Memorandum submitted by the Association
of Electricity Producers
SUMMARY
The key points we would like to make are as
follows:
— AEP considers that the establishment
of an EU Emissions Trading Scheme (EUETS), the mechanics of which
are generally functioning well, is a significant achievement and
that the EUETS can deliver long-term, cost-effective greenhouse
gas emission reductions, given the right framework conditions.—
De-carbonisation of the electricity generation sector is key to
achieving long-term emission reduction targets, particularly the
goals for 2050, as highlighted by the Committee on Climate Change,
and the EUETS must be designed to support this.
— The focus now must be on developing the EUETS
to provide sufficient long-term clarity of the carbon constraints
beyond 2025 so that companies have sufficient confidence to invest
in the low-carbon technologies that are required to achieve the
target emission reductions.
— 100% auctioning for the electricity sector
after 2012 is a major change from the current operation of the
Scheme and the necessary information and administrative arrangements
must be in place early enough to deliver a timely and effective
auction process as early as possible, preferably in 2010, but
by mid-2011 at the latest.
— AEP supports the goal of a global carbon
market and the linking of the EUETS to similar emissions trading
schemes outside the EU as a means to deliver this, but premature
linking of regional schemes could undermine delivery of UK and
EU objectives.
— JI/CDM projects are an important mechanism
in the transition to a global carbon market. Project developers
need certainty over the future acceptability of credits from projects
to ensure minimum disruption to the flow of investments in low-carbon
technologies and the associated emission reductions in developing
countries.
— All carbon units recognised under the
Kyoto Protocol and the EUETS should be eligible to count towards
the net UK carbon account, and no additional restrictions should
be put on the use of carbon units for compliance with the EUETS,
even where additional restrictions are placed on the use of units
for compliance in the non-traded sector.
BACKGROUND
1. The Association of Electricity Producers
(AEP) represents large, medium and small companies accounting
for more than 95% of the UK generating capacity, together with
a number of businesses that provide equipment and services to
the generating industry. Between them, the members embrace all
of the generating technologies used commercially in the UK, from
coal, gas and nuclear power, to a wide range of renewable energies.
Members operate in a competitive electricity market and they have
a keen interest in its success—not only in delivering power
at the best possible price, but also in meeting environmental
requirements.
OVERVIEW
Potential contribution of international emissions
trading to delivering a global greenhouse gas stabilisation target,
consistent with the UK's goal of limiting global warming to 2°C
2. The power generation sector recognises
the challenge of climate change and is fully committed to mitigating
the effects of greenhouse gas emissions through reducing the carbon
intensity of the generation fleet. However, it is important that
all sectors (including those not covered by emissions trading,
such as industry, transport and households) are fully engaged
in emissions reduction and take the necessary steps to improve
energy efficiency. Reducing the carbon intensity of power generation
in the UK will require very significant amounts of investment.
Ernst and Young[16]
estimates that the UK energy supply industry will have to invest
over £230 billion in new infrastructure by 2025 to ensure
the country's future security of supply and that current climate
change and renewable energy targets are met.
3. To create the necessary level of confidence
among potential investors, we have called for a clear trajectory
for CO2 reductions at the EU-level out at least as far as 2020.
We can therefore welcome the principles outlined by the European
Commission (EC) in January 2009 in its Climate Change and Energy
Package, which sets a target reduction level of 20% below 2005
emissions by 2020, rising to 30% if a post-Kyoto international
agreement can be reached. The EC has also sought to engage all
sectors by sharing the reduction effort between those sectors
that are within the EUETS and those that are outside the Scheme.
Whether, and under what circumstances, emissions
trading ought to be supplemented or replaced by tax or regulation
4. The AEP generally favours the use of market-based
instruments in regulation to allow the market to find the most
cost-effective solutions to meeting environmental goals. We therefore
fully support the EUETS and we welcome the EC's recent proposals
to revise the Scheme and to achieve greater harmonisation in its
implementation across EU-27. We consider that the establishment
of the EUETS, the mechanics of which are generally functioning
well, is a significant achievement and that it can deliver long-term,
cost-effective greenhouse gas emission reductions, given the right
framework conditions. However, it is important to recognise that,
because the Scheme is EU-wide, emission reductions may not be
realised immediately within the UK if more cost-effective reductions
can be made elsewhere. We expect the EUETS will drive companies
to internalise the cost of carbon in their operations and that
this will create an incentive for them to invest in low-carbon
technologies in the future.
5. While the carbon market matures, we recognise
that additional incentives will be required to bring forward the
deployment of renewable energy technologies. We consider that
the Renewables Obligation has been successful to date in bringing
forward the renewable technologies that are closest to market,
although growth has been constrained by the planning process and
a lack of grid connections. However, we recognise that additional
measures will be required if the UK is to meet the target of 30-35%
of electricity from renewables by 2020, as suggested in the Renewable
Energy Strategy published by BERR in June 2008.
6. The EC and the Government have recognised
that sequestering the CO2 from coal- or gas-fired plant and committing
it to long-term, geological storage could provide the means to
keep fossil fuels in the fuel mix for power generation within
the context of a low-carbon future. The AEP supports the investigation
of the feasibility of the technology (for both post-combustion
and pre-combustion capture methods), but we do not expect it to
become commercially viable before 2020. The first step is to demonstrate
the integration of capture, transport and storage at commercial
scale. This will entail considerable financial risk and will not
happen without substantial support from the Government because
the price of carbon is not yet high enough for the technology
to be brought on simply through the operation of the market. CCS
deployment will also require the development of a suitable regulatory
framework to address environmental and safety issues.
7. There have been calls from some quarters
to mandate the use of CCS for all new coal-fired power stations.
The AEP considers that it is not good practice to mandate the
use of a technology that has yet to be demonstrated commercially.
THE EU EMISSIONS
TRADING SCHEME
The record of Phase II of the EUETS, and prospects
for the success of Phase III
8. We do not have the data available to
assess the performance of installations and sectors in the first
year of Phase II (2008). Our impressions are that the mechanics
of the EUETS have functioned well, with the following exceptions:
— The late issuing of allowances was handled
very poorly by DEFRA. There was limited information made available
and we had to press hard for updates and to make the regulators
aware of the consequences of delaying the allocation beyond November.—
The Government was slow to design and implement its auction methodology;
the first auction took place on 19 November 2008. There is frustration
with regard to the rules for Primary Participants to act as Intermediaries
for indirect bidders in the auction. It is not clear why the auction
was not designed to be open to all.
Extent to which the carbon price will be sufficient
to drive low-carbon investment, in particular decarbonisation
of energy
9. It is clear that operators in the power
sector take into account the carbon price signal in both operating
and investment decisions. Energy prices, CO2 prices and renewable
energy incentives are among the key drivers for reducing emissions
from the sector. CO2 reduction was a board-level topic in the
power sector long before it was in other sectors. The short timeframes
for Phases I and II of the EUETS and the lack of vision beyond
2012 made investment decisions difficult.
10. De-carbonisation of the electricity generation
sector is key to achieving long-term emission reduction targets,
particularly the goals for 2050, as highlighted by the Committee
on Climate Change, and the EUETS must be designed to support this.
The longer timeframes set for Phase III and the clearer trajectory
for emission reductions are a step forward, but the focus now
must be on developing the EUETS to provide sufficient long-term
clarity of the carbon constraints beyond 2025 so that companies
have sufficient confidence to invest in the low-carbon technologies
such as renewables, nuclear and CCS that are required to achieve
the target emission reductions.
Impacts of economic recession on the workings
of the EUETS
11. As the allocation of allowances in Phase
II was based on projected growth and only the power sector was
awarded significantly fewer allowances than it was projected to
require, it is not surprising that the current fall in industrial
output has resulted in many industrial operators choosing to sell
their surplus allowances, thus causing the market price of CO2
to fall.
Impacts on and responses by UK firms covered by
the EUETS
12. Although most industrial operators will have
spare allowances to sell, the power sector is expected to remain
a net purchaser of allowances because it is about 40% short in
Phase II.
Implications of the EUETS for business competitiveness,
and how to address them
13. We recognise that it may be appropriate to
provide some level of free allowances to installations or sectors,
which could be up to 100% of the benchmarked allocation in exceptional
circumstances, where severe carbon leakage can be demonstrated
through the presentation of robust evidence relating to incremental
carbon cost which cannot be passed through to customers, versus
costs of importing substitute production from outside the EU.
Such evidence should be required to be open to public scrutiny.
There should also be recognition of the increased costs, resulting
from indirect emissions, which may be faced by installations that
use large quantities of electricity. However, as such an increase
is an intended consequence of the EUETS, any remedial measures
that are introduced must be temporary and outside the operation
of the EUETS to avoid distortions and perverse outcomes. There
should be no need for such remedial measures once an acceptable
international agreement on CO2 emissions reduction has been reached.
Allocation or auctioning of EUETS credits, and
the use of auctioning revenues
14. The AEP strongly supports the equitable sharing
of the burden of emissions reductions across all sectors covered
by the EUETS. We also accept that auctioning of allowances should
be the principal allocation mechanism, provided that all sectors
are treated in a fair manner. We remain very concerned that if
sectors are provided with Business As Usual allowances with no
charge there will be little incentive for emissions reduction,
undermining the effectiveness of the Scheme in terms of the identification
of the lowest cost emissions reductions.
15. AEP supports the general principle that all
EUAs will, in the future, be auctioned. However, this process
will constitute the largest global ongoing auction ever held.
AEP endorses the proposal for a Regulation on auctioning, which
should address the following key principles:
— process predictability, in particular the
timing and frequency, sequencing and the volumes available for
auction (including a clear statement that all allowances not allocated
for free must be brought to market);
— harmonisation of rules across EU27;
— fair, equal, direct and unconstrained
access to all eligible participants;
— avoidance of collusion, market manipulation
and abuse of dominant position.
16. 100% auctioning for the electricity
sector after 2012 is a major change from the current operation
of the Scheme and we are strongly of the opinion that the necessary
information and administrative arrangements must be in place early
enough to deliver a timely and effective auction process as early
as possible, preferably in 2010, but by mid-2011 at the latest.
It is essential that the carbon market functions in a manner which
supports the efficient operation of the electricity market. Delays
in auctioning or in delivering an appropriate auction process
are not acceptable either for the smooth running of the electricity
market or in the context that auctions are an essential part of
a legal compliance regime. The timeliness of implementation must
not become a major risk issue for the electricity industry. Consequently,
the late delivery of allowances to the market inherent in the
proposed implementation timetable, which may be subject to additional
and differential delays at Member State level, puts at risk the
functioning of not only the emissions market but also the associated
electricity market. The same risk arises where delays occur in
any alternative mechanisms to overcome this issue, such as selling
allowances directly into the market. Member States should be incentivised
to meet auctioning deadlines eg through a mechanism that would
permit unauctioned allowances to be redistributed and auctioned
(say, within three months) by other Member States who have met
the deadline.
17. AEP wishes to highlight the need for
a common market for EUAs and our support for a single market interface
for auctions. This will help to minimise the overall costs for
administrators and participants. In this context also, we consider
it essential that an early review of the operation of the Commission
Regulation is implemented and that it and, if necessary, the Directive
is amended should any major anomalies arise in the market resulting
from the process of individual Member States' auctions.
18. Proper supervision and control of the
release of market sensitive data becomes more urgent in the context
of the greater use of the auctioning of allowances as it has potentially
much greater financial consequences. Provisions should be made
(with appropriate penalties) to govern the release of such information
by authorities and the EC.
19. Emissions trading is an economically
efficient tool to deliver required emission reductions. The economic
benefit of this mechanism is undermined if distorted in its application
to support additional policy objectives or if there is a lack
of political will to define the long-term rules and objectives
of the scheme. In this context, AEP considers that allocation
of allowances or auction revenues should avoid interference in
competitive markets. Where a proportion of revenues is recycled,
it should be used to support research and development and pre-commercial
projects with the aim of delivering the EU's greenhouse gas objectives
in the affected sectors (in accordance with their contributions)
without picking specific clean technology "winners".
In view of the rising cost of energy, if and when the Government
uses auction revenues to support particular initiatives, it should
make clear to consumers the justification and benefit of so doing.
DEVELOPMENT OF
A GLOBAL
CARBON MARKET
Progress of cap and trade schemes in other countries
(notably, the United States), and the prospects for, and practicalities
of, linking between them
20. AEP supports the goal of a global carbon
market and the linking of the EUETS to similar emissions trading
schemes outside the EU as a means to deliver this, but premature
linking of regional schemes could undermine delivery of UK and
EU objectives. While full international agreement on reduction
targets post-2012 is likely to take a long time to secure, a number
of other trading schemes may emerge as a step towards a global
market in carbon eg initiatives in the USA (California, RGGI,
et al), Japan and Australia. It will be important to ensure that
there are appropriate safeguards in the linkage with these schemes,
to ensure that the stability of the EUETS is maintained. These
include strong environmental integrity and a comparable set of
rules, including long-term emissions reduction objectives, a consistent
basis for setting absolute caps, appropriate monitoring, reporting
and verification requirements, sufficient market transparency
to prevent price shocks and a sufficient level of maturity/proven
track record. Any planned linkage with another scheme must be
signalled to the market well in advance.
The robustness and effectiveness of "offset"
schemes (ie those without a cap), such as the Clean Development
Mechanism (CDM), and the issues around linking them to cap and
trade schemes
21. JI and CDM projects are an important mechanism
in the transition to a global carbon market. The principal objectives
of the use of project credits from flexible mechanisms such as
JI and CDM should be to:
— Provide a mechanism to deliver international
CO2 reductions cost-effectively (without undermining domestic
investment in low-carbon technologies such as renewables, nuclear
and Carbon Capture and Storage (CCS).— Facilitate technology
and capital transfer to developing countries to mitigate climate
change.
— Facilitate the evolution of an international
carbon price within an internationally agreed framework during
the transition to a global carbon market.
Project developers need certainty over future
acceptability of credits from projects to ensure minimum disruption
to the flow of investments in low-carbon technologies and the
associated emission reductions in developing countries.
UK CARBON BUDGETS
The relationship between emissions credits and
the UK carbon budgets set up under the Climate Change Act
22. We agree with the Government's proposal
that all carbon units recognised under the Kyoto Protocol and
the EUETS should be eligible to count towards the net UK carbon
account.
23. Within the traded sector, no additional restrictions
should be put on the use of carbon units for compliance with the
EUETS even where additional restrictions are placed on the use
of units for compliance in the non-traded sector.
24. We agree with the Government's proposal that
VER's and other forms of credits (such as temporary forestry credits)
that are not accepted in the EUETS should not be eligible for
use towards the net UK carbon account.
Transparency of and justification for counting
the purchase of emissions credits (especially from "offset"
schemes) as decreasing emissions from the UK
25. The Carbon Budgets should provide certainty
and clarity on the UK's contribution to tackling climate change.
For this reason, we are concerned that the Government should seek
to improve transparency and clarity in their accounting and subsequently
their reporting methodology.
3 March 2009
16 Ernst and Young, "Securing the UK's energy
future-meeting the financial challenge", February 2009. Back
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