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Westminster Hall

Tuesday 9 January 2007

[Mrs. Joan Humble in the Chair]

Manufacturing Industry and Emissions Trading

Motion made, and Question proposed, That the sitting be now adjourned.—[Jonathan Shaw.]

9.30 am

Mr. Adrian Bailey (West Bromwich, West) (Lab/Co-op): I applied for the debate because a number of developments made it particularly appropriate to discuss the European Union trading scheme for manufacturing industry now. Before dealing with the substance of the debate, I welcome the Under-Secretary of State for Environment, Food and Rural Affairs, my hon. Friend the Member for Brent, North (Barry Gardiner), who I understand is deputising at the last moment for the Minister for Climate Change and the Environment. Having to respond to a debate on emissions trading at such short notice will be a supreme test of his ministerial multi-tasking ability, but I am sure that he is capable of dealing with it.

As secretary of the all-party group on steel and metal, I speak essentially from the steel producers’ perspective. I used the words “manufacturing industry” in the debate title because there are common issues with other manufacturing sectors; other Members with other specific manufacturing interests will thus be able to join in. My constituency has more foundries than steel companies, but although foundries are not covered by the emissions trading scheme, the issues are still relevant. In the black country, a significant number of jobs still depend on the survival and success of the steel industry.

The Stern report highlighted the potentially catastrophic consequences for the climate if carbon emissions continue unabated. The climate change Bill, the energy White Paper and the EU review of the emissions trading scheme post-2012 provide the United Kingdom with the opportunity to develop a clear climate change policy framework in which industry can plan its future carbon-reducing investments. Central to that is the development of technologies that will lead to reductions in carbon emissions, which will enable manufacturing industry to meet the demands of consumers in developing economies without leading to the consequences outlined in the Stern report. The challenge for the Government is to provide the correct regulatory framework to promote that change.

The UK produces only 2 per cent. of total world emissions, and the greatest challenge is in leading the rest of the world in developing low-carbon economies. The EU emissions trading scheme—the ETS—is a worthy first attempt at providing an international industry and environment regulatory structure designed to reduce carbon emissions. The first phase runs from 2005 to 2007, so it is appropriate now to examine the deficiencies of that phase and to look for improvements in the next phase, which is to run until
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2012. During the second phase, we will have the opportunity to research and develop new provisions, not only to reduce emissions in Europe but to provide an example and a model that could be developed for non-EU countries. Not only would that make a significantly greater impact on climate change, but it would offer European industry the opportunity to develop technologies that can be adopted by other countries.

In order to demonstrate the flaws in the first phase of the scheme, it is important to understand its structure and methodology. Companies are allocated a certain number of carbon allowances, based partly on their historical record of carbon emissions and partly on their projected use of carbon in the years to 2012. Any carbon consumption over and above those allowances will mean that companies have to buy carbon credits from other companies that have underused their allocations.

The first flaw in that approach is that companies with a history of less energy-efficient means of steel production receive more credits. The second is that companies seeking to expand production beyond their original projections, to meet rising world demand, will have to buy extra credits to do so, thereby incurring costs in addition to those associated with new investment. In effect, that is an extra financial penalty for companies that want to invest in newer and potentially cleaner processes.

Dr. Hywel Francis (Aberavon) (Lab): I congratulate my hon. Friend on securing this important debate and on the way in which he has led the all-party group on steel and metal, together with my hon. Friend the Member for Llanelli (Nia Griffith) and my hon. Friend the Member for Sheffield, Hillsborough (Ms Smith), who is the successor to a distinguished former chairman of the all-party group. Will my hon. Friend the Member for West Bromwich, West (Mr. Bailey) address the debate not only to colleagues in Westminster but to steel communities across the UK? Two important issues have arisen from discussions in my constituency and nationally with Corus and trade unions. The first is the need to continue to recognise that the steel industry is strategically important for the United Kingdom. The second is the inconsistent way—

Mrs. Joan Humble (in the Chair): Order. I ask the hon. Gentleman to resume his seat. He is making a speech rather than a brief intervention. I am sure that his hon. Friend has heard what he has to say.

Mr. Bailey: I understand the thrust of my hon. Friend’s remarks. Although the steel industry may not employ the numbers that it used to, it is still of strategic importance as part of our manufacturing architecture. The European regulations are crucial to its survival, and the steel industry is crucial to the survival of a large section of our manufacturing industry. Many more people than those directly employed in it depend on the steel industry for their jobs.

Bob Spink (Castle Point) (Con): The hon. Gentleman is right to bring this subject before the House, and I congratulate him. Does he feel that increasing manufacturing costs through the ETS and in other ways might displace production to third world industry, which is less clean and which might damage
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the atmosphere even more? Is not the real solution what he suggested earlier—technologies to remove carbon from production, such as carbon capture and storage, that apply as much to steel manufacturing as to power generation?

Mr. Bailey: The hon. Gentleman makes a valuable point, and I intend to cover it later in my speech. There are threats and opportunities: if the matter is handled wrongly it will be a problem; if it is handled correctly it will be an opportunity.

The third flaw in the scheme is that is that companies with a history of inefficient technology and higher carbon emissions can compensate for their inability to develop by selling their unused allowances. As a result of decoupling the carbon allowances system from energy efficiency and relating it purely to levels of production, the scheme has developed a number of perverse incentives that hamper investment and production in the UK while contributing little to the reduction of carbon emissions.

That problem was compounded in phase 1 by the national allocation plans of various EU countries. The Commission decided to adopt a decentralised, co-ordinated model that allowed some countries to allocate over-generous allowances to their own companies. The processes for arriving at the level of allowances were not always robust, and they led to weak caps in a number of countries. Only Ireland, the UK, Spain, Austria and Italy set tough targets; other countries over-allocated. Indeed, such was the level of underuse of allowances in some countries that the excess of carbon credits on the open markets actually caused the price to crash. While that may have provided some short-term compensation for overusers of carbon in countries such as the UK, that approach is counter-productive to the ultimate goal of reducing emissions. It is now expected that at the end of phase 1 the majority of countries will have used less than their level of allowances, which seems to negate the purpose of the scheme. It is hardly surprising that the first phase is not expected to yield any net reduction in emissions at all.

I will summarise the shortcomings of the scheme as it operates at the moment. First, it requires Governments to second guess how much steel companies will be producing many years in advance. Secondly, it rewards failing companies and penalises growing companies. Thirdly, there are wide variations across Europe.

Improvements are planned for the second phase, although only time will tell whether they are realised. There is evidence that the current round of national allocation plans is more transparent. It is significant that, so far, nine of the first 10 plans submitted to the European Commission have been rejected because they are not consistent with the Kyoto commitments. The Commission is insisting on plans that will deliver a reduction in carbon emissions of 7 per cent. below those of phase 1. It is essential that the Commission remain robust in its approach, otherwise it will undermine the effectiveness of the scheme as a whole.

Such changes are to be welcomed and, if implemented robustly, there is no doubt that they will
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achieve a reduction of carbon emissions in Europe. However, phase 2 does not address the fundamental flaw in the scheme: the failure to relate carbon credits to energy efficiency. If Europe is to develop to provide an exportable model to reduce carbon emissions worldwide, that flaw must be eliminated in phase 3, which is to start in 2012. The time to consider that is now.

Mr. Robert Goodwill (Scarborough and Whitby) (Con): The hon. Gentleman talks about reductions in CO2 production; perhaps he should also talk about exports of CO2 production. He mentioned exporting the model of the European scheme, but we are already exporting our emissions to places such as Donetsk in the Ukraine, and to India and China. We should try to move forward internationally rather than regard the European Union as a little fortress, standing on its own.

Mr. Bailey: The hon. Gentleman makes a valuable point, which I shall mention when I sum up.

The steel industry advocates an alternative model that would achieve the objectives relating to carbon emissions without putting UK and European steel manufacturers at a competitive disadvantage to other international manufacturers. The concept, in essence, is that a series of baseline CO2 emission factors would be calculated as an average for the whole of the EU steel industry; those would be varied according to the type of product produced and the type of process used. At the end of the accounting period, each company would have its actual emissions assessed against those baseline figures multiplied by the volume of steel produced. If a company’s performance was worse than the baseline it would need to buy allowances to compensate; if its performance was better it would receive equivalent allowances for sale. That system would reverse the existing perverse incentives.

I emphasise that those are not a set of self-interested proposals advanced by the steel industry. Such an approach was advocated in a paper by the Centre for European Studies in 2005, and was also highlighted in the Institute of Public Policy Research report on the future of the scheme. The report states that,

I emphasise the last few words. The report goes on to state that,

Ultimately that must be the right approach. In a world economy where the demand for steel is likely to increase for the foreseeable future, there is little point in curbing steel production and carbon emissions in Europe. Companies in other countries that are not part of any emissions trading scheme can expand their production to fill that gap with processes that are either equally or more carbon intensive.

On the auctioning of carbon credits, in phase 1 member states only had the discretion to auction up to 5 per cent. of allowances, and few did so. In phase 2
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that will increase to 10 per cent. There is a body of opinion that says that there should be no free carbon allowances for companies and that they should buy their credits in auction on the open market, as they do any other raw material. There can be no doubt that the auctioning of carbon allowances is the most effective method of allocating carbon resources. However, on the international market, some companies that have to buy carbon credits to expand production will be at a severe competitive disadvantage with other companies outside the scheme that do not have to buy carbon credits. It is estimated that such a policy, even with the currently low carbon prices, would add around £150 million a year to UK steel industry costs and £300 million a year to the UK chemical industries costs. Once again, the consequences could be the export of production to less energy-efficient companies in countries not in such a scheme. We would suffer the double hit of a loss of jobs and production here and potentially higher carbon emissions internationally.

Martin Horwood (Cheltenham) (LD): I agree with the hon. Gentleman’s analysis. He is highlighting a real problem, but can he explain why benchmarking based on production capacity as opposed to historical emissions, as in the present scheme, would avoid carbon leakage? Surely, even the scheme he advocates would impose costs on some companies, which might avoid those costs by moving to other international locations.

Mr. Bailey: I was not advocating benchmarking based solely on production capacity; cleaner technologies are also important. In effect, if there were a system that incentivised cleaner technologies within the framework of international negotiations, it would be easier to export that model and we would not be at such a relative competitive disadvantage. That is the broad approach that could be adopted.

A further problem is that if there were a single carbon auction market for all manufacturing sectors, certain industries would suffer another disadvantage. Some industries such as steel cannot easily pass on costs to their consumers, whereas others, such as electricity generation, can do so. Industries passing on costs could bid up the price of carbon and cause problems to other users who cannot do so. Those users would suffer a double hit of having to pay both the higher carbon prices driven up by users such as the electricity industry, and the higher electricity prices resulting from the auction.

The subject is complex, with different industries having different priorities, but I believe that a number of principles should underpin the Government’s input to the debate. First, existing provisions should be tightened up to ensure a level playing field throughout Europe. Secondly, future allowances should be based on production and technology, not just output. Thirdly, the EU must press for comparable emissions trading schemes in other industrial blocs in the rest of the world. There are embryonic schemes in various parts of the world, and impetus needs to be given to their development in international negotiations. Fourthly, full auctioning of carbon credits should not take place until there is a critical mass worldwide of companies involved in such schemes. Lastly, carbon
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auction markets should be sectoral to avoid certain manufacturing sectors being better placed to outbid others. If we take that approach, we can promote energy efficiency in industry in the UK and abroad, and reach our Kyoto targets in Europe. It will also provide a model for other, developing nations in other developing schemes to enable them to play a part in the process.

9.51 am

Nia Griffith (Llanelli) (Lab): I congratulate my hon. Friend the Member for West Bromwich, West (Mr. Bailey) on securing a debate on this very important topic. It will be no easy task for the Minister who has responsibility for it to negotiate the 2013 phase of the EU emissions trading scheme, and I should be very grateful if the Minister present today would work alongside ministerial colleagues. I am sure that by the end of this debate he will be an expert on many of the issues, and we hope that he will take forward the message from the debate in the tricky negotiations that lie ahead with the large number of EU states that have very different priorities.

As chair of the all-party group on steel and metal, and representing Llanelli, a constituency with a long and proud tradition of steel and metal industries—famously symbolised by its saucepans but perhaps not quite so well known as the home of the first ever brewery in Europe to put beer in cans—I shall concentrate on the metal industries, but I urge the Minister to take into consideration other energy-intensive industries, which face similar issues.

I have long been committed to environmental issues, and industry has made considerable progress over the years both in cleaning itself up and in increasing efficiency. We have come a long way from the days of filthy smog, but now we have to face the much greater challenge of not just cleaning up but trying to reduce emissions.

The EU ETS is the largest multinational greenhouse emissions trading scheme in the world and shows the EU’s determination to tackle climate change and global warming, but it is global warming that we are talking about. It is no good having a scheme that reduces EU emissions by driving industry out of the EU, because emissions, wherever they are produced, will contribute to global warming.

Bob Spink: Will the hon. Lady acknowledge that the ETS proposed by Europe does not reduce emissions until at least 2025 and that that is simply complacent?

Nia Griffith: We have to recognise that we are at least talking about these issues. Whatever people’s views of the EU, at least a number of member states are coming together to discuss the issues and saying, “This is more than something that just one country can solve.” Obviously, the more we can push that out to include a larger number of nations, through initiatives such as the Kyoto agreement and some of the things happening in individual states in the US to influence their Government to come on board, the better. It is very important that we do all that, but we have to start somewhere. We are well aware of the imperfections of the current scheme, which is why we are having this debate and why we want to ensure that, for 2013, we
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are going in the right direction. It is no good thinking that we can just clear away the dirt from here and have something produced elsewhere, because emissions do not work in that way. Wherever they come from, they affect the whole world.

We need an effective ETS that protects the environment but is pragmatic and does not become just a commercial liability for the UK and the EU. We have a lot to learn. We need to work out how the ETS works and what effect it creates. There have been widely differing interpretations of the scheme from one EU member state to another. Put simply, some Governments have been much more lenient in allocating allowances than others. The UK has been particularly strict. Governments have also used different criteria to set allowances. That is leading to a situation in which companies are tempted to shop around and switch production according to which Government’s criteria will afford them the best advantage. It is frightening enough for us to face the fact of companies switching production across the globe where labour prices are cheaper than anything we could ever replicate in the EU, but when companies are tempted to move production to countries such as the Netherlands, with its comparable costs and high environmental standards, simply because the Dutch Government interpret the ETS differently from the UK Government, clearly we need to re-examine the ETS.

Before I move on to the detail of the ETS, it is important that we stress the need to support research initiatives aimed at developing less polluting technologies. The European steel industry is already working towards that end: 48 European companies and organisations, led by a core group of steel producers including Corus, have entered a major research project with the aim of achieving a significant reduction in CO2 emissions to the atmosphere. The project is called ULCOS—ultra-low CO2 steel making. It is a €44 million, part EU-funded, multi-partner research and development initiative to investigate new steel production processes that would significantly reduce CO2 and other greenhouse gas emissions compared with current production methods. The consortium is further composed of suppliers to the steel industry, research institutes, small and medium-sized businesses, and universities. A 50 per cent. reduction in atmospheric CO2 emissions has been set as the target. We need to commend the members of the consortium on the initiative and support them even more.

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