Commission calls for overhaul of Emissions Trading Scheme, binding renewable energy targets.

On 23 January 2008, the European Commission (Commission) announced new proposals to combat climate change. Key to the proposals are an overhaul of the Emissions Trading Scheme (ETS) and challenging binding renewable energy targets both for individual Member States and for the European Union (EU) as a whole.

Regulations Affected by These Proposals

The existing ETS Directive 2003/87/EC (ETS Directive) establishes a framework for the purchase and sale of allowances to meet EU Member States greenhouse gas emissions caps. Under the ETS Directive, all operators subject to the scheme are allocated a number of allowances for their greenhouse gas emissions. Each allowance entitles an operator to emit one tonne of carbon dioxide per year. If an operator produces less emissions, it may sell its extra allowances for the benefit of any other operator whose emissions exceed its emissions cap and which requires additional allowances for the purposes of compliance. Each year, an operator must surrender allowances to cover the total amount of its own emissions for that year. Operators that do not surrender the relevant number of allowances are required to pay a penalty. The first trading period under the ETS was 1 January 2005 through 31 December 2007, and the second trading period, which coincides with the first commitment period of the Kyoto Protocol, is 1 January 2008 through 31 December 2012.

The Renewables Directive 2001/77/EC (Renewables Directive) introduced indicative national targets to promote the generation of electricity from renewable sources and established a process of issuing guarantees of origin, certificates establishing that the related energy was sourced from a renewable resource, akin to a renewable energy certificate. In the Commission’s view, the Renewables Directive has provided an important framework for the development of national support schemes to achieve the indicative targets. Currently, 27 Member States operate 27 different national support schemes, including trading green certificates, imposing electricity taxes and providing feed-in tariffs. In March 2007, the Brussels European Council invited the Commission to submit a proposal for a new comprehensive directive on the use and promotion of renewable resources.

Commission’s Proposals: Throwing Down the Gauntlet

The Commission has proposed to strengthen, expand and improve the ETS for the period beyond 2012 to achieve a reduction in EU emissions of at least 20 per cent by 2020 compared with 1990 levels, and by 30 per cent if a global climate change agreement is reached. In particular, the Commission has proposed the following:

  • A single EU-wide cap on the number of emission allowances instead of 27 national caps. The annual cap will decrease according to a linear trend line, which will continue beyond the end of the third trading phase (2013-2020).
  • Fewer allowances will be issued free of charge, and more allowances will be auctioned. It is estimated that 60 per cent of the total number of allowances will be auctioned by 2013 and that this percentage will increase.
  • The Commission will issue harmonised rules governing the free allocation of emissions.
  • The ETS will cover new industries, including petrochemicals, aluminium and ammonia, and new gases, including nitrous oxide emissions and perfluorocarbons. The capture, transport and geological storage of all greenhouse gas emissions will also be covered.
  • Member States may continue to use clean development mechanism credits from emission reduction projects in certain Kyoto-approved countries, until a future global climate change agreement has been reached, up to a quantity of 3 per cent of the emissions of each Member State not covered by the ETS Directive in 2005. Once a future global agreement on climate change has been reached, Member States should only accept emission reduction credits from countries which have ratified that agreement and are subject to a common approach.

The Commission also has proposed significant changes with respect to renewable energy. It has recommended an overall binding target for Member States to ensure that 20 per cent of the energy consumed in the EU is renewable energy by 2020, and binding national targets for each Member State in line with the overall target. For example, by 2020, the United Kingdom must ensure that 15 per cent of the energy consumed within the United Kingdom is renewable energy, and France must ensure that 23 per cent of the energy consumed within its borders is renewable energy. Each Member State also would be required to ensure that 10 per cent of the energy consumed in the transport sector is renewable energy (primarily biofuels) by 2020.

In addition, the proposed directive does the following:

  • Consolidates legislation relating to renewable energy for electricity and biofuels, which currently are contained in two directives, and requires commercial heating and cooling powered by renewable energies for the first time
  • Provides that competent EU Member States authorities should issue guarantees of origin of the standard size of 1 MWh at the request of producers of electricity generated by renewable energy sources, and of commercial heating or cooling from renewable energy sources, and sets out the guarantee requirements, but leaves the detailed regulation to EU Member States
  • Provides that a guarantee of origin shall be submitted to the competent EU Member State authorities for cancellation not more than a year after its date of issue, when (i) a Member State has established such an obligation under a national scheme, (ii) the plant receives support in form of feed-in tariff payments, premium payments, tax reductions, etc., and (iii) an energy supplier or consumer chooses to use the guarantee for the purpose of proving its share of renewable energy
  • Provides for transfer of guarantees of origin issued by a Member State to or from persons in other Member States similar to the EU ETS but subject to the following limitations:
    • The transfer should cover only guarantees of origin issued to plants that were commissioned after the effective date of the proposed directive, or for production due to an increase in the renewable energy capacity of a plant after the effective date.
    • Member States may provide for a system of prior authorisation for the transfer of guarantees of origin if they need to do so to ensure a secure and balanced energy supply, to achieve the environmental objectives that underlie their support scheme, or to comply with the targets laid down in the proposal.
  • Confirms that renewable energy produced and consumed in non-EU countries will not count towards the EU’s targets for the consumption of renewable energy
  • Provides for rules that ensure that producers of electricity from renewable sources will have priority access to the electricity grids and non-discriminatory transmission and distribution fees
  • Establishes minimum environmental sustainability criteria for biofuels, rules on compliance verification and rules on the calculation of the greenhouse gas impact of biofuels

The proposals must be approved by the European Parliament and the Council of the European Union under the “co-decision” procedure. If there is broad political consensus and these institutions approve the proposals at first reading, the proposal can be adopted within a year. During the early stage of drafting, Germany and Spain made objections to the trading in guarantees of origin regime under the Renewable Energy Directive. If these countries maintain their objections or other Member States raise further objections, the legislative procedure may take up to three years. However, it appears that there is political will to reach agreement quickly.

Costs and Opportunities for Industry Players 

The Commission’s proposals are likely to impose a significant cost burden on business, yet at the same time provide businesses with significant investment opportunities. To meet the more stringent requirements, operators covered by the ETS likely will need to either invest in new technologies to reduce their carbon emissions or invest more in purchasing additional allowances to cover the emissions in excess of their cap. The Commission’s president, Jose Manuel Barroso, also has indicated that the increased costs may put European businesses at a competitive disadvantage to businesses in non-EU countries. A global climate change agreement should address that imbalance, but if countries such as the United States do not agree to it, Barroso has stated that carbon tariffs may be imposed on their imports into the EU.

Similarly, in relation to the Commission’s renewable energy proposals, businesses likely will be required either to invest in technologies to create additional renewable energy or to purchase guarantees of origin to satisfy legislative requirements. Further challenges may exist for persons wishing to trade with a Member State that has introduced a prior authorisation procedure and as a consequence limits the guarantees of origin that are transferable between Member States.

Along with the costs, there are benefits to the new proposals. The benefits include the trading opportunities that will arise both from the expanded ETS and from a more harmonised trading relationship that is likely to emerge in respect of guarantees of origin as a consequence of the proposed directive. There are also business and finance opportunity associated with the reduction of emissions and the production of renewable energy.

Conclusion

The Commission’s proposals in relation to the ETS and its proposed directive on renewable energy constitute a radical rethink of the way in which climate change will be addressed. The proposals represent a significantly more stringent approach than the existing one. Key to the proposals have been the increased trading opportunities, particularly within the EU, for allowances under the ETS and guarantees of origin to meet renewable energy targets. Such opportunities are likely to foster more trade between Member States and, where they exist, break down barriers to help achieve the challenging targets proposed by the Commission. More harmonious EU-based trading schemes are likely to set standards for and be an important step towards global trading schemes. In making its proposals, the Commission has raised the stakes for businesses throughout Europe and internationally, but it remains to be see whether they are up to the challenge.