New round of carbon trading seeks to introduce scarcity to market

The EU has made modest cuts to caps in response to calls to reduce allowances in the next round of it Emissions Trading Scheme to avoid a collapse in the carbon market.

The ETS works by allocating carbon credits to energy companies and energy-intensive industries. Those which emit less carbon than the set limit can cash in their credits, while those which exceed it need to buy in more.

Credits can be bought from within the market or earned through paying for carbon offsetting, generally in the developing world, under schemes accredited by the UN-regulated Clean Development Mechanism (CDM).

Critics of the system say it failed to have a real impact in the first round as the limits were set too high meaning there was a ready supply of cheap credits and not much demand.

This meant there was little real incentive for companies to cut emissions.

So far ten of the states signed up to the ETS have had their national allocation plans (NAPs) for 2008-2012 considered by the EU, including big emitters Germany and the UK.

None of these countries have been granted the caps they requested and on average have been assigned 7% less credits than they proposed, which also means allocations are 7% below 2005 levels.

Tighter limits will also be set on the amount of credits which can be earned through offsetting, putting the onus on the EU to do more to cut carbon ‘in house’ rather than simply paying the developing world to do it.

Those who support the ETS as Europe’s flagship in the fight against climate change argue that the glut of credits in the first round was necessary to get the system established and we will start to see the benefits in 2008.

Opponents claim that nations are just playing a new version of the same game, bidding high in the knowledge their settlement will be reduced, with an end result of easy-to-meet targets.

The EU is, however, sticking to its guns saying that a 7% cut is significant progress and, across the ten states, amounts to a reduction of 46.86 million allowances per year.

Environment Commissioner Stavros Dimas said: “These decisions send a strong signal that Europe is fully committed to achieving the Kyoto target and making the EU ETS a success.

“The Commission has assessed the plans in a consistent way to ensure equal treatment of Member States and create the necessary scarcity in the European carbon market. The same standards will be applied to the rest of the plans.”

The UK’s Environment Secretary David Miliband was also upbeat about the settlement, as was Trade and Industry Secretary Alistair Darling.

“This decision by the European Commission represents good news for the environment and good news for Europe,” said Mr Miliband.

“Emissions trading is a key tool in the UK and across the EU to reduce carbon emissions and tackle climate change. The EU has a responsibility to ensure scarcity in the carbon market and a sustainable price of carbon. This decision shows a clear determination to achieve this.

Mr Darling said: “The Stern Review said you can have economic growth and at the same time tackle climate change. Taking action now on climate change makes economic sense and the EU ETS can deliver emissions reductions at low cost, minimising the economic impact.

“This is a good decision. It sends the signal that Europe is serious about tackling climate change, and gives the clear messages that business needs in making its investment decisions.”

Financial analysts whose trade is tied to the carbon markets appear to have breathed a collective sigh of relief at the EU’s announcement, taking the view that the union is being tougher than expected.

“This an exciting and important day not only for the world’s carbon market, but for everyone with any interest at all in global climate policy”, said Henrik Hasselknippe, manager of investment advisor Point Carbon’s ETS team.

“This sends a strong signal to the market not only on the overall level of allowances, but also how much of the reduction that will have to be carried out at home. The new methodology for setting CDM limits means that several countries will have to reduce the amount of imported credits for EU ETS,” Hasselknippe said.

Leading environmental NGOs such as Greenpeace and WWF have, however, said that more needs to be done to control how member states allocate the credits they are given, to ensure that heavily-polluting plants are not ‘rewarded’ with easy-to-meet caps.

“Tighter caps are essential for the credibility of European climate policy, but the rules for how emission allowances are given to individual plants are equally important. The National Allocation Plans must reflect the principle that those who pollute more have to pay more.

At the moment this is not the case”, said Delia Villagrasa, policy expert at WWF.

“Member States need to change their plans to reflect a sound allocation structure which will lead us to much deeper reductions for phase III, after 2012.”

Sam Bond

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