12EU Emissions Trading System 2021–2030
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Committee’s assessment |
Politically important |
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Cleared from scrutiny (by Resolution of the House on 13/12/2016); further information requested; drawn to the attention of the Business, Energy and Industrial Strategy Committee |
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Document details |
Proposal for a Directive amending Directive 2003/87/EC to enhance cost-effective emissions reductions and low-carbon investments |
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Legal base |
Article 192(1) TFEU; QMV; Ordinary Legislative Procedure |
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Department |
Business, Energy and Industrial Strategy |
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Document Number |
(37003), 11065/15 + ADDs 1–3, COM(15) 337 |
Summary and Committee’s conclusions
12.1The EU Emissions Trading System (ETS) is a central component of efforts to meet carbon dioxide reduction targets in a cost-effective and technologically neutral way. Companies can either buy allowances giving the right to emit carbon dioxide or they can take action to reduce carbon dioxide and sell allowances to others. There is a fixed limit on the number of allowances available, reducing over time. Some allowances are auctioned and some allowances are available free.
12.2In July 2015 the Commission put forward a proposal for a Directive which would set out the arrangements to apply in Phase IV (from 2021 to 2030), including measures to strengthen the effectiveness of the System.
12.3The proposal was first considered by the Committee on 16 September 2015 and debated in European Committee on 12 December 2016, after which the document was cleared from scrutiny. During that debate, the then Minister for Climate Change and Industry (Nick Hurd) made it clear that no decision had been taken on the UK’s future engagement in the EU ETS but that—regardless of future UK participation—a strong EU ETS was in the UK’s national interest.
12.4When our predecessors last considered the document, at their meeting of 25 April 2017, they expected the Government to have either arrived at a position on future arrangements or be close to that stage. They asked that, when the Government next wrote with an update, information on the UK’s approach to the EU ETS post-Brexit should be included.
12.5The Minister for Climate Change and Industry (Claire Perry) wrote on 12 July, informing the Committee that there had been little further progress in the negotiations. On Brexit, the Government was still considering a range of options, from remaining in the system to introducing a domestic alternative. The Government’s guiding principle would be ensuring an outcome which was in the best interests of the UK, including ensuring continued adherence to the carbon budgets, under the UK Climate Change Act, as cost effectively as possible and maximising industrial competitiveness.
12.6The Minister has written again, explaining that agreement was reached among the institutions on 8 November. The Government was content with the compromise, noting that the agreement reached meets the UK’s key objectives of increasing the strength of the carbon price signal, while ensuring industrial sectors are given adequate protection from the risk of carbon leakage.128
12.7As to the UK’s withdrawal from the EU, the Minister refers to the Brexit amendment made to the related aviation emissions proposal,129 which sought to protect the environmental integrity of the EU ETS in the event of an abrupt Brexit. While the Minister understands the motivation behind the amendment, she believes that it would have significant negative impacts on the smooth operation of the carbon market. The Government is therefore working closely with the EU institutions to explore alternative solutions. To this end, the Government published a consultation on 6 November on bringing forward the 2018 compliance deadline for UK operators to before the date of EU Exit. The Minister hopes that, through these actions, a suitable, alternative solution for all parties and stakeholders can be found.
12.8On wider post-Brexit considerations, the Government has still not reached any decision on post-Brexit arrangements.
12.9We note the final outcome of the negotiations on the future EU ETS, which demonstrate continued commitment to a strengthening of the System.
12.10It is with some concern, however, that we monitor developments on future arrangements for the EU ETS post-Brexit. We too understand the EU’s desire to protect the EU ETS. While the Government might be frustrated with the EU’s approach, the last-minute rush to resolve the issue might have been avoided if the Government had set out its stall on potential future arrangements. Indeed, the Government’s reluctance to do so has been frustrating to this Committee.
12.11Our concern is now for UK operators and the position in which they find themselves, potentially taking on worthless allowances from 1 January 2018. We look to the Minister to set out developments in the Government’s negotiations on this matter and to explain the impact of any resolution, or lack of it, on UK operators.
12.12The document has already been released from scrutiny. We draw this chapter to the attention of the Business, Energy and Industrial Strategy Committee.
Full details of the documents
Proposal for a Directive amending Directive 2003/87/EC to enhance cost-effective emissions reductions and low-carbon investments: (37003), 11065/15 + ADDs 1–3, COM(15) 337.
Background
12.13In 2014, the European Council agreed a 2030 policy framework for climate and energy, which included a binding target to reduce overall EU greenhouse gas emissions by at least 40% compared with 1990 levels, and it also took the view that, in order to achieve this target cost-effectively, the sectors covered by the EU ETS would have to reduce their emissions by 43% compared with 2005 (with a corresponding reduction of 30% from other sectors).
12.14The Commission accordingly put forward these proposals relating to Phase IV of the ETS from 2021 to 2030, including:
- from 2021, the annual decrease in the EU emissions cap would rise from 1.74% to 2.2%; and
- 57% of allowances would have to be auctioned, with the remaining 43% given away free.
12.15Further details on the proposals were set out in the previous Committee’s Report of 16 September 2015.130 In that Report, our predecessors concluded that the document was significant and had no hesitation in recommending it for debate in European Committee A. The debate took place on 12 December 2016, at which point the document was cleared from scrutiny.
12.16The Minister wrote on 21 March 2017 to update the Committee on progress in both the European Parliament and Council, following adoption of their positions on 15 and 28 February respectively. In summary, both institutions supported changes designed to strengthen the carbon price signal. While both institutions supported measures designed to protect those industries at risk of carbon leakage, their approaches differed in the extent to which they divert funds from national budgets. Furthermore, the European Parliament wished to impose stricter emissions requirements for access to the Modernisation Fund for projects in lower income Member States. The aim was to avoid the provision of this funding source to coal-fired power stations. The Council text was significantly less stringent in this respect.
12.17The previous Committee last considered this document at its meeting of 25 April 2017. It noted that the Government was yet to take a decision on the UK’s participation in the Emissions Trading System (ETS) post-Brexit and that, as the EU ETS involves reciprocal arrangements, the default position in the absence of a negotiated agreement on future engagement would be non-participation. The Committee expected the Government to have either arrived at a position or be close to that stage. It asked that, when the Government next wrote with an update, information on the UK’s approach to the EU ETS post-Brexit be included.
Minister’s letter of 12 July 2017
12.18The Minister informs the Committee that there had been little further progress in the negotiations. The Government would like to see agreement by the end of the year. On Brexit, the Government was still considering a range of options, from remaining in the system to introducing a domestic alternative. The Government’s guiding principle would be ensuring an outcome which was in the best interests of the UK, including ensuring continued adherence to the carbon budgets, under the UK Climate Change Act, as cost-effectively as possible and maximising industrial competitiveness.
Minister’s letter of 15 November 2017
12.19The Minister writes to update the Committee on the negotiations, following agreement between the institutions on 8 November, and on the work being undertaken to determine the UK’s relationship with the system post-Brexit.
12.20The Minister indicates that the agreement reached meets the UK’s key objectives of increasing the strength of the carbon price signal, while ensuring industrial sectors are given adequate protection from the risk of carbon leakage. On the strengthening of the carbon price signal, the agreement includes the following to help drive up the price of allowances and incentivise greater investment in low carbon technologies:
- improvements to the Market Stability Reserve (MSR)131 that will soak up a greater proportion of surplus allowances from the earlier start date of 2019; and
- measures to cancel surplus allowances in the MSR above a certain threshold from 2023 onwards.
12.21The agreed package equally ensures that businesses who are operating in competitive international markets receive adequate protection to prevent the risk of carbon leakage:
- a conditional increase to the percentage share of free allowances by up to 3%, if needed, to prevent the application of a cross sectoral correction factor that would otherwise uniformly reduce free allocation to industry as the cap declines and there are insufficient allowances to cover all emissions;
- from the middle of the phase (2026), as the risk of a correction factor increases, a reduction in free allowances for those sectors deemed not at risk of carbon leakage, allowing free allocation to be more focused; and
- a conditional increase to the funding available for low carbon innovation projects, through the innovation fund, so that the total value is equivalent to 450 million allowances.
12.22The deal does not include a central harmonised fund at EU level for compensation for indirect costs to industry, which would have compromised Member States’ fiscal sovereignty.
12.23Finally, in relation to the fund which supports lower income Member States’ energy infrastructure modernisation, agreement was reached to rule out funding for projects using coal as a fuel, with the exception of district heating projects in Romania and Bulgaria.
12.24Final adoption is foreseen by the Environment Council on 19 December.
EU Exit
12.25On the UK’s exit from the EU, the Minister refers to the amendment designed to protect the EU ETS from an abrupt UK departure from the system in March 2019, which was proposed by the European Parliament on the aviation emissions proposal (see earlier chapter of this Report). The Commission has subsequently proposed draft regulations to amend the EU ETS Registry Regulation to implement this amendment.
12.26The amendment aims to protect the environmental integrity of the EU ETS in case of an abrupt UK exit from the EU in March 2019. The issue has arisen because permits for emissions in the previous calendar year are surrendered on 30 April. This would mean that, in the event of an abrupt exit, UK companies would not need to surrender their allowances for emissions in 2018. Instead, they could sell their allowances, possibly flooding the market and thus potentially distorting the carbon price. To overcome this issue, it has been agreed that allowances issued by the UK from 2018 would be marked as such and would be invalid where the obligations for operators are “lapsing” due, for example, to the UK’s exit from the System.
12.27While the Minister understands the motivation behind the amendment, she is concerned that these proposals would have significant negative impacts on the smooth operation of the carbon market. The Government is therefore working closely with the EU Institutions to explore alternative solutions. To this end, the Government published a consultation on 6 November on bringing forward the 2018 compliance deadline for UK EU ETS operators to before the date of EU Exit. The Minister hopes that, through these actions, a suitable, alternative solution for all parties and stakeholders can be found.
12.28The Minister sets out the longer-term approach in the following terms:
“Looking further ahead, the Government continues to consider the UK’s future participation in the EU ETS, or otherwise, after our exit from the EU. As set out in the Clean Growth Strategy, published in October, we remain firmly committed to carbon pricing as an emissions reduction tool, while ensuring energy and trade intensive businesses are appropriately protected from any detrimental impacts on competitiveness. Whatever our future relationship with the EU, we will continue to reduce emissions in the sectors covered by the EU ETS and will seek to ensure that our future approach is at least as ambitious as the existing scheme and provide a smooth transition for the relevant sectors.”
Previous Committee Reports
Fortieth Report HC 71–xxxvii (2016–17), chapter 21 (25 April 2017); Fourth Report HC 324–iv (2015–16), chapter 1 (16 September 2015).
128 Generally energy-intensive industries, such as cement and steel, which might re-locate to countries which have a weaker (and therefore cheaper) regulation of emissions, thus simply transferring the emissions elsewhere rather than reducing them.
129 COM(17) 54—see earlier chapter of this Report.
131 The MSR is designed to avoid significant fluctuations in the carbon price. It will remove allowances at times of excess and release them when the number of allowances on the market dips below a fixed threshold or of there is a surge in the carbon price.
11 December 2017