Memorandum submitted by the Summerleaze
Ltd
SUMMARY
— European carbon markets are failing to
deliver significant carbon-savings in Europe.— European
carbon markets are failing to provide a high or reliable enough
cost of carbon to justify substantial investment in carbon-reducing
measures in Europe.— The period since the Kyoto agreement
and the introduction of international carbon markets has coincided
with an acceleration in the rate of increase of carbon emissions.
— One factor in that acceleration is the
offshoring of manufacture to less-efficient producers in developing
nations.
— European emissions increased in parallel
with the process of offshoring, when they should have reduced.
— Before Kyoto, emissions were reducing
as GDP was increasing. Since Kyoto, emissions have increased at
a fraction of the rate of increase of GDP. Carbon markets have
had an insignificant impact on this relationship.
— A rational and effective carbon-pricing
mechanism would impose an equal cost of carbon on all sources
and sinks. Cap-and-trade cannot do so because it does not scale
down.
— Correcting this deficiency by combining
with other measures is economically-inefficient.
— Low prices in the EU-ETS are the result
of inevitable political gaming, not of delivery.
— Low prices in the EU-ETS have a negative
impact on sectors outside the EU-ETS.
— Free allocation and auctioning of credits
both have anti-competitive consequences.
— Linking the EU-ETS with an American scheme
would result in Europe paying the USA for soft savings, while
American businesses continued to benefit from looser standards.
— Many CDM and offset schemes provide illusory
benefits.
— Carbon budgets on a national level may
be incompatible with trading mechanisms and utilities that are
international.
— Cap-and-trade is wrong in principle as
well as practice, and cannot be made to work effectively.
— Cap-and-trade and Kyoto should be replaced
with carbon tax and an international risk-based market.
INTRODUCTION
Summerleaze Ltd is one of the most long-established
renewable-energy businesses in the UK. We began investing in renewable
energy in the early 80s, and commissioned our first renewable
power station in 1987. We have generated around 2 TWh of renewable
electricity to date. We are currently leading developments in
three immature fields: anaerobic digestion, wood pellets, and
renewable hydrogen.
Summerleaze is a founding member of the Renewable
Energy Association (REA) and the Association of Electricity Producers
(AEP). To our knowledge, the REA is not preparing a submission
to this inquiry. The AEP has prepared a submission, but sadly
it represents neither our views, nor a critical look at the subject.
It is Panglossian in its determination only to see the good in
carbon-trading. Whilst one may take the view that the benefits
outweigh the disadvantages of carbon-trading (or vice versa),
it takes the wisdom of three monkeys to believe that there are
only benefits and no disadvantages, as the AEP seems to want the
Committee to believe.
CONTEXT
The Kyoto Protocol was agreed in 1997 and came
into force in 2005. Its objective is to reduce greenhouse gases
in participating countries by 5.2% below 1990 levels by the end
of 2012.
The Kyoto Protocol, if complied with, would be insufficient
to achieve the UK's goal of limiting global warming to 2°C
above the estimated historic average. It is estimated that full
compliance would reduce temperatures in 2050 by 0.07°C. Consequently,
the EU and its member nations have introduced more strenuous targets.
The EU is committed to achieving a reduction of 20% by 2020, and
30% if other major nations will also commit to equivalent action.
The UK government has recently increased its long-term reduction
target from 60% to 80% by 2050.
To date, the principal policy tool preferred
to achieve these targets in Europe and the UK has been carbon-trading.
The UK introduced a preliminary scheme, the UK Emissions Trading
Scheme (UK-ETS) in 2002, which ran to 2006. The EU-wide European
Union Emissions Trading Scheme (EU-ETS) began in 2005. The first
phase ran from 2005-07, the second phase runs from 2008-12, and
a third phase is currently under discussion.
One of the main arguments used to justify a
preference for cap-and-trade systems is that the cap ensures a
specific level of reduction, whereas other approaches, such as
carbon tax or regulation, do not offer such firm volume constraints.
The existing cap-and-trade schemes put values primarily on emissions
of carbon dioxide (CO2) and do not directly encompass emissions
of other greenhouse gases. It is reasonable to use emissions of
CO2 as a measure of the success of the cap-and-trade schemes.
In the 1972-2002 period prior to the introduction
of the UK-ETS, annual global CO2 emissions from fossil-fuel combustion
increased from around 15,500 Mt (million tonnes) to 24,500 Mt.
That is an average rate of increase of around 300 Mt or 1.5% per
annum. By 2005, emissions had reached 27,900 Mt, increasing at
1,130 Mt or 4.4% per annum. And by 2007 (the most recent year
for which we have figures) emissions were 29,600 Mt, increasing
at 850 Mt or 3.0% per annum.[48]
Similar trends can be seen if the other, smaller contributors
(such as cement manufacture) are included.
It might be argued that assessment relative
to global emissions is unfair, but action is not justified unless
it can have an impact on the global total. A significant criticism
of regional action is that it may offshore the carbon (rather
than reduce it) and thereby increase emissions by driving production
to less technologically-advanced nations. When one reviews the
regional changes in energy-consumption and emissions of carbon,
it is clear that that is exactly what has happened. The effect
is seen most starkly in the changes in the production and use
of coal, the most carbon-intensive fuel.[49]
Kyoto and cap-and-trade appear not to have had a beneficial effect.
If we have exported our industry to China and
other developing nations, European and UK emissions ought at least
to be falling. Unfortunately not. UK emissions fell from 616 Mt
in 1980 to 564 Mt in 2002. By 2006 (the end of the UK-ETS), our
emissions had risen again to 586 Mt.[50]
In Europe, emissions from those installations covered by the EU-ETS
rose by 0.68% in 2007.[51]
We seem to have achieved the indefensible: exporting our industries
to where they would cause more damage, while making little progress
on our own emissions.
Stavros Dimas argues that the above figures
for the EU-ETS show that "emissions-trading is yielding results"
because emissions would have grown even more strongly without
it, given a growth-rate for GDP of 2.8%. Between 1980 and the
Kyoto agreement (1997), the GDP of the EC-12 nations increased
by around 45% in real terms, while their CO2 emissions from fossil-fuels
fell by 2%, unassisted by carbon-trading.[52]
In the subsequent period before the start of the EU-ETS (2005),
emissions increased by 7.1%, while GDP grew by 19%. The smaller
increase in emissions than GDP in 2007 was simply maintaining
a relationship that had been established since Kyoto was agreed
and the previous inverse relationship of GDP- to emissions-growth
was reversed.
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
The science is not yet sufficiently certain
to say what concentration of greenhouse gases in the atmosphere
is consistent with a target of limiting global warming to a maximum
of 2°C above the estimated historic average. A growing school
of thought believes that, because of feedback loops, it is no
longer possible to limit warming to this level. Another growing
group is emphasising the role of other factors in the warming
to date and questioning the IPCC process and their economic and
scientific assumptions.
Given this uncertainty, it is doubtful whether the
right approach is to target a particular level of a dynamic concentration
of atmospheric greenhouse gases on the basis of an assumed relationship
between that concentration and future temperatures and other climatic,
environmental, social and economic conditions, with insufficient
reference to risk, uncertainty, and the balance between mitigation
and adaptation.
But if that were a rational approach, emissions trading
would not be an effective way to achieve the goal. As demonstrated
above, and substantiated in the paper attached at Annex A,it has
not been effective to date, and is not likely to be effective
in the future.[53]
Whether, and under what circumstances, emissions
trading ought to be supplemented or replaced by tax or regulation
The approaches ought not to be combined. Whatever
the social cost of carbon emissions, it is the same for all emissions
at a given point in time. A single price should therefore be applied,
and it is very much easier to do so through one mechanism than
through multiple mechanisms. The complex interplay between multiple
mechanisms results in inefficiencies, unintended and perverse
consequences, rent-seeking opportunities, bureaucratic overheads
and so on.
There are a number of tests of whether a carbon-pricing
mechanism is a good one. One important test is whether the mechanism
adjusts rapidly but smoothly as refinements in the science and
data are announced. Another is whether it yields a rational and
reasonably predictable price or whether the price is irrational
and volatile. And another test is whether it can be applied equally
to all emitters and absorbers of carbon.
Emissions trading fails all of these tests,
but the last is particularly important in the context of this
question. Because of transaction costs, it is generally accepted
that the approach cannot be scaled down below a certain level.
Consequently, around half of all emissions are unlikely to be
covered by this type of mechanism. Its adoption means that emissions
from the uncovered half must be either ignored (as domestic heat
is in the UK at the moment), or covered by other mechanisms (for
example, a range of mechanisms in the transport field that apply
very different social costs of carbon for different types of transport,
and for transport as a whole compared with other sources of carbon).
The upshot is a chaotic, inefficient and often irrational set
of incentives.
Emissions trading should be replaced by a carbon
tax, applied at point of import or production of fossil-fuels,
with some of the revenue used to compensate poorer households
for the welfare impacts of increased energy costs, and balanced
across nations (to avoid carbon-offshoring) by means of a mechanism
to replace Kyoto after 2012 that treats the potential harm from
carbon emissions as a risk whose cost of insurance should be borne
by the emitter.[54]
THE EU EMISSIONS
TRADING SCHEME
The record of Phase II of the EU ETS, and prospects
for the success of Phase III
After prices in Phase I collapsed, apologists
for the EU-ETS argued that it was only ever intended to demonstrate
the mechanics of the concept and to provide information about
the correct level at which to set the National Allocation Plans
(NAPs). Phase II would benefit from this information and provide
the correct incentive based on accurate allocations.
The Phase II NAPs, as finally set by the EU, required
only a 2% reduction relative to verified emissions in 2005 (ie
still above 1990 levels, despite Kyoto commitments). Like Phase
I, they owed more to political gamesmanship than dry assessment
of the data. The target was never challenging and was always likely
to lead to a repeated collapse in prices, either through modest
offshoring in continue benign economic conditions, or through
reduced output in a downturn.
Phase I EUA prices ranged between €20 and €30
for the first 20 months, then collapsed to €15 when countries
reported their emissions for the first year of the scheme, stabilised
at that level for a few more months, and then began an inexorable
decline to a few cents by early 2007. Phase II lasted only nine
months or so in the €20-€30 range before it began the
first stage of its inevitable collapse. It seems temporarily to
have stabilised around the €10 level, but we have not yet
had any verified data for emissions levels in 2008 to confirm
the bad news and set the price on the second stage of its journey
to zero.
Low prices could be taken as a sign of success—that
we are delivering carbon savings very cheaply. But it is apparent
from the unambitious targets and the continuing high levels of
CO2 emissions that this is not the reason. Prices are low because
such minimal improvements are required that participants expect
that, in an economic downturn, little investment will be required
to exceed the required savings. Any such savings will be attributable
to the closure of plant and the reduction of demand for energy,
and not to the EU-ETS.
It was never true that the problem with Phase
I was lack of data and knowledge of the mechanism. The problem
was always the gaming of the mechanism by governments hoping to
profit from targets that they knew were unambitious. Once might
have been considered misfortune, but twice looks like carelessness.
If political leaders were inclined to game the
system when economies seemed to be growing strongly, how much
worse should we expect it to be in a downturn, when their economies
are genuinely vulnerable to the imposition of even modest social
costs? We have already seen the battle for looser targets continued
in the Phase III negotiations. In the current circumstances, and
given the track-record in more benign conditions, it is unfounded
optimism to hope that Phase III would be anything other than another
farce.
Extent to which the carbon price will be sufficient
to drive low-carbon investment, in particular decarbonisation
of energy
Several major energy companies have terminated
their involvement in large UK wind projects. Co-firing output
is down. The large utilities are pressing for permission to build
new coal- and gas-fired generating stations without carbon capture.
From the existing plant, they are dispatching coal in preference
to gas.[55]
The current EUA price of €10/tCO2, (equivalent to around
£7.50/MWh from coal and £3.50/MWh from gas) is insufficient
(even with support from the Renewables Obligation) to encourage
a substantial switch to low-carbon electricity-production either
from the existing infrastructure or through new investment.
The carbon price has little impact on the two-thirds
of our energy that is consumed in the heat and transport sectors,
nor on energy-efficiency, other than marginal impacts through
the electricity price. The greatest impact is negative, as the
absence of a mechanism that places an equal value on carbon from
these sectors has prevented significant investment.
Investment decisions are based not only on current
prices, but on expectations of future prices. Expectations are
influenced by past performance and rational assessment. On both
counts, an investor would not rely on a significant value from
the EU-ETS in their financial modelling.
Impacts of economic recession on the workings
of the EU ETS
The 2% reduction required in Phase II will be
achieved without the necessity of investment. Prices will collapse
to nearly zero again, and those who are not recipients of government
largesse from other sources will be unable to justify investing
in more efficient infrastructure.
Impacts on and responses by UK firms covered by
the EU ETS
Summerleaze is not directly covered by the EU-ETS.
However, the Committee should bear in mind that many businesses
not covered by the EU-ETS are indirectly affected by it.
All renewable generators are affected by EUA prices,
because the vertically-integrated utilities (who are covered by
the EU-ETS) can reduce their carbon emissions by buying power
from renewable generators. This feeds through into the offered
price (particularly as they have usually incorporated the opportunity
cost of the value of their EUAs in their prices anyway). A low
price for EUAs means a lower price for renewable generation.
Thanks to the linking of the Carbon Reduction
Commitment (CRC) with the EU-ETS, the mechanism will also affect
renewable heat and energy-efficiency measures in the large, non-energy-intensive
sector (eg councils and supermarkets). A low EUA price will undermine
the value of one of the first mechanisms to try to encourage renewable
heat.
Implications of the EU ETS for business competitiveness,
and how to address them
Electricity customers have no opportunity to
import their supplies from outside the EU. The EU-ETS therefore
has little impact on the competitiveness of the power sector as
a whole, other than marginal impacts on demand, which will be
insignificant at current EUA prices.
While free allocations remain, the EU-ETS has an
impact on competitiveness within the power sector. Free allocations
provide a significant advantage to incumbents, limiting the threat
from market entrants, and reducing the competitive pressures on
the established energy oligopoly (the "Big Six").
In sectors exposed to competition from outside
the EU, free allocations may be necessary while the EU-ETS is
retained, in order to prevent offshoring of industry and carbon.
However, free allocation distorts markets and inhibits competition
within the EU, providing a benefit to existing dirty producers
over clean producers and new entrants (see, for example, the cement
sector). This Morton's Fork is another example of why the mechanism
is bad, irremediable, and should be replaced.
Allocation or auctioning of EU ETS credits, and
the use of auctioning revenues
Free allocation of credits to incumbents is
anti-competitive, but government monopoly-auctions of rights without
which the bidders cannot stay in business drives participants
to overbid and ultimately harms the industry and its customers.
Auctioning is the lesser evil, but the least evil would be to
scrap the mechanism altogether.
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
American carbon emissions per capita are double
those of Europe. Fuelled by cheap energy, the American economy
has valued efficiency so little that there are many soft efficiencies
to be achieved.
Even in times of prosperity, no American legislature
would put a tight cap on national emissions. In the current circumstances,
the US government will be even more careful not to impose heavy
costs. If a carbon cap-and-trade scheme is introduced in the USA,
it will be set with very achievable targets.
If we link the EU-ETS to cap-and-trade schemes with
loose caps in countries where soft efficiencies can be made at
little cost, we will end up (a) paying those countries for soft
savings that they should have made at their own expense, and (b)
yet again undermining carbon values in Europe.
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
One cannot do justice in a few words to the
many ways in which the supposed benefits of CDM and carbon-offset
schemes are more illusory (or at least exaggerated) than real.
UK CARBON BUDGETS
The relationship between emissions credits and
the UK carbon budgets set up under the Climate Change Act
Carbon budgets are another policy mistake, repeating
the false assumption embedded in emissions-trading schemes that
there is a rational basis for targeting a specific level or profile
of emissions.
Nevertheless, we are to have them. Logically, the
rights to the carbon-displacement belongs to the country that
paid for them, not the country where they were "produced".
This approach should be adopted, but care should be taken that
both countries do not claim the "benefit".
"Non-emission" must not be confused with
absorption. Renewables have a neutral, not a negative carbon impact.
They do not increase a nation's carbon emissions, but they do
not reduce them either. If demand increases in line with renewable
output, there will be no reduction in a country's carbon emissions
regardless of how much renewable energy is produced. Credits from
foreign renewable-energy projects should not be counted as a deduction
against national emissions.
The multi-nationals will have choices about
how much to invest in each country to reduce emissions. They will
transfer at opportunity cost the credits from one country to another,
as determined by their investment and operation choices. Those
choices will influence the contribution of the power sector to
the overall carbon budget. Auctioning would reduce the temptation
to play games in this way, but would not eliminate the differences
between national markets. There is a tension between the national
nature of the carbon budgets, and the international nature of
the EU-ETS, CDM and many of our utilities.
Transparency of and justification for counting
the purchase of emissions credits (especially from "offset"
schemes) as decreasing emissions from the UK
The carbon benefits from many offset schemes
are not correctly reflected in the calculation of attributable
credits. Schemes involving production or destruction of methane
unjustifiably assume unrealistically high rates of methane production,
and lower rates of capture than could easily be achieved at low
cost. Renewable-energy schemes are calculated to have displaced
fossil-fired generation, when many of the projects simply increase
the total amount of electricity consumed. Credits from tree-planting
assume that all trees grow healthily for many decades, and count
all the potential savings in the first year. No negative account
is taken of tree plantations that die before they reach their
assumed lifespan. Displacement of HFCs and other greenhouse gases
is attributed to factories that never would have existed to use
those HFCs if they hadn't been able to sell their "non-HFC-usage".
Whilst seeking the lowest-cost carbon savings regardless
of location is sensible, the way in which this is done under the
Kyoto protocol is so subject to fraud and miscalculation that
it is questionable whether the system offers real environmental
benefits. All parties involved (developers, auditors, purchasers
of credits, governments) have strong incentives to over-estimate
the benefits and under-estimate any flaws. It is unlikely that
the situation will be improved by promises of tighter enforcement.
3 March 2009
48 http://lgmacweb.env.uea.ac.uk/lequere/co2/carbon_budget.htm
To convert from C to CO2, multiply by 3.667 Back
49
Graph from International Energy Agency, Key World Energy Statistics
2008. Back
50
Energy Information Administration, International Energy
Annual 2006, Table H.1co2. Back
51
http://europa.eu/rapid/pressReleasesAction.do?reference=IP/08/787 Back
52
CO2 emissions from EIA op cit, GDP from Eurostat Long
GDP series for historic EU totals spreadsheet. Spain, Greece
and Portugal figures added to EC-12 totals for period prior to
accession. Back
53
Bruno Prior, Cap-and-trade-why it is the wrong approach (2007),
hard copy provided as Annex A with this submission, and available
for download from http://www.forever-fuels.com/files/u3/cap_and_trade_4000.pdf Back
54
For a more detailed exposition of such a mechanism, see Bruno
Prior, Carbon or harm? The price of the risk of anthropogenic
global warming (2008), hard copy provided as Annex B with
this submission, and available for download from http://www.forever-fuels.com/files/u3/carbon_or_harm_split2.pdf Back
55
In the period December 2008 to February 2009, coal fuelled 44%
of the UK's centralised power, while CCGTs provided only 35% and
renewables only 3%. Back
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