Carbon pricing schemes are spreading around the world but will their architects learn from mistakes made in Europe’s flagship scheme?
Carbon pricing has been described as the “unfinished business” of the Paris climate accord, which world leaders signed last month at the UN’s headquarters in New York.
We Mean Business, a coalition of 400 companies that have pledged to take action on climate change, points out that carbon pricing was not part of the deal hammered out in Paris, but half of all countries’ commitments made in Paris depend on having some form of carbon pricing in place by 2020.
According to the World Bank, some 40 countries and 23 cities, states and regions around the world use carbon pollution pricing schemes, covering 7bn tonnes of CO2, and accounting for 12% of global emissions. This includes China, which is due to integrate several pilot schemes and launch its own emissions trading market next year, South Korea, and regional schemes in the US and Canada.
As well as cap and trade, jurisdictions are increasingly imposing taxes on fossil fuel emissions. The Canadian province of British Columbia has won praise for its revenue-neutral carbon tax, the first in North America, which covers three quarters of all greenhouse gas emissions and has cut emissions by 5%-15% in the past seven years.
Last month in New York, at the signing of the COP21 agreement, six heads of state, including Canada’s new prime minister, Justin Trudeau, France’s François Hollande, Germany’s Angela Merkel and Enrique Peña Nieto of Mexico, joined World Bank Group President Jim Yong Kim and IMF Managing Director Christine Lagarde in challenging the world to expand carbon pricing to cover 25% of global emissions by 2020 and 50% by 2030.
This can be done in three ways: by increasing the number of governments putting a price on carbon, deepening existing carbon pricing programs, and promoting global cooperation. But there is debate over whether carbon prices can be set high enough to have an impact on investors and consumers. And there is disagreement over the merits of carbon taxation vis a vis cap and trade.
In Canada, Trudeau and provincial and territorial leaders agreed in March to put a price on carbon as part of Canada’s strategy to cut CO2 emissions, but there was no consensus on what that entails, or whether there should be a minimum price.
The carbon pricing debate is particularly intense in Europe where low prices in the 11-year-old EU Emissions Trading System, the world’s first and cap and trade market, have led countries, including France, to set their own carbon taxes.
The European Commission maintains that moves to tax carbon by individual member states would push prices down even further on the ETS, where they languish at €6 a tonne, far below the €30 a tonne considered necessary to drive low-carbon investment.
The scheme covers CO2 emissions from more than 11,000 power stations and industrial plants in 31 European countries as well as airlines. Prices have been depressed by the huge number of permits given for free to prevent manufacturing industries from moving to countries with less ambitious climate measures. This is currently the case for 164 sectors, representing more than 95% of industrial emissions in Europe. Bureaucrats in Brussels are trying to reform the ETS for the next phase of the system, which runs from 2020 to 2030.
Aki Kachi, international policy director at Brussels-based Carbon Market Watch, says the ETS needs to drive investment in low-carbon technology if it is to remain the EU’s main instrument to achieve its target to reduce emissions 95% from 1990 levels by 2050.
“We’re nowhere near that,” Kachi says. “In order to meet the EC’s own goals, as member states we to have to step up and reform the market. A reduced cap on permits is also required because even if the price goes up right now, a lot of allowances go to industry for free.”
Jonathan Grant, sustainability and climate change director at financial services firm PwC in London, says the company strongly advocates carbon pricing as one of the most effective tools for supporting the transition to a low carbon economy. “It sends a signal across the economy that companies and consumers, when making investment decisions, need to account for the cost of carbon.”
The value of carbon pricing is that it works its way across the whole economy, unlike, say, emissions standards in power plants, Grant says. “Unfortunately we have lots of existing and emerging mechanisms but prices are too low to make much impact on investment decisions and consumers. If you have these regulations with a low carbon price, in effect that’s just an admin cost on business. It’s not having the desired effect.”
Grant says overlapping energy policies in Europe may be contributing to the low carbon price of the EU ETS. “Schemes such as the renewables targets and energy efficiency targets are reducing energy demand and consequently emissions,” Grant says. “That has suppressed demand for credits and lowered the price and people then say that the trading system is not effective. What business has long argued for is that the EU ETS needs to be the centrepiece of climate policy and we need to rely on that.”
Going it alone
In February, France circulated among member states an informal proposal for the EU ETS to bring in a carbon price “corridor” by establishing a floor and soft ceiling on carbon prices, both of which would evolve over time along a predetermined path.
It pointed out that price corridors had been established in California, which has made its own auction floor price indexed to inflation; the nine east coast US states participating in the Regional Greenhouse Gas Initiative; and in Quebec; while the seven pilot carbon markets in China also have price control mechanisms.
The concept is supported by PwC. “We advocate a price corridor: a floor and ceiling in the EU ETS so businesses have reasonable price certainties but also a corridor in which the market can seek out low cost options,” Grant says.
More controversial was France’s decision last month not to wait for the EU and to set its own floor price for CO2 from 2017 in a bid to close its five remaining coal plants and save 12m tonnes of CO2 emissions a year. “The market is not functioning today … somebody has got to make a start,” environment minister Segolene Royal said when the move was announced. The UK has also had a carbon floor price in effect since 2013, though it has been frozen at £18.08/tonne until at least 2020.
Set in isolation, Grant says, price floors may only serve to reduce emissions locally while leaving total emissions unchanged because emissions allowances are used by other countries covered by the system.
But Kachi thinks they can be helpful. “As things stand, where the market is so overwhelmed by excess that the carbon price is not meaningful, it makes sense for countries to try to find their own ways of driving low-carbon investment, even if it increases this oversupply still further. To show that leadership initiative is a good thing.”
Hope for reforms
Aleksandra Mirowicz, climate policy analyst at the climate-focused thinktank Sandbag, says: "After 11 years of the ETS, we still don’t have a carbon price that drives short-term abatement, let alone long term-investment." However, she says proposed reform the ETS for the next trading period of 2020-2030 to address this situation should cancel the vast surplus of allowances currently available on the market.
"The ongoing reform process has real potential to make large enough changes to make the scheme functional again," Mirowicz says. “More financial support to the low-carbon investments and a more refined approach to industry protection from carbon leakage should counter business worries about ambition.”
The question is whether China will learn from the EU’s mistakes in the national system China aims to have up and running from next year.
“It’s great to see China taking action but the jury is out on to what extent they’ve learnt from the EU ETS,” Kachi says. “A whole portfolio of policies go into determining emissions and China is also very busy reducing investment in coal. Is that shift going to undermine their new trading scheme? For instance, maybe steel will take up the slack and use more permits.”
Some critics say carbon pricing will remain an ineffective and slow means of helping to bring down emissions. Sir David King, the UK’s special representative for climate change, has argued it would be more productive to focus on innovation to bring down the cost of clean technology.
Carbon pricing is “too sluggish a weapon” against climate change and will take “too many years” to roll out into the market, King told a sustainability event in London in April. “I don’t see India, China or South Africa coming in with a sufficiently high carbon price to drive them off coal,” he said.
King helped form Mission Innovation, a commitment by 20 governments to double research funding for renewable energy technologies to $20bn within five years, which will hold its first ministerial meeting in San Francisco next month. He said: “Once you get to the point where the prices are competitive, you no longer really need a carbon price.”
However, the growing consensus is that carbon pricing does have a vital role to play. Mirowicz at Sandbag says: “We are as frustrated as everyone else that the early cap setting [in the EU ETS] has been so lacking in ambition. However, it is political will that is the problem, not the policy choice.
“Some actions need to be taken now, like supporting the introduction of CCS [carbon capture and storage], that will not ever be stimulated by a widely applied carbon price.”
Grant at PwC agrees, and says more should be done to use the revenues raised from the EU ETS to develop a low-carbon economy. The European Commission recommends that at least half of the money that individual treasuries raise through the ETS should be invested in climate measures such as low carbon R&D.
“It’s not a case of either/or,” Grant says. “We need both carbon pricing and strong investment in low or zero-carbon technology innovation and deployment. Revenue raised through carbon pricing can help towards that.”Carbon Pricing climate emissions carbon taxation climate change renewables greenhouse gas technology innovation