Free allocation of allowances under the EU emissions trading scheme: legal issues

EU Energy Law and Policy, 2011

From the very beginning, the movement to reduce the global emission of greenhouse gases (hereinafter GHGs) has caused considerable anxiety for companies throughout the world. The reason for such anxiety is simple. In a global economy, the cost of internalizing pollution raises legitimate questions about the competitive distortions created between companies compelled to pay for their pollution and companies that can avoid such obligations. These questions are particularly acute for companies operating within the European Union (hereinafter EU). In order to meet its obligations under the Kyoto Protocol (hereinafter Kyoto) of the United Nations Framework Convention on Climate Change (hereinafter UNFCCC), the EU has embarked on an aggressive climate change policy aimed at dramatically reducing the emission of GHGs from its Member States. At the center of the EU’s climate change policy is the EU Emissions Trading Scheme (hereinafter EU ETS): an ambitious market-based approach to reducing GHG emissions within the EU. While commendable in theory, the practice of the EU ETS has exposed a number of issues regarding its compatibility with its own internal regime on subsidies (called state aid). Much of the academic literature to date has focused on the competitive disadvantages that can arise in countries requiring its industries to internalize the cost of GHG emissions through an emissions trading scheme.5 Ironically however,the implementation of the EU ETS also raises questions about the competitive advantages that may arise depending on the methodology a country uses in the allocation of its emissions allowances. Even though some of these competitive advantages have been addressed in modifications to the EU ETS for the third trading phase (2013 through 2020), there are still distortions and potential conflicts between EU ETS requirements on the one hand and EU state aid rules on the other. This paper will focus on the competitive distortions that can arise in relation to the allocation of free emission allowances under a market-based trading scheme, and attempt to explain how the allocation of emission allowances under the EU ETS, as currently envisioned, will likely conflict with the EU’s state aid rules.

Journal of Regulatory Economics, 2005

Starting in 2005, the EU will implement a CO2 emissions trading scheme. We show that the outspoken objectives of economic efficiency and free allocation of allowances are incompatible with harmonized allocation rules. The latter would be necessary to avoid unequal changes of the financial positions between identical firms across the EU, thereby distorting competition, i.e. the “level playing field”. We discuss and evaluate potential adjustments to the current prescriptions of the EU emissions trading system in order to achieve harmonization of allowance allocation across EU Member States. The proposed adjustments involve relaxation of either the efficiency objective or the objective of free allowance allocation.

Energy Policy, 2005

Energy Policy, 2007

Åhman and Zetterberg are with the Abstract Member States in the EU are responsible for National Allocation Plans governing the initial distribution of emission allowances in the CO 2 Emission Trading System. The European Commission has provided guidelines to discourage the use of allocation methodologies that provide incentives affecting firms' compliance behavior, for example by rewarding one type of compliance investment over another. EU guidelines prohibit ex post redistribution of emission allowances within an allocation period based on behavior in that period. This paper analyzes how treatment of closures and new entrants should be handled in a cap and trade system, with a focus on the efficiency of the trading scheme and the connection to changing of allocation rules between trading periods in the EU ETS. We examine the efficiency implications of different policies and report how EU Member States have addressed closures and new entrants. We find that the treatment of closures and new entrants is inconsistent with the general guidelines provided by EU by providing incentives that are likely to affect firm behavior. We propose a Ten-Year Rule as a component of future EU guidance that resolves these inconsistencies and balances fairness with efficiency in the initial distribution of allowances.

SSRN Electronic Journal, 2016

INTRODUCTION 2 THE EUROPEAN COMMISSION PROPOSAL FOR THE REVISION OF THE EU EMISSIONS TRADING SYSTEM 2.1 The key elements of the Commission proposal Duration of Phase 4 Long-term target Auctioning share and volume of free allowances Benchmarks and Cross-sectoral Correction Factor Carbon leakage provisions Flexibility of free allocations Reserves 2.2 Design of the mechanism for free allocations Cap of allowances for free allocations Binary treatment of sectors Looking for a more tiered mechanism of free allocation 3 ESSENTIAL EVIDENCE OF THE CURRENT STATE OF THE EU ETS FOR UNDERPINNING A STRUCTURAL REFORM 3.1 The surprising strong decline of emissions Verified emissions remain below the target path Projected emissions might stay below the target path until 2030 3.2 The high relevance of a flexible mechanism for free allocations The split between auctioned and free allowances is less relevant than implementing a flexible free allocation mechanism Perspectives for non-industry sectors Perspectives for industry sectors 3.3 Switching to an emissions intensity based allocation of free allowances prevents excessive allocations An emissions intensity based allocation of free allowances prevents a surplus of free allowances The cumulative surplus of allowances will remain until 2030 above the upper intervention bound of the Market Stability Reserve 3.4 The Commission proposal in view of the current state of EU ETS 4 ENHANCING THE PROCEDURE FOR ALLOCATING FREE AND AUCTIONED ALLOWANCES 4.1 The basic design for the allocation of free allowances 4.2 Extending the Commission proposal for allocating free allowances 4.2.1 Data requirements Emissions and activity data for each installation Trade data for each sector or subsector 4.2.2 The caps for allowances 4.2.3 Determining the benchmark emissions intensities of free allowances Benchmark period Ranking installations according to their emissions intensity Applying a reward factor Target benchmark shares of free allowances Calibrating the benchmark volume of free allocations Effective benchmark emissions intensities of free allowances 4.2.4 Allocating the volume of free allowances 4.3 Maintaining the stringency of the emissions caps by flexible supply 4.3.1 Unused free allowances are transferred to a reserve 4.3.2 Additional free allowances are transferred from a reserve Option A: Adjusting the auctioning volume Option B: Flexibility of the overall cap Avoiding violating the overall cap 4.4 Administrative aspects 4.4.1 Shifting tasks to the auditing procedure 4.4.2 Incentives for installations 5 COST IMPACTS OF FREE ALLOCATIONS 5.1 The relevant cost components 5.2 An operational procedure for calculating cost impacts of free allowances Data requirements Simulation of schemes for free allowances 6 CONCLUSIONS Identifying exposed industry sectors Benchmark procedure for free allowances Maintaining the emissions cap 7 REFERENCES 8 APPENDIX 1: SUMMARY OF AN ENHANCED ALGORITHM FOR ALLOCATING FREE ALLOWANCES 8.1 Rule based allocation of free allowances 8.2 Algorithm for the allocation of free allowances Emissions intensity of installations Rewarding emissions performance Targeted benchmark shares of free allowances Benchmark emissions intensities of free allowances Allocating the volume of free allowances 23 8.3 Maintaining the stringency of the emissions caps by flexible supply actions 23

RePEc: Research Papers in Economics, 2007

A critical issue in dealing with climate change is deciding who has a right to emit carbon dioxide, particularly when those emissions are limited. Allocation in the European Emissions Trading Scheme provides the first in-depth description and analysis of the process by which rights to emit carbon dioxide were created and distributed in the European Emissions Trading Scheme. This is the world's first large-scale experiment with an emission trading system for carbon dioxide and is likely to be copied by others if there is to be a global regime for limiting greenhouse gas emissions. The book consists of contributions by participants in the allocation process in ten representative member states and at the European Commission. The problems encountered by these ten representative countries, the solutions found and the choices they made, will be of interest to all who are concerned with climate policy and the use of emissions trading.

Calls for the reform of the EU ETS have been numerous over the past years and the current wave of hopeful optimism stemming from the Paris Agreement could provide a timely impetus for more efficient reform measures to be put into place. However, a sizeable political will is necessary both on the side of the Commission, as well as that of the Member States. This policy paper proposes a set of recommendations, which would help to overcome some of the system's most serious inefficiencies, namely its inflexibility, the problem of allowance over-allocation and continuously low prices of CO2 emissions, while keeping in mind the need to strike a balance between EU's ambitious action on climate change while not jeopardizing its economic competitiveness.

SSRN Electronic Journal, 2008

The so-called 'Linking'-Directive adopted in 2004 does not impose any limit on the import of JI/CDM credits under the European Union Emissions Trading Scheme (EU ETS), but requires from the Member States to set, in accordance with their 'supplementarity' obligations under the Marrakesh Accords, the maximal amount of Kyoto 'units' each covered installation is entitled to use for compliance under the scheme. Fearing a second price collapse of the European Union Allowance, the Commission decided, however, in 2006 to impose strict limits on the use of JI/CDM credits during the second trading period. This paper examines the legal basis of the Commission's decision and explores further the international and European legal framework within which the current debate on the use of JI/CDM credits and post-2012 international offsets takes place. It analyses in particular the recent proposal of the Commission on the third trading period of the EU ETS and the related report of rapporteur Doyle of the European Parliament and discusses the necessity to introduce quantitative and qualitative restrictions on the use of international offsets within the EU ETS against the backdrop of the international negotiations on a new global deal on climate change. .

Climate Policy, 2006

The European emissions trading scheme (EU ETS) has an efficient and effective market design that risks being undermined by three interrelated problems: the approach to allocation; the absence of a credible commitment to post-2012 continuation; and concerns about its impact on the international competitiveness of key sectors. This special issue of Climate Policy explores these three factors in depth. This policy overview summarizes key insights from the individual studies in this issue, and draws overall policy conclusions about the next round of allocations and the design of the system for the longer term.-Allocations for 2008-2012. Allocations defined relative to projected 'business-as-usual' emissions should involve cutbacks for all sectors, in part to hedge against an unavoidable element of projection inflation. Additional cutbacks for the power sector could help to address distributional and legal (State aid) concerns. Benchmarking allocations, e.g. on best practice technologies, could offer important advantages: experience in different sectors and countries is needed, given their existing diversity. However, a common standard for new entrant reserves should be agreed across the EU, based on capacity or output, not on technology or fuel. Maximum use of allowed auctioning (10%) would improve efficiency, provide reassurance, and potentially help to stabilize the system through minimum-price auctions. These measures will not preclude most participating sectors from profiting from the EU ETS during phase II. Companies can choose to scale back these potential profits to protect market share against imports and/or use the revenues to support longer term decarbonization investments, whilst auction revenues can be used creatively to support broader investments towards a low-carbon industrial sector in Europe.-Post-2012 design. Effective operation during phase II requires a concrete commitment to continue the EU ETS beyond 2012 with future design addressing concerns about distribution, potential perverse incentives, and industrial competitiveness. Declining free allocation combined with greater auctioning offers the simplest solution to distributional and incentive problems. For its unilateral implementation to be sustainable under higher carbon prices over longer periods, EU ETS post-2012 design must accommodate one of three main approaches for the most energy-intensive internationally traded sectors: international (sectoral) agreements, border tax adjustments, or output-based (intensity) allocation. If significant free allocations continue, governments may also need to follow the example of monetary policy in establishing independent allocation authorities with some degree of EU coordination. Such reform for the post-2012 period would require the Directive to be fundamentally renegotiated in relation to allocation procedures. Such renegotiation is neither feasible nor necessary for phase II operation. Rather, phase II should be a period in which diverse national approaches build experience, whilst the profits potentially accruing to participating sectors can be used to protect market share and jump-start their investments for a globally carbon-constrained future.

2015

This paper provides a comprehensive overview and analysis of different options to reform the EU Emissions Trading System (ETS). The options discussed include changes to address the rigidity of supply on the auctioning side, as well as reforms to add flexibility to free allocation. Additionally, other options that may enhance the functionality of the EU ETS are covered, drawing on examples and practices in other carbon-pricing mechanisms around the world. It is crucial to note that any reform of the EU ETS must consist of a package of options. Taken separately, the options may very well have beneficial effects, but they would also leave intact clear imperfections in the current design. Specifically where the auctioning supply mechanism and the flexibility in free allocation are concerned, we assess multiple options in each category, and present evidence for each option. Where appropriate, we suggest complementing these reform options with additional elements (presented in section 3.3...