EU emissions trading: a brief introduction
In Europe, about 11,000 installations are only allowed to emit CO2 and other greenhouse gases if they hold an emission allowance for each tonne. These EU emission rights are issued by the EU (or individual states) and are limited in quantity. Each year, the amount of newly emitted emission rights is also reduced, so that over time not only does the scarcity continue to increase, but a reduction path is actually achieved in CO2 emissions and other greenhouse gases. Currently, the number of new EU emission rights emitted is reduced by 2.2% per year; in the future, this cap (referred to as “cap and trade”) will be 4.2%. Currently, almost 50% of all emissions in Europe are controlled and reduced through this emissions trading. From about 2028 onwards, this share will be significantly increased, even if not all details are known yet. But even now, EU emissions trading is the EU’s central climate policy instrument par excellence. In the sectors subject to emissions trading, the reduction of emissions is progressing steadily. The fact that the climate targets are nevertheless not quite achieved is not due to the basic mechanism of emissions trading, but to the (unfortunately still) too moderate reduction path for new emissions rights. In the meantime, EU emissions trading has become the most important and best-functioning emissions trading system in the world and is the model for the development of emissions trading in other countries – even China has now decided to establish a similar system. Economists consider emissions trading to be the “gold standard” in climate policy, as the degree of target achievement is high and the economic costs are low. The advantage of emissions trading compared to promotion and subsidy programmes as well as government incentives and bans is that emissions trading is completely open to technology. Its economic charm lies in the fact that highly decentralised processes with the lowest possible CO2 avoidance costs are sought.
Can emissions be reduced by holding emission rights?
Since every company in well-defined industrial sectors (e.g. power generation or aviation) needs mandatory European emission allowances (EUAs), but these allowances are in turn limited in number and scarce, any available allowance will most likely one day be used to legitimise emissions. This is precisely why they have an economic value and why their value has increased significantly in recent years. The scarcity of emission rights can be used to reduce emissions by permanently withdrawing EU emission rights from the market. They are thus no longer available to legitimise emissions. This method practised by CAP2 reduces emissions with legal certainty. But does this also apply to the explicitly temporary holding of EU emission rights? It could be argued that any emission right held (e.g. for the purpose of making a profit) is at least temporarily not available to legitimise emissions and thus at least at the moment of holding the EU emission rights CO2 emissions are actually reduced. On the surface, this logic is compelling, but it has a huge catch. For it is largely irrelevant for the climate whether emissions occur now or only in five or ten years’ time when the EU emission rights are sold later, especially since it takes hundreds of years for CO2 to decompose in the atmosphere. It is thus clear that holding emission rights only temporarily cannot have a direct effect on the climate.
The role of the Market Stability Reserve in EU emissions trading
At first glance, the picture looks somewhat different when the mechanism of the Market Stability Reserve (MSR) of EU emissions trading is included in the calculation. The Market Stability Reserve has the task of reducing the number of “surplus” EUAs by currently deducting 24% of the emission allowances held in stock or for speculative purposes from the number of emission allowances actually up for auction each year. Some argue that for every hundred allowances held temporarily and not used to legitimise emissions, an additional 24 allowances will be cancelled. In this logic, even the temporary holding of EUAs would have a certain climate effect.
This assumes, however, that all rights held temporarily would otherwise have been used in the same year to legitimise emissions and would not have originated from stockpiling or speculative mass, or would have been transferred to it by an alternative buyer. It must therefore be assumed that there would be an immediate one hundred percent reduction in actual emissions through the purchase of unneeded rights on the secondary market – a frankly completely absurd assumption. Moreover, the desired effect degenerated over the years due to mathematical subtleties, so that enormous quantities of rights would have to be purchased in order to achieve any effect at all in the context of the MSR, which, moreover, would still not be quantifiable with any precision.
Conclusion
The consequence of these considerations is clear: holding emission rights temporarily has no effect, or at best only a marginal effect on the climate. The only way to achieve this is to hold emission rights in perpetuity. This requires a well thought-out setting that can fulfil this purpose with a legal guarantee. The hoped-for effects of a temporary holding of EUAs, on the other hand, are window dressing.
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