Carbon Traders Group Urges Overhaul of EU Cap-and-Trade Plan

The European Union should change its carbon-trading plan by introducing a mechanism to allow changing the bloc’s pollution cap to reflect economic conditions, the International Emissions Trading Association said.

While the world’s biggest cap-and-trade program is working as intended, fragmented policies are undermining its price signal at the time when an economic slowdown weighs on the market, IETA said in a statement today. EU carbon allowances lost 46 percent from a year ago amid oversupply and concerns that the crisis will erode demand for pollution rights.

“IETA wants a system to change caps, as soon as possible, consistent with stakeholder engagement and full understanding of what’s being proposed,” the associations’ president Henry Derwent said in a phone interview. “What we’re asking for is a reexamination of a system which would essentially index the baseline and make this more like an indexed system.”

The Geneva-based group also called on the EU policy makers to provide a “credible” framework for long-term carbon targets, including legislation to confirm the bloc’s 2050 political emission-cut pledges, mid-term milestones and caps for the so-called Phase 4 of the emissions trading system, or the ETS, after 2020.

No Cap Adjustment

Started in 2005, the EU cap-and-trade program is the cornerstone of the bloc’s carbon-reduction policy. It imposes pollution limits on more than 11,000 manufacturers and utilities in the region, allowing those who discharge less carbon dioxide to sell their surplus allowances.

The system, which expanded this year to include flights to and from Europe, leads to a cap on emissions in 2020 that will be 21 percent below 2005 levels. The supply was set by member states before the crisis started and the program doesn’t include any cap-adjustment mechanisms.

Prices for carbon permits have fallen 46 percent in the past year as industrial output in Europe declined. EU permits for December were up 1.7 percent at 8.25 euros ($10.82) at 1:10 p.m. in London.

“We have to regard it as likely that between now and 2020 something will happen that will require some re-examination of the ETS directive,” Derwent said. “The system just is not seen to be stable in terms of producing good responses to all the priorities that people have wanted from it in the phase of significant economic disruptions.”

Transparent Process

A potential decision on recalibrating the cap should be made in a transparent process, including consultations with institutions, non-governmental organizations and industry associations, according to IETA. While the Australian program of rolling target could be taken into account in such an overhaul, it has some disadvantages from the point of view of market certainty, the association said.

“An alternative, probably less intrusive way, that should also be assessed is systemic recalibration by which the baseline would be automatically adjusted periodically according to well-known and widely available indicators,” it said.

While such a model would be more complex than a fixed cap, the alternative of sticking with intact targets amid a radical change in the economic environment “is clearly causing problems,” according to IETA.

Should the EU decide to temporarily withhold allowances to alleviate oversupply from 2013, a plan considered by the European Parliament, it should ensure permits are set aside in an “objective, predictable and transparent manner,” IETA said.

EU regulators should ensure that rules allowing a roll-over of allowances to the next trading period are not changed and reassure market participants that such “interventions” are unique, according to IETA.

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