined by the Commission after discussion at the Council. Not later than 30 June 2010 the Commission will submit a report to the Parliament and the Council assessing the carbon leakage implications of the international agreement. At this point proposals can be made to adjust the levels of free allowances (up or down).

Distribution of allowances to be auctioned
In total, 12% of allowances to be auctioned will be set aside for CEE member states in the interests of “solidarity and growth” and in recognition of the reductions achieved by those countries between 1990 and 2005 (‘hot air’).

Use of auctioning revenues
There is no good estimate at this time how much of the total allowances will be auctioned. A rough guess is that it will be a bit more than 50% of the total amount of allowances, but this depends on the specific allocation of the total cap to the power sector.

There is a non-binding suggestion that Member States should use at least 50% of auction revenues to invest in activities related to climate change, including contributions to the Adaptation Fund, REDD and CCS and other technologies.

CCS and Renewables
300 million emission allowances will be set aside, from the reserve for new entrants, to fund up to 12 CCS demonstration projects and innovative renewables spread across the EU.

CDM
Any existing credits from phase 2 of the ETS can be carried over to meet reduction targets under phase 3 plus additional credits (around 200 Mt bringing total at around 1600Mt) amounting to a maximum of 55% of the reduction effort in phase 2 and 3 together (2008-2020).

However, there is a provision in the legislation which states that the limit on the use of off-sets is no more than 50% of the reductions compared to 2005. Measures will be proposed to that regard. This is the first time a party to the Kyoto protocol specifies, in a legal text, the upper limit of off-setting. This is, hence, the first legal implementation of the supplementary principle under the Kyoto protocol and Marrakech agreements.

The amount of off-setting in phase 3 (2013-2020) will be determined by the quantity of external credits banked between phase 2 and 3. This amount can be high due to expected lower emissions in the next years as a consequence of economic downturn. In principle the same type of credits allowed in phase 2 can be used in phase 3 (no nuclear, sinks). As from 2013 there might be new criteria restricting the use of certain credits from specific project types (most likely depending on the outcome of Copenhagen). Those criteria will be adopted through a comitology procedure.