EU Reaches Deal on Carbon Market Reform, Discusses Cooperation with California

16 November 2017

European Union negotiators clinched a deal on Thursday 9 November on the reform of its Emissions Trading System (ETS) for the post-2020 period. The agreement outlines various measures aimed at strengthening the bloc’s flagship climate policy instrument, while supporting innovation and modernisation in its power sector.

Negotiators were able to reach a provisional deal after overcoming a roadblock over performance standards for a new clean technology fund, concluding months of intense discussions among the European Parliament, the Council, and the Commission. The deal now needs formal endorsement from member states and the European Parliament.

“By putting in place the necessary legislation to strengthen the EU Emissions Trading System and deliver on our climate objectives, Europe is once again leading the way in the fight against climate change. This legislation will make the European carbon emissions market fit for purpose,” said EU Climate Action and Energy Commissioner Miguel Arias Cañete.

The agreement was reached as the international community gathered in Bonn, Germany, for the annual UN climate talks. Negotiators in the German city are aiming to make progress on a “rulebook” for implementing the 2015 Paris Agreement, a global accord aimed at curbing the worst impacts of global warming. (See Bridges Special Update, 5 November 2017)

The EU has committed to cutting greenhouse gas emissions by at least 40 percent compared to 1990 levels by 2030, with the ETS a key tool in this effort. They have submitted this commitment as part of their nationally determined contribution (NDC) under the Paris accord.

The EU’s cap-and-trade scheme allows companies whose emissions fall either below or above the annually decreasing emissions cap to trade carbon permits among themselves to drive cost-efficient emission reductions. However, amid over-allocation of carbon permits and decreasing economic activity, the world’s largest carbon market has suffered from a glut of carbon permits that has sent their price tumbling by almost 70 percent since early 2008 and prompted the European Commission to table a reform proposal in 2015.

Strengthening the EU ETS

Under the political agreement announced last week, the 12,000 installations covered by the ETS will have to slash their emissions by 43 percent by the year 2030 relative to 2005 levels. To bring about these cuts, the overall pollution cap on companies will decrease by 2.2 percent annually, compared to the 1.74 percent at present.

Negotiators also agreed to auction 57 percent of carbon permits, while 43 percent will be given to companies for free. While this represents no change from the present share, free allocation will be more strictly targeted to companies at higher risk of “carbon leakage,” a phenomenon whereby production moves to countries with less stringent emission regulations. For companies not at significant risk of carbon leakage, free allocation will drop to 30 percent before being fully phased out after 2026.

To deal with the glut of permits, the volume that will be placed in the Market Stability Reserve (MSR) will double to 24 percent of permits in circulation over a five-year period. The MSR was agreed to in 2015 to absorb excess permits from the market from 2019. Some allowances in the reserve will be invalidated from 2023 if they are above the level of permits sold at auctions in the preceding year. (See Bridges Weekly, 26 February 2015)

A compromise was ultimately reached on imposing stricter environmental criteria for accessing financial aid to upgrade power sectors in lower-income EU states. Support through a new “modernisation fund” will be restricted to installations with emissions below 450 grams per kilowatt hour, with a limited exception for district heating projects in the poorest EU states.

Heavily coal-dependent members like Poland had fought against this performance standard, blocking reform progress last month, as it would see coal-fired power plants banned from receiving aid. The fund will receive 310 million permits, with the option of increasing this by 75 million permits. (See Bridges Weekly, 26 October 2017)

Another “Innovation Fund,” consisting of 400 million permits, will be set up to finance investments in renewable energy, energy innovation, and carbon capture and storage. The number of permits may rise by another 50 million.

“The outcome significantly strengthens the ETS, maintains the environmental integrity of the system, and supports innovation and modernisation in the energy sector,” said Annikky Lamp, a spokeswoman for Estonia, current holder of the Council of the EU presidency.

Following the deal’s announcement, carbon prices rose by 3.3 percent to €7.98 per tonne. Some environmental groups, however, criticised the deal for lacking sufficient ambition.

“Today’s deal ignores the urgency to reduce emissions quickly and hands out billions in pollution subsidies, meaning that the EU carbon market will continue to fail at its task to spur green investments and phase out coal,” commented Femke de Jong, EU policy director at Carbon Market Watch.

EU, California discuss common carbon market

Shortly before the reform agreementwas reached, the EU and the US state of California announced their intention to ramp up cooperation on emissions trading.

EU Climate Commissioner Miguel Arias Cañete and California Governor Jerry Brown discussed potential collaboration between their carbon markets during meetings in Brussels, Belgium, on 7 November.  They also plan to examine the possibility of cooperating with other carbon pricing schemes, including the highly-anticipated Chinese carbon market, which would surpass the EU’s when enacted.

The leaders have also agreed to have their teams meet regularly to discuss different aspects relating to their respective carbon markets, according to a summary released afterward by the European Commission.

California, the most populous US state, has already linked its cap-and-trade programme with the Canadian provinces of Ontario and Québec. The coastal US state is also ranked as the world’s sixth largest economy, with its GDP beating out countries such as France and India, and confirmed earlier this year that it would be extending its cap-and-trade programme through 2030. (See Bridges Weekly, 3 August 2017 and 28 September 2017)

“I would hope that we could explore linking California and the European Union. We are already linked with Quebec. We are about to be joined by Ontario. Other states are also considering joining. That would be a concrete investment kind of move that California and other states and provinces could become a part of,” said Brown last week.

The California governor is one of many US sub-national actors, including fellow governors, mayors, philanthropists, civil society leaders, and private sector officials, which have promised to continue tackling climate change under the Paris accord, regardless of what the federal government decides.

During his visit to Europe, Brown also spoke about emissions trading during the UN climate talks in Bonn, serving as the COP23 Special Advisor for States and Regions and as a representative from the US Climate Alliance. He also participated in meetings on climate in Oslo, Norway; Stuttgart, Germany; and the Vatican. (See Bridges Weekly, 8 June 2017)

How a link between a party to the Paris Agreement and a state in a non-party country would work from a technical point of view remains unclear at this time.

California is also due to host a Global Climate Action summit next September in San Francisco, with the EU pledging to support that effort. That meeting is aimed at representatives from the private sector, civil society, and government – including at the sub-national level – with the goal of spurring greater climate action commitments.

Driving zero-carbon transport

Brown and Cañete also agreed to cooperate on developing zero-carbon transport, with the EU looking into following California’s lead on policies to encourage manufacturing of cleaner cars. The US state aims to add 1.5 million new zero-carbon vehicles to its roads by 2025.

The announcement came a day before the European Commission tabled its proposal to reduce carbon emissions in road transport and encourage a wider uptake of electric vehicles.

The move is intended to help reduce emissions in a non-ETS sector that is responsible for a quarter of Europe’s greenhouse gas emissions, while bolstering the competitiveness of EU car manufacturers who face growing pressure from China and the US.

The package aims to promote the production and purchase of clean vehicles, increase the availability of charging stations, and develop advanced car batteries.

Specifically, the proposal calls for average emissions for new cars to be 30 percent lower by 2030 than the 2021 target of 95 grams of carbon dioxide. Critics, however, had called for targets between 40 and 60 percent, as well as mandatory quotas for zero-emissions vehicles.

The proposal will still need to make its way through the EU legislative process before it can take effect.

ICTSD reporting; “Here’s What Europe’s Carbon-Market Overhaul Means for Businesses,” BLOOMBERG, 13 November 2017; “EU strikes deal on carbon market reform,” REUTERS, 9 November 2017; “EU and California to discuss linking carbon markets,” EURACTIV, 8 November 2017; “EU unveils proposal to clean up transport, boost electric vehicles,” EURACTIV, 8 November 2017; “California Passes France As World’s 6th-Largest Economy,” FORTUNE, 17 June 2017.

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