EU Emissions Trading Scheme

We support the European Union Emissions Trading Scheme (EU ETS). The scheme will help the EU meet its target to reduce emissions of greenhouse gases by 8% on 1990 levels by 2012. It is a cost effective way to reduce emissions and spread low carbon technology across the globe.

Understanding EU ETS

The EU ETS gives carbon a price – the currency is ‘EU Allowances’ (EUAs). One EUA represents the right to emit one tonne of carbon dioxide. The scheme currently covers big industrial installations with high emissions, such as power stations. The industries covered are:

  • Energy activities (e.g. electricity generations and CHP).
  • Production and processing of ferrous metals.
  • Mineral industries.
  • Pulp and paper industries. 

Each country allocates EUAs in a National Allocation Plan (NAP). This plan outlines the detail for how the country will meet its commitment, how the allocations for each installation were derived and the trading arrangements of the relevant phase

Cap and Trade

The ETS is based on a ‘cap-and-trade’ system. If a sector historically emitted 10 million tonnes of CO2 per year the sector cap may be set at 90% which mean it can now only emit 9 million tonnes of CO2 per year.

There are two ways of allocating allowances to installations such as a power station. 'Grandfathering 'looks at historic emissions then predicts future emissions and sets the cap against this. 'Benchmarking' calculates emissions from the best available technology, for example Combined Cycle Gas Turbines in power stations, and then sets the cap against this.   

Each installation can meet the cap by reducing emissions or purchasing the extra allowances on the market. If the installation makes cuts in emissions greater than the cap it has surplus emissions which it can sell to installations that emit more than their cap. This makes the scheme effective as it cuts emissions but allows flexibility for companies to calculate the most cost effective way for these cuts to occur.

If an installation emits more CO2 than the cap allows then it is fined €40 per tonne (rising to €100 in 2008) and must also make up the emissions the following year. This strictness means that obligations are met.  

In 2006 our UK power stations' CO2 emissions were 27.5 million tonnes, of which 26.9 million tonnes were tradable against an initial allocation of 22 million tonnes. We purchased the difference on the EU ETS market.

Flexible Mechanisms

The EU ETS allows carbon allowances to be generated by investing in low carbon initiatives abroad. Both Joint Implementation (JI) and Clean Development Mechanism (CDM) generate allowances which are then available on the market. By allowing CDM and JI to yield carbon allowances the EU has produced a cost effective way to reduce emissions and increase investment and spread of low carbon technologies across the globe.

Phases of EU ETS

Phase I of the EU ETS is a test phase and runs from 2005 – 2007. Despite concerns about over-allocation the reaction of the market to this proves that the scheme works. This is encouraging and we welcome the European Commissions’ decision to tighten the EU cap as this will result in a more effective trading scheme.

The UK is on target to meet their Kyoto commitment. The UK phase II NAP was the only NAP to be passed by the EU Commission; others were passed back to the countries for revision. Phase II runs from 2008-2012 which coincides with the first Kyoto commitment period where the EU is required to cut emissions by 8% on 1990 levels.

We support the emissions trading as the primary driver for low carbon investment, for the scheme to be successful the market needs to develop a long term trajectory for CO2. To achieve this there must be a long-term international agreement for phase III – post 2012. This agreement must be harmonised across the EU, the scheme should be able to link up with other trading schemes across the globe and the scheme should also be able to expanded to include other greenhouse gases where this is improves the efficiency of the scheme.