European carbon price is still in trouble
Why is the EU carbon price falling? A vote designed to save the EU emissions trading scheme got through an essential committee on Tuesday – a move that should have instilled market confidence. But it doesn’t seem to have worked.
Even though the environment committee voted to accept a measure to withhold permits in an attempt to bolster the market – known as backloading – it actually caused the carbon price to fall. This is because the committee vote is just one small step in a long process to get the measure passed, and even if backloading is implemented it may not be enough to save the scheme in the long run.
Tuesday’s vote
The environment committee voted to withhold 900 million permits from the EU carbon market by 38 to 25 votes. The plan will temporarily stop companies emitting 900 million tonnes of carbon dioxide – about twice as much as the UK emitted in a year, according to DECC’s latest figures.
Companies buy and sell permits to emit carbon dioxide under the ETS. They can sell excess permits for a profit if they emit less than the permits they’ve bought – rewarding those that cut emissions. But the market is currently oversupplied. This means permits are cheap, lessening the incentive for companies to reduce their emissions.
Withholding the permits reduces the supply and is meant to lift the price. Market analysts Reuters Point Carbon before the vote said it expected approval to lift the carbon price by â?¬1-2.
But the carbon price actually dropped by about 10 per cent in the immediate aftermath of the vote – from â?¬5 to â?¬4.50 per tonne of carbon dioxide. Today the price rebounded to â?¬4.75 – higher than the record lows of January but still below the expected recovery to above â?¬5.
Small step
Bloomberg tells us investors were unimpressed because not all aspects of the plan were agreed. Significantly, the committee didn’t approve a measure that would have allowed it to skip a large part of the parliamentary process and take backloading straight to the European Council.
According to Bloomberg, blocking the measure betrays a “lack of full support from the parliament, which although perhaps unsurprising, still disappointed more optimistic traders”.
A new vote is scheduled for next week on whether to take the backloading plan to the council. If the environment committee again rejects it, the plan will have to go through the full parliamentary process – delaying backloading and keeping the carbon price low.
And it is unclear if the backloading plan would be approved by the full parliament.
The plan needs 255 of the 345 MEPs to vote for it to pass. Some major nations such as Germany – with 29 votes – still haven’t said whether or not they support the plan. MEPs from Poland, Czech Republic, Slovakia, Hungary, Bulgaria and Romania are expected to oppose it.
So there is still a lot of work to do to get backloading through the parliament, let alone implemented.
Temporary fix
But even if the measure is implemented it may not save the ETS in the long-run.
The 900 million permits are only being temporarily withdrawn – they would be put back into the market in 2019 and 2020. So while the oversupply problem may be solved for the time being, it could re-emerge.
For the price to experience a longer term rise there needs to be greater structural reform of the ETS. This could be anything from cancelling the backloaded permits altogether, to extending the scheme’s reach to other sectors such as transport. Both these measures would reduce supply and increase demand – potentially lifting the carbon price.
Reuters Point Carbon tells us the only realistic option in the short term is cancelling the 900 million permits. All the other proposals require structural changes to the scheme that can only happen in its next phase – after 2021.
But for the permits to be permanently cancelled the backloading plan needs to be implemented first.
Long game
If MEPs had rejected the backloading plan on Tuesday it could have spelled disaster for the ETS. But their acceptance is just the first step in a much longer process to boost the carbon price.
The environment committee must now get support to speed up the process and get backloading implemented without delay. But these are only the first moves in a much longer game to save the fledgling scheme.