Regina Betz

Emissions trading: lessons learnt from the 1st phase of the EU ETS and prospects for the 2nd phase

In January 2005, the European Union launched an EU-wide emissions trading scheme (EU ETS) for CO 2 emissions. It covers approximately 45% of total CO 2 emissions and is thus the largest ‘cap-and-trade’ carbon trading scheme in the world – an ambitious and highly challenging policy experiment. As it emerges from its pilot phase and prepares for phase II, the EU ETS now stands at a crossroad: will it quickly address the problems experienced in phase I and establish strong price signals in Europe, or will the prevailing uncertainty continue into phase II? Phase I has indeed proved how much market design matters to its operation and signalling. Unlike normal markets, emissions trading schemes are designed markets, where the demand and supply are dependent on government decisions. The volume of allowance allocation determines scarcity levels and thus the effectiveness of the scheme. Furthermore, the various provisions in the allocation plans can influence investment and operational choices and thus the efficiency of the scheme. Decisions on auctioning and free allocation, as well as on how to split the allocation pie across sectors and installations, will also have distributional consequences. This special issue presents seven articles that consider the influence of allowance allocation, and inform the debate surrounding ‘National allocation plans in the EU ETS: lessons and implications for phase II’. Five articles focus on recent experience with the design of national allocation plans (NAPs) for the period 2008–2012 and provide qualitative and quantitative assessments. These are complemented by two numerical simulations of trade and distributional effects. We summarize their findings in the context of the debate, which we structure into the three key criteria for ETS assessment: market efficiency; distributional effects, and environmental effectiveness.

Designing National Allocation Plans for Eu-Emissions Trading — A First Analysis of the Outcomes

In this paper the main design issues of 16 National Allocation Plans (NAPs) are presented in a systematic way for the first period (2005–2007) of the EU Emissions Trading System (EU ETS). These NAPs have either been submitted to the European Commission (EC) by the EU Member States (MS), or were available as draft versions in early May 2004. Further quantitative and qualitative analyses of these NAPs lead to the conclusions that – unless the review process by the EC leads to significant modifications – (i) the EU ETS is unlikely to result in any major emission reductions in this first period; (ii) many MS allow for a generous allocation to the emissions trading sector at the cost of other sectors and the general taxpayer; (iii) competitive distortions are likely to arise from the different national interpretations of the installations to be covered by the EU ETS and from the partial-system character of the EU ETS; (iv) barriers to economic efficiency will arise from a probable EU-wide ban on banking and ex-post adjustments of allocated quantities for newcomer installations. Finally, for the vast majority of participants transaction costs are expected to be high compared to costs for compliance.

Implications of announced phase II national allocation plans for the EU ETS

Abstract We quantified the volume of free allowances that different national allocation plans proposed to allocate to existing and new installations, with specific reference to the power sector. Most countries continue to allocate based on historic emissions, contrary to hopes for improved allocation methods, with allocations to installations frequently based on 2005 emission data; this may strengthen the belief in the private sector that emissions in the coming years will influence their subsequent allowance allocation. Allocations to new installations provide high and frequently fuel-differentiated subsidies, risking significant distortions to investment choices. Thus, in addition to supplying a long market in aggregate, proposed allocation plans reveal continuing diverse problems, including perverse incentives. To ensure the effectiveness of the EU ETS in the future, the private sector will need to be shown credible evidence that free allowance allocation will be drastically reduced post-2012, or that these problems will be addressed in some other way.

Australia's emissions trading scheme: opportunities and obstacles for linking

Australia is establishing an economy-wide emissions trading scheme, with a detailed proposal tabled by government in December 2008 and a scheme start planned for 2011. The proposal is for unilateral linking through the Clean Development Mechanism and Joint Implementation, but no initial bilateral linkages. Concerns about permit prices rising too high are prominent, and are reflected in a ban on permit sales and a price cap provision. This article evaluates the proposed Australian scheme with regard to international emissions trading and linkages. Different scenarios for the Australian permit price under unilateral linking are considered. Options for bilateral linking with the European Union and New Zealand schemes are evaluated. We argue that Australia should dismantle the obstacles to linking, including the proposed price cap, and move towards bilateral linking with suitable schemes.

Auctioning greenhouse gas emissions permits in Australia

The allocation of permits is an important design aspect of an emissions trading scheme. Traditionally, governments have favoured the free allocation of greenhouse gas permits based on individual historical emissions (‘grandfathering’) or industry benchmark data. Particularly in the European Union (EU), the free allocation of permits has proven complex and inefficient and the distributional implications are politically difficult to justify; auctioning emissions permits has therefore become more popular. The EU is now moving to auction more than 50 per cent of all permits in 2013, and in the US the Regional Greenhouse Gas Initiative (RGGI) has begun auctioning more than 90 per cent of total allowances. Another case in point is the Australian proposal for a Carbon Pollution Reduction Scheme (CPRS), which provides for auctioning a significant share of total permits. This paper discusses the proposed Australian CPRS’s auction design. A major difference to other emissions trading schemes is that the CPRS plans to auction multiple vintages of emissions permits simultaneously.

Auctioning Greenhouse Gas Emissions Permits in Australia

The allocation of permits is an important design aspect of an emissions trading scheme. Traditionally, governments have favoured the free allocation of greenhouse gas permits based on individual historical emissions (‘grandfathering’) or industry benchmark data. Particularly in the European Union (EU), the free allocation of permits has proven complex and inefficient and the distributional implications are politically difficult to justify; auctioning emissions permits has therefore become more popular. The EU is now moving to auction more than 50 per cent of all permits in 2013, and in the US the Regional Greenhouse Gas Initiative (RGGI) has begun auctioning more than 90 per cent of total allowances. Another case in point is the Australian proposal for a Carbon Pollution Reduction Scheme (CPRS), which provides for auctioning a significant share of total permits. This paper discusses the proposed Australian CPRS’s auction design. A major difference to other emissions trading schemes is that the CPRS plans to auction multiple vintages of emissions permits simultaneously.

Achieving additional emission reductions under a cap-and-trade scheme

Over the last decade, cap-and-trade emissions schemes have emerged as one of the favoured policy instruments for reducing GHG emissions. An inherent design feature of cap-and-trade schemes is that, once the cap on emissions has been set, no additional reductions beyond this level can be provided by the actions of those individuals, organizations and governments within the covered sectors. Thus, the emissions cap constitutes an emissions floor. This feature has been claimed by some to have undesirable implications, in that it discourages ethically motivated mitigation actions and preempts the possibility that local, state and national governments can take additional mitigation action in the context of weak national or regional targets. These criticisms have become prominent in Australia and the US within the public debate regarding the adoption of an emissions trading scheme (ETS). These criticisms and their potential solutions are reviewed. A set-aside reserve is proposed to automatically retire ETS permits, which would correspond to verified and additional emissions reductions. This minimizes the possibility that ethically motivated mitigation actions are discouraged, allows for additional action by other levels of government, while providing transparency to other market participants on the level of permit retirements.

Domestic Offset Projects: Limited Opportunities in Germany but Potential for Others?

This paper examines the potential for Domestic Offset Projects (DPs) in climate protection in Germany. DPs are unilateral GHG emissions reduction projects carried out in a country with a binding greenhouse gas emission reduction target under the Kyoto Protocol (Annex I Country). In contrast to the well known project-based mechanisms under the Kyoto Protocol – the Clean Development Mechanism (CDM) and Joint Implementation (JI) – Domestic Offset Projects are located in the same country as the investor. Therefore tradable emission reduction certificates for DPs are issued by the investors domestic authority. This paper presents possible implementation options for DPs based on JI and CDM experience, as well as possible implementation problems. Policy additionality seems to be an especially crucial requirement and thus was analysed in more detail. In addition, the emission reduction potential resulting from DPs was estimated for the Federal state of Baden-Württemberg, in South-West Germany. Here, it is shown that the scope for DPs is restricted because of the extent of the German climate program. In Baden-Württemberg only some DPs and JI activities fulfil the criterion of policy additionality. For this reason, DPs are probably of more interest in Annex-I countries with a more limited climate policy mix.

Auction Format and Auction Sequence in Multi-Item Multi-Unit Auctions -- An Experimental Study

We experimentally study the effect of auction format (sealed-bid vs. closed clock vs. open clock) and auction sequence (simultaneous vs. sequential) on bidding behaviour and auction outcomes in auctions of multiple related multi-unit items. Prominent field applications are the sale of emission permits, fishing rights, and electricity. We find that, when auctioning simultaneously, clock auctions outperform sealed-bid auctions in terms of efficiency and revenues. This advantage disappears when the items are auctioned sequentially. In addition, auctioning sequentially has positive effects on total revenues across all auction formats, resulting from fiercer competition on the item auctioned first.