In Europe, discussions continue in relation to structural reform of the European Union Emissions Trading System (EU ETS). The EU ETS has a growing surplus of carbon credits, estimated at over 2 billion allowances. This has led to a collapse in carbon prices, and reduced incentive on participants to reduce emissions. The European Commission has proposed two measures to address this:

Backloading

As a short-term measure, the Commission is postponing the auctioning of 900 million allowances until 2019-2020 to allow demand to pick up. This "backloading" of auctions is being implemented through an amendment to the EU ETS Auctioning Regulation. Back-loading does not reduce the overall number of allowances to be auctioned during phase 3, only the distribution of auctions over the period. In 2014 the auction volume will be reduced by 400 million allowances, in 2015 by 300 million and in 2016 by 200 million.

Proposal for market stability reserve

As a more long-term solution, the Commission proposes to also establish a market stability reserve (MSR) at the beginning of the next trading period in 2021. The MSR will reduce the amount of EU Allowance Units (EUAs) that are auctioned if an upper threshold of EUAs in circulation is exceeded and releases them if the EUAs in circulation fall short of a lower threshold. The change in auctioning volume is triggered by the volume of banked credits, not by credit prices. The Commission put forward a proposal in January 2014. Both the European parliament and the EU Council, representing the EU 28 national governments, have to agree a common text before the proposal can become binding. Not all EU Member States are in favor of the MSR, either in its proposed form or at all.

The UK Government supports the introduction of an MSR and calls for:

  • Implementation by 2017, to urgently address the surplus.
  • Backloaded allowances to be cancelled and/or enhancement of the proposed mechanism to smooth auction volumes so that backloaded allowances are placed directly into the reserve.
  • Amendments to ensure allowances are retained in the reserve under "business as usual circumstances" and therefore remain available to provide protection against insufficient liquidity and prices rising too quickly should these occur in the future.