Archive for emissions

What does the economic outlook mean for the EU’s climate change plans?

Posted in Climate policy with tags , , , , on January 26, 2008 by Dan

Climate change was the hot topic at last year’s World Economic Forum. This time round, it is sub-prime loans and the debt markets; SocGen and the equity markets; and the economic fundamentals that might be behind these volatilities.

On the first day of the conference, the chair of the IPCC said that he is concerned world leaders might be distracted by such short-term issues. Well, they are a little distracted. Pretty much everyone thinks that growth will be weak in the developed world in 2008. That has not stopped European politicians from supporting the EC’s package of climate change and energy proposals, which was released earlier this week.

Two ways that the economic outlook could affect European plans to manage greenhouse gas emissions are:

  1. The idea of carbon tariffs for imports into the EU will gain currency as employment moves up the political agenda. Carbon tariffs would mean that importers of goods from countries with low emissions costs would have to purchase EUAs, preventing them gaining an advantage in the European market over European producers.
  2. Tighter credit will mean that the price of emissions allowances will have to rise to make the reductions envisaged by the EC’s plan look financially sensible. All reductions require some level of investment, and as the cost of capital rises, demand for allowances will increase. For industries outside the EU ETS, governments will have to make stricter regulation to force these costs onto consumers, or provide more fiscal incentives.

Slumping EUA price makes an equity bounceback look unlikely

Posted in Carbon markets with tags , , , , , , , on January 22, 2008 by Dan

European carbon allowances are slumping alongside share prices. As the value of the FTSE 100 dropped yesterday by 5.5 per cent, EUA 2008 future prices dropped by 6.6 per cent. The price of emissions allowances continues to drop this morning, reaching a five month low of EUR 18.50.

Many traders are pointing to some of the usual drivers of the carbon price, particularly the wholesale price of energy, which has fallen over the past few weeks. That doesn’t add up at all – such a pronounced drop in the EUA price could not possibly be unrelated to a simultaneous plunge in equity markets.

It looks like the market is adjusting its view of the likely demand for carbon allowances over the next 11 months. An economic downturn means lower greenhouse gas emissions, and therefore increased supply of allowances and reduced demand. This does not make the EU ETS any less effective in reaching emissions targets – but it does reduce investment in clean technology.

This view makes an equity bounceback look unlikely. The vast majority of participants in the EUA market are EU ETS installations, meaning that they have a statutory requirement to hold a number of allowances that cover their emissions. A sell-off among these companies reflects gloomy growth prospects.

Note that carbon prices are much more volatile than share prices. A little under a year ago, the EUA 2008 price dropped below EUR 13. If the FTSE 100 was at 3000 last year, the share losses of the past few days would look quite different.

Stopgap legislation required to prevent energy generators holding consumers to ransom

Posted in Energy markets with tags , , , , , , , , on January 17, 2008 by Dan

Newpapers today reported a calculation by Ofgem that credits distributed free to energy generators in the second round of the EU ETS will net them £9bn. The Association of Electricity Producer’s denial did not actually deny it. Ofgem apparently then proposed that the Treasury levy some sort of windfall tax and redistribute it to poor consumers who have been hit by rising energy prices (which are mainly driven by wholesale energy prices, not the EU ETS).

But why should free distribution of the credits yield a windfall? The free credits do have a market value, but the generators cannot sell them because they need them to cover their own emissions. There is a highly inefficient reason behind the windfall: consumers have to bribe generators not to shut down. Once generators have been given credits, one option is to shut down and sell them. Consumers must therefore pay the generators the price of the electricity plus the price of the credits to persuade them not to do so. The credits need not be sold. Ofgem estimates that 17 per cent of retail electricity prices and 13 per cent of retail gas prices is accounted for by this cost.

From 2012, more credits will be auctioned. That will not reduce retail energy prices, but it will put the price of credits in the government’s pocket rather than the generators’. In the meantime, stopgap legislation should be passed to allow the government to repossess credits or fine an EU ETS installation if it scales down or ceases trading. Competition should then push retail prices back down so that they do not include the market value of freely distributed credits.

Geeky point about global warming potentials

Posted in Other with tags , , , , on January 7, 2008 by Dan

Greenhouse gases have global warming potentials that are described in terms of carbon dioxide equivalents. Methane, for example, has a warming potential of 25. This means that, over a 100 year period, one tonne of methane will warm the earth 25 times more than one tonne of carbon dioxide. Some less common gases have very high warming potentials. Sulphur hexafluoride, for example, has a warming potential of 22,800.

A central part of these factors is the length of time that the gases remain in the atmosphere. Methane, for example, remains in the atmosphere for around 12 years, while carbon dioxide remains in the atmosphere for longer – between 50 and 200 years. If warming potentials are assessed over a 20 year period, methane is 72 (not 25) times more potent than carbon dioxide. Gases with a short life look better when assessed over a long period.

Policy calculations use a time horizon of 100 years.

This is important because the timing of emissions matters. Reducing global warming now is more important than reducing it in the future. The warming potentials, however, assume that all warming caused over the 100 years following release of the gas is of equal value.

A sensible solution might be to use the atmospheric life of each gas as the time horizon, and discount the warming to reflect our preference for reducing warming closer to the present. This discount rate would also be used in the carbon capital calculations recommended in an earlier post.

For warming potentials and atmospheric lifetimes, see p212 of the IPCC’s Climate Change 2007 – The Physical Science Basis (pdf).

Poor countries should use the same carbon price as everyone else

Posted in Carbon markets with tags , , , , on December 24, 2007 by Dan

During Bali, everyone was telling the US that China’s lack of a binding emissions reduction plan is not a reasonable excuse for not having one yourself. It is a fair point. Many environmentalists and Southern politicians also argue that any obligation to reduce emissions rests with the North.

per-capita-emissions.pngThere are four reasons that are given for turning a blind eye to China (and the South): (i) its per-capita emissions are much lower than those of developed countries (true, see chart), (ii) Northern countries have a larger historical responsibility for the emissions already in the atmosphere (true), (iii) many parts of China are very poor and we should not hamper their development (agreed), and (iv) much of China’s emissions are associated with its exports to the North, which is ‘outsourcing’ the pollution that results from manufacturing its goods.

From a perspective of developing a global plan for reducing emissions, all but the last of these arguments are True But Irrelevant. Climate science clearly shows that it is the absolute volume of greenhouse gases that is important, and dividing a country’s emissions by its population has no bearing on the environmental risk associated with the emissions.

In fact all emissions – no matter what the current or historical intensity of their source – must be assigned the same cost if we are to achieve a global cap without ‘leakage’. Leakage is where global production lines arbitrage between weak and strong emissions regimes. Production is located under a weak or non-existent regime and the resulting high intensity goods are sold to consumers in strong regimes, distorting trade relationships and undermining the environmental benefit of the strong regime.

The question is not who should reduce and under what relative conditions, but how should the international community structure aid to China and the South so that the carbon price does not adversely affect welfare or development. Something much more ambitious than the Clean Development Mechanism is required.

The last argument – that we are exporting pollution to the South and it is our responsibility – is false. The emissions associated with domestic consumption (which according to recent Tyndall Centre research are 77% of the country’s total emissions) are growing very quickly too. Chinese production methods, whether for export or the Chinese market, are very polluting and it is the Chinese government’s responsibility to manage them.

A possible stepping stone between a global carbon price and the current situation of leaky national and regional regimes would be to negotiate carbon ‘tariffs’ for Northern countries. Importers would have to buy credits when importing goods from countries with no cap, increasing the price and encouraging producers to invest in more efficient processes.