The European Union’s regulator is considering tools to link the supply of carbon permits with the bloc’s economic performance, according to Jos Delbeke, director general for climate at the European Commission.
The possibility of improving the world’s biggest emissions- trading system by equipping it with a flexibility mechanism emerged during public consultations on long-term scenarios for the market, Delbeke said. It adds to six options floated by the commission last year to strengthen the cap-and-trade program after prices slumped to all-time lows amid a record surplus of allowances exacerbated by an economic crisis.
“One of the thoughts is, for example, that when demand goes down due to reduced economic activity, the supply of allowances brought to the market would be corrected with an indicator reflecting industrial activity,” Delbeke said in an interview in Barcelona. “The commission sees the need to improve flexibility on the supply side.”
The commission plans to propose concrete measures to bolster the EU emissions trading system, known as the ETS, before the end of this year, according to Delbeke. The price of carbon allowances for delivery in December tumbled from a record 36.40 euros ($47.36) a metric ton in July 2008 to an all-time low of 2.46 euros in April. That compares with 25-30 euros expected by policy makers when the market was started in 2005.
The European cap-and-trade program imposes pollution limits on about 12,000 manufacturing companies and utilities in the region, including Germany’s largest utility EON SE and steelmaker ArcelorMittal. The system, in which caps were set before the economic crisis, doesn’t allow any price floors or ceilings. After the slowdown reduced industrial production and cut into demand for pollution rights, the surplus of permits rose to around 2 billion metric tons last year, a level almost matching the annual supply, according to the commission.
To help emission permits recover, the EU’s regulatory arm proposed delaying auctions of some permits as a short-term market fix before a deeper overhaul of the program, often described as a structural reform. The plan to intervene on the market has divided EU governments and industry groups.
“One option that emerged in consultations is that the EU should limit the discretionary powers of the regulator, so that the regulator cannot intervene for any reason,” Delbeke said. “The debate we are now going through is if certain things happen there could be a correction in the supply of allowances brought to the market, according to specific rules or principles.”
The flexibility mechanism emerges as the seventh option in the future overhaul of the European cap-and-trade program. The six scenarios the commission floated in a report last year include a tighter climate goal and cancellation of carbon permits. The 27-member bloc may also consider introducing mechanisms to support emission prices and limits on imported credits, it said.
The debate on strengthening the ETS coincides with an EU discussion about its climate and energy policies for 2030. The commission published a policy paper on the framework for the next decade in March and aims to propose further steps later this year.
“More clarity on this mechanism should be created by the time we finalize our 2030 policy in the fall,” Delbeke said in the interview during the Carbon Expo annual conference.
The idea of permit-supply adjustment in the ETS was floated in the public talks among governments, traders and industry by groups including the International Emissions Trading Association and Tschach Solutions, a market analysis firm, Delbeke said.
“It had some traction in the debate,” he said. “We are investigating further, we are studying with much more appetite.”
IETA proposed a “dynamic allowance reserve” or a free allocation of permits based on actual output. Any such mechanism should be operated in a transparent, independent and predictable manner and should be triggered by “quantitative thresholds, not price levels,” the lobby said in its consultation paper.
The EU cap-and-trade system needs an adjustment mechanism that allows meeting stricter emission-reduction targets while avoiding excessive price increases, according to Ingo Tschach, managing director at Tschach Solutions. One option could be to make supply at carbon-permit auctions more flexible, he said in an interview in Barcelona.