Will the proposed EU emissions trading scheme changes be a burden or a blessing? By Joep van Steen
The EU’s chemicals industry is facing relentless competition on a global scale. Additional pressure may come from the EU's emissions trading scheme (ETS) CO2 price driver, if carbon policy becomes more effective. But will that be a burden or a blessing for the EU chemical industry in a global interplay?
Stagnant output growth but confidence is improving
The EU chemical industry confidence indicator (CCI) has improved in recent months (April 2015 – May 2015). Despite the fact that oil prices have remained low, production expectations for the months ahead have contributed largely to this improved confidence. Significant EU chemicals output growth of 1.6% was witnessed in the first four months of 2015 compared to the last four months in 2014, and as such, the confidence of producers remains above the long-term average. This is strengthened by cautious but encouraging signs of ongoing EU economic recovery.
The key to improving competitiveness can be found in sustainable innovation and reduction of the industry’s carbon footprint. The EU ETS is – in theory – the most cost-effective way of reducing CO2 emissions, as emissions are reduced at companies at which it is cheapest to take emission reducing measures. The fluctuating CO2 prices in the past - combined with the low CO2 price - have resulted in little stimulus for investments in sustainable innovation in the industry.
Positive changes in CO2 policy making
This summer, the European Commission has for the first time set the outline for the coming trading period (2021-2030),1 which focuses on a more robust system. In our view, the new outline includes some positive changes to encourage sustainable innovation compared to the current EU ETS period:
1. Reduction factor will ensure emission reduction: For the period 2021-2030, the reduction factor will be increased to 2.2% per year (instead of 1.74%), resulting in a target CO2 reduction of 43% in 2030 compared with 2005. This is in line with the target of an 80% reduction by 2050 in order to limit global warming to 2⁰C.2 The sanction for not complying with this EU ETS legislation could result in a penalty of up to €100/ton of CO2. Therefore, the proposed emission reduction is very likely to be met.
2. Market Stability Reserve: A Market Stability Reserve (MSR) is initiated in the new outlines, by which CO2 rights can be put out of the market (and placed back on the market again when there is a shortage on emission rights). The MSR can release approximately 5% of annual emissions, and causes a more stable CO2 price on a higher level.3 The International Energy Agency (IEA) states that innovation is crucial for meeting CO2 reduction targets,4 and a more stable CO2 price increases the willingness to invest in sustainable innovation.
Improvement needed to secure level playing field
Besides the above mentioned positive changes, there is still work to be done in order to achieve an EU-wide level playing field.
3. Carbon leakage: The number of carbon leakage sectors is set to reduce from 150 to 50 sectors. However, the sectors which emit the most CO2 will stay on the carbon leakage list, resulting in >90% of emissions staying under the carbon leakage system. Sectors on the carbon leakage list get 100% of CO2 allowances of benchmark value; non carbon leakage sectors get just 30% of the benchmark (compared to 70% in the current EU ETS scheme). As the benchmark values do not cover all emissions of the carbon leakage companies, these companies also have to reduce their emissions or buy additional emission rights. The electricity sector does not get free emission rights and has to buy all emission rights at auctions or on the CO2 market. The question is whether this division in the allocation of emission rights results in a fair, level playing field of the European industrial sector, as the difference in allocation between carbon leakage and non carbon leakage sectors is set to increase under the proposed changes.
4. Governmental funding: In a number of EU member states, governmental funding is applied to renewable energy, including solar and wind power. The reason why funding is applied to renewable energy is probably driven by the EU 20-20-20 goals (in 2020, the target is a 20% CO2 reduction, 20% renewable energy and 20% energy efficiency increase.)5 This funding has led to an increase in renewable energy and a decrease in the use of fossil fuels for energy production. However, as the total amount of CO2 rights (cap) is not affected by this funding, the emission rights which are not used by the fossil fuel energy sector are still available to other industries. This has a downward effect on the CO2 price and does not result in lower CO2 emissions. If the overall goal is to reduce CO2 emissions to prevent climate change, the EU ETS, in our opinion, should be the only driver. By setting the cap sufficiently low, the desired CO2 reduction is met. The additional price on CO2 emissions will bring about increased investment in renewable energy and energy efficiency.
5. Administrative burden: The administration associated with complying with EU ETS legislation is rather complex for the industrial sector, particularly for small companies. Companies have to make and implement monitoring plans, make requests for CO2 emission rights and hand over verified emission reports to the associated authorities. For example in The Netherlands, 80% of EU ETS companies emit only 10% of the total Dutch EU ETS CO2 emissions6, meaning that the vast majority of the companies emit a relatively small amount of CO2. To increase the acceptance of the EU ETS, this administrative burden for smaller ETS companies needs to be minimised. The current outline of the European Commission does not show any initiative to achieve this.
It is essential that the above mentioned aspects are taken into account in the outline of the next trading period of the EU ETS (2021-2030). Otherwise no level playing field is obtained, resulting in less public support of the chemical industry and a less cost-effective way of reducing CO2 emissions. However, because of the changes already proposed, the CO2 price is likely to rise in the period after 2020.
Act now to strengthen sustainable innovation
As the CO2 price is likely to rise after 2020, in our opinion the chemical industry has to invest in sustainable innovation now to prepare for the future. The EU has set up the ETS system as a major instrument to reduce CO2 emissions – and it is going to stay. The EU ETS can certainly be a blessing in combating climate change, as it is a key tool for reducing industrial greenhouse gas emissions cost-effectively.
Therefore, steps towards sustainable innovation must be taken, as otherwise the EU ETS becomes a financial burden to the industry, potentially causing damage to the EU’s competitiveness in the long term. As an example, the German Ministry of Education and Research7 recently announced the production of synthetic diesel from air, water and green electrical energy. The fuel, produced at a demonstration plant in Dresden, does not contain any sulphur or fossil oil and therefore promises to be a big step forward in the emission saving potential for industries such as the automotive sector.
Joep van Steen is a Sustainable Industry Consultant at Royal HaskoningDHV.