Emissions allocation at critical stage

The electricity supply industry appears to have persuaded the Department of Trade and Industry to increase significantly its allocation under the EU emissions trading scheme - threatening to send the UK's national allocation plan (NAP) back to the drawing board. Meanwhile, progress has been made on allocation methodologies and the treatment of new entrants.

Member States are supposed to finalise allocations to individual installations by 1 October. Most countries look set to miss this deadline by a mile - with the next 11 NAPs not due to be considered by the European Commission until September.

The UK's NAP was among the first eight to be approved in July (ENDS Report 354, pp 56-57 ). However, the UK will also miss the October deadline - not least because revised energy forecasts from the Department for Trade and Industry, already months behind schedule, are not now expected until September.

The delays threaten the planned start date of 1 January 2005. Indeed, a survey by Ernst & Young of more than 200 of Europe's largest companies found that only 47% expect the scheme to start on time. Moreover, only 39% expect the scheme's first phase to deliver the planned reduction in emissions and just one in three expect a liquid market in allowances to emerge.

Officials are now downplaying expectations. They point out that the key date in getting the scheme off the ground is the end of February, the deadline for issuing allowances.

One condition of the Commission's approval for the UK's NAP was that the total allocation is now fixed. Even so, industry sectors are still hoping to increase their allocation by influencing the DTI's energy forecasts.

The electricity generation industry has been pushing for a massive increase in its allocation of 22mtCO2 per year, or 15%. The Association of Electricity Producers is optimistic that the DTI has agreed to increase the sector's allocation by 6-7mtCO2 per year - and is now pressing for amended emissions factors to be used which would add another 6mtCO2 per year.

If the DTI has indeed increased its "business as usual" forecasts, the Government faces a tricky choice. It will either have to resubmit a new NAP to the Commission - an embarrassing and potentially risky step - or accept that it should move further beyond "business as usual" than originally planned.

Environmental group WWF is calling on the Government to follow the second course and "get tough on the power companies". It has released a report by consultants Ilex which shows that the power sector could deliver savings of 48mtCO2 in the scheme's first phase, assuming a carbon price of €10/tCO2. In contrast, the Government is looking for savings of just 5.5mtCO2 from the power sector, with no savings at all from manufacturing industry.

Other key developments include:

  • Impact on power prices: One of the most important competitiveness impacts of the trading scheme is its effect on electricity prices (ENDS Report 354, p 5 ).

    A report for the DTI by Ilex expects all of the increase in costs to be passed through to higher electricity prices.1 A carbon price of €10/tCO2 is expected to increase prices by 5.5% for domestic customers and by 11.1% for medium-sized industrial users.

    Even so, Ilex says the UK will still have the lowest domestic electricity prices of 10 western European countries studied.1 The trading scheme could make the UK slip from second to third cheapest for medium-sized industrial users, and from second to fourth cheapest for large users.

  • Report on Member States' allocation plans: In late August, the Government released a study by consultants Ecofys which analyses NAPs from 18 Member States, some of which are still in draft form.2 Ecofys confirms that most Member States have imposed caps which are tighter than "business as usual" emissions. In most cases, including the UK, the difference is slight - though Denmark has allocated 15% less than business as usual requirements. The Netherlands, Portugal, Estonia, Latvia, Lithuania and, potentially, Germany all plan to issue more allowances than their industries need.

    However, the consultants warn that only eight Member States provided sufficient information to allow a robust assessment.

    "Given that the purpose of the scheme is to reduce emissions," DEFRA says, "it is disappointing that this is not clear." It calls for greater tranparency in the European Commission's process for assessing NAPs.

    Only the UK, Germany, Latvia and Lithuania have set caps which would put sectors under the scheme on course to deliver a proportionate contribution to the Member States' Kyoto Protocol target.

    Ecofys found that many NAPs make poorly substantiated assumptions on policies outside the trading scheme. Twelve countries plan to use imported credits from Kyoto's "flexible mechanisms" - but only three, Austria, Italy and the Netherlands, have "significant existing programmes".

    DEFRA also raises concerns over the different scope of Member States' NAPs. It urges the Commission to reject a "very narrow" definition of combustion plant adopted by France, Spain and possibly Italy which would create "a damaging competitive distortion" in sectors such as chemicals and automotive manufacturing.

    The UK has itself come in for criticism for its relatively narrow interpretation which excludes combustion plant that is part of an industrial process (ENDS Report 345, p 5 ).

  • Decisions on allocation methodology: In late July, DEFRA finalised most aspects of the allocation methodology.3 As expected, the baseline period for calculating each installation's share of the sector total will be extended to include 2003 (ENDS Report 352, pp 41-44 ).

    DEFRA has also finalised rules to amend the allocation for installations which undergo a significant change during the baseline period. These will apply where "technical units" have been added or closed - but not where emissions have changed due to changes in product mix, market conditions or refitting or rebuilding of existing units.

    Where an operator has rationalised production by closing a site, allocation for the affected sites will be based only on emissions after the transfer of output has taken place. This provision will not be available in the power sector.

    Other rules deal with temporary closure and commissioning in the power and cement sectors where bringing new plant on line can be a lengthy process.

  • New entrants: DEFRA has also set out proposals to allocate to new entrants - installations which commenced operation between the start of 2004 and the end of 2007.4

    The approach will also apply to installations which started operating in 2003, extensions which result in an increase in capacity and plants which restart after temporary closure. However, DEFRA has now decided not to apply it to installations which increase emissions because of changing operational patterns or de-bottlenecking

    The allocation will be based on standardised benchmarks developed by AEA Technology. The consultants derived fairly simple methodologies, in conjunction with the relevant trade associations, for combined heat and power, combustion plant, power stations, refineries, glass, paper, cement, lime and ceramics installations. Benchmarks for the iron and steel sector have not yet been finalised - significant given that a high level of new entry is expected in this sector.

    AEA aimed "to encourage the use of energy-efficient technologies and to promote the utilisation of low carbon fuels", with allowances being based on "best available techniques". However, this is not always apparent - allocation for new gas-fired power stations assumes a 56.2% efficiency, but the latest turbine developments are claimed to deliver efficiencies of 60%.

    DEFRA asked operators to provide data on proposed new installations by mid-August. This will inform the final installation-level allocations, and help finalise the proposed new entrant reserve.

  • Emissions registry: DEFRA has agreed terms with ten European countries on the use of its software for emissions trading registries. Shared use of the system, which builds on the successful registry developed for the UK's domestic emissions trading scheme, should reduce costs for all parties.