Energy Efficiency & Climate Change Law

The European Union announced today that carbon emissions under its Emissions Trading Scheme (EU ETS) — a mandatory private entity, market-based trading program through which EU member states reduce their carbon dioxide emissions while attempting to minimize adverse effects on economic development and employment – fell by about 11.2 percent in 2009; thus resulting in a higher supply of carbon permits on the $140 billion EU ETS market.  

Because an increase in the supply of permits will likely further reduce the already low cost of compliance for businesses covered under the carbon trading program, this data suggests that the EU ETS is falling short of its aim to encourage major polluters of greenhouse gases (GHGs) to reduce their emissions through financial pressure.  At current prices of less than €13 ($17.60) per tonne, the cost of carbon is far too low to result in a significant change in the way companies generate and use energy.  

Also, since companies can "bank" carbon permits into the future, the surpluses from 2009 will adversely impact the price of EU ETS carbon permits in the long-term since these inventories will make it easier for businesses to offset future emissions once the economy recovers.  This results in a windfall for certain companies.  For example, Lafarge, a European cement company, earned €142 million ($192.7 million) by selling extra permits in 2009, nearly twice as much as it earned from selling permits in the previous year.  

Similarly, the iron and steel industries, which posted the largest declines in emissions, enjoyed a surplus of 84.6 million carbon permits last year.  As a whole, the industrial sector covered by the EU ETS saw emissions decline by about 23 percent, leaving it with 180 million excess permits worth about €2.3 billion ($3.1 billion).

Light At the End of the Tunnel

Despite the current surplus in carbon permits, prices will likely rise in the future to levels that would encourage companies to reduce their own GHGs and shift investment to low-carbon technologies.  First, later this decade (perhaps at the beginning of Phase 3 of the EU ETS, which begins January 2013), EU leaders should be expected to reduce the level of carbon permits made available to industries that benefitted from 2009′s 11.2 percent reduction in carbon emissions and, thus, correcting the €2.3 billion windfall in the long term.  Also, the cost of carbon permits will likely rise as emissions increase in the EU due to (i) economic recovery and (ii) the EU’s implementation of the Fuel Quality Directive, which would allow imports of tar sands and other carbon-intensive fuels.