The European Commission has launched a debate on options for structural reform of the EU emissions trading system (EU ETS) to address the growing surplus of emission allowances that is building up, largely as a result of the economic crisis.
The cap on emissions in phase two of the EU ETS (2008-2012) was some 6.5% lower than for phase one (2005-2007) and was considered ambitious when it was set. However the economic crisis has radically altered the picture and since 2009 the EU ETS has experienced a growing surplus of allowances and international credits compared to emissions which has significantly weakened the carbon price signal.
At the start of phase three the surplus stood at almost two billion allowances, double its level in early 2012. This increase was due to several factors: record use of international credits, auctioning of phase 2 allowances and remaining allowances in the new entrant reserve, early auctioning of phase 3 allowances, and sales of phase 3 allowances to generate funds for the NER300 programme.
While the rapid build-up is expected to end from 2014, it is not anticipated that the overall surplus will decline significantly during phase three. Potentially there will be a structural surplus in most of phase three of around 2 billion allowances. This risks undermining the orderly function of the carbon market. Moreover, if these imbalances are not addressed they will profoundly affect the ability of the EU ETS to meet more demanding emission reduction targets in future phases in a cost-effective manner.
The Commission therefore proposes action on two fronts.
As a short-term measure, the Commission has taken the initiative to postpone the auctioning of 900 million allowances from the years 2013-2015 until 2019-2020, when it is expected that demand will have picked up. This ‘back-loading’ of auctions would be done by amending the EU ETS Auctioning Regulation.
Back-loading does not reduce the overall number of allowances to be auctioned during phase three, only the distribution of auctions over the period. The proportionate impact assessment demonstrates that back-loading can rebalance supply and demand in the transition to phase three and reduce price volatility without any significant impacts on competitiveness. It can also strengthen government revenues early in phase three.
The amendment can be adopted by the Commission after approval by the EU Climate Change Committee and scrutiny by the European Parliament and Council. Before this can be done, however, the European Parliament and Council need to approve a proposed amendment to the ETS Directive which clarifies that the timing of auctions may be changed to ensure the orderly functioning of the carbon market.
A sustainable solution to the growing imbalance between supply and demand requires structural changes to the EU ETS. In its first report on the state of the European carbon market , published in November 2012, the Commission identified six options, any of which could potentially correct the surplus.
The six options are:
With the report the Commission has launched an active debate on lasting solutions to the surplus.
A formal stakeholder consultation ran from December 2012 until the end of February 2013; see all contributions. The Commission has also organised two consultation meetings, a first one in March and a second one in April 2013, which each focus on three of the options identified. The second consultation meeting also looked at possible additional options supported by several stakeholders in the online consultation.
Any Commission proposal put forward in the light of the debate and consultation would have to go through the normal legislative process and undergo a full assessment of its impacts.