EU to Focus on Regulatory ‘Gap’ to Curb Fraud in Spot CO2 Market

The European Union will take testimony this week on a regulatory “gap” exposed earlier this year, when criminals stole carbon permits and forced the closure of spot trading for 15 days.

The European Commission, overseer of the world’s largest emissions-trading system, is due to meet tomorrow in Brussels with emitters, traders, researchers and climate groups to discuss protection for contracts for immediate delivery. Spot volume, historically accounting for 15 percent of the EU carbon market, has yet to bounce back from this year’s thefts by online hackers and value-added tax fraud in 2010.

The commission, which plans to present its oversight proposal later this year, will weigh the need for new rules designed specifically for the carbon market against applying existing regulations now used for futures contracts and other financial instruments. The International Emissions Trading Association, a trade group, and Germany’s two biggest utilities say reclassifying spot carbon permits isn’t the answer.

“The extension of financial rules to the carbon market, taken alone, would not have prevented criminal attacks on the EU emissions system,” said Simone Ruiz, an IETA executive in Brussels. “A more appropriate option is to enhance oversight of spot emissions trading through a specific carbon-market or energy-markets regime.”

CO2 futures are already subject to the EU’s Markets in Financial Instruments Directive, known as Mifid, and the Market Abuse Directive, or MAD. Contracts for prompt delivery typically aren’t seen as financial instruments and aren’t bound by the same laws.

Investor Protection

“Mifid is mainly targeting investor protection and systemic risks, which are not the main concern in the carbon market, and provisions in MAD around insider trading and market manipulation are not adjusted to the carbon market,” Ruiz said.

The commission is examining various regulatory options, Yvon Slingenberg, head of the commission’s emissions unit, said in March. While not all Mifid requirements would “make sense” for spot carbon trading, regulator would save time if they don’t create new rules, she said.

European spot carbon trading ground to a halt earlier this year after computer hackers in January stole more than 2 million permits valued at around 34 million euros ($50 million) at today’s prices. The attacks followed 2010’s “carousel fraud,” involving value-added tax collection, and theft of internet passwords, known as “phishing.”

“The major part of the carbon market is subject to appropriate oversight,” Isaac Valero-Ladron, climate spokesman for the commission, said in an e-mail. “A gap exists in the regulation and supervision of the spot market. We are now studying the introduction of new measures which would deal with the risks of market misconduct or abuse. These measures will enhance the carbon market’s integrity and transparency.”

Not Appropriate

German utilities RWE AG and E.ON AG oppose classifying EU carbon permits as financial instruments, according to written testimony submitted in February.

“Reclassifying EU allowances as financial instruments is not an appropriate solution to solve the many challenges the emissions market faces at the moment,” RWE testified.

“Emissions, as other energy products and commodities, are not investment products since they are not sold to the general public,” E.ON said in its written testimony.

Monthly volume for BlueNext SA, the biggest exchange for spot permits, shrank to 5.3 million tons in April, compared with the average 22.4 million per month in 2010, according to data compiled by Bloomberg.

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