Unlocking Competitive Industry - full report - 8Jan14

Transcription

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Unlocking a competitive, low carbon and energy efficient
future – a closer look at carbon leakage
A study with focus on the Structural Reform of the EU Emissions Trading Scheme with
quantitative analyses of the chemical industry
8 January 2014
A study based on Cefic Roadmap 2050
Executive Summary
It is increasingly apparent that Europe’s competitiveness, and the potential for economic growth,
depend on safeguarding industries’ access to competitive, reliable energy supplies. EU Policy-makers
must develop energy and climate policies that keep costs in check and ensure competitive supplies of
energy relative to other world regions. Doing so will enable EU industry to compete and to continue
supporting extensive value chains and innovation. Better policies can unlock the EU’s potential towards
a competitive low-carbon economy while promoting recovery and attracting investment and
stimulating growth and job creation.
However, the emergence of low cost competition from third countries means that the competitive
position of EU industry has deteriorated significantly. Present problems of European manufacturing
industry are relatively high prices for electricity, natural gas and feedstocks (e.g. as a result of shale
gas in the USA) and a climate package which is not yet geared to global competitiveness and the
avoidance of carbon and energy leakage.
To counter the present trend of a decreasing share of manufacturing industry of GDP, the European
Commission has committed itself to increase this share from the present 16% to 20% by 2020.
Building on the Cefic Roadmap 2050, it is analysed that the climate policies need to be adapted. In
relative terms, these adaptations are the easiest to achieve since Europe can decide itself.
Concerning RES (Renewable Energy Sources), the cost pass-through to industry exposed to the risk of
carbon and energy leakage should be carefully mirrored to the same cost pass-through in the major
competing countries. Moreover, there should be EU-wide certainty about this principle, otherwise the
investment behaviour is not influenced positively. For the EED (Energy Efficiency Directive), the double
regulation with the EU ETS (Emissions Trading Scheme) should be ended. The EU ETS needs a
comprehensive structural reform package to improve global competitiveness and thus to avoid carbon
leakage. This reform is the main topic of this study.
The structural reform of the EU ETS – carbon leakage
The EU ETS Directive acknowledges that increasing the cost of energy and climate policies in the EU,
relative to competitor economies, could undermine the competitiveness of EU energy intensive
industries and give rise to production and investment carbon leakage: thereby exporting jobs and
emissions. The Directive seeks to address this concern by a system based on benchmarks, for the
allocation of free allowances for direct emissions and financial compensation for indirect (electricity)
emissions, to undertakings at risk of carbon leakage. There was, and still is, a belief that this system
would effectively protect exposed sectors and would prevent carbon leakage.
The reality is very different, for the following reasons.
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•
There is uncertainty about the carbon leakage status, which is a negative factor for decisions to
invest in maintaining or expanding manufacturing capacity in Europe. The rules to qualify as
“exposed” are to some extent arbitrary while it was a political decision of the Heads of State to
safeguard industry sectors competing on increasingly globalising markets.
•
The treatment of indirect (electricity) emissions is based on an incomplete and inherently unstable
system for financial compensation. The incompleteness regards the sectors covered, the reduction
factors and the absence of this compensation in many Member States.
•
The level of the benchmarks, the ambitious top 10% benchmarks multiplied with the present CSCF
(cross-sectoral correction factor) for incumbents and with the LRF (linear reduction factor) for new
entrants – both factors go down year by year – is too stringent to avoid carbon leakage.
•
The absolute cap and the annual reduction of emissions have currently no correspondence with
neither technological nor economic reality. The technological development rate and the financial
health of manufacturing industry to finance it, is determined by global action (or lack of action)
and not by a political decision on the target. Neglecting this while setting a goal for manufacturing
industry will, in absence of a new Global Climate Agreement with a true global level playing field,
result in delocalisation without reduction of the EU carbon footprint.
•
The system for the free allocation of allowances and for the financial compensation, has been
implemented in such a way (“ex-ante” backward looking) that it creates perverse incentives that
actually increase, rather than reduce the risk of carbon leakage.
The “ex-ante” system for free allocation and financial compensation
The number of free allowances that an installation will be allocated is based on two factors: the
historical production levels of that installation, that is to say the median production between 1 January
2005 and 31 December 2008 (or, if is higher, the median production between 1 January 2009 and 31
December 2010) and a “benchmark” for carbon efficiency based on the arithmetic average of the
performance of the 10% most greenhouse gas efficient installations, in each category of product, in
2007 and 2008.
The combination of these two factors creates a perverse incentive to carbon leakage. Basing the
allocation of allowances on the “ex-ante” historical production means that:
•
If production levels fall below historical levels, an installation will receive more free allowances
than “current” production would reflect and could reap a windfall profit. The effect of this is to give
EU undertakings an incentive to reduce production in the EU and to tip the balance in favour of
importing products from third countries, until a level of 49% of the historical baseline.
•
Conversely, if production levels increase above historical levels an installation would receive fewer
allowances than “current” production would indicate, and would have to buy all allowances to cover
the shortfall. The effect of this is to inhibit growth in the EU by existing manufacturing plants.
•
Furthermore, for investments in new manufacturing plants for market growth and in many cases
also for replacements of older less efficient plants by modern high efficiency new plants it appears
that the rules to get allowances imply many barriers and risks. The effect of this is to inhibit
growth in the EU and to provide an incentive to invest in additional production in third countries.
The same analysis applies to the benchmark-based financial compensation.
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The extent to which industry is exposed to these incentives is determined by the benchmarks: their
strength is a function of the EU ETS carbon price. This study shows that, with the current “average top
10%” benchmark, even carbon prices of € 20-35/ton CO2 will have dramatic effects on EU
manufacturing of basic chemicals, and investment therein.
The impact of these incentives will vary depending on the competitiveness of EU industry, and of
individual installations, relative to their international competitors. The emergence of low cost
competition in third countries, for example due to the shale gas revolution in the USA, is tipping the
balance ever further against EU industry.
In the circumstances, measures that pursue a high EU ETS carbon price and high energy costs 1 can
only increase the likelihood of carbon and energy leakage. And, to the extent that they replace EU
carbon emissions with “imported emissions” they will achieve nothing.
The “ex-post” solution and level of the benchmarks
The perverse incentives resulting from the “ex-ante” allocation of free allowances can be easily avoided
by the adoption of an “ex-post” dynamic allocation based on actual production levels. Such a system
would mean that undertakings no longer receive allocations regardless of whether they produce more
or less than the arbitrary historical levels: and therefore it avoids both windfall profit taking and
penalties for growth.
The system works as follows:
•
The free allocation of allowances, based on industry benchmarks, is made in February (as happens
today).
•
After the end of the year, the actual level of production is reconciled with the free allocation. Any
surplus allowances given would be withdrawn from the next year’s allocation and transferred to the
New Entrants Reserve. Any shortfall in the allowances given would be withdrawn from the New
Entrants Reserve and added to the next year’s allocation.
In this way, the New Entrants Reserve becomes a “carbon bank” for the allocation of free allowances.
Introducing such a system, based on revised benchmarks that reflect average performance, would
effectively remove the perverse incentives and the risk of carbon leakage in the current system.
The Structural Reform of the EU ETS must address all root causes of structural problems
In this study the main root causes of structural problems are identified. Therefore the Structural
Reform of the EU ETS must address all these root causes, such as notably:
•
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The criteria to become acknowledged as exposed to the risk of carbon leakage should be
strengthened by complementing the present assessment criteria with essential new elements.
Important proposed new elements are an assessment of the costs of CO2 (which means carbon
price level and allocation rules for direct and indirect emissions), natural gas (ref. shale gas),
feedstock and electricity in Europe versus the other major industrial regions in the world. Also new
elements such as a clear definition of “a decisive share of global production”, the use of the
marginal power plants for the indirect carbon cost, a prudent auctioning factor, the impact of
value chain effects and a forward looking carbon price should be adopted.
EC Backloading proposal; EC cross-sectoral correction factor decision.
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•
The treatment of indirect (electricity) emissions should be based on a more solid and predictable
alternative, which is indirect allocation without undue reduction factors and restrictions to
contribute to make European manufacturing industry resistant to carbon leakage.
•
The level of the benchmarks should be designed to provide an effective resistance to carbon
leakage at forward looking higher carbon prices in the longer term future. Detailed quantitative
analyses in this study suggest that this level should be oriented towards the average performance.
The improvement factor must move away from the present too stringent CSCF for incumbents and
LRF for new entrants based on 1.74% points per year. It must be brought in line with a more
realistic – but still ambitious – assessment of technological progress like 0.8% points per year
derived from industry Roadmaps such as Cefic Roadmap 2050.
•
If there is no truly global approach by or shortly after 2020 then the total EU ETS cap should be
timely revisited to ensure that there are sufficient allowances at affordable carbon prices available
for industrial growth (there is anyway a need for a guaranteed new entrants’ reserve and for a
significant Strategic Reserve to avoid skyrocketing carbon prices). This is reflected in the
Continued Fragmentation scenario of Cefic’s Roadmap 2050. Without global participation, the
present EU ETS cap – which continues to go down linearly per year by 1.74% of 2010 emissions (=
38.3 Mton CO2-equivalents/ year, without aviation) – would soon stop industrial growth in the EU.
Because a major problem is in case COP-21 would not immediately create the desired global
approach – as can be realistically expected – that the continued uncertainty will rather sooner than
later be a growth disabler. Therefore, creating certainty for new investments in Europe requires a
robust and predictable positive long-term approach of the EU ETS.
•
As outlined above, the perverse incentives resulting from the “ex-ante” allocation based on
historical production of free allowances must be replaced by the adoption of an “ex-post” dynamic
allocation based on actual production levels, thus preventing over-allocation during recession or
crisis and preventing under-allocation in times of prosperous economic growth. The EU ETS must
change from backward to forward looking, must turn the face from history to the future.
Such a flexible future-oriented higher allocation of allowances (see for quantitative data chapter 14) as
opposed to the present inflexible backward looking tight allocation will make the difference between a
re-industrialising Europe and a Europe with huge investment carbon leakage. If the allocation of
allowances to industry were to remain the same after the Structural Reform of the EU ETS, a Europe
with huge investment carbon leakage would become a self-fulfilling prophecy.
Conclusion
This study builds on Cefic’s Roadmap 2050 findings and analyses the policy impact on manufacturing
costs and profit margins in the chemical industry. It contributes to the current debate on the envisaged
new EU 2030 energy and climate policy framework. The proposed solutions are workable, and treat the
root causes of observed problems leading to a more flexible, crisis- but also growth-proof approach to
delivering agreed policy goals.
Acknowledgements and amenability
The authors wish to thank many colleagues within the Cefic community for their advice, remarks and
difficult questions with the aims to improve the readability and especially to improve the analyses of
structural problems and the solidity of proposed solutions. In particular we mention Giuseppe Astarita
(Federchimica), Els Brouwers (Essenscia), Reinier Gerrits (VNCI), Susanne Kuschel and Brigitta
Hückestein (BASF), Johan van Regemorter (Solvay), Russel Mills (Dow), Nick Campbell (Arkema),
Antoine Hoxha (Fertilizers Europe), Martina Beitke, William Garcia and Christopher Scott-Wilson (Cefic)
for their very active involvement.
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This study is not an officially endorsed Cefic study, nevertheless the analyses and proposed solutions
are within the framework of the Cefic Roadmap 2050 2 and the Cefic contribution 3 to the Structural
Reform of the EU ETS. Notwithstanding that, the content of this study remains the sole responsibility of
the authors.
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Vianney Schyns
Peter Botschek
Utility Support Group (USG)
Cefic - European Chemical Industry Council
Utility provider on the Chemelot site for a.o.
Director Energy, Health, Safety and Environment
SABIC, OCI Nitrogen, DSM, Lanxess, INEOS,
Tel. +32-2-676 7397
Borealis, Sekisui and Polyscope
Mobile: +32-478 380 153
Advisor Climate and Energy Policies
E-mail: pbo@cefic.be
Tel.(mobile): +31-6-205 385 71
E-mail: Vianney.Schyns@usgbv.com
Vianney.Schyns@planet.nl
Lieven Stalmans
Borealis
Group Manager Energy & Environment
Tel. +32-475-516 837
Mobile: +32-475 516 837
E-mail: Lieven.Stalmans@borealisgroup.com
2
European chemistry for growth – Unlocking a competitive, low carbon and energy efficient future,
Cefic Roadmap 2050, Cefic supported by Ecofys, April 2013.
3
Cefic contribution to consultation EC Carbon Market Report, 27 February 2013.
4 On personal title.
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Table of content
1.
INTRODUCTION ............................................................................................................. 9
2.
ANALYSIS: EUROPE’S RENEWABLE ENERGY SOURCES (RES) POLICIES ................................. 10
3.
ANALYSIS: THE EUROPEAN ENERGY EFFICIENCY DIRECTIVE (EED) ...................................... 11
4.
ANALYSIS: THE EUROPEAN EMISSIONS TRADING SCHEME (EU ETS) .................................... 12
4.1.
4.2.
4.3.
4.4.
INDIRECT (ELECTRICITY) EMISSIONS – ECONOMIC IMPACT ON THE CHEMICAL INDUSTRY .......................... 13
THE TREATMENT OF INDIRECT (ELECTRICITY) EMISSIONS – RELATION TO CARBON LEAKAGE ...................... 13
THE UNJUSTIFIED CROSS-SECTORAL CORRECTION FACTOR FOR INCUMBENTS ...................................... 14
THE NEW ENTRANTS’ RESERVE AND AN ALLOWANCES RESERVE IN THE TOTAL CAP AFTER 2020 – RELATION TO
CARBON LEAKAGE ................................................................................................................. 16
4.5.
OTHER LACKING ALLOCATION RULES FOR AFTER 2020 – RELATION TO CARBON LEAKAGE ......................... 17
4.6.
UNCERTAINTY ABOUT THE CARBON LEAKAGE STATUS – RISK OF CLEF ............................................. 18
4.7.
THE ALLOCATION RULES AND THE LEVEL OF THE BENCHMARKS – RELATION TO CARBON LEAKAGE ................. 18
4.7.1.
Introduction: four flaws of an ex-ante frozen allocation .......................................... 18
4.7.2.
Possible windfall profits .................................................................................... 18
4.7.3.
Over-allocation during recession or economic crisis – and: who to blame .................. 19
4.7.4.
Incentive for production carbon leakage .............................................................. 21
4.7.5.
Under-allocation for investments in growth and for investments to replace older less
efficient plants by modern ones – investment carbon leakage; the context of global emission
transfers via international trade ...................................................................................... 21
5.
ANALYSIS: A CLOSER LOOK AT CARBON LEAKAGE MECHANISMS AND THE EU ETS ................. 23
5.1.
CARBON LEAKAGE – INADEQUATE INFORMATION TO THE EUROPEAN PARLIAMENT AND COUNCIL.................. 23
5.2.
CARBON LEAKAGE – DEFINITION: TWO ERRORS IN THE EU ETS DIRECTIVE ....................................... 23
5.3.
CARBON LEAKAGE – SAME DEFINITION ERRORS IN THE EU ETS IMPACT ASSESSMENT ............................ 24
5.4.
CARBON LEAKAGE – DEFINITION BY UNFCCC AND IEA............................................................. 25
5.5.
CARBON LEAKAGE SOLUTIONS - THREE OPTIONS IN LITERATURE .................................................... 26
5.6.
EX-ANTE OR EX-POST – THE SIGNIFICANCE OF TWO CARBON PRICE SIGNALS – DEBATE UNTIL 2008 ............ 26
5.7.
‘PERMIT TRADING’ ADVOCATES STILL INSIST ON THE PRODUCT CARBON PRICE SIGNAL ............................ 28
5.8.
THE CARBON LEAKAGE PROBLEM OF EX-ANTE ALLOCATION IS NOW ACKNOWLEDGED IN LITERATURE .............. 28
5.9.
CARBON LEAKAGE SOLUTION – SUPPORT FOR EX-POST ON MICRO AND MACRO LEVEL .............................. 30
5.10.
CARBON LEAKAGE SOLUTION – MAJOR SHORTCOMINGS IN THE EU ETS IMPACT ASSESSMENT ................ 31
5.11.
CONCLUSIONS ON SOLUTIONS TO AVOID FOR CARBON LEAKAGE IN THE EUROPEAN COMMISSION’S IMPACT
ASSESSMENT 2008 .............................................................................................................. 33
5.12.
CARBON LEAKAGE REMEDY OF FREE ALLOCATION – THREE BASIC PARAMETERS .................................. 34
6. ANALYSIS: A CLOSER LOOK AT CARBON LEAKAGE WITH QUANTITATIVE ASSESSMENTS, APPLIED
TO THE CHEMICAL INDUSTRY ............................................................................................... 35
6.1.
PRODUCTION CARBON LEAKAGE: MARKET SHARE COMPETITION & HARD CARBON CASH COSTS .................... 35
6.1.1.
Structural production carbon leakage, selling allowances delivers more value than Gross
Value Added based on the hard carbon costs: crackers + ldPE ............................................. 35
6.1.2.
Value Added based on the hard carbon costs: ammonia ...................................................... 38
6.1.3.
Value Added based on the hard carbon costs: conclusion chemical industry ............................ 39
6.2.
ARBITRAGE PRODUCTION CARBON LEAKAGE – INTRODUCTION, RELATION WITH INVESTMENT CARBON LEAKAGE . 40
6.2.1.
Arbitrage carbon leakage break-even prices chemicals: steam crackers and their value
chains – illustration with an example ............................................................................... 41
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6.2.2.
Arbitrage carbon leakage break-even prices chemicals: ammonia ............................ 44
6.2.3.
Arbitrage carbon leakage break-even prices chemicals: melamine ........................... 44
6.2.4.
Arbitrage carbon leakage break-even prices chemicals: carbon black ....................... 44
6.2.5.
Summary production carbon leakage break-even prices chemicals ........................... 45
6.3.
INVESTMENT CARBON LEAKAGE THROUGH BARRIERS AND RISKS FOR INVESTMENTS FOR GROWTH AND FOR
INVESTMENTS TO REPLACE OLDER LESS EFFICIENT PLANTS BY MODERN ONES ................................................ 45
6.3.1.
Investment carbon leakage – steam cracker value chains ....................................... 46
6.3.2.
Intermezzo: Barriers for growth for ‘greenfield’ new entrants – the integral text from
chapter II.2.2. of the study Cefic-IFIEC (2012) valid for all such new entrants (crackers, ammonia
plants, etc.)................................................................................................................. 51
6.3.3.
Investment carbon leakage – ammonia ............................................................... 52
6.3.4.
Investment carbon leakage – carbon black .......................................................... 55
6.3.5.
Summary investment carbon leakage for the chemical industry ............................... 55
6.4.
SUMMARY CARBON LEAKAGE AND CARBON LEAKAGE BREAK-EVEN PRICES ........................................... 56
7.
SOLUTIONS: EUROPE’S RENEWABLE ENERGY SOURCES (RES) POLICIES ............................... 58
8.
SOLUTIONS: THE EUROPEAN ENERGY EFFICIENCY DIRECTIVE (EED) .................................... 58
9.
SOLUTIONS: STRUCTURAL REFORM PACKAGE FOR THE EU ETS ........................................... 58
9.1.
NECESSARY CHANGE FROM EX-ANTE (HISTORICAL) TO EX-POST (ACTUAL PRODUCTION) ALLOCATION ........... 59
9.1.1.
Ex-ante: history is a bad indicator for the future ................................................... 59
9.1.2.
Auctioning is an “ex-post” system ...................................................................... 59
9.1.3.
Why ex-post: conclusion ................................................................................... 60
9.2.
EX-POST ALLOCATION: OPERATIONAL DETAILS AND A LAST WORRY OF THE EUROPEAN COMMISSION ............ 60
9.2.1.
Ex-post allocation: operational details ................................................................. 60
9.2.2.
Ex-post for the fallback benchmarks ................................................................... 61
9.2.3.
Ex-post – last worry of the European Commission – DG Climate Action ..................... 62
9.3.
SOLUTION FOR INDIRECT EMISSIONS: INDIRECT ALLOCATION ....................................................... 62
9.3.1.
Indirect allocation for products without a product benchmark .................................. 63
9.3.2.
Incentive for efficiency improvement .................................................................. 63
9.3.3.
Discussion on possible distortions of the electricity or the total carbon market ........... 64
9.4.
SOLUTIONS FOR CERTAINTY OF THE CARBON LEAKAGE STATUS ..................................................... 64
9.5.
SOLUTION FOR THE NEW ENTRANT’S RESERVE (NER) FOR AFTER 2020 ........................................... 66
9.6.
LACK OF GLOBAL APPROACH BY OR SHORTLY AFTER 2020: ASSURANCE FOR LONG-TERM GROWTH ............... 66
9.7.
REFILLING NER FROM AUCTION VOLUME – NO DISADVANTAGE FOR THE POWER SECTOR .......................... 67
9.8.
A SAFETY VALVE IN CASE OF EXCESSIVE CARBON PRICES – STRATEGIC RESERVE .................................. 67
10. SOLUTIONS FOR THE LEVEL OF THE BENCHMARKS – INTRODUCTION TO TWO OPTIONS ......... 68
10.1.
10.2.
VITAL TO HAVE THE SAME BENCHMARK LEVEL FOR INCUMBENTS AND NEW ENTRANTS ........................... 68
TWO OPTIONS: TOP 10% AND WEIGHTED AVERAGE EFFICIENCY BENCHMARK ................................. 68
11. SOLUTION 1: TOP 10% BENCHMARK WITH LRF AND ACTUAL PRODUCTION ........................... 68
11.1.
11.2.
TOP 10% WITH LRF AND ACTUAL PRODUCTION – STEAM CRACKER AND THE VALUE CHAIN.................... 69
TOP 10% WITH LRF AND ACTUAL PRODUCTION – AMMONIA .................................................... 70
12. SOLUTION 2: WAE BENCHMARK WITH ILRF AND ACTUAL PRODUCTION ................................ 73
12.1.
12.2.
12.3.
12.4.
12.5.
RATIONALE FOR MORE REALISTIC BENCHMARKS ................................................................... 73
ARE MORE STRINGENT INDUSTRY BENCHMARKS BETTER FOR THE ENVIRONMENT? ............................... 74
WAE BENCHMARK WITH ILRF AND ACTUAL PRODUCTION – STEAM CRACKER VALUE CHAINS .................. 75
WAE BENCHMARK WITH ILRF AND ACTUAL PRODUCTION – AMMONIA........................................... 77
WAE BENCHMARK WITH ILRF AND ACTUAL PRODUCTION – CARBON BLACK .................................... 79
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13. SOLUTIONS FOR THE FALLBACK BENCHMARKS ................................................................. 79
13.1.
THE PRESENT FALLBACK ALLOCATION FOR NEW ENTRANTS IS COMPLICATED AND UNJUSTIFIED................. 79
13.2.
SOLUTIONS FOR THE FALLBACK BENCHMARKS – EX-POST AND STATE OF THE ART TECHNOLOGY ............... 80
13.2.1. Ex-post adjustment to actual production for incumbents and new entrants ................ 80
13.2.2. The own benchmark of fallback incumbents ......................................................... 80
13.2.3. The benchmark for fallback new entrants – state of the art technology ..................... 81
13.2.4. Replacement of an older less efficient plant is no new entrant ................................. 82
13.2.5. Solution CSCF for fallback incumbents: replace by ILRF ......................................... 82
13.2.6. Solution LRF for fallback new entrants: state of the art technology without improvement
factor for at least 15 years ............................................................................................. 82
13.2.7. What about CCS for fallback new entrants? .......................................................... 82
14. ECONOMIC CONSEQUENCES OF A CARBON LEAKAGE RESISTANT EU ETS .............................. 83
14.1.
CONSEQUENCES FOR THE ALLOCATION VOLUMES IN THE EU ETS ............................................... 83
14.1.1. Weighted Average Efficiency benchmark for the allocation of direct emissions – effect on
auction volume ............................................................................................................ 83
14.1.2. Weighted Average Efficiency benchmark for the allocation of indirect emissions – effect
on auction volume ........................................................................................................ 84
14.2.
WAE BENCHMARK AND INDIRECT ALLOCATION – EFFECT ON AUCTION VOLUME AND THE ECONOMY ........... 86
15. CONCLUSION STRUCTURAL REFORM EU ETS ..................................................................... 87
16. WAE BENCHMARK WITH INDIRECT ALLOCATION AND ACTUAL PRODUCTION – AUSTRALIA ....... 88
17. APPENDIX 1: HISTORY OF INFORMATION TO THE EUROPEAN PARLIAMENT ABOUT CARBON
LEAKAGE ........................................................................................................................... 89
18. APPENDIX 2: OBSERVATIONS IN THE REPORT TNO (2009) .................................................. 90
19. REFERENCES ............................................................................................................... 91
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Unlocking a competitive, low carbon and energy efficient
future – a closer look at carbon leakage
Better Competitiveness for industry = better resistance to Carbon and Energy Leakage =
better for the Environment, for Growth and Jobs
8 January 2014
A study based on Cefic Roadmap 2050
1. Introduction
One of the founding fathers of emissions trading, the Canadian J.H. Dales, proclaimed already in 1968:
“Pollution in one region must never be reduced by increasing pollution in another”, thus condemning
“leakage”, see Alliance (2007-a).
Such a policy undermines the commitment of industry to invest in maintaining and expanding a
European manufacturing base and to pursue R&D activities in the European Union. An underlying view
of a static, frozen economy distorts the integrity of the Internal Market and hampers prosperous
economic development and employment. In contrast, the aim of the Climate Policy Package should be
to encourage efficient production through innovative and carbon-efficient technologies.
Present obstacles to maintaining and expanding a manufacturing base in Europe
•
The prices for natural gas and chemical feedstock in important competing regions – Middle
East, North America through unconventional (shale gas) – are much lower than in Europe. In
China, too, unconventional gas has a high potential.
•
Electricity prices are significantly higher compared to the major competing regions.
•
The present European Climate Package is not yet well geared to unlocking a competitive
European industry, which is essential for an efficient and low carbon future.
In its communication ‘A Stronger European Industry for Growth and Economic Recovery’ of 10 October
2012 the European Commission refers to the problems mentioned above and “seeks to reverse the
declining role of industry in Europe from its current level of around 16% of GDP to as much
as 20% by 2020. This should be driven by substantial recovery in investment levels (gross capital
formation and investment in equipment), an expansion of the trade in goods in the Internal Market (to
reach 25% of GDP in 2020) and a significant increase in the number of SMEs exporting to third
countries.”
“The political attention on industry is grounded in the realisation that a strong industrial base is
essential for a wealthy and economically successful Europe. It is vital to stimulate economic recovery,
provide high-quality jobs and reinforce our global competitiveness. ... Moreover, only industry can
improve economy-wide energy- and resource-efficiency in the face of global resource scarcities and
help provide solutions to societal challenges.
New investment is now urgently needed to stimulate economic recovery and bring innovation and new
technologies back onto factory floors. If Europe does not keep up with investment in the adoption and
diffusion of these technologies, its future competitiveness will be seriously compromised. However, the
investment outlook is bleak. Between 2008 and 2011, investment fell by 2.5 percentage points of GDP
and current economic forecasts predict only a slow recovery. Revitalising investment requires business
confidence, market demand, finance and skills, the four pillars of our policy.”
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This study builds on Cefic’s Roadmap 2050 ‘European chemistry for growth – Unlocking a competitive,
low carbon and energy efficient future’, which is conclusive on the structural problems of the Climate
and Energy Policy situation in Europe. This study aims at deepening this analysis and at outlining
detailed proposals for needed structural reform measures.
Cefic’s roadmap stresses the importance of chemical products for all sectors of the economy to
increase their energy efficiency and reduce GHG emissions. It also stresses the need to create a
predictable policy and legal framework that results in a sound investment climate for sustainable
growth.
This study focuses on three intertwined policies: the EU Renewable Energy Sources (RES) policies, the
Energy Efficiency Directive (EED) and especially the EU Emissions Trading Scheme (EU ETS). Five
analysis chapters describe and discuss the shortcomings of the present regime; seven chapters
elaborate how the shortcomings can be overcome.
2. Analysis: Europe’s Renewable energy sources (RES) policies
RES policies cause increasingly high costs, potentially affecting competitiveness for industry and
increasing the risk of carbon and energy leakage.
Renewable energy policies vary considerably across countries, both in terms of stringency and cost
implications. These policies have an increasing impact on consumer electricity prices and their
implementation varies widely from region to region across the EU. Policy instruments that pass on
costs of renewable electricity promotion to electricity consumers have a direct impact on the costs of
industry. Large energy users are, in some countries, exempted from paying – the respective
apportionment or the costs are not passed through to consumers but borne by public budgets. In other
countries there is a significant cost pass-through to industry. In the latter countries the costs can be
relatively high, while in others the costs are still moderate due to the still low penetration of RES.
These differences in policy design, exemptions and cost pass-through result in an intransparent and
unlevelled playing field in Europe and, more importantly, erode global competitiveness and business
confidence, i.e. confidence in investments to maintain and expand business in Europe.
The RES-E (electricity) costs arise from two main sources: (1) subsidies for the generation of RES
electricity, for example in the form of feed-in tariffs and (2) costs for coping with intermittency of
supply of sources such as especially wind and solar power.
The costs of generation of RES electricity are already high in Germany (on top of the market wholesale
prices over € 50/MWh, from which energy- intensive industry is exempted) and will sharply increase in
most other Member States, because of the 2020 targets. Even in Germany, the leader in this field, a
much higher RES-E penetration is needed to achieve the 2020 target.
At the moment the costs of coping with intermittency of supply are relatively moderate and hidden,
but are bound to increase significantly in the future. The system to optimise various possible solutions
and where to lay the bill is still under discussion and development. The ideal system optimises between
(1) supply response measures (back-up capacity but e.g. also restricting RES supply (like wind energy)
during over-supply), (2) storage (such as pumped hydro storage, but also hydrogen and ammonia are
brought forward), (3) transport through (short and/or long distance) interconnections and (4) demand
response management by industrial and small consumers. To achieve a market-based policy which
optimises these variables to achieve the lowest overall cost solutions is a huge challenge.
11
The costs of RES policies are expected to rise significantly and will have an increasing impact on
consumer electricity prices. The worrying aspect is that exemptions from the cost pass-through to
energy-intensive industries might come under pressure, thus affecting global competitiveness,
predictability and business confidence negatively.
3. Analysis: The European Energy Efficiency Directive (EED)
The impact of the Energy Efficiency Directive (EED) on energy costs and energy savings is still
uncertain, as it depends largely on the exact interpretation of this rather complicated Directive and its
implementation in the Member States.
By incentivising efforts to improve the efficiency of buildings for example, more energy-efficient
products from – amongst others – the chemical industry will be needed. Furthermore, if new saving
potentials are detected in companies leading to energy and cost savings, the Directive could improve
the competitiveness of industry.
However, energy saving obligations for incumbents will also result in costs to consumers and industry
(e.g. mandatory participation in the mandatory efficiency improvements of 1.5% per annum). And
there is a risk that the costs of energy efficiency obligation schemes are passed through to all energy
consumers, including industry, and thus increase energy end-user prices. Moreover, badly designed
instruments can significantly increase the administrative burden on industry.
These separate energy efficiency saving targets, combined with participation in the EU ETS, lead to a
situation where resulting greenhouse gas emission reduction is not achieved in the most cost-effective
way. In addition, it must be noted that there are conflicting objectives, for example using biomass
(often) and carbon capture and storage (always) require more energy while resulting in a significant
CO2 reduction.
One, perverse, interpretation of the EED in the (not legally binding) Guidance note on Article 7 (final, 6
November 2013) of Directive 2012/27/EU on energy efficiency is that EU ETS sectors can be excluded
from the calculation of the 1.5% energy efficiency improvement per year up to a maximum of 25% of
the Member State’s energy use, thus lowering the improvement obligation to 1.125% per year, while
still the EU ETS sectors can be forced to be included to contribute to the targeted energy efficiency
improvements. In other words, if the inefficient double regulation with the EU ETS is avoided by
leaving ETS sectors outside the scope of the EED, the result will be a penalty for the remaining sectors
under the EED: their obligation increases from 1.125% to 1.5% per year.
Moreover, the economic value generation (GDP) of major EU economies as well as that of
manufacturing companies is largely linked to energy consumption and transformation into value-added
products. Boosting economic growth is a high priority, mentioned also in the EED as well as in the
Council conclusions (8-9 March 2007, 17 June 2010) concerning energy efficiency. The EED mentions,
recital 2:“Projections made in 2007 showed a primary energy consumption in 2020 of 1842 Mtoe. A 20
% reduction results in 1474 Mtoe in 2020, i.e. a reduction of 368 Mtoe as compared to projections.”
One, contentious, interpretation of the EED is that there is a mandatory absolute cap on energy use in
the Union of 1474 Mtoe in 2020. This absolute cap thinking raises questions about the higher level
objective of increasing the industry contribution to the GDP from 16% now to 20% by 2020 and about
the undisputed objective of the European Parliament, the Council and the Commission to prevent
carbon and energy leakage.
For example, if investment was made in additional combined heat and power (CHP) in Luxembourg,
the absolute energy increase would be a sin while the carbon and energy efficiency improvement
12
would be a virtue. The same question arises for an investment in new manufacturing installations in
one Member State or another (good or bad for the hosting country) or when an outdated
manufacturing plant would be closed and replaced by a new one outside the European Union.
Therefore, the enforcement of mandatory energy caps without considering the level of economic
activity would have negative impacts on economic growth and employment.
4. Analysis: The European Emissions Trading Scheme (EU ETS)
The scheme started with an allocation primarily based on historical grandfathering, which differed per
Member State, in phase 1 (2005-2007) and phase 2 (2008-2012). This has been abandoned (due to
the update problem: emission reduction leads to a lower allocation in the next trading period, thus
discounting the production carbon price signal and delaying reductions). Phase 3 (2013-2020) is based
on full auctioning for electricity generation and a benchmark-based allocation for industry. The creation
of industry benchmarks, as proposed by industry, was the most significant progress (which solves the
update problem).
However, the allocation with benchmarks is still not forward looking i.e. based on reality, it is ex-ante
fixed based on an arbitrary historical production and lacks a comprehensive solution for indirect
(electricity) costs. The present rules appear to be insufficient and too uncertain for a sound long-term
perspective to invest in maintaining and expanding European manufacturing industry.
These findings will be further underpinned. Therefore, the following aspects of the present EU ETS
rules are analysed in more detail in relation to the risk of carbon leakage:
(a) The treatment of indirect (electricity) emissions;
(b) The unjustified cross-sectoral correction factor for incumbents;
(c) The new entrants’ reserve for after 2020;
(d) Other lacking allocation rules for after 2020;
(e) Uncertainty about the carbon leakage status;
(f) The allocation rules and the level of the benchmarks.
These aspects are evaluated for the impact on competitiveness and resistance to carbon leakage.
Key concept
Good global competitiveness is not a “nice to have” feature, but this is vital for investments in
maintaining and expanding European manufacturing industry. Good global competitiveness is vital to
provide resistance to carbon leakage, both concepts are indistinguishably
connected.
13
4.1. Indirect (electricity) emissions – economic impact on the chemical industry
For the European chemical industry, indirect (electricity) emissions are very important. Cefic Roadmap
2050 (chapter 2) shows for ETS plus non-ETS:
The 59 Mton indirect emission (24% of the total emissions) is calculated with an average emission
factor of 0.31 ton CO2/MWh according to the data of the Commission’s Energy Roadmap 2050, which is
correct for determining the carbon footprint in Europe. The consumption is 190 TWh/year.
However, the price impact is not according to the average but the marginal power plant, which is for
Europe on average about 0.75 CO2/MWh. On this basis the impact is about 143 Mton indirect CO2
emissions (59 x 0.75/0.31), which is 43% of the adapted total of 332 Mton (143+43+146). The
resulting economic effect is:
Impact of indirect emissions on the European chemical industry (ETS plus non-ETS)
CO2 price, €/ton
Impact in € mln/year
10
1,430
30
4,290
50
7,150
70
10,010
90
12,870
The economic effect of indirect emissions is potentially high. As a comparison, the EU chemical trade
surplus in 2010 was € 42 billion (Cefic Roadmap).
4.2. The treatment of indirect (electricity) emissions – relation to carbon leakage
The economic effect from the marginal power plant is at full parity with the environmental effect. This
is illustrated with two examples.
Example 1: When electricity is saved by the application of e.g. more efficient electric motor drives for
pumps or process compressors, the result is that not the average but the marginal power plants will
produce less electricity and hence release fewer emissions.
Example 2: When a manufacturing plant is extended or a new manufacturing plant is built, the higher
production is accompanied by a certain extra electricity use (the level depends on the type of
manufacturing product), which needs to be delivered by the marginal power plant.
The EU ETS state aid guidelines allow that Member States may give a financial compensation for the
indirect emissions. Indeed, the marginal power plant is acknowledged as the price setter. However, the
financial compensation suffers from:
14
(a) Incomplete coverage: Many products for which electricity is important are not eligible.
(b) Incomplete compensation: Reduction factor (aid intensity) of 85% in 2013-2015, 80% in 20162018 and 75% in 2019-2020.
(c) Incomplete compensation: Reduction factor (on top of) for products without a product
benchmark: 80%. The financial compensation for these products decreases therefore to only
60% (75% x 80%) in 2020.
(d) Uncertainty of compensation: For those products that are eligible, Member States must still
decide whether the compensation will be granted and to which level. This may change from
year to year, even to the level of zero.
The reduction factors were argued to be necessary to provide the incentive to move from grey to green
electricity. This is a clear misunderstanding. The incentive to move to greener electricity lies in the
field of electricity generation, not in the consumption.
The obligation of the consumers is to use electricity as efficiently as possible. Efficiency of use can
mean that the quantity of electricity per ton of product is lowered. But efficiency can also mean that
more electricity is used, thus lowering the overall GHG emissions – for example by applying efficient
electric cars, provided that the CO2 emission of the marginal power plant is lower than the CO2
emission of an efficient gasoline of diesel car.
More electricity use can also occur in industry, for example by replacing a less efficient steam turbine
by a more efficient electric motor. If steam for the steam turbine gets free allocation of allowances but
electricity use would get no (or a partial) compensation, the lack of compensation could have had the
perverse effect of blocking an overall efficiency improvement and carbon reduction (if the allowances
for steam are to be lost, because of the rules about “significant capacity change” for products without
a product benchmark; fortunately this perverse effect has been avoided, because a rule has been
adopted in the Guidance Documents on allocation that energy and carbon savings will not result in a
lower allocation, which compensates for no increase in financial compensation in such cases).
In 14 product benchmarks this “interchangeability” effect is taken into account, which is positive.
However, this interchangeability also applies to many other chemical processes.
The uncertain and incomplete financial compensation erodes global competitiveness of industry.
Industry cannot base investment decisions needed for maintaining manufacturing installations and for
increasing manufacturing capacity in Europe on such an incomplete and inherently unstable financial
compensation. And, as mentioned, the electricity prices are already now – at the present relatively low
carbon price – among the highest in the world.
Obviously, a more solid and predictable alternative is needed which makes European manufacturing
industry resistant to carbon leakage, which is elaborated in the solutions part of this paper.
4.3. The unjustified cross-sectoral correction factor for incumbents
The cross-sectoral correction factor (CSCF) is foreseen if the calculated amount of free allocation
exceeds the maximum amount of allowances available for industrial incumbents. Research on behalf of
the Alliance of Energy Intensive Industries showed that the allocation with the (too) ambitious “top
10%” benchmark already over-achieves the foreseen 21% reduction by industry in 2020 (versus
2005). Therefore, any cross-sectoral correction factor (CSCF) before 2021 is unjustified and in our
opinion in breach with the legal requirements of the EU ETS Directive. The former finding was
communicated to the Commission, see Alliance (2012). The answer of the Commission did not address
the finding of the Alliance, see European Commission (2013-a).
15
The effect of this CSCF from European Commission (2013-b) is shown in the table below:
Due to the CSCF of 0.82438204 in 2020 manufacturing plants will in 2020 be ∼18% short of
allowances compared to the top 10% benchmarks, while these ambitious benchmarks
already achieve a reduction of almost 22%, thus more than the 21% EU ETS target for 2020.
The cause of the problem within the present EU ETS Directive is the interpretation of which emissions
are to be counted to “electricity generators” (the “auctioning pot”) and which emissions are to be
counted to “industry” (the “industry pot”, falling under free allocation to ETS industry).
As it was pointed out by consultant Ecofys (website Ecofys), there is a: “mismatch between allocation
methods and real emissions included in the industry cap”. The major issues are waste gases and heat
from combined heat and power (CHP) for which free allocation to industry will be given but whose
emissions are wrongly counted to the auctioning pot. Therefore the “industry cap” is too low. IFIEC
(2010-a) – supported by all industry federations – gave a constructive detailed criticism to the
Commission.
Regrettably, the flawed interpretations were not adapted, which led to a final – not legally binding –
Guidance Paper titled “revised version 2” on 18 March 2010. We regard this course of affairs as an
inconsistent and disappointing interpretation of the EU ETS Directive – no good governance for such an
important matter.
The root cause of the problem is that in the present EU ETS Directive there is an absolute cap on the
incumbent installations, which decreases faster – with 1.74% points per year – than even an
accelerated technological development allows in absence of a global carbon market. In absence of a
truly global approach with the same burdens on industry investment in technologies such as CCS
(carbon capture and storage) is too costly and apart from that there are barriers such as lack of public
16
acceptance and lack of infrastructure for CCS. Opposite to the power sector, manufacturing industry is
not able to pass the corresponding high carbon costs into the product prices.
As we will see in this study, the level of the benchmarks is one crucial element in order to avoid carbon
leakage. This move to a much more restricted allocation is therefore not helpful, as this deteriorates
competitiveness. It is therefore in conflict with the European Commission communication ‘A Stronger
European Industry for Growth and Economic Recovery’ of 10-10-2012 in which the Commission refers
to various structural problems and in which the Commission “seeks to reverse the declining role of
industry in Europe from its current level of around 16% of GDP to as much as 20% by 2020”.
4.4. The new entrants’ reserve and an allowances reserve in the total cap after 2020 –
relation to carbon leakage
The new entrants’ reserve (NER) is essential in order to be able to provide free allowances for
investments in industrial growth.
First it is emphasised that the EU ETS continues after 2020 and that – if not adapted – the total cap
continues to go down by the linear reduction factor of 1.74% versus the calculated 2010 emissions.
EU ETS total cap summary
Mton CO2-equivalents:
Total cap 2013 participants 2008-2012
New participants 2005-2007: 121 733 050, tons
New participants calculated 2010:
Calculated old + new participants 2013:
Old + new participants 2013, published:
Calculated cap 2010, coverage as phase 3 (2013-2020)
The -1,74%, calculated
Total EU ETS cap excl. aviation
Published Commission 5 September 2013 (tons):
2013
Mton
2014
Mton
2015
Mton
2016
Mton
2017
Mton
2018
Mton
2019
Mton
2020
Mton
-38,3
-38,3
-38,3
-38,3
2013-2020
Mton
1.976,784044 (COM Decision 5 September 2013)
(COM Decision 5 September 2013)
113,81
2.084,654823
2.084,301856 (COM Decision 5 September 2013)
121,73305
2.199,094594
-38,264246
2.084,301856
-38,3
2.046
-38,3
-38,3
2.008 1.970 1.931 1.893 1.855 1.816
15.603
2.084.301.856
Lower allocation 2020 versus 2013 (Mton CO2):
2060
2067
2050
2068
Mton
Mton
Mton
Mton
2030
Mton
2040
Mton
Total EU ETS cap excl. aviation
1.434
1.051
669
286
18
-20
Lower cap versus 2005, assume 2020 is -21% versus 2005
-38%
-54%
-71%
-88%
-99%
-101%
-268
-12,9%
The period 2020 to 2030 is critical because the total cap really starts to bite, so the realisation of a
new Global Climate Agreement with the same carbon burdens for industry becomes urgent.
In the transition to (and possibly even after) such a new Global Climate Agreement, there should be
sufficient allowances in the NER and on the market, to ensure on the one hand the attractiveness of
Europe for manufacturing industry, and to avoid, on the other hand, skyrocketing carbon prices in case
of a healthy economic recovery.
The need for sufficient allowances on the market could be fulfilled with an extra Strategic Reserve (like
in the Waxman-Markey Bill), to prevent skyrocketing carbon prices in absence of a global carbon
market with the same carbon price globally and with the same (or similar) allocation of allowances to
industry.
An illustrative calculation with an allocation based on the “top 10%” benchmark without the application
of the Linear Reduction Factor (LRF) on the benchmark shows 5:
5
Without LRF is chosen because with the LRF and the stringent top 10% benchmark this allocation is
judged to deter new investments in Europe, as will be further outlined in this study.
17
EU ETS cap & New Entrants' Reserve
Average cap
Mton in 2008
including the new
participants in 2013
New participants 2013 excl. aviation
excluding aviation
The -1,74%, from Commission cap (as published, calculated as from 2010)
Total cap (excl. aviation)
2.276
Average cap
Mton in 2010
including the new
excluding aviation
2.199
2013
Mton
2014
Mton
2015
Mton
2016
Mton
2017
Mton
2018
Mton
2019
Mton
2020
Mton
-38,264246
-38,3
-38,3
-38,3
-38,3
-38,3
-38,3
-38,3
2.084,301856
2.046
2.008
1.970
1.931
1.893
1.855
1.816
2.084.301.856
Lower allocation 2013 versus 2010, same scope:
-115
-191
Total
Mton
15.603
-268
-383
-459
Lower total cap 2020 versus 2013:
Lower total cap 2020 versus 2010, same scope:
New entrants' reserve (NER, 5% of total)
780
-300
480
For CCS and innovative RES projects (NER 300)
NER for industrial growth
Total cap adjusted for existing NER (excl. Aviation)
NER per year for industrial growth (illustrative, there is no NER per year)
Assume industry EU ETS allocation with top 10% benchmark w/o CSCF
Compounded growth per year, assume
-12,9%
-17,4%
-20,2%
1.987
1.949
1.910
1.872
1.834
1.795
1.757
1.719
14.823
480
60
60
60
60
60
60
60
60
858 (calculated from the Commission NIMs publication: 809 Mton/0.94 CSCF; note 1)
1,25%
Industry EU ETS allocation incumbents + new entrants, with top 10% without LRF
869
880
891
902
914
925
936
948
Allowances from NER (granted if thresholds met)
11
22
33
44
55
66
78
90
Cumulative allowances from NER (granted if thresholds met)
32
65
109
164
230
308
398
Average industry growth of 1.25%/year by debottleneckings / capacity creep plus new factories may be sufficient for 8 years, but there is no NER after 2020, needed for investment decisions in phase 3.
There will also be production growth within the existing production capacities.
2021
2022
2023
2024
2025
2026
2027
2028
2029
1.778 1.740 1.702 1.663
Assume NER is 480 Mton + addition from auctioning volume of 1,000 Mton = 100 Mton per year in the period 2021-2030
Compounded growth per year, assume continuous growth development
1,25%
1.625
1.587
1.549
1.510
1.472
398
2030
1.434
960
972
984
996
1.009
1.022
1.034
1.047
1.060
1.074
Allowances from NER (granted if thresholds met)
102
114
126
138
150
163
176
189
202
215
Cumulative allowances from NER (granted if thresholds met)
499
613
739
877
1.027
1.190
1.366
1.555
1.757
1.972
Under these assumptions the extended NER would be depleted by ∼ 2027. But in times of economic recession and crisis, NER would be refilled (ex-post system), then this NER could be sufficient until ∼ 2030 or longer.
Note 1): This is without allocation for heat to electricity generators, so this number is conservative, about 25-50 Mton too low.
The present NER for industrial growth is 480 Mton EUAs (was 463 Mton EUAs in the previous
publication of the Commission). It is estimated that with an industrial growth of e.g. 1.25%/year, the
present NER would be used with 398 Mton EUAs until 2020. An additional NER of 1,000 Mton for the
period 2021-2030 would be sufficient until 2028 if the compounded annual growth would be 1.25%.
But there is as yet no NER available for after 2020 and there is no guarantee that the NER will be
refilled if depleted, which are problems for investment decisions that would be considered soon after
the present financial and economic crisis.
Without a certain NER for after 2020 and a certain mechanism like a strategic reserve for auctioning
that prevents skyrocketing carbon prices (see also paragraph 9.8), investment carbon leakage will,
well before 2020, become a reality.
Next to this more reforms are necessary, such as the adoption of realistic benchmarks including for the
indirect emissions and an allocation based on actual production (e-post) instead of ex-ante historical
production. These essential ingredients for growth are elaborated in the next paragraphs and in the
solutions part of this study.
4.5. Other lacking allocation rules for after 2020 – relation to carbon leakage
Many allocation rules are unclear for the period after 2020. For example, the 100% free allocation to
“exposed” sectors is determined only until and including 2020 (Art. 10a (12)).
Defining this and other allocation rules for after 2020 is urgent; the European Commission cannot wait
with proposals for example until 2016 because there must be sufficient time to achieve a positive codecision between the European Parliament and the Council.
If such proposals were delayed, investment carbon leakage well before 2020 would certainly occur. But
the needed new allocation rules for after 2020 are not a simple copy-paste exercise from the present
1.480
1.157
18
rules. There are various structural problems, which need to be solved. These structural problems are
elaborated in this paper.
4.6. Uncertainty about the carbon leakage status – risk of CLEF
The 100% free allocation requires that the sector is acknowledged as exposed to the risk of carbon
leakage. However, the rules to qualify as “exposed” are, to some extent, arbitrary and therefore risky
(e.g. trade intensity may drop just below 30%, because of the crisis for instance).
If a sector or sub-sector changes in the second assessment of the Carbon Leakage List from “exposed”
to “non-exposed”, then the carbon leakage exposure factor (CLEF) suddenly changes from 1.0 in 20132014 (100% free allocation) to 0.6571 in 2015, 0.5857 in 2016, 0.5143 in 2017, 0.4429 in 2018 and
0.3714 in 2019. If the “non-exposed” status were to be valid again in the third carbon leakage
assessment, the CLEF would be 0.3000 in 2020. The CLEF for “non-exposed” sectors for after 2020 is
not yet defined (the Directive states in Art. 10a (11): “with a view to reaching no free allocation in
2027”) and is therefore also uncertain.
4.7. The allocation rules and the level of the benchmarks – relation to carbon leakage
4.7.1. Introduction: four flaws of an ex-ante frozen allocation
The present EU ETS rules with ex-ante fixed allocation for direct emissions based on stringent
benchmarks and the incomplete and uncertain financial compensation present four flaws:
(a) The possibility of windfall profits if companies are able to charge the opportunity-cost into the
product price. These profits are undesirable for some stakeholders but essential for others
(environmental economists) to achieve the product carbon price signal (resulting in lower
product demand through price elasticity of demand). However, this carbon price signal cannot
be combined with avoiding carbon leakage.
(b) Over-allocation during recession or economic crisis.
(c) The clear incentive for production carbon leakage. In the current rules, the production volumes
can be lowered up to and including 49% (partial cessation of operation rules) while the
allocation of emission allowances remains unchanged. Above a break-even CO2 price – which is
rather low and seemingly hardly noticed (product specific, € 15-20/ton CO2 for most exposed
products, € 20-30/ton CO2 for many other products) – the freed emission allowances from
lowering production can be sold and the shortfall in production will be imported from outside
the European Union. Then the revenues from this carbon trade will more than compensate for
the cost of transportation into the European Union.
(d) Under-allocation for investments in growth and for investments to replace older less efficient
plants by modern plants, due to complex and risky allocation rules. These rules deter
investments in the European Union and are likely to cause significant investment carbon
leakage, especially when carbon prices increase in the distant future. It is a significant barrier
to growth and a barrier to replace older less efficient stock.
The “ex-ante induced” carbon leakage was rejected early by industry, see e.g. Alliance (2007-a).
4.7.2. Possible windfall profits
The possibility of windfall profits for industry caused by the ex-ante free allocation was criticised, for
example by CE Delft (2010). Based on econometric analysis, it was claimed that products from the
sectors steel, refineries and chemicals (the polymers PE, PS, PVC) had made substantial windfall
profits in the period 2005-2009.
19
On the other hand, there are environmental economists who consider ‘permit trading’ (based on exante frozen allocation) with the opportunity-costs passed through in the product prices (causing a
lower demand for products and a shift to less carbon-intensive products – price elasticity of demand,
intensified inter-product competition) superior to ‘credit trading’ (allocation with benchmarks and
actual production) and therefore stipulate that industry is supposed to make windfall profits.
Also the European Commission stressed the importance of the (product) carbon price signal (see
paragraph 5.3 in this report, first bullet) and thus promoted these windfall profits (but did not react on
the criticism of CE Delft).
Concerning the occurrence of windfall profits, NERA (2010) analysed the CE Delft study on request of
Eurofer, Europia and Cefic-APPE and concluded that “the conclusions of the study go far beyond
objective fact-finding, ignoring fundamental economic and econometric problems, to make
unsupported claims on a contentious topic.”
4.7.3. Over-allocation during recession or economic crisis – and: who to blame
The over-allocation due to recession or crisis became a point of fierce debate. European Commission
(2012-a) stresses that measures are “urgent” and that the situation is “exceptional”. In the Carbon
Market Report, European Commission (2012-b) mentions “six non-exhaustive options for structural
measures” on which stakeholders were invited to comment.
The supply of international credits (CERs and ERUs) is not such a structural problem, as this was
known since 2008 and it has no relation to the financial crisis. The international credits represent
emission reductions outside Europe and thus create awareness and incentives for global participation.
Analysis shows that the ex-ante fixed allocation led to a surplus of about 800 Mton EUAs by end 2012
which may further grow if the crisis persists, despite the tight allocation with stringent benchmarks.
The ex-ante allocation is in fact the only crisis-related cause. A second structural cause of overallocation is auctioning of new entrant reserves (NERs): 120 Mton EUAs phase 2 left-overs of Member
State NERs and 300 Mton EUAs of the “NER 300” (to promote CCS and advanced renewables).
However, neither the ex-ante allocation nor a better handling of NER allowances (i.e. keep NER leftovers in the (EU) NER, also by 2020, instead of auctioning them off and e.g. much later auction of NER
300 as the need is later) are considered for review in the proposed six measures by the Commission.
Therefore the proposed six measures are not structural solutions – the root causes are not addressed.
Other important questions surrounding this issue are: what is considered as the cause of the present
over-allocation and who is to blame? The Commission blames the crisis. However, this is a strange
notion: the EU ETS rules are considered ‘normal’ but the economic circumstances are ‘abnormal’ as if
an economic recession or crisis hardly ever occurred in the past and never will occur in the future
anymore. Regrettably, the opposite is well known.
Many observers speak about a too generous allocation by the European Commission, often indicated as
caused by industry lobby pressure. However, this argument is not consistent: had there been no
financial crisis, then there would have been a severe scarcity of allowances; before the crisis the
predictions about the carbon price varied from about € 60/ton CO2 to € 85/ton CO2 by 2020.
In European Commission (2012-a), DG Climate Action Commissioner Ms Connie Hedegaard states in a
note to the European Parliament: “First and foremost, this substantial surplus is due to the sustained
20
economic and fiscal crisis, which has significantly depressed demand for emission allowances in recent
years much below the level anticipated at the time of the adoption of the climate and energy package
in late 2008. Without rapid action, this surplus will further increase.”
Ms Hedegaard continues with an interesting observation:
“In normal markets, supply reduces in response to weaker demand, but without a market intervention,
there would otherwise be no adjustment of supply in the carbon market. So although ETS is a marketbased instrument, the carbon market is not a normal market.”
However, industry proposed for many years dynamic benchmarking as worked out in this study, see
for example Alliance (2007-b) (especially slide 7), and Ecofys (2008) of March 2008 (before the
adoption of the revised EU ETS on 15 December 2008) and later in for example Alliance (2011-a),
Cefic (2012) and Cefic (2013-a).
On page 14 of this Ecofys (2008) study it is mentioned:
“Note, that IFIEC propose their method such that the benchmark will only be adjusted downward from
the original values i.e. made more stringent.”
This was a deliberate choice, consistent with the joint industry position in Alliance (2007-a, b). In this
way the CO2-price will not collapse during recession or crisis.
For example CEMBUREAU (2011) mentions: “The Association indicated that it is on record for having
drawn the attention of the European Commission, in writing, of this potential problem during the very
early days of the first Emissions Trading Directive. CEMBUREAU always insisted that ex-post control
was the only way to avoid over-allocation as well as under-allocation and that this was allowed by the
original, as well as the revised, Emission Trading Directive, a point that was confirmed later on by the
European Court of Justice (Case T-374/04)”.
IFIEC (2010-b), about this Court case (page 1): “The European Commission prohibited ex-post
adjustments to actual production with the argument that the market would then not function properly,
expressed in the Court of First Instance as: ‘Ex-post adjustments would create uncertainty for
operators, and be detrimental to investment decisions [to reduce emissions] and the trading market’.
However, Germany challenged this misunderstanding of the European Commission and won its legal
case at the Court of First Instance [now: European General Court] on 7 November 2007. The Court
based its judgment primarily on the aims of the Directive to achieve the reduction target at least cost,
to avoid competitive distortions and to encourage carbon efficiency. In short, the Court judged that the
market will function properly with the ex-post adjustment to actual production.”
In conclusion: had the Commission followed the clear advice of industry there would now be no debate
about over-allocation. The blame lies with the Commission, not with industry as is often suggested,
see e.g. (in Dutch language) De Groene Amsterdammer (2013).
To put this in other words: the tremendous drop in the carbon price is to be blamed on the choice of
policy makers clearly insisted on by the European Commission (DG Climate Action) to have a fixed cap
(which implies the over-allocation to industry) that does not mirror at all economic activity, along with
the massive subsidies in renewable energy. The economic crisis lowered the demand for allowances
significantly and the alternative money route for renewables towards the power sector by means of
subsidies completed the low carbon price formation on the carbon market.
21
4.7.4. Incentive for production carbon leakage
In this study production carbon leakage is defined as the mechanism in which lowering production in
an ETS region – in this case the European Union – and importing product becomes profitable. In other
words, the ETS revenues of lowering production are higher than the transport costs from abroad to the
ETS region, all other things (cost of energy and feedstock, efficiency) assumed to be equal.
Production carbon leakage takes place when the actual carbon price results in higher revenues by
lowering production in the ETS region compared to producing outside the ETS region. In various
studies this mechanism of carbon leakage is qualitatively indicated. In this study the mechanisms and
causes of possible production carbon leakage will be quantitatively analysed for the chemical industry,
to our knowledge for the first time, see further in this report.
4.7.5. Under-allocation for investments in growth and for investments to replace
older less efficient plants by modern ones – investment carbon leakage; the
context of global emission transfers via international trade
Investment carbon leakage occurs when investing in an ETS region – e.g. the European Union – is less
profitable than investing outside the ETS region and transporting the product from abroad to the ETS
region. Investment carbon leakage takes place when carbon prices expected in the future result in
higher revenues by producing outside the ETS region compared to producing in the ETS region.
It will be shown that the present ex-ante allocation rules imply huge barriers and risks for new
investments aimed at supplying market growth. But investments to replace older less efficient plants
by modern ones could also be affected by these barriers and risks. In case of a mere replacement in
the same greenhouse gas installation, the original allocation will not change (still the historical
allocation could be too low). But in case the replacement takes place at another site and/or if the
replacement is of a higher capacity than the old one, there are these barriers and risks.
In many studies regarding carbon leakage, there are elaborations of carbon leakage exposure
indicators such as the carbon cost for direct and indirect (electricity) emissions versus gross value
added (GVA) and recent trade intensity data, see for example many studies of Climate Strategies,
Carbon Trust, CE Delft (2013) and Grantham-CCCEP (2013). These studies do not contain the
important barriers and risks for growth in the present EU ETS as mentioned above.
In some studies more empirical model-based calculations have been executed, see for example
Climate Strategies – Dröge (2009) in which a comparison is made between various allocation methods
(auctioning, output-based or “ex-post” allocation) for aluminium, steel and clinker. Such calculations
are unfortunately lacking in Impact Assessments of the European Commission, which is a serious
omission.
The EU carbon footprint including import and export of products has been studied by various authors.
For example PNAS Davis and Caldera (2009) found: “Approximately 6.2 gigatonnes (Gt) of CO2, 23%
of all CO2 emissions [in 2004] from fossil-fuel burning (F), were emitted during the production of goods
that were ultimately consumed in a different country. Where exported from emerging markets to
developed countries, these emissions reinforce the already large global disparity in per-capita
emissions and reveal the incompleteness of regional efforts to decarbonise.”… “In the large economies
of Western Europe, net imported emissions are 20–50% of consumption emissions”.
PNAS Peters et al. (2010): “We find that the emissions from the production of traded goods and
services have increased from 4.3 Gt CO2 in 1990 (20% of global emissions) to 7.8 Gt CO2 in 2008
(26%).” … “The net emission transfers from non-Annex B to Annex B has grown from 0.4 Gt CO2 in
22
1990 to 1.6 Gt CO2 in 2008 (17% per year average growth)”. In Europe (EU-27 plus Croatia, Iceland,
Liechtenstein, Norway and Switzerland) the CO2 emissions from net-import of products were twice as
high as the reduction of emissions in Europe in the period 1990-2008 (see figure 3, page 4). The share
of energy-intensive industries in the export of CO2 emissions by non-Annex B countries of the Kyoto
Protocol is the highest of all sectors between 1990 and 2008; the relative share in remained constant
at about 40%. In absolute terms, the energy intensive export rose from ∼1,700 Mton CO2 in 1990 to
∼3,100 Mton CO2 in 2008 (see figure S6, page 19 of the Supporting Information Appendix).
These studies underline that the risk of carbon leakage should be very carefully taken into account in
the EU ETS.
In this study the mechanisms and causes of possible investment carbon leakage will be quantitatively
analysed for the chemical industry, to our knowledge also for the first time, see further in this report.
23
5. Analysis: A closer look at carbon leakage mechanisms and the EU ETS
5.1. Carbon leakage – inadequate information to the European Parliament and Council
The European Parliament and the Council – as well as other major stakeholders and parties (operators,
traders, analysts) – should be well informed about the threats of various forms of carbon leakage and
especially about the effectiveness of solutions to avoid carbon leakage.
Carbon leakage is a most important issue because this is the sole reason for granting free emission
allowances to globally competing industries. Therefore a more extensive elaboration is relevant.
It is shown that at the time of crucial decisions in 2008 about the revision of the EU Emissions Trading
Scheme (EU ETS), information on the definition of carbon leakage given by the European Commission
was incorrect. More important, the solution of free allocation for avoiding carbon leakage provided by
the European Commission has been deficient and therefore faulty. The statement “free allocation does
the trick” (Mr Jos Delbeke, Director General of DG Climate Action, European Steel Day, 16 may 2013)
is regrettably an over-simplification, it is incomplete. There was incorrect advice of third parties to the
Commission, but this does not make the incorrect information of the Commission correct.
There was – and perhaps still is – reluctance within the European Commission to appreciate and study
the arguments which industry provided in many presentations and studies.
To summarise, the incorrect information by the Commission concerns two elements:
•
The definition of carbon leakage, which is also still included in the present EU ETS Directive.
•
The solution of free allocation to avoid carbon leakage.
Both elements including the progress in literature will be elaborated below. The history about the
information regarding carbon leakage provided by academia, industry and the Commission to the
European Parliament is presented in Appendix 1.
5.2. Carbon leakage – definition: two errors in the EU ETS Directive
EU ETS Directive Art. 10a (14) contains an error regarding carbon leakage:
“In order to determine the sectors or subsectors referred to in paragraph 12, the Commission shall
assess, at Community level, the extent to which it is possible for the sector or subsector concerned, at
the relevant level of disaggregation, to pass on the direct cost of the required allowances and the
indirect costs from higher electricity prices resulting from the implementation of this Directive into
product prices without significant loss of market share to less carbon efficient installations outside
the Community.”
The latter criterion (underlined) is in conflict with recitals 24 and 25 of the Directive and with the
definition of carbon leakage by UNFCCC, IEA and also CE Delft (2013), see page 14. The incorrect
understanding also arose in Art. 10a (18b):
“The list referred to in paragraph 13 shall be determined after taking into account, where the relevant
data are available, the following:
a) ...
b) the extent to which the carbon efficiency of installations located in these countries is comparable to
that of the Community.”
These are very serious errors, because this would mean that when a new manufacturing plant would
be shifted because of carbon constraints from Europe to e.g. China, while the carbon efficiency would
be the same, that this shift would not be carbon leakage. This is of course investment carbon leakage.
24
(See paragraph 5.4 below for the definition of carbon leakage by UNFCCC and IEA).
Carbon leakage is well defined in recital 24:
“In the event that other developed countries and other major emitters of greenhouse gases do not
participate in this international agreement, this could lead to an increase in greenhouse gas emissions
in third countries where industry would not be subject to comparable carbon constraints (carbon
leakage), and at the same time could put certain energy-intensive sectors and subsectors in the
Community which are subject to international competition at an economic disadvantage. This could
undermine the environmental integrity and benefit of actions by the Community.”
Carbon leakage is also well indicated in recital 25:
“It should base its analysis on the assessment of the inability of industries to pass on the cost of
required allowances in product prices without significant loss of market share to installations outside
the Community which do not take comparable action to reduce their emissions.”
We learned (from personal communication) that DG Climate Action understands (after 2009) what
carbon leakage is and thus that EU ETS Directive in Art. 10a (14) and Art. 10a (18) is in error.
Fortunately this also became clear in the stakeholder meeting on the Carbon Leakage List on 23 May
2013 (Commission presentation by Mrs Melina Boneva, on the website, with reference to recital 24).
Apparently DG Climate Action was not aware of the faulty concept when they asked TNO for input to
the first carbon leakage assessment. The report “Greenhouse gas efficiency of industrial activities in EU
and non-EU”, TNO (2009), contains the faulty concept throughout the whole report.
We understand that this TNO report, on order of the Commission, did not play any important role in
the first assessment of the Carbon Leakage List in 2009. But this report should have been – and still
should be – corrected, on order of or by the Commission, to remedy its faulty analysis to inform all
stakeholders correctly. See for further information on the TNO report Appendix 2.
It is of utmost importance that the previously used incorrect definition will have no negative
consequences in the upcoming revision of the Carbon Leakage List in 2013/2014. Therefore, any study
based on EU ETS Directive Art. 10a (18b) should play no role in the new assessment.
5.3. Carbon leakage – same definition errors in the EU ETS Impact Assessment
The Impact Assessment of the proposal to amend the EU ETS Directive in January 2008, European
Commission (2008), mentions (page 94):
“Objectives as regards allocation: As regards allocation to existing, new and closing installations,
the overall objectives of the review can be specified as the identification of allocation methodologies
that environmental effectiveness and economic efficiency
•
ensure that the installations covered by the system reduce emissions within the EU at least
costs. The carbon price must convey a clear, un-distorted signal both directly for operators
involved as well as in final product markets, ensuring dynamic efficiency of the EU ETS in
the mid and longer term;
•
avoid carbon leakage to the extent that such methodologies are cost-efficient compared to
other instruments, thereby contributing to the environmental effectiveness of the system;”
These objectives are sound; however, subsequently the same error as mentioned above was made,
see for example European Commission (2008) page 107:
“Impact on industry: competitiveness
25
Obviously, when comparing full auctioning to allocating allowances for free, due regard must be given
to the aspects of competitiveness and carbon leakage. Competitiveness is the performance of firms
relative to competitor firms in terms of: profitability, market share, production cost, and levels of
investment, which should not be confused with (short term) profitability levels6. Furthermore,
relocation of activities out of the EU leads to (net) carbon leakage only if production elsewhere has the
same or higher emission intensity.”
It is correct that there is carbon leakage if the increased production abroad has the same emission
intensity, but there is still carbon leakage if the increased production abroad has a lower carbon
intensity (there is only no carbon leakage if the increased production has zero carbon emissions).
Impact Assessment on page 116:
“Net carbon leakage
As indicated before, negative impacts on competitiveness may, however, not lead to net carbon
leakage. Some third countries may actually offer conditions where producing the same product leads to
lower emissions compared to production in Europe. E.g., in Iceland huge hydropower installations are
under construction for the production of aluminium. Another example may be found in the Middle East
where oil producing countries currently flare significant volumes of gases resulting from oil drilling
operations. From an environmental point of view, it is highly preferable to use these gases in a useful
way, reducing energy needs elsewhere.”
First we note that the quantity of cheaper feedstocks in the Middle East is not endless, Middle East
cannot provide the whole world with petrochemicals based on by-product feedstocks.
It is of course no option to relocate for example the whole aluminium production and other processes
like chlorine production to Iceland. And, when the renewable electricity of Iceland (hydropower and
geothermal based electricity) would become enormous, then it becomes sensible to make a huge
electricity cable connection from Iceland to mainland Europe (like there are significant and increasing
connections from Norway’s hydropower to northwest Europe, displacing marginal power plants). From
that moment on producing aluminium in Iceland makes no sense anymore from an environmental
point of view.
5.4. Carbon leakage – definition by UNFCCC and IEA
Carbon leakage is a complex issue. Carbon leakage is defined as emissions displaced as a result of
asymmetric climate policy (e.g. IEA, UNFCCC). An extensive overview is given in Climate Strategies –
Dröge (2009), in which four carbon leakage mechanisms are described: production carbon leakage,
investment carbon leakage, energy channel carbon leakage and technology and policy spillover effects.
IEA – Renaud (2008) refers to the UNFCCC-IPCC definition and explains (page 28) “For so long as
emissions are displaced as a result of the asymmetric climate policy, this is defined as carbon leakage.
In the case the CO2 price triggers relocation, even if the latter is oriented towards investments in
better performing installations (i.e. less GHG-emitting and more energy efficient), this is still
considered as carbon leakage.”
The IPCC defines carbon leakage as ― the increase in CO2 emissions outside the countries taking
domestic mitigation action divided by the reduction in the emissions of these countries. In this way
carbon leakage is expressed as a percentage.
6
Footnote 91: “Reduced profitability levels also lead to reduced tax income. In other words, profit
taxes mitigate the impacts on businesses and effectively shift part of the burden on to the tax payer.”
26
If for example a production shift takes place representing 100 Mton CO2 in the EU to non-capped
manufacturing plants outside the EU with the same carbon efficiency (thus creating 100 Mton CO2
emissions abroad), then the carbon leakage is 100 Mton CO2 (100%). 7 The global balance of this
leakage would seem zero, but it isn’t – the environmental loss is 100 Mton CO2, because the intended
(promise to the world) reduction under the EU ETS cap did not take place. The environmental loss will
be higher if the manufacturing plants abroad are less efficient and/or if the fuel mix is less favourable
(e.g. contains more coal).
There are various mechanisms of production and investment carbon leakage; these are elaborated
below. But first we take a look at carbon leakage solutions.
5.5. Carbon leakage solutions - three options in literature
There are not many solutions to avoid carbon leakage. Most studies as reported in literature including
from Climate Strategies, Carbon Trust and Öko-Institut mention three basic solutions.
For example Grantham-CCCEP (2013) lists these as (page 7):
“Several anti-leakage measures have been hotly discussed: output-based free [= “ex-post”] allocation,
[global] sectoral agreements and trade measures [border adjustments].”
Effective global sectoral agreements or, much better, a truly global carbon market with equal sector
coverage including electricity production, equal allocation methods and the same connected carbon
price are of course preferred to avoid carbon leakage. However, this situation is far from realised.
On border adjustment measures, quite a lot of literature is mentioned in Grantham-CCCEP (2013).
However, for many good reasons, border adjustments are not contemplated by the European
Commission (see for some elaboration also Schyns-Loske (2008), Part II pages 9-10).
Before we turn to the Commission views on the solution of free allocation, we shall first elaborate on
the significance of the carbon price signals and on the progress in literature.
5.6. Ex-ante or ex-post – the significance of two carbon price signals – debate until 2008
The debate about the “carbon price signal” played a central role in the stance of the European
Commission – DG Climate Action – to maintain the ex-ante frozen allocation in the EU ETS in the
revised Directive, which was adopted end of 2008. In this paragraph, technical insights in the debate
until 2008 are summarised.
There are in fact two kind of carbon price signals, which can be named:
(a) The production carbon price signal, and
(b) The product carbon price signal.
Auctioning is generally regarded as the most suitable method for allocation in a global carbon market.
However, if auctioning is applied only regionally it will cause carbon leakage, as acknowledged by the
European Commission, this was the reason to choose for free allocation as allocation method.
Therefore the comparison of free allocation with auctioning is very relevant.
7
If a production shift takes place representing 100 Mton CO2 in the EU to non-capped manufacturing
plants outside the EU with a better carbon efficiency of for example 20% (thus creating 80 Mton CO2
emissions abroad), the carbon leakage is then 80 Mton CO2 (80%).
27
Production carbon price signal
The production carbon price signal is the incentive for abatement of emissions by production plants.
This incentive with benchmarks and actual production is exactly the same as with auctioning.
Example:
Benchmark with actual production: Assume an operator undertakes for an investment project to
reduce emissions from 900 kg CO2/ton of product to 600 kg CO2/ton of product.
If the benchmark is 700 kg CO2/ton product, the project incentive is 900-700 (avoided costs of
allowances) + 700-600 (revenues from sales of allowances) = 300 kg CO2/ton product.
Auctioning: Incentive = avoided costs of 900-600 = 300 kg CO2/ton product.
Product carbon price signal
The product carbon price signal is the incorporation of the carbon price in product prices (steel,
cement, chemicals, etc.), which is only possible if there is a global auctioning approach (with unilateral
auctioning there will be massive carbon leakage, as the European Commission fully acknowledges).
The product carbon price signal causes a lower demand for products and a shift to less carbon
intensive products (through price elasticity of demand and intensified inter-product competition).
Under auctioning the product carbon signal comes from the full variable costs (hard costs). Under an
ex-ante frozen allocation the product carbon signal comes from opportunity-costs passed through in
the product prices. However, the opportunity-costs may only be partially or not at all be incorporated
in the product price. If passed through completely, there will be the full windfall profits.
In case of an allocation based on benchmarks and actual production (“ex-post”), the product carbon
price signal is lower, it is the difference between the actual specific emission and the benchmark.
As well as environmental economists promoting the concept of ‘permit trading’ (see next paragraph),
Climate Strategies and Öko-Institut also stressed the importance of this carbon price signal and
therefore initially rejected “ex-post” as an alternative, although it was acknowledged as a remedy
against carbon leakage, see for example Climate Strategies – Grubb (2008a- b) and Öko-Institut –
Matthes (2008-a) in their presentations to the European Parliament.
However, it has been shown that the reasoning of the advocates of this carbon price signal is not
consistent, it is incorrect. Schyns-Loske (2008) in October 2008 distinguish between the product
carbon price signal (which refers to the desired signal by the advocates above) and the production
carbon price signal (which is the same for benchmarks with actual production as for auctioning). They
conclude (part II, page 9) “the objectives to prevent carbon leakage and to achieve a strong product
carbon price signal are mutually exclusive. The argument is not consistent.”
Concerning the issue of windfall profits, they conclude that “Static benchmarking [benchmarks with exante historical production] cannot combine prevention of carbon leakage and prevention of windfall
profits while maintaining the product price carbon signal.”
This is after all stated as well by for example Öko-Institut – Matthes (2008-b) already in September
2008: “Free allocation … will not avoid potential carbon leakage – without updating provisions (direct,
indirect, effective plant closure provisions)”, thus confirming that “ex-post” is an effective remedy
against carbon leakage.
28
Ecofys (2008) in March 2008 investigated “the IFIEC method” (benchmarks with ex-post) for the
electricity market (as alternative for auctioning). This report has been presented to the European
Commission, DG Climate Action. Ecofys concludes that the effects of price elasticity of demand are
rather limited for electricity. For industrial electricity users: “the IFIEC method reduces a potentially
effective price signal for electricity savings. In the IFIEC approach this is compensated for by
introducing benchmarks for industry that include efficient use of electricity.” For household electricity
users the Ecofys study concludes: “The restricted electricity price increase may have limited impact on
electricity demand of households, as their demand-response to increased electricity prices is quite low.
Instruments that improve the performance of products (lighting, electronics, etc.) and consumer
awareness of these products (labelling) are likely to be more effective in stimulating electricity savings
by households, than ETS-based electricity price changes.”
5.7. ‘Permit trading’ advocates still insist on the product carbon price signal
As mentioned, there are environmental economists who consider ‘permit trading’ (based on ex-ante
frozen allocation or on full auctioning) superior to ‘credit trading’ (allocation with benchmarks and
actual production). See for example Nentjes and Woerdman (2012).
In permit trading with ex-ante free allocation, the product carbon price signal consists of the
opportunity-costs passed through in the product prices (thus promoting windfall profits) – causing a
lower demand for products and a shift to less carbon-intensive products (through price elasticity of
demand and intensified inter-product competition). In permit trading with auctioning, the product
carbon signal comes from the full variable costs (hard costs) induced by auctioning.
The permit trading concept is much more rigid than the present EU ETS rules. In this concept, all
allowances are retained after closure and all allowances for growth have to be bought. Both
characteristics would certainly cause massive carbon leakage (incentive to relocate outside the ETS
region through full auctioning for growth!).
Because of the clear incentive for carbon leakage, permit trading does not belong to the mainstream in
the literature anymore; see next paragraph.
5.8. The carbon leakage problem of ex-ante allocation is now acknowledged in literature
It is now generally acknowledged in literature that an ex-ante free allocation of allowances is no
solution for avoiding carbon leakage.
For example Grantham-CCCEP (2013) (with participation of members of the Climate Strategies
community, such as Karsten Neuhoff and Felix Matthes) points out (page 7):
“Several studies point out that the free allowance allocation approach currently adopted by the EU ETS
is unlikely to address leakage as firms can cash in on the free allowances and still relocate abroad (e.g.
Neuhoff 2008 and Alexeeva-Talebi, 2010).”
This is a finding which is right in concept, as will be shown about production carbon leakage and
investment carbon leakage in this paper. But more precisely this statement is not correct because
under the present EU ETS rules, all allowances will be lost after closure (which is an ex-post
measure!).
This finding is, however, a correct criticism of the concept of “permit trading” advocated by
environmental economists. Under permit trading all allowances for growth must be bought and all
allowances after closure will be retained. Obviously, both elements cause carbon leakage.
29
The drawback of output-based (“ex-post”) allocation is loss of the product carbon price signal,
Grantham-CCCEP (2013) on page 42:
“This approach [output-based allocation] is frequently advocated by producers of CO2 intensive
products because it would reduce the cost increase of CO2 intensive products and delays substitution
effects towards less CO2 intensive alternatives (Eurofer 2005; Cembureau 2006). Indeed, studies using
sector models to quantify impacts (Burtraw, Palmer et al. 2001; Quirion 2003; Demailly and Quirion
2006b) estimate that compared with allocation by grandfathering or auctioning, the impact on
leakage of production (fall in domestic production and rise in imports) to non-EU regions is less
under output-based allocation, and profits are also less. However, CO2 abatement is also less under
this approach because prices do not reflect the CO2 externality and therefore substitution effects
towards less CO2 intensive (intermediary) products is reduced.”
Indeed, with output-based allocation, the substitution effects are fewer and the carbon price will be
higher if compared to full auctioning worldwide, but instead there is no carbon leakage. This finding is
also included in for example Schyns-Loske (2008). Nevertheless this finding, output-bases (ex-post)
allocation is acknowledged as a remedy against carbon leakage.
CE Delft (2013) also underlines the incentive for carbon leakage by ex-ante allocation (page 14):
“However, as noticed in the literature (see e.g. CE Delft, 2010b; Sijm et al., 2012), at the margin the
costs of CO2 would be still equivalent to the EUA, even if allowances were given for free.”
CE Delft mentions two solutions (page 14), but has no trust in these solutions:
“One of the problems is that alternatives for free allocation are not very attractive. Sectoral
agreements (see e.g. Carbon Trust, 2010) are plagued by the same type of international coordination
problems that have hampered international climate negotiations. Border tax adjustments (import
tariffs and/or export rebates, see e.g. CPB, 2008) do not come without economic costs either and can
be problematic because of the chance of retaliation.”
The third, and most feasible, solution of “ex-post” allocation is not mentioned by CE Delft.
Climate Strategies – Dröge (2009) mentions (page 46):
“Thus, while free allowance allocation can compensate for carbon costs, it’s ability to address leakage
concerns in a systematic way is very limited and it comes at the costs of undermining emission
reductions through innovation, investment and through the trickle down effect across the value chain.”
Climate Strategies presents for aluminium, steel and clinker (page 53), absolute carbon leakage
volumes in Mton CO2, based on model calculations by Monjon and Quirion (2009) about auctioning
versus output-based (“ex-post”) allocation (the outcomes are just illustrative): 8
8
OB full has still some carbon leakage. This can be avoided by more realistic (higher) benchmarks.
30
The negative impact of loss of product carbon price signal is explained. Indeed, auctioning has the full
product carbon price signal but, as shown above and in this paper, there is no resistance to carbon
leakage. Auctioning is a most efficient and effective method, but only if applied globally.
The study Climate Strategies – Dröge (2009) appeared to be a breakthrough in the Climate Strategies
community. In the conclusions, output-based allocation is mentioned (page 81) as a solution, next to
border adjustments:
“To level carbon costs downwards, policymakers can use free allocation of certificates, or output-based
rebates, which are a refund to producers. … Thus, if free allocation of allowances is used to address
carbon leakage under a cap and trade system, it has to be linked to the existence, availability or
production of the installation. …”
There is an analogy between free allocation of allowances and border adjustments. Would border
adjustments ever be based on ex-ante frozen historical import volumes?
5.9. Carbon leakage solution – support for ex-post on micro and macro level
In the consultation on structural options to strengthen the EU Emissions Trading System, which ended
by 28 February 2013, there was a broad support for ex-post allocation on micro (installation) level and
predefined predictable ex-post intervention on macro level.
There were 22 (10%) respondents in favour of macro level ex-post, including 11 electricity producers
and the NGOs Change Partnership and Sandbag. No less than 46 (21%) urge to adopt an “ex-post”
allocation of allowances on micro level (to manufacturing industry installations). The other 152
respondents out of the total of 221 responses expressed no opinion about predicable ex-post systems.
The majority of respondents (126 or 57%) were negative about the short-term interventions of the six
proposals of the European Commission. A minority (82 or 37%) were positive towards proposed shortterm intervention measures but 83% (68 out of 82 respondents) of these respondents did not express
any concern about industrial competitiveness and the risk of carbon leakage.
The respondents in favour of micro level ex-post are many industrial companies and industry
federations including Cefic and IFIEC, but also two energy companies, Enel and EDF, the federation
IETA, the think tank CEPS and the NGO Client Earth. Virtually all these respondents propose the expost allocation to improve industrial competitiveness and to minimise the risk of carbon leakage.
31
In contrast, predefined macro level interventions would indeed give a supply response and avoid overallocation during recession or crisis but would not mitigate the risk of carbon leakage as was shown in
the previous paragraph. However, the respondents in favour of predefined ex-post intervention at
macro level can be expected to agree with ex-post allocation at installation level, provided that the
same overall effect will be achieved. This is valid for the industry part with allocation system as
proposed in this study. Note that the industry emissions fluctuate more than those of electricity
generation (and that with indirect (electricity) allocation for industry as proposed in this study, see
chapter 9, part of the electricity generation is included as well).
The industry respondents – to whom free allocation applies – in favour of ex-post allocation on micro
(installation) level were most often opposed to the non-structural measures as proposed by the
European Commission. Instead they stressed the importance of a holistic comprehensive Structural
Reform package.
IETA (2013) and think tank CEPS (2013) give a clear argumentation for the proposed “ex-post”
allocation. IETA explains that ex-ante gives over-allocation during recession or crisis and that under
economic growth this allocation “could serve as a growth disabler”. CEPS gives the same arguments
and mentions on page 11: “Consideration should be given to ensure that all production can benefit
from free allocation.”
5.10. Carbon leakage solution – major shortcomings in the EU ETS Impact Assessment
The Impact Assessment of the proposal to amend the EU ETS Directive of 23 January 2008, European
Commission (2008), contains major shortcomings in the analysis of the solution of free allocation
against carbon leakage. We note that only based on a correct analysis can effective remedies be
understood and adopted by the European Parliament and the Council.
Curiously, the GEM-E3 model (which we assume to be the same as the E3ME model as outlined in
Annex 3 of the Impact Assessment) suggests that full auctioning leads for most energy-intensive
sectors to a lower domestic production volume decrease by 2020 than free allocation (see Impact
Assessment page 115, table 5.4). The Commission states: “Remarkably, for all sectors, the negative
impacts on output and exports volume [from auctioning] are smaller compared to the scenario where
all allowances are given for free.”
To us this E3ME model, although extensively outlined in Annex 3 of the Impact Assessment, is still not
transparent enough. For example, it is not clear how possible carbon leakage is modelled in detail. In
this respect it is mentioned that models of many analysts of the carbon market do not contain any
modelling on carbon leakage. And that in the description of the E3ME model, no reference can be
found to possible carbon leakage or possible relocation of production or investment.
This outcome of the E3ME model would mean that auctioning should have been selected for industry.
But despite that remarkable result – possibly caused by absence of modelling for carbon leakage as we
suspect – the European Commission went for free allocation in order to avoid carbon leakage.
There is an analysis of free allocation options on pages 120-122 in order to obtain an effective
allocation while at the same time avoiding carbon leakage. Four options are identified: (1) harmonised
grandfathering, (2) fully harmonised benchmarking, (3) hybrid approach: harmonised benchmarking
only for large emitters, more discretion for Member States as regards allocations to small emitters and
(4) relative performance benchmarking.
In option (4) it is stated: “This option does not mean that allocations will be adjusted to actual
production (ex-post adjustments)”, thus ignoring this option.
32
Under option (2), harmonised benchmarking, this is stated as well: “Options based on later production
data or updating of production data have not been retained for further scrutiny in order to avoid any
perverse incentives weakening the signal of the allowance price.”
This is remarkable, because in the same paragraph of this option it is carefully explained that
benchmarks should not be based on capacity but on production: “Benchmarks could possibly also be
applied to capacity figures, but capacity may be difficult to identify in an objective manner and the
correlation between capacity and production (and hence potential problems of competitiveness and
carbon leakage) may be rather loose.” This study confirms the correlation between production and
carbon leakage.
About harmonised benchmarking, the statement “The level of benchmarks must not exceed the level
of emissions that can be achieved by best available techniques (BAT)” is based on an incorrect
argumentation (see footnote 106 in the impact assessment 9).
This argumentation is incorrect for two reasons: (a) the level of benchmarks has a crucial impact on
the ability to avoid carbon leakage and (b) in a benchmark-based allocation the incentive to invest in
reducing emissions is not only the avoidance of carbon cost (as footnote 106 points out) but also, and
complementary, the revenues from sales of allowances (as explained in paragraph 5.6). The latter
omission means that the conclusion regarding the State aid rules (see footnote 106) is incorrect as
well. Clearly, there is the incorrect notion “more stringent benchmarks are better for the environment”
(see also paragraph 12.2).
The Impact Assessment therefore wrongly concludes (page 122):
“Effectiveness, carbon leakage
Since the number of allowances to be allocated for free is rather determined according to the option
chosen as set out in the preceding section, all options have similar effects as regards environmental
effectiveness and their potential to avoid carbon leakage.
The reasoning of this conclusion is difficult to follow (the reasoning seems to lack a link between
method of allocation and the effect to the potential of avoiding carbon leakage). The effectiveness and
their potential to avoid carbon leakage are likely to be similar indeed for these four options, but these
are all poor solutions, because an ex-ante allocation is an inbuilt incentive for carbon leakage.
The Impact Assessment page 122 continues:
“Efficiency of the system
All options, except the status quo, exclude updating of the historical base period, and therefore avoid
as much as possible perverse incentives. However, allocating allowances to relatively new installations
for which the historical data is not available would require special rules, which inevitably constitutes an
incentive to invest, weakening the signal of the allowance price. This is, however, very similar for all
these options. Obviously, the lower the allocation, the smaller the perverse incentives are.”
Concerning free allocation, the Impact Assessment mentions (page 117):
9
Impact assessment footnote 106: “In line with the IPPC-Directive, the maximum values for pollution
in the permits for installations covered by that Directive shall not exceed levels that can be achieved
by BAT. Even though CO2 emissions do no longer fall within the scope of the IPPC-Directive, allocations
at levels exceeding BAT means that the operator does not have to make any effort in order to comply
with its obligation to surrender allowances for its emissions. This would directly go against the
principles of the State aid rules for environmental protection.”
33
“Receiving an upfront allocation does not necessarily change production decisions that will still take
into account the opportunity cost of allowances. In other words, having received the allocation, it may
still be most profitable for the operator to close down its installation and sell its allocation on the
market (as far as it can keep it under the closure rule).”
Indeed, this is the consequence of an ex-ante fixed allocation. It is an incentive for carbon leakage:
lower production or shut down a production plant (as part of a GHG installation) and instead import the
lacking production from abroad. But as shown above, this point of view has been further ignored,
because of the perceived perverse incentives regarding the product carbon price signal. In other
words, although the Commission mentions the problem of the incentive for carbon leakage (on page
117), the obvious remedy is ignored (on pages 120-122) when options are evaluated for their
resistance to carbon leakage.
Note that at the time of this Impact Assessment, it was not known and expected that the EU ETS
Directive would include the provision of Art. 10a (20): 10
“The Commission shall, as part of the measures adopted under paragraph 1, include measures for
defining installations that partially cease to operate or significantly reduce their capacity, and
measures for adapting, as appropriate, the level of free allocations given to them accordingly.”
It is unclear whether and how rules for closure, new entrants’ rules and partially ceased production
were modelled in the E3ME model. The Commission analysis in the Impact Assessment implicitly
acknowledges the incentive of lowering production and import product (carbon leakage), however in
the possible options for avoiding carbon leakage the method of “updating of production data” to avoid
the perverse incentive for carbon leakage was nevertheless discarded.
5.11. Conclusions on solutions to avoid for carbon leakage in the European Commission’s
Impact Assessment 2008
The Commission’s Impact Assessment is very difficult to follow and lacks transparency and
consistency. There is research presented which shows that auctioning for industry would be more
favourable than free allocation (Impact Assessment page 115, table 5.4, result of the E3ME model).
But despite that remarkable result, apparently also for the Commission, the Commission went for free
allocation in order to avoid carbon leakage. As mentioned, there was incorrect advice of third parties to
the Commission, but this does not make the incorrect information of the Commission correct.
The following conclusions can be drawn from the European Commission’s Impact Assessment 2008:
•
Solutions to avoid carbon leakage are poorly researched; many statements are posited without
solid and transparent supporting evidence.
•
Ex-post allocation (benchmark multiplied initially with a provisional production, then ex-post
adjusted to actual production) was dismissed as an option for evaluation because of “perverse
incentives” with regard to the product carbon price signal while industry and later also
literature clearly conclude the necessity of a link to actual production in order to avoid carbon
leakage.
•
The Commission foresees no barriers and risks for the access to the new entrant’s reserve, but
in reality there are huge barriers and risks, which will cause investment carbon leakage.
•
The conclusions of the Impact Assessment about allocation methods with the objective to avoid
carbon leakage are not correct, as will be further shown in this study:
10
In European Commission (2011), the Commission Decision on benchmarks and allocation rules, this
is worked out so that the allocation will be decreased by 50% if the production volumes decrease by
50%-75% from the historical baseline, etc. Therefore there is an incentive for production carbon
leakage up to 49% of the historical production baseline (median 2005-2008 or median 2009-2010).
34
o
o
o
o
Ex-ante (benchmark multiplied with an ex-ante frozen historical production) or ex-post
allocation makes a crucial difference for carbon leakage. Ex-ante allocation is in fact an
inbuilt incentive for carbon leakage (production and investment carbon leakage).
The emphasis on the product carbon price signal (Impact Assessment page 94: “as well as
in final product markets”, see above, paragraph 5.3 and the various places where the
perverse incentives of ex-post allocation are mentioned, see above) played a vital role in
favouring the ex-ante allocation and excluding the option of ex-post allocation. However,
the full product carbon price signal, valuable in itself (100% with auctioning, 100% or less
with ex-ante frozen allocation), cannot be combined with the objective to avoid carbon
leakage. This is shown in this paper, also with concrete calculations on various forms of
carbon leakage. Auctioning is the most efficient method, but only if applied globally.
Obviously the level of the benchmarks has a crucial impact as well on the ability to avoid
carbon leakage. At a benchmark level of zero, the allocation turns into auctioning.
In the European Commission’s Impact Assessment, the absence of transparent modelbased calculations on micro (installation and operator) level about the effect of auctioning
on carbon leakage and about the effect of an ex-ante versus an ex-post allocation on
carbon leakage is an important omission.
5.12. Carbon leakage remedy of free allocation – three basic parameters
Carbon leakage depends on three basic parameters when free allocation is applied as remedy:
a) Method of allocation: Is the allocation – with benchmarks – ex-ante frozen (static) or expost (dynamic) based on actual or recent production?
b) Level of the benchmarks: Is the level of the benchmarks too stringent or is the level geared
to the objective to avoid carbon leakage? As mentioned, at a benchmark level of zero the
allocation turns into auctioning.
c) The carbon price: Above a certain level of the carbon price, carbon leakage occurs. This level
is product-specific and depends also on the two parameters above. Carbon leakage occurs as
from certain break-even carbon prices. In the case of investment carbon leakage, the carbon
price expected by investors in the longer term future plays a vital role.
This study investigates the impact of these three basic parameters for the chemical industry. It will be
shown that the consequences of particular values of these parameters can be transferred into rational
economic decisions by operators about where it is cheapest to produce a product: in the ETS region
like in this case the European Union, or abroad.
35
6. Analysis: A closer look at carbon leakage with quantitative assessments, applied to the
chemical industry
6.1. Production carbon leakage: market share competition & hard carbon cash costs
For completeness, there is no production carbon leakage in the case of a tight supply-demand balance
worldwide. Then the gross margins are relatively favourable, and there is no supply capacity to
increase import into a carbon constraint region. However then investment carbon leakage may take
place as producers will especially then decide about where to invest in capacity extensions.
In a first mechanism, foreign producers (new to the ETS region) compete by exporting into the ETS
region and can win market share based on their cost advantage. ETS producers, especially those with
a performance on and below average (50% of the production volume, under a more realistic weighted
average benchmark), face (hard cash) carbon costs which foreign producers don’t have. ETS
incumbents will defend market share but also their gross margin, so the outcome is a balance. This
balance is always negative in terms of profits and competitiveness.
6.1.1. Structural production carbon leakage, selling allowances delivers more
value than Gross Value Added based on the hard carbon costs: crackers + ldPE
First the example of steam crackers plus low density polyethylene (ldPE) is evaluated. Assume that the
European leader has a gross value added (GVA) of € 350/ton high value chemicals (HVC) plus ldPE at a
certain point in time and that the natural gas price is € 8/GJ. It then appears that producing and
selling product generates more value than selling allowances for most manufacturing plants, at least
up to carbon prices of about € 80/ton CO2 (only bottom 10% crackers would get into trouble by 2030 if
the carbon price was about this € 80/ton CO2 level).
But a less favourable market situation can occur: gross value added (GVA) of the European leader has
decreased to € 225/ton high value chemicals (HVC) plus ldPE at a certain point in time and the natural
gas price is € 8/GJ. The cross-sectoral correction factor (CSCF) is published to be 0.94 in 2013. For
ldPE the maximum financial compensation is foreseen, which is in 2020 rather curtailed by the two
reduction factors 75% (aid intensity) x 80% (for products without a product benchmark), thus
affecting GVA negatively (note: the ldPE data are based on 0.75 ton CO2/MWh, which is a good
indication for the marginal power plant). Then we see (note: WAE = Weighted Average Efficiency):
Carbon leakage calculations
Production carbon leakage
Picture incumbents, frozen efficiency calculations 2020, 2030
Ton CO2/ton product
Top 10%
Q1
Q2
WAE
Q3
Q4
Bottom 10%
Steam crackers Europe (rounded figures)
2013
0,702
0,73
0,84
0,97
0,93
1,17
1,36
Cracker 2013, assume CSCF in 2013 = 0,94
2013
0,662
Cracker 2020, assume CCSF in 2013 = 0,94
2020
0,579
2030
0,457
Low density polyethylene (ldPE), indirect cost top 10% & WAE, ton CO2/ton ldPE
0,58
0,74
Financial compensation ldPE
Top 10%:
WAE (Note: the financial compensation
Low density polyethylene (ldPE), financial compensation 85% x 80%
2013
0,39
0,50 for Q1/Q2 is assumed as top 10%
2020
0,35
0,44 for Q3/Q4 is as top WAE, for
2030
0,35
0,44 the reason of simplicity.
Polypropylene (PP)
0,20
0,28
Assume GVA crackers + ldPE top 10% Europe, €/ton HVC (no tight supply)
225
Assume price natural gas, €/GJ
8
Gross Value Added HVC + ldPE 2020 in €/ton HVC, at €/ton CO2
0
225
221
205
187
192
158
131
40
211
206
186
159
167
123
88
0
225
221
205
187
192
158
131
80
187
181
156
122
131
77
35
Selling allowances by cutting back production in 2020 (until 49%)
51
52
57
68
67
76
84
103
105
114
137
134
153
168
Hard carbon cost CO2 break-even price versus GVA 2020 (EURO/ton CO2)
137
131
107
78
83
57
41
128
122
101
74
79
54
40
36
As for any type of product installation, the carbon efficiency of a population, such as here for the
steam cracker installations in Europe, is distributed around a weighted average efficiency, in this case
0.97 ton CO2/ton product. The average of the 10% best installations (“top 10%”, for crackers 0.702
ton CO2/ton product) represents the top performers. There are also installations which are below the
average, as in all other regions around the world, with a similar performance as those in Europe. This
is nothing to be ashamed of – it is statistics, a fact of life.
In the last two lines of the table, the CO2 break-even carbon leakage prices based on the trade-off
between producing in Europe and selling ex-ante granted allowances are presented.
The carbon leakage break-even prices based on hard cash costs at a GVA without EU ETS of € 225/ton
HVC + ldPE are € 78/ton CO2 (if CSCF had been 1.0 in 2020: € 82/ton CO2) for a weighted average
plant (cracker + ldPE plant) and € 57/ton CO2 for the quartile 4 plants, both in 2020 (see table above).
Observations 2020 at an assumed carbon price of € 40/ton CO2:
•
Without carbon costs, GVA top 10% plant is € 225/ton HVC + ldPE, GVA Weighted Average
Efficiency (WAE) plant + ldPE is € 187/ton HVC.
•
GVA top 10% plant+ ldPE is € 211/ton HVC, GVA of the WAE plant + ldPE is € 159/ton HVC.
•
Ex-ante allocation: selling allowances at € 40/ton CO2 (and avoiding carbon cost of ldPE) gives
less revenue than producing product in Europe. No production carbon leakage.
Observations 2030 at an assumed carbon price of € 80/ton CO2:
•
GVA top 10% plant + ldPE is € 187/ton HVC + ldPE, GVA WAE plant + ldPE is € 122/ton HVC.
•
Ex-ante allocation: selling allowances at € 80/ton CO2 (and avoiding carbon cost of ldPE) gives
more revenue (€ 137/ton product) for a WAE plant than producing product in Europe (which
gives a margin of € 122/ton product). Production carbon leakage is profitable!
The situation becomes even worse when market conditions get less favourable and the GVA
deteriorates. Assume that the GVA for the leader plant including ldPE deteriorates to € 170/ton HVC.
In a strong recession or crisis GVA can become worse than € 170/ton HVC, such as in 2013!
Ton CO2/ton product
Top 10%
Q1
Q2
WAE
Q3
Q4
Bottom 10%
2013
0,702
0,73
0,84
0,97
0,93
1,17
1,36
2013
0,662
2020
0,579
2030
0,457
0,58
0,74
Top 10%:
2013
0,39
2020
0,35
2030
0,35
Polypropylene (PP)
0,20
0,28
170
8
0
170
166
150
132
137
103
76
40
156
151
131
104
112
68
33
0
170
166
150
132
137
103
76
80
132
126
101
67
76
22
-20
51
52
57
68
67
76
84
103
105
114
137
134
153
168
104
98
79
55
59
37
24
97
91
74
52
56
35
23
37
Now it can be seen that at a carbon price of € 80/ton CO2 in 2030 for quartile 2 plants (!) selling
allowances is more profitable than producing in Europe (selling of allowances generates € 114/ton
HVC, producing generates a GVA of € 101/ton HVC).
At a reference GVA of € 170/ton product (cracker + ldPE) for the leaders (top 10%) without carbon
costs, the carbon leakage break-even prices based on hard cash costs are € 55/ton CO2 for a weighted
average plants and € 37/ton CO2 for the quartile 4 plants, both in 2020. These are rather low breakeven prices.
In worse economic circumstances, the gross value added can for example become € 85/ton HVC plus
ldPE. Then we can observe:
Ton CO2/ton product
Top 10%
Q1
Q2
WAE
Q3
Q4
Bottom 10%
2013
0,702
0,73
0,84
0,97
0,93
1,17
1,36
2013
0,662
2020
0,579
2030
0,457
0,58
0,74
Top 10%:
2013
0,39
0,50
for Q1/Q2 is assumed as top 10%
2020
0,35
0,44
for Q3/Q4 is as top WAE, for
2030
0,35
0,44
the reason of simplicity.
Polypropylene (PP)
0,20
0,28
85
8
0
85
81
65
47
52
18
-9
40
71
66
46
19
27
-17
-52
0
85
81
65
47
52
18
-9
80
47
41
16
-18
-9
-63
-105
51
52
57
68
67
76
84
103
105
114
137
134
153
168
52
48
34
19
23
6
-3
48
45
32
19
21
6
-3
The break-even prices based on hard cash costs become very low (e.g. € 19/ton CO2 for WAE plants in
2020 and in 2030, see the last two lines in the table above).
In such an unfavourable market situation, selling allowances is for all crackers plus ldPE plants more
profitable than producing in Europe at a CO2 price above € 52/ton in 2020 and € 48/ton in 2030.
Conclusions hard cash cost production carbon leakage steam crackers + direct value chain
•
Depending on the GVA without carbon costs and depending on the stringency of the benchmark,
which is very much influenced negatively by the cross-sectoral correction factor, the hard cash cost
production carbon leakage break-even prices can become rather low, e.g. easily around € 50/ton
CO2 or even lower as shown above for Weighted Average Efficiency and manufacturing plants. This
means that at such, not really high, carbon prices 50% of European production is in danger for
hard cash cost production carbon leakage.
•
We note that for other derivatives, such as polypropylene (PP) as indicated in the table, the impact
is somewhat less than for ldPE.
•
The presented production carbon leakage break-even prices in €/ton CO2 for steam crackers plus,
in this case, ldPE are a hard cash cost ceiling above which producing in Europe generates less
value than selling allowances.
•
The ex-ante frozen allocation rules of the EU ETS show a bad resistance against production carbon
leakage for the chemical industry; these are in fact an incentive for carbon leakage.
38
The impact of this mechanism will be shown also for an allocation based on actual production (ex-post
adjustment of a provisional production to actual production), see chapter 12.
value than Gross Value Added based on the hard carbon costs: ammonia
The situation about ammonia is further illustrated with public data of CHEMSYSTEMS (2012):
From this figure it can be seen that the cash cost margin for a European leader (let’s assume this is
about a “top 10% producer) varied in the period 1990 to 2012 between zero and an exceptional high
of about € 350/ton ammonia. Another important observation is that since 2009 US producers have
generated higher margins than European producers. Since about 2005, the Middle East producers have
been much more profitable than European producers.
Assume that the European leader has a gross value added (GVA) of € 170/ton ammonia at a certain
point in time and that the natural gas price of € 8/GJ. The cross-sectoral correction factor (CSCF) is
published to be 0.94 in 2013 and 0.82 in 2020. Then we see:
Ton CO2/ton product
Ammonia 2013
In GJ/ton ammonia
Ammonia 2013, top 10% (for incumbent with CSF in 2013 = 0,94)
In GJ/ton ammonia
In GJ/ton ammonia
In GJ/ton ammonia
Cash cost ammonia 2013, ton CO2/ton ammonia (CSF 2013 = 0,94)
Assume GVA ammonia top 10% Europe, €/ton ammonia (no tight supply)
Gross Value Added ammonia 2020 in €/ton ammonia, at €/ton CO2
170
8
0
40
0
80
Top 10%
Q1
Q2
WAE
Q3
Q4
1,619
1,726
1,954
2,003
2,076
2,442
28,9
30,8
34,9
35,8
37,1
43,6
1,526
27,3
1,335
23,8
30,8
34,9
35,8
37,1
43,6
1,053
18,8
0,09
0,20
0,43
0,48
0,55
0,92
0,28
0,39
0,62
0,67
0,74
1,11
0,57
0,67
0,90
0,95
1,02
1,39
Top 10%
Q1
Q2
WAE
Q3
Q4
170
159
170
125
65
130
89
78
155
139
155
101
69
138
73
65
122
97
122
50
78
156
47
43
115
88
115
39
80
160
43
39
105
75
105
23
83
166
37
34
52
8
52
-59
98
195
15
14
Bottom 10%
2,784
49,7
49,7
1,26
1,45
1,73
Bottom 10%
4
-54
4
-135
111
223
1
1
39
Without CO2 costs, the average producer will have a GVA of € 115/ton ammonia, the Q4 of € 52/ton
ammonia. With a CO2 price of € 40/ton, the average producer will have a GVA of € 88/ton ammonia
(would have been € 100/ton ammonia if CSCF had been 1.0 in 2020); the average Q4 plant has a GVA
of € 8/ton ammonia (would have been € 52/ton ammonia (!) if CSCF had been 1.0 in 2020).
Above a carbon price of € 43/ton CO2 in 2020, cutting back production and selling allowances delivers
more value than GVA for weighted average efficiency plants and for quartile 3 and 4 plants.
With the stringent CSCF, the top 10% benchmark value for all incumbent installations is already lower
than the best technology for new installations in 2013: 1.53 ton CO2/ton ammonia, or 27.3 GJ/ton
ammonia, while the best technology for 2020 is 28 GJ/ton ammonia, see Cefic Roadmap page 68-69.
The benchmark becomes equal to the theoretical thermodynamic minimum of 20.7 GJ/ton ammonia by
2026!
Towards 2030, massive carbon leakage can be expected if the carbon price increases above € 78/ton
CO2. At a gross value added of € 170/ton ammonia without CO2 costs, selling allowances based on
hard cash costs is then for all European ammonia plants more profitable than producing in Europe.
Conclusions hard cash cost production carbon leakage ammonia
•
The hard cash cost production carbon leakage break-even prices are rather low for ammonia, e.g.
€ 40-50/ton CO2 for quartile 2 plants until about € 15/ton CO2 for quartile 4 plants. This means
that at such, not really high, carbon prices 75% of European ammonia production is in danger for
hard cash cost production carbon leakage.
•
By 2030 the present weighted efficiency plant has a GVA of 39/ton ammonia at an assumed CO2
price of € 80/ton. Not producing and selling allowances would then generate € 160/ton ammonia!
•
From the historical cash cost margins it can be concluded that the GVA can become lower. Then
not producing product and selling allowances becomes profitable at lower carbon prices.
•
The ex-ante frozen allocation rules of the EU ETS show a bad resistance against production carbon
leakage for the chemical industry, these are in fact an incentive for carbon leakage.
The impact of this mechanism will be shown also for an allocation based on actual production (ex-post
adjustment of a provisional production to actual production), see chapter 12.
value than Gross Value Added based on the hard carbon costs: conclusion
chemical industry
Hard cash cost carbon leakage is the extreme case of carbon leakage. Petrochemicals and ammonia
including derivatives from steam crackers and/or ammonia are not resistant to ever more stringent
benchmarks and a carbon price in the range of € 40-80/ton. The combination of ex-ante allocation and
the stringent benchmark shows that production carbon leakage is incentivised, based on the
deterioration of GVA by hard cash carbon costs.
For many products in the chemical industry, steam crackers and/or ammonia plants are within the
industry at the top of the value chain – see Cefic Roadmap 2050. A large part of the cracker value
chain consists of polymers; for ammonia, the value chain consists, among others, of fertilisers via
nitric acid or as urea. Examples of “and/or” products are caprolactam and acrylonitrile.
40
Therefore, the break-even production carbon leakage prices based on hard cash costs as presented
above are not the exception but the rule in the chemical industry (this is further illustrated with
calculations about arbitrage production carbon leakage below).
6.2. Arbitrage production carbon leakage – introduction, relation with investment carbon
leakage
The next production leakage mechanism is relatively straightforward: in many markets companies are
increasingly producing globally (besides chemicals also e.g. steel, cement). These companies simply
produce where it is cheapest to do so, taking into account the transport costs to the ETS region. There
are break-even CO2-prices above which producing abroad is cheaper than inside the ETS region.
By reducing production in the ETS region, the corresponding gross value added (GVA) is lost and there
is, therefore, a lower coverage of the fixed costs. As profit is only a part of GVA, the result will be
much lower profits and – after further production shrinkage – a net operating loss. This would be a
reason not to lower production in the ETS region. However, the GVA loss in the ETS region is
compensated by the same GVA gain outside the ETS region, all things equal. Above the break-even
price, the sum of revenue by sales of allowances minus the extra transportation costs is positive.
Arbitrage production carbon leakage is in the first place a short-term environmental problem, it is short
term carbon leakage. With the present ex-ante allocation rules no allowances are lost until and
including a lower production of 49% of the historical baseline (median 2005-2008 or median 20092010, as applicable). Thus in times of recession or crisis, there is a strong incentive to keep older less
efficient plants on 51% of the historical baseline.
But arbitrage production carbon leakage has also effect on long-term investment carbon leakage.
Of course, the production loss with this production leakage mechanism will not increase overnight to
49%. Such production losses will develop gradually, also because many companies will not have
immediately the logistical infrastructure (e.g. tanks in a harbour) and will most often not have enough
capacity outside Europe to compensate for lowering production to 51% of historical production (median
2005-2008 or median 2009-2010) in Europe.
If production carbon leakage becomes profitable, a company is partly incentivised to decide to
debottleneck existing plants outside Europe (debottlenecking is a relatively cheap way to add
capacity).
In other words, by increasing capacity outside Europe the possibility increases in the future to lower
production of existing capacity of the same company in Europe to 51% of the historical baseline
production (median 2005-2008 or median 2009-2010, as applicable). Thus production carbon leakage
will also be a partial incentive for longer term investment carbon leakage.
The partial incentive can be explained as follows. For any investment for growth there must be an
adequate return on investment (ROI, or IRR). Only the revenue of selling allowances from an
installation in Europe is most often not enough to justify an capacity extension outside Europe (unless
a debottlenecking is rather cheap, which may occur).
But if the investment to extend capacity outside Europe is done, notably because of the huge barriers
and risks to get the adequate number of allowances for growth in Europe (see paragraph 6.3), the
possibility increases in the future to lower production of existing capacity of the same company in
41
Europe to 51% of the historical baseline production. This will then happen at times of lower than
expected market demand.
Even if there were no barriers and risks to getting allowances for debottlenecking in Europe (huge
barriers and risks are in place, which are likely to cause investment carbon leakage) or for getting
allowances for a replacement of old capacity by a modern one with the same capacity (which can be a
problem in case a company would select another site for the replacement), it is questionable whether a
company would decide to replace an older, less efficient plant by a new efficient one, when the result
would be that cutting back production and selling freed allowances plus importing product from same
company’s production facilities outside Europe would generate more money, albeit that this would
result above a higher CO2 break-even price.
For example, the result of a relatively high investment to replace an older less efficient plant
by a modern one – in the order of € 1 bn for a cracker – would be that the arbitrage production
carbon leakage break-even price for a quartile 4 cracker + ldPE only moves from € 16/ton CO2
to € 21/ton CO2 for a top 10% cracker + ldPE, see the table below in the next paragraph.
Investing to reduce emissions is thus a poor remedy to avoid arbitrage production carbon
leakage under the present ex-ante allocation rules.
In other words, investors will feel really safe when with an improved allocation system the arbitrage
production carbon leakage break-even price would become much higher – e.g. higher than € 150 to
200/ton CO2 – than the anticipated carbon prices, say long term 2020-2050 in the range of € 50150/ton CO2. Therefore the level of the arbitrage production carbon leakage break-even price can be
regarded as a health indicator for the resistance to carbon leakage.
As mentioned, these break-even prices assume all other things to be equal. This is in practice not the
case: the prices for feedstock, natural gas and electricity are in many competing regions lower than in
Europe. And in Asia labour costs are lower. These “all other things equal” arbitrage production carbon
leakage break-even prices of the chemical industry are outlined below (because carbon leakage by
definition assumes “all other things equal”).
6.2.1. Arbitrage carbon leakage break-even prices chemicals: steam crackers
and their value chains – illustration with an example
Steam crackers have extensive value chains. The calculations are shown for crackers with two selected
polymers, ldPE and PP, based on the cracker products ethylene and propylene:
Picture incumbents, without a CSF (cross-sectoral correction factor)
Ton CO2/ton product
Top 10%
Q1
Q2
WAE 1)
Q3
Q4
Bottom 10%
Steam crackers Europe (rounded figures) 2)
0,702
0,73
0,84
0,97
0,93
1,17
1,36
Low density polyethylene (ldPE) 3)
0,58
0,74
Polypropylene (PP) 3)
0,20
0,28
Assumed transport costs, €/ton product
30
Ex-ante allocation, break-even price production carbon leakage
Crackers
43
41
36
31
32
26
22
Crackers + ldPE (average)
21
20
19
17,5
18
16
14
Crackers + PP (average)
31
30
27
24
25
21
18
With ex-ante allocation, these break-even prices do not depend on the benchmark (Top 10% or Weighted Average Efficiency), but on the specific emission.
1) Weighted Average Efficiency
2) Direct + steam + indirect (electricity); indirect on the basis of 0.465 ton CO2/MWh, so underestimated (marginal is about 0.75 ton CO2/MWh).
3) Data based on benchmark covenant Netherlands (and 0.75 ton CO2/MWh)
42
As mentioned, above the break-even CO2 price, the freed emission allowances from lowering
production in Europe can be sold and the shortfall in production can be imported from outside the
European Union. Then the revenues from this carbon trade will more than compensate for the cost of
transportation into the European Union, in this example assumed at € 30/ton product.
Note that the cost of transportation from outside Europe into Europe is counted only once for steam
cracker derivatives. This is because the final result of carbon leakage for e.g. ldPE is that only ldPE is
transported into Europe while in Europe the production of ldPE plus ethylene from a steam cracker will
be decreased.
From the calculation it can be seen that the carbon leakage break-even price for the weighted average
efficiency (WAE) cracker is € 31/ton CO2. With the lower production a lower production of, for example
the polymers ldPE and PP, will be considered as well. Then the combined carbon leakage break-even
prices for the value chains cracker plus ldPE respectively PP decrease to the low level of € 17.5/ton CO2
and € 24/ton CO2 respectively. Installations with a performance below WAE have even lower breakeven prices. These break-even prices for the petrochemical industry are rather low.
Note that these break-even prices for arbitrage production carbon leakage are valid for any
level of a frozen ex-ante allocation, these are also valid in case of auctioning. But in the case
of auctioning these break-even prices are for investment carbon leakage. Then any foreign
competitor can produce cheaper outside the ETS region than a producer with the same
efficiency inside the ETS region (then this is not arbitrage carbon leakage anymore).
Such calculations are not (yet) included in the European Commission’s impact assessments.
Partial auctioning for incumbent operations applies when an allocation with a benchmark per unit of
product is lower than the specific emission of a manufacturing plant. Under an ex-ante frozen historical
allocation, the partial auctioning costs can be avoided by lowering production (and importing product
from abroad). Partial auctioning would also occur, even for a plant that meets the benchmark, if a
sector changed from being regarded as exposed to not exposed to the risk of carbon leakage (as CE
Delft (2013) advocates for quite a lot of sectors). Partial auctioning will also occur when a new entrant
gets an under-allocation caused by a too low production volume if compared to his actual production
volume (because of the risky rules for production “capacity” of a new entrant, see barriers and risks for
growth below).
Full auctioning for growth can happen in the present rules if the new entrants’ reserve is depleted, or if
‘permit trading’ were to be adopted, as advocated by environmental economists – as mentioned above
(then all allowances for any growth must be bought).
This analysis shows that under auctioning, even top performing plants are not economically
feasible anymore in Europe. At carbon prices as low as € 20-30/ton CO2, producing product
outside Europe and transporting it to Europe is cheaper than producing in Europe.
With auctioning and with an ex-ante allocation, the economic value of lowering production does not
depend on the allocation volume (e.g. top 10% or Weighted Average Efficiency), but on the specific
emission of the individual installation. This is illustrated in the example on the next page.
43
The calculations above are illustrated by an example:
Assume a WAE cracker producing 1,000 kton product and a connected WAE ldPE plant producing 200
kton ldPE. Then the direct and indirect (electricity) emissions are 1,000 x 0.97 + 200 x 0.74 = 1,118
kton CO2. Both plants can reduce production by 49% while keeping all allowances they got; the
emission becomes then 0.51 x 1,118 = 570 kton CO2. The reduction of emissions is then 1,118 - 570
= 548 kton CO2.
Assume further that the allocation for the cracker was 1000 x 0.702 ton CO2/ton product = 702 kton
European Emission Allowances (EUAs) and that the allocation for the ldPE plant including the financial
compensation expressed in allowances was 68% (85% aid intensity x 80% reduction factor as a nonproduct benchmark installation), thus 68% x 0.74 ton CO2/ton product x 200 kton = 100 kton EUA
equivalents; in total 802 kton EUA equivalents. Thus the shortage of allowances and of the restricted
financial compensation is 1,118 - 802 = 316 kton CO2-equivalents/year.
When by lowering the production to 51% of the historical frozen baseline, the lower emissions of 548
kton CO2 have two effects: (1) avoidance of the cost of the shortage of 316 kton EUAs and (2) there is
a revenue from the sale of 232 EUAs, the total economic value is thus 548 kton CO2. If the allocation
was for example 1,118 kton, the avoided cost of shortage of allowances would be zero and the
revenue would be 548 kton EUAs, thus representing the same economic value.
Therefore in the ex-ante allocation rules, the economic value of lowering production does not depend
on the allocation volume, but on the specific emission of the individual installation. In other words, the
stringency of the benchmark (top 10% or WAE) plays no role in the incentive for carbon leakage.
To finalise this example, assume that the CO2-price is € 35/ton. Producing 49% fewer cracker products
and less ldPE delivers then an economic value of 35 x 548 = k€ 19,180. If all 49% of the lowered
cracker production (which includes the ldPE volume, but also other polymers and other products),
being 49% x 1,000 kton = 490 kton product were to be imported from outside to inside the EU at a
transport cost of € 30/ton product, the transportation costs would in total be k€ 14,700. If produced by
production installations outside the EU of the same producer, the net profit of this arbitrage carbon
leakage transaction would be k€ 19,180 – k€ 14,700 = k€ 4,480.
The break-even price is achieved when this net profit is zero. This is calculated by dividing the
transportation cost by the specific emission, in this example:
{€ 30/ton product transportation cost / (0.97+ 0.74) ton CO2/ton product} = € 17.5/ton CO2.
The table shows that the combination of an average cracker and an average PP plant gives a breakeven price of € 24/ton CO2. Because a steam cracker produces various products (“high value
chemicals” plus others), the average break-even price will be around € 20/ton CO2.
44
6.2.2. Arbitrage carbon leakage break-even prices chemicals: ammonia
Ammonia is even more sensitive to carbon leakage; the result is shown in the next table:
Ton CO2/ton product
Top 10%
Q1
Q2
WAE 1)
Q3
Q4
Bottom 10%
Ammonia 2)
1,619
1,726
1,954
2,003
2,076
2,442
2,784
30
Ammonia 2)
19
17
15
15
14
12
11
These break-even prices for ammonia are very low, for an average plant € 15/ton CO2.
6.2.3. Arbitrage carbon leakage break-even prices chemicals: melamine
The precursors for melamine are ammonia, urea and CO2. In the calculation below, the upstream
effects of ammonia and urea are included. This results again in very low carbon leakage break-even
prices.
Ton CO2/ton product
Melamine incl. upstream ammonia/urea 2)
Top 10%
Q1
Q2
WAE 1)
Q3
Q4
Bottom 10%
1,104
2,286
3,000
(conservative estimate)
30
Melamine
27
13
10
2) Data based on benchmark covenant Netherlands (and 0.75 ton CO2/MWh)
6.2.4. Arbitrage carbon leakage break-even prices chemicals: carbon black
Carbon black is rather carbon intensive; it is produced from aromatic heavy oils from refineries and
from steam crackers. The carbon leakage break-even prices are amongst the lowest in the EU ETS:
Ton CO2/ton product
Carbon black 2)
Top 10%
Q1
Q2
WAE 1)
Q3
Q4
Bottom 10%
1,954
2,576
3,000
(conservative estimate)
30
Carbon black
15
12
10
45
6.2.5. Summary production carbon leakage break-even prices chemicals
As mentioned, for many products in the chemical industry, steam crackers and/or ammonia plants are,
within the industry, at the top of the value chain – see Cefic Roadmap 2050. A large part of the cracker
value chain consists of polymers; for ammonia, the value chain consists among other things of
fertilisers via nitric acid or as urea. Examples of “and/or” products are caprolactam and acrylonitrile.
It is shown that the arbitrage production carbon leakage break-even prices for the chemical industry
are relatively low (in the range as relevant in the Commission’s Impact Assessment) and probably in a
similar range as for other important EU ETS sectors such as steel and cement. Because of the structure
of the chemical industry with its numerous and complex value chains, the carbon leakage break-even
prices are generally in the range of € 15-35/ton CO2.
The arbitrage production carbon leakage break-even prices are investment carbon leakage
break-even prices in the case of full auctioning of allowances. Thus, above rather moderate
carbon prices in the range of € 15-35/ton CO2, producing chemicals outside Europe and
importing chemicals into Europe is cheaper than producing chemicals in Europe. Therefore
free allocation of allowances is essential. From this analysis it is clear that too stringent
benchmarks will be counterproductive. The adequate stringency level of the benchmarks
will be explored in the solutions part of this study.
It is further shown that by increasing capacity outside Europe the possibility increases to lower
production of existing capacity of the same company in Europe to 51% of the historical baseline
production (median 2005-2008 or median 2009-2010, as applicable). Thus production carbon leakage
will also be a partial incentive for longer term investment carbon leakage.
The structural production carbon leakage break-even prices based on hard carbon costs due to
increasingly stringent benchmarks and restricted or absent financial compensation are on a higher
level, but are still in the range of € 40-80/ton CO2 for average efficiency manufacturing plants.
It is remarkable that such calculations as presented above are not (yet) included in the
European Commission’s impact assessments. This omission must be remedied.
Production carbon leakage could eventually become significant in the EU ETS, if one considers that the
sectors chemicals, steel and cement cover at least 600 Mton CO2 per annum for the direct and the
indirect (electricity) emissions. A production carbon leakage of almost 50% would thus represent a
carbon leakage of almost 300 Mton CO2 per annum. This can be compared with the lowering of the
total EU ETS cap by 374 Mton CO2-equivalents between 2010 and 2020.
The second real threat, to compound matters, is investment carbon leakage; this is caused by barriers
and risks for investments in growth. The structural causes leading to investment carbon leakage are
elaborated below.
6.3. Investment carbon leakage through barriers and risks for investments for growth and
for investments to replace older less efficient plants by modern ones
Barriers and risks for investments in growth and for investments to replace older less efficient plants
by modern ones under the present EU ETS allocation rules were investigated in Cefic-IFIEC (2012).
Investment to replace older less efficient installations are not regarded as a new entrant if the
replacement takes place in the same GHG permit (so then there are no barriers and risks), but it is a
new entrant if the replacement would be done on another site.
46
The allocation rules of the revised EU ETS Directive have been clarified in more detailed rules in the
Commission Decision on benchmarks and allocation rules, also called CIMs: Community
Implementation Measures. Both documents are legally binding. The rules are further detailed in
Guidance Documents (500+ pages) and Q&As of the European Commission, both of which are
explicitly not legally binding for Member States, not for the European Commission either.
However, the Commission and Member States apply all guidance and the Q&As as if it were the law,
although contradictions and conflicts with logic exist. This state of affairs prompts the question: what is
the legal certainty for investment in growth?
The study concludes that to assume that “there is no problem for growth because there is a new
entrants’ reserve (NER)” is an oversimplification of the facts. This assumption is not valid. As a matter
of fact, there are many legal and operational uncertainties about the access to the NER and even about
its existence after 2020. There are no “new incumbents” for the period 2021-2028. Therefore, the
present barriers and risks for growth of new entrants are also important for all post 2020 trading
periods.
For industrial growth as from 30 June 2011, barriers and risks are for example: there are no
allowances for growth within existing capacity, no allowances for debottlenecking up to a capacity
increase of 10% and no allowances for capacity growth for so-called ‘non-ETS’ heat consumers, unless
there is also a ‘physical change’ of the ETS heat supplier (which is often not needed, especially after
heat savings by the consumers according to the objective of ETS!). In the case of a capacity growth of
10% (or 50,000 allowances and 5%), the rules are very risky: the allocation will be based on the 2
highest monthly production volumes within 3 or 6 months after ‘start of normal operation’ and may
therefore be much lower than a “normal” utilisation rate multiplied by design capacity due to e.g.
start-up problems, lack of market demand (recession or crisis; a novel performance product may
require years to develop market demand).
The new entrants’ reserve (NER) might be depleted when needed, and there is presently no NER after
2020 (not defined in the Directive). Certainty for a NER after 2020 is most relevant for new
investments which are going to be planned soon. At a foreseen start-up in e.g. 2018-2020, the
economic evaluation period is 10 to 15-20 years, resulting in a time horizon of 2020 to 2035-2040.
Others barriers and risks for growth: the uncertain and restricted financial compensation, the stringent
linear reduction factor (LRF) which must be multiplied by the benchmark for the allocation to new
entrants (LRF is already 0.9130 in 2018 and will further drop in e.g. 2028 to 0.739). There is also
uncertainty about the carbon leakage status. If a sector or sub-sector changes from “exposed” to
“non-exposed” then the carbon leakage exposure factor (CLEF) suddenly drops from 1.0 in 2013-2014
(100% free allocation) to 0.6571 in 2015 and so on down to 0.3000 in 2020 (and so forth down to
zero after 2027?).
These barriers and risks are likely to cause investment carbon leakage, which just like
production leakage, should be included in the European Commission impact assessments.
6.3.1. Investment carbon leakage – steam cracker value chains
As we saw before, under the ex-ante allocation rules, not the allocation but the specific emission
determines the production carbon leakage break-even prices.
47
It is assumed that a new efficient cracker to be started up close to 2020 has a specific emission of
0.617 ton CO2/ton product in 2020, which will be further improved to 0.586 ton CO2/ton product in
2030 and 0.571 ton CO2/ton product in 2040.
This high efficiency new plant in 2020 corresponds to the prediction in the Cefic Roadmap (page 76) of
11 GJ/ton HVC. In the Roadmap new plants in 2020-2030 are predicted to use 10 GJ/ton HVC (∼0.561
ton CO2/ton HVC), in 2030-2050 this is 9 GJ/ton HVC (∼0.505 ton CO2/ton HVC).
(Note: for the calculation from GJ/ton HVC the gas factor of 56.1 ton CO2/TJ has been used, which is
slightly optimistic because there is always electricity use; some highly efficient plants use a lot of
electricity, which are electro-intensive crackers).
However, the top 10% benchmark multiplied with the linear reduction factor (LRF) decreases faster
than the technological development (without CCS), see table below. By 2050 the benchmark with
LRF has decreased to around 50% of the expected technological development!
In the absence of a new Global Climate Agreement with a global level playing field it is of course not
feasible to install already sooner (2020) or later (2030) carbon capture and storage (CCS) which
requires high investment and for which also still other barriers and risks such as public acceptance and
lack of infrastructure exist. Under the present circumstances, an investment decision cannot be based
on CCS.
Despite the high efficiency of the new plant, the arbitrage production carbon leakage break-even prices
are still very low, namely about € 25/ton CO2 for crackers plus ldPE and about € 37-40/ton CO2 for
crackers plus PP, see table below.
As mentioned, the arbitrage production carbon leakage break-even price is a health indicator for the
business environment and is an environmental indicator with regard to the sensitivity for production
carbon leakage. Above these low break-even prices cutting production in Europe and increasing
production of the same producer outside Europe for export to Europe is profitable.
Investment carbon leakage
Ton CO2/ton product
Linear reduction factor (LRF)
Picture new entrants, with the LRF (linear reduction factor)
Estimated technological development new plants (excl. CCS), see Cefic Roadmap
Steam crackers benchmark top 10% with LRF 1.74%
2013
100%
2020
88%
2030
70%
2040
53%
2050
36%
0,702
0,617
0,616
0,561
0,494
0,505
0,372
0,500
0,250
WAE
2020
WAE
2030
WAE
2040
Assume new build steam cracker around 2020
0,617
0,586
0,571
0,557
-0,30
-0,25
-0,19
Low density polyethylene (ldPE)
0,58
0,57
0,56
0,56
0,55 Sales of allowances, in
Simulated benchmark ldPE: LRF x Benchmark 2013 (assumed: financial compensation drops with LRF)
0,51
0,41
0,31
0,21
Polypropylene (PP)
0,20
0,20
0,19
0,19
0,19 ton CO2/ton product.
Simulated benchmark PP: LRF x Benchmark 2013 (assumed: financial compensation drops with LRF)
0,18
0,14
0,11
0,07
30
Ex-ante allocation, break-even price production carbon leakage through the opportunity costs
Orange colour: carbon leakage, deters new investments
2020
2030
2040
2050
New cracker 2020
49
51
52
54
Crackers + ldPE (top 10%)
25
26
27
27
Crackers + PP (top 10%)
37
38
39
40
For such a long time horizon, the CO2-prices must be expected to be much higher than today. For
example, in the Commission’s Energy Roadmap Diversified Supply scenario (similar to Cefic’s
Diversified Global Action scenario), the CO2-prices are € 25/ton in 2020, € 52/ton in 2030, € 95/ton in
2040 and thereafter sharply rise to € 265/ton in 2050.
48
But there is more to say about the threat for investment carbon leakage. For a new high efficiency
cracker designed for start-up by 2020 the hard cash cost of CO2 will be nearly zero. But after 2020 the
hard cash cost will increase: from 0 ton CO2/ton HVC in 2020, to 0.092 (0.586-the benchmark of
0.494) ton CO2/ton HVC in 2030, to 0.199 ton CO2/ton HVC in 2040 but then to 0.307 ton CO2/ton
HVC in 2050 (see table below).
For ldPE (low density polyethylene) the new plant by 2020 is set at 0.58 ton CO2/ton ldPE. For ldPE
(and PP, polypropylene) a simulated benchmark has been set: benchmark 2013 x LRF.
This simulated benchmark is until 2020 an optimistic assumption, because for ldPE the high electricity
use is the main energy component and the financial compensation (to be granted in Member States
like Germany, Netherlands, etc. but not at all in many other Member States) anyway drops by the
maximum aid intensity (75% in 2020) and must on top of this be multiplied with 80% (because these
are products without a product benchmark). Thus in 2020 the financial compensation is 75% x 80% =
60% of the real carbon costs of electricity.
Under this optimistic simulated benchmark assumption we see as hard cash carbon costs for ldPE: 0.06
(0.57-0.51) ton CO2/ton ldPE in 2020, to 0.15 ton CO2/ton ldPE in 2030, to 0.25 ton CO2/ton ldPE in
2040 and to 0.34 ton CO2/ton ldPE in 2050.
Then the total hard cash carbon costs for a modern high efficiency cracker plus ldPE build by 2020 are:
0.06 ton CO2/ton product in 2020, 0,22 ton CO2/ton product in 2030, 0.38 ton CO2/ton product in 2040
and 0.60 ton CO2/ton product in 2050.
The calculations above are presented in the next table:
Ton CO2/ton product
Allocation 1: Steam crackers benchmark top 10% with LRF 1.74%
New build low density polyethylene (ldPE)
Allocation 1: Simulated benchmark ldPE: LRF x Benchmark 2013 (assumed: financial compensation drops with LRF)
New build polypropylene (PP)
Allocation 1: Simulated benchmark PP: LRF x Benchmark 2013 (assumed: financial compensation drops with LRF)
Hard cash cost disadvantage, ton CO2/ton product (plus = disadvantage)
Allocation 1: 100% of benchmark cracker + simulated benchmark ldPE
European Commission Energy Roadmap carbon price (Diversified Supply scenario)
Hard cash cost disadvantage, EURO/ton product (plus = disadvantage)
2013
100%
0,702
0,58
0,20
2020
88%
2030
70%
2040
53%
2050
36%
0,617
0,616
0,617
0,57
0,51
0,20
0,18
0,561
0,494
0,586
0,56
0,41
0,19
0,14
0,505
0,372
0,571
0,56
0,31
0,19
0,11
0,500
0,250
0,557
0,55
0,21
0,19
0,07
0,06
25
0,25
52
0,45
95
0,65
265
1
13
43
173
With the CO2 prices of the Commission’s Energy Roadmap this means for the hard cash cost
disadvantage: € 1.5/ton product in 2020, € 13/ton product in 2030, € 43/ton product in 2040
exploding to € 173/ton product in 2050.
These costs, which will in a risk analysis be higher in scenarios with higher carbon prices, must be
compared with a GVA of € 350/ton HVC + ldPE in healthy economic circumstances and lower GVAs
such as € 170/ton HVC + ldPE or less during times of over-supply, recession or crisis.
In conclusion, by 2050 GVA is in an favourable market situation cut by about 50% and in a
unfavourable market situation GVA is eaten way completely.
49
But profit is just a part of the gross value added (GVA). The larger part of GVA is needed to recover
the fixed out of pocket (foob) costs of manufacturing (personnel, maintenance, research and
development, etc.). So, if there is a healthy profit for a high efficiency plant at a GVA without carbon
costs of € 350/ton HVC + ldPE, the profit turns into an operating loss when GVA without carbon costs
deteriorates to values such as € 170/ton HVC + ldPE (or less).
But the barriers and risks for getting allowances for growth are not yet considered. In the analysis
above it is assumed that the new cracker and ldPE plant get all allowances and the financial
compensation as they deserve. The allocation rules for new plants in a new GHG installation stipulate
(the devil is in the detail):
•
Start of normal operation = the first day of a period of 90 consecutive days in which the subinstallation has produced at least at 40% of design capacity. Days without production may
have to be included (?) (to this day, e.g. the Netherlands’ Emissions Authority (NEa) cannot
give a clear answer on this).
•
Cnew, design = design capacity based on objective information, verified by an independent
verifier.
•
Cinitial = the sub-installation’s initial capacity, based on the average of the 2 highest monthly
production volumes, to be multiplied with 12, in the 90 day (3 months) period after start of
normal operation.
Therefore, if after the start of normal operation, the plant managed to run only at 50% of the design
capacity, the allocation is only 50% of the calculations shown above.
An allocation below 40% is even possible, because it can happen that after ‘start of normal operation’
(in which production must be at least 40% of design capacity) the production drops to lower levels, for
example because of technical problems. Experience shows that such technical problems can especially
happen in case of an innovative process design (in the early period after start-up in the first year, so
certainly in 3 months after ‘start of normal operation’).
Finally a zero allocation can occur, perhaps in a number of years, because the new entrants’ reserve
(NER) is depleted or not available. Complementary, a zero financial compensation can easily occur.
See for more details one chapter of the study Cefic-IFIEC (2012), in the next paragraph of this report.
Therefore an investor may in his risk assessment, next to higher future carbon prices, decide to
evaluate the investment with alternatives scenarios with 50% and zero % free allocation and 50% and
zero % financial compensation.
This leads to the following results for cracker + ldPE (cracker + PP can be calculated by the reader):
50
Ton CO2/ton product
Allocation 1: Steam crackers benchmark top 10% with LRF 1.74%
Allocation 2: 50% x Steam crackers benchmark top 10% with LRF 1.74%
Allocation 3: 0% x Steam crackers benchmark top 10% with LRF 1.74%
New build low density polyethylene (ldPE)
Allocation 1: Simulated benchmark ldPE: LRF x Benchmark 2013 (assumed: financial compensation drops with LRF)
Allocation 2: 50% x Simulated benchmark ldPE: LRF x Benchmark 2013 (assumed: financial compensation drops with LRF)
Allocation 3: 0% x Simulated benchmark ldPE: LRF x Benchmark 2013 (assumed: financial compensation drops with LRF)
New build polypropylene (PP)
Allocation 1: Simulated benchmark PP: LRF x Benchmark 2013 (assumed: financial compensation drops with LRF)
Allocation 2: 50% x Simulated benchmark PP: LRF x Benchmark 2013 (assumed: financial compensation drops with LRF)
Allocation 3: 0% x Simulated benchmark PP: LRF x Benchmark 2013 (assumed: financial compensation drops with LRF)
2013
100%
0,702
0,58
0,20
2020
88%
2030
70%
2040
53%
2050
36%
0,617
0,616
0,308
0,0
0,617
0,57
0,51
0,255
0,0
0,20
0,18
0,088
0,0
0,561
0,494
0,247
0,0
0,586
0,56
0,41
0,204
0,0
0,19
0,14
0,070
0,0
0,505
0,372
0,186
0,0
0,571
0,56
0,31
0,154
0,0
0,19
0,11
0,053
0,0
0,500
0,250
0,125
0,0
0,557
0,55
0,21
0,103
0,0
0,19
0,07
0,036
0,0
0,06
0,62
1,19
25
0,25
0,70
1,15
52
0,45
0,79
1,13
95
0,65
0,88
1,11
265
1
16
30
13
36
60
43
75
107
173
233
294
This shows that there is a high risk that the GVA deteriorates already by 2020 and that after 2030
profit may turn into loss.
Furthermore, the investor may regard € 52/ton CO2 by 2030 as a conservative (too low)
carbon price, in view of earlier pre-crisis projections of € 65-85/ton CO2 by 2020 and in view of the
prolonged instability of the EU ETS with discussions about backloading, possibly significant set-asides,
increase of the LRF from 1.74% to 2.25% or even more, etc. Then in an alternative carbon price
scenario, as an indication the 2040 calculation can become valid for 2030 or even earlier.
An alternative carbon price scenario with € 40/ ton CO2 in 2020 increasing to € 100/ton CO2 in 2030
and € 200/ton CO2 in 2040 of an investor in a risk analysis would lead to:
Alternative carbon price scenario
40
100
200
265
2
25
47
25
70
115
90
158
226
173
233
294
The net present value with the cost of capital for the company of the investment can become negative.
In addition, at a zero allocation the calculated arbitrage carbon leakage break-even prices
are equal to the investment carbon leakage break-even prices, this is full auctioning for
growth. Thus in case of full auctioning for growth, one scenario in the risk analysis of the investor,
producing in the cracker + ldPE plant outside Europe and importing the product into Europe is always
cheaper above the break-even carbon leakage price of € 26/ton CO2 by 2030, taking into account a
transport cost of € 30/ton product (see first table in this paragraph and the next table below).
30
New cracker 2020
Crackers + ldPE (top 10%)
Crackers + PP (top 10%)
2020
49
25
37
2030
51
26
38
2040
52
27
39
2050
54
27
40
51
Conclusion investment carbon leakage crackers and derivatives
The present allocation rules will fail to attract investment for new steam crackers and derivatives for
market growth and also for replacement for older stock on a different site, even if these are built with
a very high efficiency. The benchmark with LRF will decrease to unrealistic levels and there are
significant barriers and risks for getting a proper allocation and financial compensation as new entrant.
These factors together are likely to cause massive investment carbon leakage.
Even when the full allocation and the full financial compensation is obtained, there is a high risk that
the return on investment (IRR, internal rate of return) is seriously affected negatively (in other words,
the NPV (net present value) with the cost of capital for the company of the investment can become
negative). Furthermore, the EU ETS is under the present rules for new investments in petrochemicals,
not resistant to arbitrage carbon leakage at carbon prices above a range of roughly € 25-35/ton CO2.
6.3.2. Intermezzo: Barriers for growth for ‘greenfield’ new entrants – the
integral text from chapter II.2.2. of the study Cefic-IFIEC (2012) valid for all
such new entrants (crackers, ammonia plants, etc.)
The barriers for growth for greenfield new entrants are listed in order of importance.
Primary barriers and risks
− The financial compensation for the higher electricity price caused by the EU ETS is year by year
legally uncertain and may even be absent or significantly curtailed.
− The formal ‘capacity’ based on the 2 highest monthly production volumes in the 3 months after
‘start of normal operation’ may be much lower than design capacity.
In an ideal situation the design capacity will be utilised 100% in 2 months within a period of 3 months
after start-up. But in practice often technical problems occur which may require solutions that take
many months of preparation and one or more extra short shut downs, especially if a new process
design is highly innovative. Another reason for an initial low utilisation might be low market demand
and high costs to store a lot of product or the impossibility to store a lot of product because of lack of
storage capacity (especially in case of hazardous products). Or that a downstream plant using the
product of a new plant as feedstock is not yet (fully) extended to the capacity level as planned.
With the present allocation rules there is an opportunity – an economical necessity – to temporarily
shut down or slow down the plant in case the formal ‘capacity’ deviates (too much) from design
capacity. This might seem to give more certainty for new greenfield installations – although it is
bizarre that red tape causes significant costs by shutting or slowing down a manufacturing plant.
This certainty is questionable and depends on the ultimate detail of the inclusion of non-operating days
in the 90-day period of the ‘start of normal operation” or not (which is elaborated in the next
paragraph). For example, if in the former case 50% of design capacity has been used in 75 days, zero
production in the later 15 days still means an aggregate utilisation of 41% in the 90-day period.
−
−
−
Connected downstream or upstream plants get no allocation for growth if there is sufficient
spare capacity and may not get any financial compensation for such growth.
The new entrants’ reserve (NER) may be depleted when needed (legal certainty, so far).
There is no NER after 2020 (not defined in the Directive, legal uncertainty).
Assume for example an investment in a new installation which is decided end 2014 and planned for
start-up in 2018. Although the NER might seem sufficient after the recent crisis there is always a
chance that the demand for allowances from the NER increases rapidly causing a depleted NER. The
52
legal uncertainty for the NER after 2020 is relevant because of the usual 10-year evaluation period
2018-2027. A sensitivity analysis will contain possible consequences after 10 years from start-up.
Secondary barriers and risks with potentially significant effects
− The carbon leakage exposure factor (CLEF) may suddenly change from 1.0 to 0.4429 in 2018,
0.3714 in 2019, 0.3000 in 2020, and so forth until zero? (legal uncertainty).
− The Linear Reduction Factor (LRF(k)) is already 0.9130 in 2018 and will further drop to 0.8956
in 2019 and 0.8782 in 2020, and so forth after 2020? (barrier from legal certainty before 2020,
legal uncertainty after 2020).
− SCUF or RCUF might be unreasonably low, much lower than the expected utilisation, or
“normal” leading to a double punishment in case the formal capacity based on the 2 month
method is too low versus proven design capacity (SCUF: barrier from legal certainty; RCUF:
uncertainty by legal certainty; SCUF and RCUF after 2020: legal uncertainty).
− In case of a combination with a capacity reduction elsewhere, the lower allocation depends on
the 2 highest monthly production volumes in the 6 months after the capacity reduction. The
result may be a higher decrease of the allocation compared with the capacity reduction.
These primary and secondary barriers and risks deter investors to build new installations in Europe and
may be a reason to shift the investment outside Europe (investment carbon leakage).
6.3.3. Investment carbon leakage – ammonia
Consider a high efficiency ammonia plant of 27.5 GJ/ton NH3 (including feedstock) to be built by 2020,
which improves to 27.0 GJ/ton NH3 in 2040. Compare this with the present state of the art technology
in Cefic Roadmap 2050 of 28 GJ/ton NH3 for 2020, which may improve to 25 GJ/ton NH3 for plants that
are build in 2050. It appears that for ammonia, the investment outlook for new plants is even bleaker
than for petrochemicals. The arbitrage production carbon leakage break-even price is, with the present
EU ETS rules for this very efficient plant, as low as about € 20/ton CO2.
Ton CO2/ton product
2013
2020
2030
2040
2050
LRF (linear reduction factor)
100%
88%
70%
53%
36%
Ammonia benchmark top 10% with LRF 1.74%, ton CO2/ton NH3
1,619
1,422
1,140
0,858
0,577
Ammonia benchmark top 10% with LRF 1.74%, GJ/ton NH3
25,3
20,3
15,3
10,3
Ammonia, thermodynamic minimum, GJ/ton NH3
20,7
Ammonia, thermodynamic minimum, ton CO2/ton NH4
1,159
Assume new build ammonia plant around 2020, ton CO2/ton ammonia
1,545
1,530
1,514
1,499
Assume new build around 2020, GJ/ton ammonia
27,5
27,3
27,0
26,7
30
2020
2030
2040
2050
New ammonia plant 2020
19,4
19,6
19,8
20,0
In the absence of a new Global Climate Agreement with a global level playing field it is of course not
feasible to install already sooner (2020) or later (2030) carbon capture and storage (CCS) which
requires high investment and for which also still other barriers and risks such as public acceptance and
lack of infrastructure exist. Under the present circumstances, an investment decision cannot be based
on CCS.
The hard cash cost disadvantage development is shown in the next table:
53
Ton CO2/ton product
Allocation 1: ammonia benchmark top 10% with LRF 1.74%
Allocation 1: ammonia 100% allocation
Alternative higher carbon prices
2013
100%
1,619
2020
88%
1,422
25,3
2040
53%
0,858
15,3
2050
36%
0,577
10,3
1,422
1,545
27,5
2030
70%
1,140
20,3
20,7
1,159
1,140
1,530
27,3
1,619
0,858
1,514
27,0
0,577
1,499
26,7
0,1
25
0,4
52
0,7
95
0,9
265
3
35
4
20
125
49
62
175
115
244
265
244
With the CO2 prices of the Commission’s Energy Roadmap this means for the hard cash cost
disadvantage: € 3/ton product in 2020, € 20/ton product in 2030, € 62/ton product in 2040
exploding to € 244/ton product in 2050.
At alternative higher carbon prices, see table above (2nd line bottom of table), the hard cash cost
disadvantage is: € 4/ton product in 2020, € 49/ton product in 2030, € 115/ton product in 2040.
Then the net present value with the cost of capital for the company of a new investment in an
ammonia plant is likely to become negative. This is quite certain for investments later than 2020, e.g.
by 2030, in new ammonia plants or replacement of older plants by a new one on a different site (or at
a likely higher capacity on the same site, then the increased capacity is “new entrant”).
These costs, which will in a risk analysis be higher in scenarios with higher carbon prices, can be
compared with a GVA of roughly € 200-250/ton ammonia in healthy economic circumstances and lower
GVAs such as € 150/ton ammonia or much less during times of over-supply, recession or crisis, as
illustrated with the public data of CHEMSYSTEMS (2012):
54
As mentioned, profit is just a part of the gross value added (GVA). The largest part of GVA is needed
to recover the fixed out of pocket (foob) costs of manufacturing (personnel, maintenance, research
and development, etc.). So, if there is a healthy profit for a high efficiency plant at a GVA without
carbon costs of roughly € 200-250/ton ammonia, the profit turns into an operating loss when GVA
without carbon costs deteriorates significantly.
But, as outlined in the paragraph on petrochemicals, the barriers and risks for growth have not yet
been taken into account. Therefore an investor in a new ammonia plant may in his risk assessment,
next to higher future carbon prices, decide to evaluate the investment with alternatives scenarios with
50% and zero % free allocation and 50% and zero % financial compensation. This leads to the
following results for ammonia:
Ton CO2/ton product
Allocation 1: ammonia benchmark top 10% with LRF 1.74%
Allocation 2: 50% x ammonia benchmark top 10% with LRF 1.74%
Allocation 3: 0% x ammonia benchmark top 10% with LRF 1.74%
Allocation 3: ammonia zero allocation, full auctioning for growth
Alternative higher carbon prices
2013
100%
1,619
2020
88%
1,422
25,3
2040
53%
0,858
15,3
2050
36%
0,577
10,3
1,422
0,711
0,0
1,545
27,5
2030
70%
1,140
20,3
20,7
1,159
1,140
0,570
0,0
1,530
27,3
1,619
0,810
0,0
0,858
0,429
0,0
1,514
27,0
0,577
0,288
0,0
1,499
26,7
0,1
0,8
1,5
25
0,4
1,0
1,5
52
0,7
1,1
1,5
95
0,9
1,2
1,5
265
3
21
39
35
4
29
54
20
50
80
125
49
120
191
62
103
144
175
115
190
265
244
321
397
265
244
321
397
As mentioned, the investor may regard € 52/ton CO2 in 2030 as a conservative (too low)
carbon price, in view of earlier pre-crisis projections of € 65-85/ton CO2 by 2020 and in view of the
prolonged instability of the EU ETS with discussions about backloading, possibly significant set-asides,
increase of the LRF from 1.74% to 2.25% or even more, etc. In such scenarios with higher carbon
prices there is a high risk that investing in a new ammonia plant build by 2020 is not
profitable soon after 2020, see table above.
In addition, at a zero allocation the calculated arbitrage carbon leakage break-even prices
are equal to the investment carbon leakage break-even prices, this is full auctioning for
growth. Thus in case of full auctioning for growth, one scenario in the risk analysis of the investor,
producing in the ammonia plant outside Europe and importing ammonia or derivatives into Europe is
always cheaper above the break-even carbon leakage price of about € 20/ton CO2 by 2020, taking
into account a transport cost of € 30/ton product (see first table in this paragraph and table below).
55
30
2020
19,4
2030
19,6
2040
19,8
2050
20,0
Conclusion investment carbon leakage ammonia and derivatives
The present allocation rules will fail to attract investment for new ammonia plants and derivatives for
market growth and also for replacement for older stock in a new GHG installation, even if these are
built with a very high efficiency. The benchmark with LRF will decrease to unrealistic levels and there
are significant barriers and risks for getting a proper allocation and financial compensation as new
entrant. These factors together are likely to cause massive investment carbon leakage.
Even when the full allocation and the full financial compensation is obtained, there is a high risk that
the return on investment (IRR, internal rate of return) is seriously affected negatively (in other words,
the NPV (net present value) with the cost of capital for the company of the investment can become
negative). Furthermore, the EU ETS is under the present rules for new investments in petrochemicals,
not resistant to arbitrage carbon leakage at carbon prices above a range of roughly € 25-35/ton CO2.
6.3.4. Investment carbon leakage – carbon black
It will be no surprise that it is not feasible, with the present EU ETS rules, to build new carbon black
plants in Europe. The arbitrage production carbon leakage break-even price lies below € 20/ton CO2.
Ton CO2/ton product
Top 10% Top 10% Top 10%
2020
2030
2040
WAE 1)
2020
WAE
2030
WAE
2040
Assume new build around 2020
1,650
1,601
1,552
30
2020
2030
2040
New carbon black plant 2020
18
19
19
All analysis as done for petrochemicals and ammonia are not repeated here. From this table it can be
seen that the impact on new investments for carbon black will be similar to that of ammonia.
6.3.5. Summary investment carbon leakage for the chemical industry
As mentioned, for many products in the chemical industry, steam crackers and/or ammonia plants are
within the industry at the top of the value chain – see Cefic Roadmap 2050. A large part of the cracker
value chain consists of polymers, for ammonia the value chain consists among other things of
fertilisers via nitric acid or as urea. Examples of “and/or” products are caprolactam and acrylonitrile.
Chemical companies cannot base their investment decisions for extensions of existing plants, new
plants for growth or replacement of older stock on the present allocation rules. As shown, there are
many barriers and risks to getting allowances and to getting the EU ETS financial compensation, if any.
For investments which are considered after the present economic crisis, a start-up towards the end of
the decade is realistic. Then the investment evaluation horizon is 2020 to 2030/2035 with an outlook
to 2040 and beyond. In that period, it must be expected that the CO2-prices are much higher than
today. In the Commission’s Energy Roadmap Diversified Supply scenario (similar to Cefic’s Diversified
Global Action scenario), the CO2-prices are € 25/ton in 2020, € 52/ton in 2030, € 95/ton in 2040 and
thereafter sharply rise to € 265/ton in 2050.
56
Thus even if all allowances and financial compensation were to be obtained, despite the barriers and
risks for growth as outlined above, the analyses show that even for modern high efficiency chemical
manufacturing plants, arbitrage production carbon leakage would become profitable above carbon
prices in the range of € 20-35/ton CO2 under the present ex-ante allocation rules.
The present allocation rules will fail to attract investment for new base chemical plants and derivatives
for market growth and also for replacement for older stock in a new GHG installation, even if these are
entrant. This implies the risk that the allocation will be much lower, for example 50% or less, than
design capacity multiplied with a favourable capacity utilisation factor multiplied with the benchmark
and LRF. These factors together are likely to cause massive investment carbon leakage.
6.4. Summary carbon leakage and carbon leakage break-even prices
Two forms of carbon leakage can be distinguished: (1) production carbon leakage (existing plants
lower production while the shortfall of product is imported into Europe) and (2) investment carbon
leakage (investment in new plants for market growth or for replacement of existing less efficient plants
are shifted outside Europe). Concerning the carbon price, production carbon leakage is based on the
actual carbon price, investment carbon leakage on the expected and possible carbon prices by
investors in the long run future.
A first mechanism of production carbon leakage is hard cash cost production carbon leakage. This is
the most extreme mechanism of carbon leakage, which occurs at the highest carbon break-even
prices. It occurs when, due to the ex-ante frozen allocation (up to 49% of the historical baseline
production of median 2005-2008 or 2009-2010), selling allowances generates more revenue than
Gross Value Added (GVA). It appears that petrochemicals and ammonia including derivatives from
steam crackers and/or ammonia are not resistant to ever more stringent benchmarks in a carbon price
range of € 40-80/ton CO2. The combination of ex-ante allocation and the stringent benchmark shows
that production carbon leakage is incentivised, based on the deterioration of GVA by hard carbon cash
costs.
A second mechanism of production carbon leakage is arbitrage production carbon leakage. In many
markets companies are increasingly producing globally (besides chemicals also e.g. steel, cement).
These companies simply produce where it is cheapest to do so, taking into account the transport costs
to the ETS region. There are break-even CO2-prices above which production abroad plus transport to
the ETS region is cheaper than production inside the ETS region.
It is shown that the arbitrage production carbon leakage break-even prices for the chemical industry
are relatively low and probably in a similar range as for other important EU ETS sectors such as steel
and cement. Because of the structure of the chemical industry with its numerous and complex value
chains, the carbon leakage break-even prices are generally in the range of € 15-35/ton CO2.
The above mentioned analysis can be summarised in quantitative terms for the chemical industry:
•
Above a carbon price of € 15-20/ton CO2 arbitrage production carbon leakage becomes
profitable for EU ammonia installations to facilities (within the same company) in third
countries. And there is a risk of hard cash production leakage from the least carbon-efficient
ammonia facilities (Q4).
•
As the price rises to around € 30/ton CO2 this arbitrage leakage will spread to the least carbonefficient crackers and their derivatives (like polymers), and we will begin to see hard cash
production leakage of more ammonia plants.
57
•
•
•
•
The rate of production leakage is dependent on the GVA (for which different assumptions are
presented in the tables of this report). There will be no production carbon leakage in case of a
tight supply-demand balance worldwide (then GVA will normally be relatively high), but then
there will be the risk of investment carbon leakage, as new investments are needed. If we
assume a GVA of €170/ton product, then we get an insight in the possible production carbon
leakage based on the hard cash cost mechanism.
As the carbon price increases towards € 45/ton CO2, arbitrage carbon leakage will affect all
crackers plus derivatives and hard cash cost production leakage of ammonia will threaten most
EU facilities (Q2, Q3 & Q4). Hard cash cost production leakage will begin to affect crackers plus
derivatives (Q4).
As the carbon price rises to around € 60/ton CO2, most ammonia production and roughly half
of crackers plus derivatives (Q3 & Q4) will be vulnerable to hard cash cost production carbon
leakage.
Finally, at a carbon price of around € 75/ton CO2, even most efficient crackers plus derivatives
(Q2) and ammonia plants (Q1) become susceptible to hard cash cost production leakage.
A third mechanism is investment carbon leakage. There are many barriers and risks to getting
allowances and to getting the EU ETS financial compensation, if any, under the present EU ETS
allocation rules. Even if all allowances and financial compensation were to be obtained, despite the
barriers and risks for growth, the analysis shows that also for modern high efficiency chemical
manufacturing plants, arbitrage production carbon leakage would become profitable above carbon
prices in the range of € 20-35/ton CO2.
Surely investors will not build new manufacturing plants based on the present barriers and risks for
growth and, in addition, when it is clear upfront that the EU ETS allocation rules would economically
force them to cut back production in favour of own production capacity outside Europe. Under these
rules, the rational response will be to shift investment outside the EU ETS region.
The present allocation rules will fail to attract investment for new base chemical plants and derivatives
for market growth and also for replacement for older stock in a new GHG installation, even if these are
entrant. This implies the risk that the allocation will be much lower, for example 50% or less, than
design capacity multiplied with a favourable capacity utilisation factor multiplied with the benchmark
and LRF. These factors together are likely to cause massive investment carbon leakage.
For many products in the chemical industry, steam crackers and/or ammonia plants are within the
industry at the top of the value chain – see Cefic Roadmap 2050. A large part of the cracker value
chain consists of polymers; for ammonia, the value chain consists, among others, of fertilisers via
nitric acid or as urea. Examples of “and/or” products are caprolactam and acrylonitrile. Therefore, the
presented analyses are not the exception but the rule in the chemical industry.
58
7. Solutions: Europe’s Renewable energy sources (RES) policies
The costs for RES policies will rise significantly in all decarbonisation scenarios. Major elements are
support for RES electricity generation and costs for back-up capacity, storage, grid interconnections
and demand response management. All these costs should be minimised by optimisation with marketbased approaches.
The cost pass-through to industry exposed to the risk of carbon and energy leakage because of costs
for feedstock (e.g. shale gas), natural gas for firing and electricity should be carefully mirrored to the
same cost pass-through in the major competing regions and countries. Moreover, there should be EUwide certainty about this principle; otherwise the investment behaviour is influenced adversely.
Concerning the interaction of the EU ETS with RES policies, we consider that separate RES policies with
support measures (like feed-in tariffs) are still needed, otherwise the CO2 price will go through the
roof, i.e. rise significantly above € 100/ton CO2 (after first for quite some years causing a standstill of
RES investments, which may be a sub-optimal situation, politically and policy-wise).
It must anyway be prevented that the CO2 price would rise to a level that cannot be borne by
manufacturing industry. The decarbonisation of the power industry cannot be co-financed by industry,
operating at a global level and thus unable to pass on energy costs.
If after 2020 the EU ETS were to become the only instrument (by then all RES support would be
abolished) – which is favoured as a matter of principle – then a global level playing field should be in
place by a new Global Climate Agreement.
8. Solutions: The European Energy Efficiency Directive (EED)
As mentioned, through overlap with the Energy Efficiency Directive (EED), the CO2 reductions in the EU
ETS are not achieved in the most cost-efficient way. There are also conflicting objectives, for example
using biomass (often) and CCS (always) require more energy while this leads to a significant CO2
reduction.
This double regulation should be ended, which requires a change of the EED. Double regulation is not a
good policy approach.
9. Solutions: Structural Reform package for the EU ETS
The solutions for a structural reform of the EU ETS should solve the structural problems as outlined
above. Therefore, the following aspects of the present EU ETS rules are ingredients for this reform:
(a) The change from ex-ante (historical production) to ex-post (actual production) allocation;
(b) The treatment of indirect (electricity) emissions;
(c) The new entrants’ reserve for after 2020;
(d) The needed certainty of the carbon leakage status;
(e) The allocation rules and the level of the benchmarks.
Possible solutions for the EU ETS are tested against the impact on competitiveness and how industrial
growth is facilitated and tested against the resistance to carbon leakage. Therefore in the first place
the EU ETS needs a change from ex-ante (a frozen historical baseline production) to ex-post (ex-post
adjustment from the historical baseline to actual production).
59
9.1. Necessary change from ex-ante (historical) to ex-post (actual production) allocation
Besides the resistance to carbon leakage, other arguments also play an important role. These are
elaborated below.
9.1.1. Ex-ante: history is a bad indicator for the future
The European Commission has a long tradition in favouring an ex-ante frozen allocation, which has
been supported by many environmental economists. However, there is neither a scientific basis (in
literature) for the selection of any historical baseline nor is there a legal basis for this selection in the
EU ETS Directive (confirmed by DG Climate Action after a question by industry at a stakeholder
meeting).
For phase 1, years like 2001-2002 were used, in phase 2 often a range of years up to 2005 were
applied and for phase 3 this became median 2005-2008 or median 2009-2010 after long debates
about many alternatives. In other words, the ex-ante policy falls between two stools: on one hand a
fixed historical period must be adopted while on the other this historical period should reflect as much
as possible “reality”, a kind of “actual production of the recent past which should be representative for
the future”, which is of course not realistic and sustainable.
Historical data have proven to be a bad indicator for the future, as the recent years have clearly
proven. But even in “normal” economic circumstances, history is a bad indicator for the future. This
was for example shown in research on behalf of the UK government in the period 1998-2003, see
Entec-NERA (2005):
9.1.2. Auctioning is an “ex-post” system
With auctioning, the CO2 impact expressed in €/ton-product follows actual production. With auctioning
the cost price difference between two producers A and B producing the same product is given by the
difference in carbon efficiency: Eff.A – Eff.B. This is exactly the same as under an allocation with
benchmark multiplied by actual production, the cost price difference is:
(Eff.A – Benchmark) – (Eff.B – Benchmark) = Eff.A – Eff.B.
Therefore, auctioning is clearly an “ex-post” system, just like benchmarks multiplied by actual
production, in which a provisional production is ex-post adjusted to actual production (just like the
system to pay corporate and personal income taxes).
60
The school of environmental economists advocating for ‘permit trading’ argues that in their concept
auctioning or an ex-ante fixed free allocation can be applied. However, it is shown above that an
allocation with benchmarks and actual production belongs to the family of auctioning.
Allocation with benchmarks and actual production provides resistance to carbon leakage. The level of
the benchmark obviously plays an important role in how effectively carbon leakage will be avoided, as
will be outlined below. As mathematically shown above, auctioning is in fact an allocation with
benchmarks and actual production in which the benchmark value is decreased to zero.
9.1.3. Why ex-post: conclusion
Benchmarks with actual production data work in a positive way to avoid over-allocation during a
recession or crisis, to avoid under-allocation for growth – thus eliminating the present barriers and
risks for growth and thereby preventing investment carbon leakage – and to eliminate the incentive for
production carbon leakage. Therefore, the allocation should be changed from “ex-ante” (frozen
historical production) to “ex-post” (actual production).
This has been proposed by industry on many occasions, among others by Alliance (2007-a, b), in
Ecofys (2008) and Alliance (2011-a). Cefic participates in this Alliance of Energy Intensive Industries
and also mentioned this in Cefic (2012), Cefic (2013-a) and Cefic – Botschek (2008).
In conclusion, basing an allocation on frozen historical data is, for all the reasons mentioned above,
neither suitable nor sustainable. It is a historical mistake.
9.2. Ex-post allocation: operational details and a last worry of the European Commission
9.2.1. Ex-post allocation: operational details
The system of benchmarks with actual production data to remedy the root causes of potential overand under-allocation of the present allocation rules works as follows:
(a) The initial allocation distributed by 28 February of each year is based on the benchmark and on
the historical baseline production, which is median production 2005-2008 or median production
2009-2010 per sub-installation.
The new entrants’ reserve (NER) is used to balance the market:
(b) If the actual production determined ex-post after each year is lower than the historical
baseline, the surplus (delta between historical and actual production, multiplied by the ex-ante
fixed benchmark) is subtracted from the previous year’s allocation, this volume flows into the
NER (or a new reserve created for this purpose as an option proposed by Cefic), which can be
considered as a (kind of) structural backloading.
(c) If the actual production is higher than the historical baseline, the shortage (delta between
historical and actual production, multiplied by the ex-ante fixed benchmark) is added to
previous year’s allocation, this volume is taken from the NER.
(d) The NER is replenished from the auctioning volume if depleted to provide certainty for
investments for growth, thus avoiding investment carbon leakage.
(e) A possible surplus of the NER at the end of a trading period must not be auctioned, which
avoids over-allocation if the economic development was lower than anticipated. Such a surplus
is kept in reserve for future industrial growth in the next period.
61
The subtraction of allowances (see under b) and the addition of allowances (see under c) of the
compliance year (n) can easily be done by 28 February of the next year (n+1). In that case all
operators should be obliged to report the production volumes before, say 30 January of the next year
(n+1). This was the ex-post system of Germany in phase 1 (2005-2007) of the EU ETS (which was not
applied because the Commission disapproved. However, by end 2007 Germany won the Court case
against the European Commission about this disapproval). Of course, the production volumes need to
be verified by an independent verifier and included in the annual compliance report, to be checked and
approved by the competent authority.
A second option is that the subtraction of allowances (see under b) and the addition of allowances (see
under c) of the compliance year (n) is done by 28 February one year later (n+2). Then there is hardly
any interest loss, each company knows its adjustment; a surplus can be sold after 28 February of year
n+1 (when the next allocation is granted), a shortage can be bought as spot deal. In both the cases of
surplus or shortage also a forward transaction can be done.
These main structural improvements will avoid the risk of undermining the stability of the carbon
market, as is the stated objective of the structural EU ETS reform. In this way the total EU ETS cap will
be maintained. Complementary it is needed that there will be no skyrocketing carbon prices. This is
elaborated in paragraph 9.8.
Every company knows its production, much better than its CO2 emission, month after month and
therefore there are hardly or no additional compliance costs and burdens. The trading position is thus
clear month after month or if necessary even day by day.
9.2.2. Ex-post for the fallback benchmarks
In their response to the consultation about the structural reform of the EU ETS, IETA (2013) mention
concerning ex-post:
“Finally, it should be noted that output based allocation for sectors without product benchmarks may
not be appropriate.”
However, this is in practice no problem. Ex-post for the fallback benchmarks is a logical extension of
the present EU ETS allocation rules. Guidance Document 7 on the allocation rules, chapter 5 page 27
mentions:
“Physical changes exclusively aiming at improving the energy efficiency of a sub-installation or at
improving or installing an end of pipe abatement technology to reduce process emissions should not be
regarded as physical change leading to a significant capacity reduction. Nevertheless, the operator
needs to report such physical changes to the Competent Authority and, where appropriate, provide
detailed evidence.”
The evidence is simple indeed: in addition to the reported abatement project the operator just needs
to report the realised production level. This rule for the fallback benchmark allocations means de facto
that each operator has obtained its own product benchmark: the average performance regarding the
heat- fuel- or process emissions benchmark in the chosen period of median 2005-2008 or median
2009-2010. 11
11
However, it must be mentioned that there are problems with this concept. In case an operator
realises a significant capacity extension (and if the relevant 2 months after ‘start of normal operation’
are realistic) then the allowances for growth are obtained. If then later this operator realises a carbon
efficiency saving, there is no loss of allowances. But one competent authority believes that in case the
carbon efficiency improvement is realised before a capacity extension there is no adaptation of the
62
In the proposed ex-post system, the operator must annually report the production volume data and
multiply these by its own product benchmark, being the average performance in the chosen period of
median 2005-2008 or median 2009-2010.
In the case of more physical manufacturing plants in one sub-installation, this is done with a simple
matrix. The matrix of the original historical baseline allocation is very easy to check by the competent
authority: the total allocation must be equal to the total allocation as checked and approved by the
European Commission. After that, the competent authority just needs to check the production data of
each year, which are to be verified by an independent verifier.
In addition, the need to report abatement projects is eliminated, which is a reduction of administrative
burden for all operators and for the competent authorities.
9.2.3. Ex-post – last worry of the European Commission – DG Climate Action
In the stakeholder meeting on 19 April 2013, Director General of DG Climate Action Mr Jos Delbeke
mentioned that a supply response will indeed be considered. However, such a response at installation
level would require that there would be a new allocation annually. This would seem rather difficult in
practice, because of the needed huge efforts and time to scrutinise and approve the allocation.
But this concern is taken into account in the proposal of this paper, as also presented by Peter
Botschek of Cefic in the 19 April 2013 stakeholder meeting, see Cefic – Botschek (2013). The annual
allocation baseline remains exactly as it is once approved. Only the ex-post adjustment is not done
according to the present rules for partially ceased production with stepwise adjustments, but for each
lower and higher production level than baseline production level.
The present stepwise ex-post adjustments as required by the EU ETS Directive Art. 10a (20) were
further specified in the Commission Decision about Benchmarks and Allocation Rules (CIMs), Art. 23: If
production is 50% to 75% lower than the historical baseline median 2005-2008 or median 2009-2010
the allocation is reduced by 50% allowances in the next year. If production is 75% to 90% lower than
the historical baseline, the allocation is reduced by 75% allowances in the next year. If production is
90% to 100% lower than the historical baseline, the allocation is reduced by 100% allowances in the
next year. Vice versa, if the production volume increases later, the allocation increases again according
to the same schedule.
In conclusion, there is no reason for the worry of DG Climate Action that annually huge extra efforts
and time would be needed for the proposed ex-post allocation. The annual allocation baseline remains
exactly as it is once approved. Ex-post is already included in the present legislation; it just needs to be
changed from the present stepwise ex-post to full ex-post.
9.3. Solution for indirect emissions: indirect allocation
The unstable and incomplete (in terms of scope and level through reduction factors) financial
compensation for indirect (electricity) emission should be changed to a comprehensive long-term
predictable indirect allocation without the present reduction factors, to complement the allocation for
direct emissions.
historical capacity baseline. This would mean that then allowances for abatement are lost. We claim
that this formalistic interpretation (there is no formal rules to adapt the baseline) is in conflict with
Guidance Document 7 and with the very aim of the Directive, Art. 1, that must “promote reductions of
greenhouse gas emissions in a cost-effective and economically efficient manner”.
63
As long as there is no unified liberalised electricity market, the same CO2 factors for the marginal
power plants per Member State or region in the EU should be used as provided in the state aid
guidelines for the EU ETS financial compensation.
The indirect allocation is most simple for products with a product benchmark in which the
interchangeability of fuel and electricity has been taken into account. Also for other products with a
product benchmark in the EU ETS financial compensation, the indirect allocation can be easily realised.
9.3.1. Indirect allocation for products without a product benchmark
For products without a product benchmark the same approach as for the direct emission allocation of
heat should be used; this means that no reduction factor should be applied (just as for the heat
benchmark allocation).
In addition, it is vital that concerning abatement the same rule for products without a product
benchmark as for direct emissions must apply: an abatement shall not lead to a lower indirect
allocation (otherwise the EU ETS incentive to reduce emissions would be nullified, which would be in
conflict with the Directive (especially Art. 1 and Art. 10a about benchmarks).
As mentioned above, this is well outlined for direct emissions in Guidance Document 7 on the
allocation rules (chapter 5, page 27):
“Physical changes exclusively aiming at improving the energy efficiency of a sub-installation or at
improving or installing an end of pipe abatement technology to reduce process emissions should not be
regarded as physical change leading to a significant capacity reduction. Nevertheless, the operator
needs to report such physical changes to the Competent Authority and, where appropriate, provide
detailed evidence.”
The evidence to be delivered is simple indeed: the operator just needs to report the realised
production level. This rule for the fallback benchmark allocations means de facto that each operator
has obtained its own product benchmark: the average performance regarding the heat- fuel- or
process emissions benchmark in the chosen period of median 2005-2008 or median 2009-2010.
See for further explanation the text in the previous paragraph about fallback benchmarks.
9.3.2. Incentive for efficiency improvement
Although the allocation for indirect and direct emissions to industrial installations will grant them more
allowances than needed for their compliance purpose (which is only related to their direct emissions),
this is will not cause any distortions with regard to the incentive for them to conduct efficiency
improvement measures. This is based on a twofold argumentation:
•
Electricity costs are a most important cost element for energy-intensive industries. They will
use all possibilities to lower these costs both by reducing the electricity use and by selling the
allowances for the indirect allocations.
•
Any project to reduce emissions (direct and/or indirect) will be based on calculation of the
internal rate of return (IRR) of such project (also for products without a product benchmark, as
outlined above the real benchmark approach works well). That means the additional volume
for the indirect allocation has no negative impact on any investment decision for abatement.
64
9.3.3. Discussion on possible distortions of the electricity or the total carbon
market
Sometimes it is said that the additional indirect allocation would be to the disadvantage of electricity
generators. However, this worry is unfounded.
An operator who meets the benchmark value for direct emissions in a certain year has no value if he
keeps the allowances from indirect allocation. The only value for such an operator is to sell them on
the market in order to mitigate the EU ETS price increase of electricity. If an operator has a shortage
to cover his direct emissions in a certain year, he would also be a buyer – like electricity generators –
on the periodic auctions (or buy on the secondary market, as electricity generators do too).
The carbon price will not be influenced by the indirect allocation. Electricity generators can buy less
volume on the annual auctions but instead more volume on the secondary market because of the
indirect allocation. The total available volume in the market is exactly the same.
A second expressed worry is that operators with an indirect allocation would keep these allowances
longer in an expectation to sell them later at a higher price. This would drive up the carbon price for
the total market, which is perceived as a disadvantage for direct industrial emitters with a shortage
and for electricity generators (however, the latter ones seem to prefer higher carbon prices).
Indeed, this may happen. However, in a more stable carbon market – as is now aimed for – this is at
most a temporary problem. If the corresponding allowances come later to the market then the effect is
that market prices are initially higher and later lower.
If, nevertheless, there should still be doubts about such functioning, it could be foreseen to impose an
obligation on industrial installations with an indirect allocation:
•
The obligation to sell by the end of the year (or before a certain date in the next year) all the
indirect allowances to the market, which are equal to the actual electricity consumption
multiplied by the (indirect part) of the benchmark. This should then be verified by an
independent verifier and included in the annual compliance report.
All in all, there seems to be little cause to impose such an obligation.
9.4. Solutions for certainty of the Carbon Leakage Status
Globally competing industry sectors must have (more) certainty to be categorised as ‘exposed to the
risk of carbon leakage’. In the present EU ETS Directive there are three quantitative criteria for a
sectors or sub-sector to be acknowledged as exposed to the risk of carbon leakage: (1) Carbon costs
(direct + indirect) is at least 30% or (2) is at least 5% and the trade intensity is above 10% or (3) the
trade intensity is above 30%.
To provide more certainty, especially for new investments, new elements should be explicitly included
in a reformed EU ETS Directive for the assessments to be made each five years.
A. A first new element which must be explicitly included is the cost for energy and feedstocks.
This should be done by comparing the costs for natural gas (ref. shale gas USA), feedstock and
electricity in Europe with these costs in the other major industrial regions in the world.
B. A second new element must be the carbon costs comparison.
The costs of CO2 (which means carbon price level and allocation rules for direct and indirect emissions)
in Europe should be compared with the same costs in the other major industrial regions in the world.
65
This is especially relevant, as it can happen that in case a decisive share of global production (see
further below) would adopt emissions trading, but with free allocation of allowances for globally
competing industries. In that case the EU ETS trade intensity would fall to zero and that would formally
mean that the globally competing industries in Europe would be set on the way to full auctioning. This
is of course not the intention of the EU ETS Carbon Leakage List assessment criteria.
The result of a carbon cost comparison may be that after the assessment the benchmark values in
Europe could be increased to levels applied outside Europe (like on the level of the Australian ETS).
C. A third new element must be to clearly define what a decisive share of global production is.
For the carbon leakage assessments, the present EU ETS Directive in Art. 10a (18) mentions that for
the trade intensity “the extent to which third countries, representing a decisive share of global
production of products in sectors or subsectors deemed to be at risk of carbon leakage, firmly commit
to reducing greenhouse gas emissions in the relevant sectors or subsectors to an extent comparable to
that of the Community and within the same time-frame”. This is still too vague: (1) firmly committing
might be promises (pledges), (2) a firm commitment may entail no carbon costs and (3) the exact
definition of “decisive share” is left open and will therefore create uncertainty.
To provide more certainty it must be specified what the decisive share is. The goal is a global
approach, so including more than China, India, South Korea, Australia, Middle East, Turkey, North
Africa, Japan, North and South America, etc. to prevent that there are still “pollution heavens” left.
And there must of course be the same carbon costs and the same carbon price in the decisive share of
global production.
D. A fourth new element should be a forward looking carbon price.
For new investments to be developed after the present crisis, as already mentioned in this study, the
relevant evaluation period is 2020 to 2035/2040. The carbon price for the Carbon Leakage List
assessment must therefore be forward looking. In addition, the EU ETS should also well work at
possible higher carbon prices, such a level is a political decision (see also paragraph 9.8 below). Thus
the present € 30/ton CO2 is too low, this should be € 75-100/ton CO2.
E. A fifth new element must be to use the marginal power plant for the indirect (electricity) cost.
At present there is a debate whether to use the average or the marginal power plant. This does not
make any sense as also in many Commission papers – including the state aid guidelines for the EU ETS
financial compensation – and in many other studies it is acknowledged that the marginal power plant
determines the electricity price.
F.
A sixth new element should be to use a prudent auctioning factor and to assume full auctioning
for the direct and indirect (electricity) carbon cost calculation.
In the second Carbon Leakage List assessment there is a debate whether the use the average carbon
leakage exposure factor (CLEF) 2015-2019 or to use the CLEF of 2020 (which is 30%). Obviously it
adds to the uncertainty for investments when a sectors would become unexposed for some period and
then should have the trust to become exposed again later. Becoming unexposed for some time is
counterproductive. In addition, the auctioning factor should be selected prudently, taking in
consideration quartile 3 and 4 manufacturing plants (the present assessment is in principle based on
the average efficiency plants) as it makes no sense when such plants are endangered while the same
efficiency plants have no carbon problem operating elsewhere in the world.
G. A seventh new element should be to include value chain effects.
For example, the carbon costs (for direct and indirect (electricity) emissions) of industrial gases like
hydrogen, nitrogen and oxygen are paid by severely exposed sectors such as notably the chemical,
66
steel and refinery industry. This led to the acknowledgement of the exposed status of these gases in
the first assessment of the Carbon Leakage List in 2009. There must be more certainty that such value
chain effects are taken into account on a structural basis.
H. An eighth new element should be that a complementary qualitative assessment should not be
limited to “borderline values on the quantitative criteria” and should not be limited to
PRODCOM level. Input of federations and companies should be welcomed without restrictions.
When designing such essential new elements, the notion should be similar to the precautionary
principle in environmental policies. The notion should be the “reverse proof” (are we sure there is no
carbon leakage with auctioning). And the notion should be: how to give more confidence and
predictability for globally competing industries in Europe. The EU ETS Directive should become also in
this respect a true blueprint for the word, a leading example.
Then the Carbon Leakage Exposure Factor (CLEF) can, in practice, be abandoned. The EU ETS contains
carbon intensive industrial sectors which are operating on increasingly globalising markets. That reality
must be better and more explicitly reflected in the Carbon Leakage List assessment criteria.
9.5. Solution for the new entrant’s reserve (NER) for after 2020
There should be clarity for the NER for after 2020, to facilitate investment decisions that soon need to
be made. It is important for the investment climate in Europe that the European Commission makes an
early announcement in which it assures that there will be an adequate NER for after 2020.
In the
•
•
•
structural reform, four aspects should be regulated clearly to enable industrial growth:
The NER for after 2020 should be established.
A possible surplus of the NER must not be auctioned but kept in reserve for the future.
There must be a guarantee that the NER will be replenished from the auctioning volume if
depleted. This was already done in important Member States in phase 1 and 2 of the EU ETS
(Germany, Austria, France, Italy, Poland) to ensure equal treatment between incumbents and
new entrants and between early and later new entrants.
•
As mentioned, allowances for growth above the historical baseline production (for incumbents:
median 2005-2008 or median 2009-2010) are taken from the NER, surplus allowances from a
production below the historical baseline production flow back in the NER.
This approach avoids over-allocation due to recession or crisis and ensures that there are no barriers
and risks for growth. The NER of 480 Mton EUAs of phase 3 plus an initial addition of for example
1,000 Mton EUAs would seem sufficient for a significant period for after 2020. In this system the total
EU ETS cap can be maintained for some time period, provided there is a significant Strategic Reserve
to avoid skyrocketing carbon prices (see paragraph 9.8).
9.6. Lack of global approach by or shortly after 2020: assurance for long-term growth
The above mentioned approach should bridge the transition to a new Global Climate Agreement with
the same incentives and burdens for industry globally. However, if there is no such global
approach by or shortly after 2020 then the total cap of the EU ETS should be timely
revisited. This is reflected in the Continued Fragmentation scenario of Cefic’s Roadmap
2050. Without global participation, the total cap of the present EU ETS Directive – which continues to
go down linearly per year by 1.74% of 2010 emissions (= 38.3 Mton CO2-equivalents per year, without
aviation) – would eventually stop industrial growth in the European Union.
67
The reason that the total and industrial cap must be assessed much earlier than 2030 is that for
investments planned after the present crisis due for start-up by around 2020 the evaluation horizon is
2020 to 2035/40. Therefore the EU must, after COP-21 in 2015 where a new global agreement is
planned to be achieved, assess the long-term EU ETS cap in order to prevent a “stop-signal” for
industrial investments in Europe in case of absence of a new Global Climate Agreement with equal
burdens on industry.
In case of lack of progress at COP 21 – and after each COP as from COP 22 – the EU must give the
assurance that industrial growth in Europe will not be hampered by a lack of allowances and/or by too
high carbon prices. At least for industry, there must be the assurance that investing in Europe remains
realistically possible. In fact, this assurance is already now required.
We hope of course that the promising developments in notably China, South Korea, Brazil, Mexico,
Australia (although there are problems after the recent elections), New Zealand and in regional
upcoming carbon trading schemes will succeed and that also Japan, USA and Canada will then follow.
9.7. Refilling NER from auction volume – no disadvantage for the power sector
If there was no realistic free allocation for industrial growth (that would be: auctioning for growth)
then there would be investment carbon leakage and hence, by less scarcity of allowances, the CO2
price would be lower.
To put this in another perspective: the least cost solution for the EU ETS looking only at Europe would
be to have auctioning for growth. Then the CO2 price would be lowest. However, it is clear that with
carbon leakage, the EU ETS would be ineffective – inefficient in the terminology of environmental
economists.
Therefore all stakeholders – including the European Parliament, the Council and the European
Commission – want to avoid carbon leakage. An acid test to answer the question whether or not to
refill the NER is: what would happen when a new manufacturing plant is built in the alternative
situation with a global auctioning system in place. Then the scarcity of allowances will also increase,
but there is no carbon leakage.
Therefore in the absence of carbon leakage, there is no disadvantage for the power sector. We may
safely assume that the power sector does not favour the EU ETS to cause carbon leakage but favours a
tighter supply of allowances to facilitate low carbon technologies such as CCS.
9.8. A safety valve in case of excessive carbon prices – Strategic Reserve
The key concept mentioned before is recalled:
Key concept
Good global competitiveness is not a “nice to have” feature, but this is vital for investments in
maintaining and expanding European manufacturing industry. Good global competitiveness is vital to
provide resistance to carbon leakage, both concepts are indistinguishably
connected.
In practice a policy choice is needed for the level of the carbon price to which the resistance to carbon
leakage should work. Such a level could be for example € 100/ton CO2. If the carbon price should
increase above this level, a kind of safety valve should apply to avoid skyrocketing carbon prices.
68
The total amount of allowances available for manufacturing industry (so the sum of allocation and
available allowances at a reasonable price on the market) must be a reflection of economic activity and
in line with a feasible technological evolution path.
A safety valve can be realised with a volume approach, by a Strategic Reserve, as was envisaged in
the Waxman-Markey Bill in the USA. Another option is that the penalty price serves as safety valve,
provided that the obligation to surrender the missing allowances in the next year is abandoned. Then
all companies buy the quantity they can get at the penalty price and for the missing volume the
penalty price is paid to the Member State. Without a kind of safety valve at e.g. € 100/ton CO2, the
level of the benchmarks would need to be further increased, as will be shown below.
10. Solutions for the level of the benchmarks – introduction to two options
10.1. Vital to have the same benchmark level for incumbents and new entrants
It was shown above that the ex-ante allocation rules provide an incentive for carbon leakage and that
huge barriers and risks inhibit industrial growth, almost by nature. Therefore, the alternative of an
allocation based on benchmarks with actual production is evaluated for the main chemical products.
In the present design of the EU ETS, the same benchmark is applied for incumbents and new entrants.
But there are different correction factors. For incumbents benchmark must be multiplied with the
cross-sectoral correction factor (CSCF) (to keep the quantity of allowances within the industry cap),
while for new entrants the benchmark must be multiplied with the linear reduction factor (LRF) of
1.74% immediately after 2013 (100% in 2013, 88% in 2020, 70% in 2030, etc.).
In a correct benchmark-based allocation, the benchmark for incumbents and new entrants is the same
(this has been extensively explained in literature, e.g. by Öko-Institut) and is not affected by artificial
correction factors, undermining carbon leakage protection. This is vital to ensure that the incentive to
replace older stock by modern high efficiency plants is not distorted. If the new entrants were to have
a tighter benchmark than incumbents, there would be an incentive to maintain older less efficient stock
in operation. Applying the same benchmark for incumbents and new entrants functions exactly like
auctioning for the production carbon price signal.
10.2. Two options: Top 10% and Weighted Average Efficiency benchmark
With an allocation based on actual production (ex-post adjustment from the historical baseline median
2005-2008 or median 2009-2010 to actual production) the carbon leakage impact is limited to the
difference between the actual emission and the benchmark. This leads to much higher carbon leakage
break-even prices compared to the present ex-ante approach. In this approach, the level or stringency
of the benchmark is of utmost importance.
Therefore two options will be tested in the next two paragraphs:
(a) Top 10% benchmark that decreases with the present Linear Reduction Factor (LRF);
(b) Weighted Average Efficiency benchmark that decreases with an Industry Linear Reduction
Factor (ILRF).
11. Solution 1: Top 10% benchmark with LRF and actual production
The ambitious “top 10%” benchmarks are to be multiplied by the linear reduction factor (LRF). The LRF
of 1.74% develops as follows:
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LRF
1,74%
2013
100%
2014
98,3%
2015
96,5%
2016
94,8%
2017
93,0%
2018
91,3%
2019
89,6%
2020
87,8%
2021
86,1%
2022
84,3%
2023
82,6%
2024
80,9%
2025
79,1%
2026
77,4%
2027
75,6%
2028
73,9%
2029
72,2%
2030
70,4%
2031
68,7%
2032
66,9%
2033
65,2%
2034
63,5%
2035
61,7%
2036
60,0%
2037
58,2%
2038
56,5%
2039
54,8%
2040
53,0%
2041
51,3%
2042
49,5%
2043
47,8%
2044
46,1%
2045
44,3%
2046
42,6%
2047
40,8%
2048
39,1%
2049
37,4%
2050
35,6%
This leads to a steep reduction of the benchmarks in the future. Cefic’s Roadmap 2050 shows that
technologies will indeed improve, but not at this relatively high rate. A typical improvement of the
carbon efficiency of existing chemical processes (weighted average plants) – without CCS or biomass –
is 30% by 2050, whereas this LRF implies an improvement of about 65% in 2050.
For new manufacturing plants, the efficiency improvement compared to the present state of the art
technologies is most often (much) less than 30%. For example, for ammonia the possible improvement
of the state of the art technology may be at best 11% between 2010 and 2050 according to Cefic’s
Roadmap 2050.
The next two paragraphs only cover the steam cracker value chains and ammonia, because from the
previous analysis it is clear that the impact for products like melamine and carbon black will be similar
to that of ammonia.
11.1. Top 10% with LRF and actual production – steam cracker and the value chain
Through the linear reduction factor (LRF), the cracker top 10% benchmark for new entrants
(extensions of existing installations or new installations for growth or to replace old installations)
decreases from 0.702 ton CO2/ton product in 2013 to 0.616 ton CO2/ton product in 2020 and to 0.372
ton CO2/ton product in 2040.
As mentioned, it is assumed that a new efficient cracker to be started up close to 2020 has a specific
emission of 0.65 ton CO2/ton product in 2020, which will be even further improved to 0.618 ton
CO2/ton product in 2030 and 0.587 ton CO2/ton product in 2040. This leads to:
Ton CO2/ton product
Polypropylene (PP)
30
Ex-post allocation, break-even price production carbon leakage
New cracker, plus downstream polymers
Top 10% Top 10% Top 10%
2020
2030
2040
0,616
0,650
0,58
0,20
0,494
0,618
0,56
0,19
0,372
0,587
0,55
0,19
Top 10% Top 10% Top 10%
2020
2030
2040
895
244
140
In this allocation it is assumed that the downstream products without a product benchmark of the
cracker value chains get de facto a benchmark which is equal to their initial specific emission. This
reflects the present EU ETS rule that no allowances will be lost after abatement. In other words,
70
lowering production for e.g. ldPE or PP will not lead to freed allowances (because that would be an
incentive for carbon leakage, as we have shown in the present ex-ante rules).
The steam cracker value chains would have a carbon leakage break-even price of € 140/ton CO2 in
2040. This would seem sufficient for new plants. However, for the existing plants, there would be a
problem in the short term:
Picture incumbents, with and w/o cross-sectoral correction factor (CSCF)
Ton CO2/ton product
Top 10%
Q1
Q2
WAE
Q3
Q4
Bottom 10%
0,702
0,73
0,84
0,97
0,93
1,17
1,36
0,58
0,74
Polypropylene (PP)
0,20
0,28
Steam crackers Europe, with CSCF = 0.82 in 2020
0,58
Low density polyethylene (ldPE), with CSCF = 0.82 in 2020
0,48
0,61
Polypropylene (PP), with CSCF = 0.82 in 2020
0,16
0,23
30
Ex-post allocation, break-even price production carbon leakage, benchmark = top 10%
Crackers, plus downstream polymers w/o CSCF
infinite
1.071
217
112
132
64
46
Crackers, plus downstream polymers with CSCF in 2020
115
104
75
53
57
39
31
Rationale Average Efficiency Benchmark: (1) Lead time and resource to achieve high performance long-term, (2) it makes no sense when
quartile 4 plants would have carbon leakage or must shut down while the same plants can continue to operate outside Europe.
3) Data for the polymers based on benchmark covenant Netherlands (and 0.75 ton CO2/MWh)
4) The data for ldPE are a simplification, because the main carbon cost are by electricity (to which the financial compensation applies).
Without a cross-sectoral correction factor (CSCF), the weighted average efficiency plants carbon
leakage break-even price is € 112/ton CO2 but for quartile 4 and bottom 10% plants the production
carbon leakage break-even price is € 64/ton CO2 respectively € 46/ton CO2.
With the just published CSCF of 94% in 2013 and 82% in 2020, we see for 2020 that the weighted
average efficiency plants carbon leakage break-even price is € 53/ton CO2 and for quartile 4 and
bottom 10% plants € 39/ton CO2 respectively € 31/ton CO2.
This is the static picture. On the one hand the efficiency of existing plants will improve, but on the
other hand the cross-sectoral correction factor (CSCF) will continue to go down at the rate of the LRF
(1.74%). Now the CSCF applies as from 2013, it can be calculated that the CSCF will be 65% in 2030
and about 48% in 2040, which is much more stringent than the expected efficiency improvement.
Therefore the situation gets much worse after 2020, i.e. the carbon leakage break-even prices get
significantly lower than e.g. € 31/ton for quartile 4 plants.
It makes of course no sense that quartile 4 plants would have carbon leakage or must shut down while
the same plants outside Europe can continue to operate. And weighted average plants have a breakeven price of only € 53/ton CO2 in 2020. It would be strange if the EU ETS would not work at such
price levels.
11.2. Top 10% with LRF and actual production – ammonia
It is logical that the impact of the stringent top 10% benchmark in combination with the linear
reduction factor of 1.74% is even more problematic for ammonia.
For a new investment, we assume the same high efficiency ammonia plant of 27.3 GJ/ton NH3
(including feedstock) to be built by 2020, which improves to 26.2 GJ/ton NH3 in 2040. Compare this
71
with the present state of the art technology in Cefic Roadmap 2050 of 28 GJ/ton NH3, which may
improve to 25 GJ/ton NH3 (11% improvement) by 2050.
The ammonia top 10% benchmark for new entrants (extensions of existing installations or new
installations for growth or to replace old installations) decreases from 1.619 ton CO2/ton product (28.9
GJ/ton) in 2013 to 1.422 ton CO2/ton product (25.4 GJ/ton) in 2020 to 1.140 ton CO2/ton product
(20.4 GJ/ton) in 2030 and 0.858 ton CO2/ton product (15.3 GJ/ton) in 2040.
This high rate of improvement is not feasible technologically. The top 10% benchmark value would
become equal to the thermodynamic minimum of 20.7 GJ/ton ammonia by 2029!
Ton CO2/ton product
30
Top 10% Top 10% Top 10%
2020
2030
2040
1,422
25,4
1,530
27,3
1,140
20,4
20,7
1,499
26,8
0,858
15,3
1,469
26,2
Top 10% Top 10% Top 10%
2020
2030
2040
277
83
49
About 10 years after start-up, the break-even price would be € 83/ton CO2, in 2040 this would be
lowered to € 49/ton CO2 for this modern ammonia plant. For the existing ammonia plants, the top
10%, even with actual production, would lead to unacceptable low carbon leakage break-even prices.
As explained in the cracker paragraph above, the improvement of existing stock will be much less than
the increase in the stringency of the benchmark through the cross-sectoral correction factor.
Ton CO2/ton product
Top 10%
Q1
Q2
WAE
Q3
Q4
Bottom 10%
Ammonia without CSCF
1,619
1,726
1,954
2,003
2,076
2,442
2,784
Ammonia with CSCF = 0.82 in 2020
1,335
30
Ammonia without CSCF
infinite
281
89
78
66
36
26
Ammonia with CSCF = 0.82 in 2020
106
77
48
45
40
27
21
Ammonia: note 4-5 lowest performing plants have with WAE benchmark very low break-even prices! Some are above 3 ton CO2/ton NH3.
The carbon price break-even price in 2020 is even with an allocation based on actual production (expost) and the top 10% benchmark and the CSCF € 45/ton CO2 for the weighted average plant and as
low as € 27/ton CO2 for an average quartile 4 plant.
72
We repeat that in the absence of a new Global Climate Agreement with a global level playing field, it is
not feasible to install soon (2020) carbon capture and storage (CCS), which requires high investment
and for which other barriers and risks such as public acceptance and lack of infrastructure exist.
In other words, when a company wants to invest in a new ammonia plant for start-up by the end of
this decade, it cannot gamble on the possibility of installing CCS, not even by 2030.
Please note that in the Commission’s Energy Roadmap, the significant penetration of CCS starts
around 2035 (as from 2020 there are only some demonstration projects assumed).
73
12. Solution 2: WAE benchmark with ILRF and actual production
A higher benchmark gives a higher carbon leakage break-even price; in this section the Weighted
Average Efficiency (WAE) benchmark will be tested. To improve competitiveness and the resistance to
carbon leakage, an industry linear reduction factor (ILRF) of 0.8% points per year is introduced, which
is more realistic in view of the expected technological improvement of existing stock.
ILRF
0,80%
2013
100%
2014
99,2%
2015
98,4%
2016
97,6%
2017
96,8%
2018
96,0%
2019
95,2%
2020
94,4%
2021
93,6%
2022
92,8%
2023
92,0%
2024
91,2%
2025
90,4%
2026
89,6%
2027
88,8%
2028
88,0%
2029
87,2%
2030
86,4%
2031
85,6%
2032
84,8%
2033
84,0%
2034
83,2%
2035
82,4%
2036
81,6%
2037
80,8%
2038
80,0%
2039
79,2%
2040
78,4%
2041
77,6%
2042
76,8%
2043
76,0%
2044
75,2%
2045
74,4%
2046
73,6%
2047
72,8%
2048
72,0%
2049
71,2%
2050
70,4%
Cefic’s European chemistry for growth Roadmap shows that an improvement of existing stock of about
30% in 2050 versus 2010 might be feasible, for example for steam crackers (Cefic Roadmap, page 72:
23% to 34%). This reflects an ILRF of 0.8%, as can be seen from the table above.
Note that for ammonia the expected improvement is expected to be 11% in this period. This is caused
by the fixed (thermodynamic) minimum of 20.7 GJ/ton, which is the process emission. Therefore a
realistic solution should be envisaged for ammonia, which will be explored below.
To decouple the present LRF from the allocation of allowances to industry becomes even more
important in view of discussions to increase the LRF from 1.74% to a higher value.
12.1. Rationale for more realistic benchmarks
The rationale for more realistic benchmarks, such as here assumed based on the weighted average
efficiency (WAE) which decrease with an industry linear reduction factor (ILRF) of 0.8% points per
year, can be summarised as follows:
•
Existing installations need a considerable lead time to develop carbon reduction projects.
o
A typical lead time for larger projects in existing installations is 1.5-3 years for the
feasibility phase, then 1.5-3 years for conceptual followed by detailed engineering, then
about 2 years for procurement of materials and equipment and building.
o
It is not realistic that lower efficiency installations can become high efficiency in one big
project. In practice improvements are done in several steps.
o
Projects of any importance in existing installations can only be done during a maintenance
shut down. In the chemical industry the time between two maintenance shut downs is
quite large, this can be 6 years for e.g. steam crackers or ammonia plants. This is also a
reason that industry needs lead time for investments to reduce carbon emissions.
o
Based on these considerations and on study of the improvement rates in the past, Cefic’s
Roadmap came to a realistic judgment of the improvement rate until 2050 of existing
installations (see Cefic Roadmap). In fact compared with the improvement rates in the
past, an acceleration is assumed for the period until 2050 in the Cefic Roadmap 2050
because of two reasons: the higher oil price since a few years, and the additional incentive
by the EU ETS.
•
A very stringent benchmark, like the top 10% multiplied with a the present CSCF, extracts
considerable quantities of money while the same industry is supposed to make considerable
investments to reduce emissions.
74
For example, in 2020 a weighted average steam cracker of 1,200 kton HVC per year with
0.97 ton CO2/ton HVC will have a cost of 0.391 ton CO2/ton HVC (benchmark x CSCF =
0.702 x 82.4% = 0.579 ton CO2/ton HVC; 0.97 – 0.579 = 0.391). This is at € 40/ton CO2
an annual cost of about € 19 mln (€ 18.77 mln/year = 0.391 x 1,200,000 x 40).
o
By 2030, the annual cost for a weighted average efficiency cracker at e.g. € 100/ton CO2
would be € 61 mln (0.513 x 1,200,000 x 100).
o
For ammonia the situation is even worse. The impact is higher per ton of product.
Consider a plant of 500,000 ton ammonia per year. In 2013 the distance of a weighted
average efficiency ammonia plant to the top 10% benchmark with CSCF is already 0.477
ton CO2/ton ammonia. By 2020 this distance is 0.669 ton CO2/ton ammonia, Thus leading
to an annual cost of about € 13 mln (€ 13.38 mln/year = 0.669 x 500,000 x 40).
o
By 2030, this ammonia plant has an annual cost at € 100/ton CO2 of € 47.5 mln (0.950 x
500,000 x 100).
o
Next to weighted average efficiency plants, there are at present quartile 3 and quartile 4
plants. For these plants the annual costs are substantially higher, which can be derived
from the tables. For these plants significant improvement investments should be realised,
or after some time a replacement by a highly efficient new plants is considered. But in the
latter case, barriers and risks are likely to be relevant (replacement at another site, or
replacement by a plant with a much higher capacity, these are then new entrants).
Please note that with a weighted average efficiency benchmark, as worked out in this chapter
of this report, still 50% of all manufacturing plants are buyer of allowances. With the present
top 10% benchmark multiplied with the CSCF rather soon most manufacturing plants will
become buyer of allowances. Without CSCF, already 95% of all plants are buyer of allowances.
o
•
But, are more stringent benchmarks better for the environmental objective? This is addressed below.
12.2. Are more stringent industry benchmarks better for the environment?
The perception that more stringent industry benchmarks are better for the environment is sometimes
expressed. Apparently, it is also assumed in the European Commission (2008) Impact Assessment as
we saw, but this is a misunderstanding that can be clarified.
Assume an operator undertakes for an investment project to reduce emissions from 900 kg CO2/ton of
product to 600 kg CO2/ton of product. If the benchmark is 600 kg CO2/ton product, a stringent level,
the project incentive is 300 kg CO2/ton product:
Incentive = avoided costs of 900-600 = 300 kg CO2/ton product.
But the general formula for the incentive to reduce emissions also includes the revenue of sales:
Incentive = avoided costs of allowances + revenues from sales of allowances.
If in the example above the benchmark is 750 kg CO2/ton product, a less stringent level, the project
incentive is still 300 kg CO2/ton product:
Incentive = avoided cost of 900-750 + revenue of sales of 750-600 = 300 kg CO2/ton product.
In conclusion, more stringent industry benchmarks are not better for the environment in the case of
the EU ETS with flexibility in the auction volume. The stringency of the benchmark has no influence on
the environmental effectiveness of a benchmark-based allocation within the geographical region of an
ETS. But the application of too stringent benchmarks negatively affects competitiveness and is
environmentally ineffective; a too stringent level of the benchmark causes carbon leakage.
Allocation rules which cause carbon leakage are not effective.
75
12.3. WAE benchmark with ILRF and actual production – steam cracker value chains
The same efficient new cracker as assumed above is evaluated. But now a Weighted Average Efficiency
(WAE) benchmark is applied, which improves with an Industry Linear Reduction Factor (ILRF) of 0.8%
points per year. The results are shown on the right side of the table:
Ton CO2/ton product
Steam crackers benchmark WAE with ILRF 0.8%
Polypropylene (PP)
30
Top 10% Top 10% Top 10%
2020
2030
2040
0,616
0,494
0,372
0,650
0,58
0,20
0,618
0,56
0,19
0,587
0,55
0,19
WAE
2020
WAE
2030
WAE
2040
0,916
0,838
0,760
-0,27
-0,22
-0,17
Sales of allowances, in
ton CO2/ton product.
Top 10% Top 10% Top 10%
2020
2030
2040
895
244
140
Ex-post allocation, break-even price production carbon leakage, benchmark = Weighted Average Efficiency: effective remedy against carbon leakage
2020
2030
-113
-136
2040
-173
The carbon leakage break-even prices are now negative (e.g. € -173/ton CO2 in 2040). This raises the
question: what does a negative break-even price mean? This is elaborated below.
A short check of the mathematics
•
The tighter the benchmark, as for steam crackers top 10% with LRF from 0.616 in 2020 to 0.372
ton CO2/ton product in 2040, the lower the carbon leakage break-even price will be (the breakeven price decreases from € 895/ton CO2 to € 140/ton CO2). This is intuitively expected.
•
At a benchmark value of zero, the benchmark allocation with actual production becomes equal to
auctioning (auctioning also follows actual production). The carbon leakage break-even price is
then equal to the one with an ex-ante allocation (then only the specific emission of the plant
counts).
•
As we saw, at a negative break-even price, there is an incentive to stay in Europe, because
allowances can be sold. With negative break-even prices, the situation is the reverse: the lower
the negative break-even price, the more the incentive to stay in Europe is. See in the table above:
o
At WAE-ILRF in 2020 the sales of allowances is 0.27 ton CO2/ton product while the carbon
leakage break-even price is € -113/ton CO2.
o
At WAE-ILRF in 2040 the sales of allowances is 0.17 ton CO2/ton product while the carbon
leakage break-even price is € -173/ton CO2.
•
In other words: with a low positive break-even price, the incentive to shift production outside
Europe is highest; with a low negative break-even price the incentive to stay in Europe is highest.
Now the impact on the existing steam crackers is evaluated as well:
76
Ton CO2/ton product
Top 10%
Q1
Q2
WAE
Q3
Q4
Bottom 10%
0,702
0,73
0,84
0,97
0,93
1,17
1,36
0,58
0,74
Polypropylene (PP)
0,20
0,28
30
Crackers, plus downstream polymers
infinite
1.071
217
112
132
64
46
Crackers
-112
-125
-231
infinite
-750
150
77
The production carbon leakage break-even price is infinite for a WEA cracker, but still € 77/ton CO2 for
the bottom 10% crackers in the short term (benchmark 2013). But we do not assume that the carbon
price would become € 77/ton CO2 in the short term.
With improvement of the existing steam crackers, especially the fourth quartile manufacturing plants,
the break-even prices would increase to acceptable levels, provided that the improvement for less
efficient plants goes faster than the assumed ILRF of 0.8% points per year.
The table below shows the hard cash cost carbon leakage break-even prices with an ex-post allocation
compared with the present ex-ante allocation (the same as the second table in paragraph 6.1.1):
Ton CO2/ton product
Top 10%
Q1
Q2
WAE
Q3
Q4
Bottom 10%
2013
0,702
0,73
0,84
0,97
0,93
1,17
1,36
2013
0,662
2020
0,579
Delta:
-0,391
Delta:
-0,591
2030
0,457
Delta:
-0,513
Delta:
-0,713
0,58
0,74
Top 10%:
2013
0,39
2020
0,35
2030
0,35
Polypropylene (PP)
0,20
0,28
170
8
0
170
166
150
132
137
103
76
40
156
151
131
104
112
68
33
0
170
166
150
132
137
103
76
80
132
126
101
67
76
22
-20
51
52
57
68
67
76
84
103
105
114
137
134
153
168
104
98
79
55
59
37
24
97
91
74
52
56
35
23
Hard carbon cost CO2 break-even price vs GVA, top 10% BM 2013 w/o CSCF and ex-post (EURO/ton CO2) infinite
5929
1089
491
603
220
116
Hard carbon cost CO2 break-even price vs GVA, WAE BM 2013 w/o CSCF and ex-post (EURO/ton CO2)
-634
-692
-1156
infinite
-3436
516
195
As mentioned, hard cash cost carbon leakage is the most extreme form of production carbon leakage.
We see from this table that the resistance to this type of carbon leakage is very good for a benchmark
based on weighted average efficiency (see last line of the table above). Please note that this is the
initial situation, later year by year the benchmark value drops with the assumed ILRF (industry linear
reduction factor) of 0.8% points per year (then the (positive) break-even prices go down).
This can be compared with the break-even prices for the ex-ante allocation under the present
allocation rules, which are rather low in the assumed market situation with a GVA of € 170/ton product
(see 3rd and 4th line from the bottom).
77
This analysis also shows the importance of a smart and equal benchmark for incumbents and new
entrants. When a manufacturing plant comes to the technical and economical end of life, there must
be an effective and sound investment climate to enable the old plant to be replaced by a modern high
efficiency plant.
Example:
Assume that a low efficiency steam cracker with a specific emission of 1.30 ton CO2/ton product is
replaced by a modern efficient plant with a specific emission of 0.65 ton CO2/ton product in 2020. The
WAE benchmark in 2020 is 0.916 ton CO2/ton product (see first table in this paragraph above). The
ETS incentive to reduce emissions is then avoided costs of allowances + revenues of sales of
allowances = (1.30 - 0.916) + (0.916- 0.65) = 0.65 ton CO2/ton product.
If the size of the new plant possibly replacing two older plants is 2 Mton product (HVC, high value
chemicals), the incentive would thus be 1.3 Mton allowances per year. This represents a value of € 39
mln/year at a carbon price of € 30/ton CO2. This value will increase when carbon prices increase. This
has to be compared with an investment of (very) roughly € 1.5 bn.
With the proposed benchmark value based on WAE with an IRLF and an allocation based on actual
production (ex-post), the investment will not have any incentive for carbon leakage, which is a crucial
condition in order to make such investments happen in Europe. To the contrary, there is an incentive
to stay if Europe (negative break-even prices).
12.4. WAE benchmark with ILRF and actual production – ammonia
The same new ammonia plant for 2020 as earlier assumed is evaluated:
Ton CO2/ton product
Top 10% Top 10% Top 10%
2020
2030
2040
WAE
2020
WAE
2030
1,422
1,140
0,858
25,4
20,4
15,3
20,7
1,159
Ammonia benchmark WAE improves with ILRF 0.8%
1,891
1,731
1,530
1,499
1,469
-0,36
-0,23
27,3
26,8
26,2
Sales of allowances, in
ton CO2/ton product.
30
Top 10% Top 10% Top 10%
2020
2030
2040
277
83
49
2020
2030
-83
-130
WAE
2040
1,571
-0,10
2040
-296
With an allocation based on benchmark based on WAE and with an ILRF of 0.8% and actual production
(ex-post) there is no problem for a new ammonia plant – the break-even prices remain negative
(incentive to stay in Europe). But for existing ammonia plants, a benchmark based on WAE and with
an ILRF of 0.8% still gives a relatively low arbitrage production carbon leakage break-even price for
quartile 4 plants:
78
Ton CO2/ton product
Top 10%
Q1
Q2
WAE
Q3
Q4
Bottom 10%
Ammonia
1,619
1,726
1,954
2,003
2,076
2,442
2,784
30
Ammonia
infinite
281
89
78
66
36
26
Ex-post allocation, break-even price production carbon leakage, benchmark = Weighted Average Efficiency: not effective against carbon leakage
Ammonia
-78
-108
-612
infinite
414
68
38
This can also be seen from the hard cash cost carbon break-even prices:
Ton CO2/ton product
Ammonia 2013
In GJ/ton ammonia
In GJ/ton ammonia
In GJ/ton ammonia
In GJ/ton ammonia
170
8
0
40
0
80
Hard carbon cost CO2 break-even price vs GVA, top 10% BM w/o CSCF and ex-post (EURO/ton CO2)
Hard carbon cost CO2 break-even price vs GVA, WAE BM w/o CSCF and ex-post (EURO/ton CO2)
Top 10%
Q1
Q2
WAE
Q3
Q4
1,619
1,726
1,954
2,003
2,076
2,442
28,9
30,8
34,9
35,8
37,1
43,6
1,526
Delta with top 10% x CSCF:
-0,477
27,3
1,335
-0,669
23,8
30,8
34,9
35,8
37,1
43,6
1,053
-0,950
18,8
0,09
0,20
0,43
0,48
0,55
0,92
0,28
0,39
0,62
0,67
0,74
1,11
0,57
0,67
0,90
0,95
1,02
1,39
Top 10%
Q1
Q2
WAE
Q3
Q4
170
159
170
125
65
130
89
78
infinite
-442
155
139
155
101
69
138
73
65
1448
-557
122
97
122
50
78
156
47
43
364
-2491
115
88
115
39
80
160
43
39
299
infinite
105
75
105
23
83
166
37
34
229
1447
52
8
52
-59
98
195
15
14
64
119
Bottom 10%
2,784
49,7
49,7
1,26
1,45
1,73
Bottom 10%
4
-54
4
-135
111
223
1
1
3
5
These still low break-even prices require a creative solution. For example, the ammonia benchmark
could be based on the average of the quartile four plants:
Ton CO2/ton product
Top 10%
Q1
Q2
WAE
Q3
Q4
Bottom 10%
Ammonia
1,619
1,726
1,954
2,003
2,076
2,442
2,784
30
Ammonia
infinite
281
89
78
66
36
26
Ex-post allocation, break-even price production carbon leakage, benchmark = Weighted Average Efficiency: not effective against carbon leakage
Ammonia
-78
-108
-612
infinite
414
68
38
Ex-post allocation, break-even price production carbon leakage, benchmark = Q4 Efficiency: effective remedy against carbon leakage
Ammonia
-36
-42
-61
-68
-82
infinite
88
Then the bottom 10% plants still have a rather low arbitrage production carbon leakage break-even
price of € 88/ton CO2. Therefore the less efficient ammonia plants have to improve their efficiency or
should be replaced by modern ones. We see that ammonia is a very sensitive product with regard to
carbon leakage.
This is also illustrated with the hard cash cost carbon break-even price for the situation of a GVA for
the leader of € 170/ton in absence of the carbon costs:
79
Ton CO2/ton product
Ammonia 2013
In GJ/ton ammonia
In GJ/ton ammonia
In GJ/ton ammonia
In GJ/ton ammonia
170
8
0
40
0
80
Hard carbon cost CO2 break-even price vs GVA, top 10% BM w/o CSCF and ex-post (EURO/ton CO2)
Hard carbon cost CO2 break-even price vs GVA, Quartile 4 BM w/o CSCF and ex-post (EURO/ton CO2)
Top 10%
Q1
Q2
WAE
Q3
Q4
1,619
1,726
1,954
2,003
2,076
2,442
28,9
30,8
34,9
35,8
37,1
43,6
1,526
-0,477
27,3
1,335
-0,669
23,8
30,8
34,9
35,8
37,1
43,6
1,053
-0,950
18,8
0,09
0,20
0,43
0,48
0,55
0,92
0,28
0,39
0,62
0,67
0,74
1,11
0,57
0,67
0,90
0,95
1,02
1,39
Top 10%
Q1
Q2
WAE
Q3
Q4
170
159
170
125
65
130
89
78
infinite
-206
155
139
155
101
69
138
73
65
1448
-216
122
97
122
50
78
156
47
43
364
-250
115
88
115
39
80
160
43
39
299
-262
105
75
105
23
83
166
37
34
229
-286
52
8
52
-59
98
195
15
14
64
infinite
Bottom 10%
2,784
49,7
49,7
1,26
1,45
1,73
Bottom 10%
4
-54
4
-135
111
223
1
1
3
11
An allocation based on the average of the quartile 4 plants would require an extra allocation of about
8-9 Mton allowances in Europe compared to a WAE benchmark.
An alternative solution for ammonia is to give a fixed allocation for the feedstock part and a realistic
allocation for the fuel part, as long as CCS cannot be applied because of the barriers (public
acceptance, lack of infrastructure, high investment costs) and as long there is no global approach with
equal or similar carbon costs globally.
12.5. WAE benchmark with ILRF and actual production – carbon black
A product like carbon black has a similar high specific emission as ammonia. Therefore for this product,
too, higher allocation than WAE is needed. With an estimated volume of 1.7 Mton carbon black per
year, the extra allocation based on a quartile 4 benchmark could be around 0.7 Mton allowances
compared to a WAE benchmark.
13. Solutions for the fallback benchmarks
13.1. The present fallback allocation for new entrants is complicated and unjustified
Fallback benchmarks are the benchmarks for heat, fuel (especially flares) and process emissions. The
present rules for new entrants are rather complicated and unjustified. Guidance Document 7 for new
entrants (Section 3 New entrants – new installations (‘greenfields’), section 3.2 Determination of
allocation, section 3.2.2 Phase after the start of normal operation phase, page 13 under step 3, which
is also applicable for extensions of existing installations) mentions:
“The relevant capacity utilization factors (RCUF) will be determined by the CA [Competent Authority]
for each sub-installation for which it is relevant. In order for the CA to be able to determine RCUFs, the
operator will submit the following information:
− RCUF suggested by the operator as a percentage of the initial capacity
− Information on the installation’s intended normal operation, maintenance, common production
cycle
− Energy and greenhouse gas efficient techniques that may be implemented and affect the
capacity utilisation
− Typical capacity utilisation in the relevant sector concerned.
80
All submitted data information shall be substantiated and verified. More information regarding the
determination of RCUF can be found in Section 6.3 of Guidance Document 2 on allocation
methodologies.”
The allocation (excluding the allocation before the ‘start of normal operation’, for which there is also an
allocation), is: Initial capacity x RCUF x CLEF x LRF
In which:
Initial capacity is the average of the 2 highest monthly production volumes in the 3 months (for
new installations) or 6 months (for an extension of an existing installation) multiplied by 12;
CLEF = carbon leakage exposure factor (100% for sectors exposed to the risk of carbon leakage,
for non-exposed sectors 80% in 2013 going linearly down to 30% in 2020; CLEF is not yet defined
for after 2020);
LRF = linear reduction factor, going down by 1.74% points as from 2013 (see table chapter 9).
There are three basic complications:
(a) The activity factor is based on frozen “new historical” production data while the actual
production in the future can be higher in normal economic conditions or the production can be
structurally lower (recession or crisis), see Cefic-IFIEC (2012), barriers and risk for growth.
o The “initial capacity” can be unluckily low due to technical start-up problems, etc.
o RCUF is partly based on the typical capacity utilisation in the relevant sector (which can
be too high or too low).
(b) In the RCUF, energy and greenhouse gas efficient techniques’ must also be taken into account.
(c) LRF goes continuously down, from 0.9826 in 2014 to 0.8782 in 2020 to 0.7042 in 2030, to
0.6172 in 2035 to 0.5302 in 2040 and so forth, which is unjustified if a company has invested
in state of the art technology, and even more unjustified in the case of an innovative
breakthrough technology.
13.2. Solutions for the fallback benchmarks – ex-post and state of the art technology
13.2.1. Ex-post adjustment to actual production for incumbents and new
entrants
The first and simple solution to avoid over-allocation during recession and crisis and under-allocation
for growth is to apply actual production as activity factor: a provisional production is ex-post adjusted
to actual production after each year. Then all barriers and risks for growth are eliminated.
13.2.2. The own benchmark of fallback incumbents
Guidance Document 2 mentions (page 35) for fallback benchmark allocations:
“Physical changes exclusively aiming at improving the energy efficiency of a sub-installation or the
improvement or installation of an end of pipe abatement technology to reduce process emissions
should not be regarded as physical change leading to a significant capacity reduction.”
This means that under the present allocation rules, the benchmark for incumbent “fallbacks” is in fact
the average efficiency in the historical baseline median 2005-2008 or median 2009-2010. In other
words, each manufacturing plant falling under the EU ETS producing a product without a product
benchmark has in fact its own product benchmark.
This is a good approach which is recommended to be maintained, because then efficiency
improvements are stimulated by the EU ETS (according to the EU ETS objective, see Directive Art. 1).
Efficiency improvements in, for example, both steam production (upstream) and the energy
81
consumption (direct fuels, steam, or electricity) – itself within the manufacturing plant – are then
incentivised in a consistent manner.
13.2.3. The benchmark for fallback new entrants – state of the art technology
Another issue is: what is the benchmark value for new entrants with a fallback approach; how to
determine whether energy and greenhouse gas efficient techniques are applied?
The only reason to demand the application of energy and greenhouse gas efficient techniques for a
fallback new entrant is that it should be avoided that an operator first builds a less optimised
manufacturing plant – with the objective to maximise the allocation of allowances – and then soon
after start-up implements energy and greenhouse gas techniques which would lead to an unjustified
quantity of sales of allowances (this was a – correct – justification given by DG Climate Action).
The investigations of the relevant Competent Authority to determine the application of energy and
greenhouse gas efficient techniques for a specific activity do not legally imply a (product) benchmark
investigation with (all) other operators in the same Member State or in (all) other Member States.
It is tempting for a Member State to compare the efficiency of, say two new production plants where
the case of two new entrants producing the same product accidentally occurs. It may happen that one
company has a process design based on (an improved version of) the present state of the art
technology while the other one can have developed – for example in a period of 15 years – an
innovative process design which is much more efficient (e.g. 30% or 50%) than the present state of
the art technology.
Therefore it is recommended that the competent authority shall base its judgment on the use of the
best possible technology for each specific new entrant. Cases in which two or even more new entrant
manufacturing plants producing the same product are submitted to the competent authority have to be
considered as very exceptional cases.
Legally it has been determined that product benchmarks are limited to the list of products as laid down
in the CIMs. If comparisons between “fallback” products were made, this would imply a product
benchmark approach for any new entrant under one of the three fall back methods. This would also be
very unpractical and time consuming, due to the vast number of processes which fall under the heat
benchmark and – to a lesser extent – under the fuel benchmark and process emission allocation for
which a Member State must determine energy and greenhouse gas efficient techniques for each
specific new entrant allocation.
An efficient installation can for example be defined as an installation where all technology proven
measures regarding energy efficiency (regarding e.g. heat integration, pinch analysis, equipment
selection) and/or greenhouse gas efficiency (e.g. including end of pipe abatement technologies) as
applicable in the specific state of the art process design with a pay-out time of 5 years or an internal
rate of return (IRR) of 15% are incorporated in the design. Any further investment beyond proven
state of the art technology would then justify a corresponding quantity of sales of allowances.
In sum, the Competent Authority shall assess each individual case without undertaking comparisons
with similar installations in the same Member State or in all other Member States. What counts is an
assessment of the present state of the art technology. The Competent Authority shall only base their
assessment on verified submitted data information by the company having the new entrant. The
Competent Authority can ask for more information if deemed necessary.
82
13.2.4. Replacement of an older less efficient plant is no new entrant
For completeness sake: the mere replacement of an older less efficient plant by a new plant with the
same capacity (production volume) is not a new entrant. In such cases the initial allocation as granted
according to the historical data of median 2005-2008 or median 2009-2010 remains in place.
13.2.5. Solution CSCF for fallback incumbents: replace by ILRF
In the present rules, the CSCF (cross-sectoral reduction factor) applies for incumbents. As soon as the
CSCF (simplified: industry cap divided by the total free allocation to industry) comes below 1.0, the
CSCF applies and subsequently the CSCF is lowered by 1.74% points per year.
Because of the reasons explained above, the same as for the product benchmarks in chapter 12, it is
recommended to replace the CSCF by the ILRF (Industry Linear Reduction Factor) of e.g. 0.8% points
per year. This ILRF should reflect the realistic possible efficiency improvement in the future.
13.2.6. Solution LRF for fallback new entrants: state of the art technology
without improvement factor for at least 15 years
As mentioned, the LRF (linear reduction factor) goes continuously down, from 0.9826 in 2014 to
0.8782 in 2020 to 0.7042 in 2030 to 0.6172 in 2035 to 0.5302 in 2040 and so forth. This is unjustified
if a company has invested in state of the art technology and more so in an innovative breakthrough
technology that is assessed and approved by the Competent Authority.
Example: Assume the present state of the art technology is (direct + indirect emission) 1000 kg
CO2/ton product. A company improves the design by 10% by implementing better heat integration
based on proven technologies with an IRR of 15%, the plant is due for start-up in 2020. The allocation
is then 0.8782 x 900 = 790 kg EUA/ton product in 2020 and 0.6172 x 900 = 555 kg EUA/ton product
in 2035. This would cause an unjustified cost of 900 – 555 = 345 kg EUA/ton product (38%) in 2035.
Therefore it is recommended that for fallback new entrants, which must apply proven state of the art
technology, no reduction factor shall be applied for a period of at least 15 years after start-up.
13.2.7. What about CCS for fallback new entrants?
Carbon capture and storage (CCS) is a promising technology for the long term. However, at present
there are still significant barriers: lack of public acceptance, no planned infrastructure, legal constraints
in various Member States next to the legal liabilities in case of (unplanned) leakage of CO2.
For the heat benchmark, the option of CCS is not directly linked to the production process itself but to
the heat generator (boilers or combined heat and power – CHP). The fuel benchmark (often flares) and
the process emission benchmark are most often rather small in size and therefore not suitable for CCS.
Therefore, the possible future application of CCS should not play any role in setting the “benchmark”
for fallback new entrants. That is to say not until CCS has become a standard and accepted
technology, maybe in 2035, or not until the present barriers and risks for CCS are solved and not until
a new Global Climate Agreement will have established a true global level playing field with a global
carbon market or similar approach.
83
14. Economic consequences of a carbon leakage resistant EU ETS
14.1. Consequences for the allocation volumes in the EU ETS
This proposal for a Structural Reform of the EU ETS would seem rather drastic compared to the
present allocation rules. However, the delivered argumentation shows that such a drastic improvement
of the competitiveness of industry is necessary. The EU ETS is then made robust so that globally
exposed industries can endure much higher CO2 prices, which will appear in the distant future, while
carbon leakage is avoided. With some educated guesses, the effect on the allocation is estimated.
14.1.1. Weighted Average Efficiency benchmark for the allocation of direct
emissions – effect on auction volume
The allocation with the top 10% benchmark would lead to a free allocation of allowances to industry of
about 875(-900) Mton EUAs (see paragraph 4.3 with 858 Mton plus and estimated 25(-50) Mton EUAs
for industrial “non-ETS” heat now allocated to cogeneration plants). It is estimated that this top 10%
would imply a reduction of about 200 Mton EUAs from the 900 Mton (roughly 21-22% reduction, which
incidentally is equal to the -21% target of the EU ETS versus 2005 emissions).
Based on these estimates, the required additional allocation for a Weighted Average Efficiency
benchmark allocation is roughly 200 Mton EUAs. This is initially ∼ 10% of the total EU ETS allocation.
The need for the allocation to industry is calculated under the following assumptions:
•
The compounded industrial manufacturing growth is 1.25% per year, as from 2018 onwards
(we assume there will be hardly any growth in the next years due to the present crisis).
•
The New Entrants’ Reserve (NER) for after 2020 is 1,000 Mton EUAs.
•
The NER is refilled during recession or crisis (allocation lower than historical production).
•
The NER is also filled with the decrease of the allocation to industry incumbents with the ILRF
(industry linear reduction factor) for calculation purposes (to show the auction volume easily).
This gives the following picture for the allocation of allowances for the direct emissions only:
Average cap
Mton in 2008
including the new
excluding aviation
2.276
Average cap
2013
Mton
Mton in 2010
including the new
excluding aviation
2.199
2014
Mton
2015
Mton
2016
Mton
2017
Mton
2018
Mton
2019
Mton
2020
Mton
-38,264246
-38,3
-38,3
-38,3
-38,3
-38,3
-38,3
-38,3
2.084,301856
2.046
2.008
1.970
1.931
1.893
1.855
1.816
2.084.301.856
-115
-191
Total
Mton
15.603
-268
-383
-459
780
-300
480
Assume industry EU ETS allocation for direct emissions with Weighted Average Efficiency (WAE) benchmark
Allocation decreases with ILRF of 0.8%
0,80%
Industry EU ETS allocation incumbents + new entrants for direct emissions, with WAE without ILRF
1.987
1.949
1.910
1.872
1.834
1.795
1.757
1.719
14.823
480
60
60
60
60
60
60
60
60
1058 (Commission NIMs publication: 809 Mton/0.94 CSCF plus 200 Mton extra)
100%
99,2%
98,4%
97,6%
96,8%
96,0%
95,2%
94,4%
1,25%
2021
1.072
1.063
5
18
2022
1.072
1.055
-4
14
2023
1.072
1.046
-12
1
2024
1.072
1.037
-21
-20
2025
1.085
1.042
-17
-36
2026
1.099
1.046
-13
-49
2027
1.112
1.050
-8
-57
2028
2029
2030
1.778
1.740
1.702
1.663
1.625
1.587
1.549
1.510
1.472
1.434
1.678 1.640 1.602 1.563
1,25%
1.525
1.487
1.449
1.410
1.372
1.334
93,6%
92,8%
92,0%
91,2%
Industry EU ETS allocation incumbents + new entrants for direct emissions, with WAE without ILRF
1.126
1.140
1.155
1.169
Industry EU ETS allocation incumbents + new entrants for direct emissions, with WAE with ILRF
1.054
1.058
1.062
1.066
Allowances from NER and from the lower allocation to incumbents
-4
0
4
8
Cumulative allowances from NER (guaranteed through ex-post)
-62
-62
-58
-50
Under these assumptions the extended NER would be depleted after 2030. In times of economic recession and crisis, NER would be refilled (ex-post system),
90,4%
89,6%
88,8%
88,0%
1.184
1.198
1.213
1.229
1.070
1.074
1.078
1.081
12
15
19
23
-39
-23
-4
19
then this NER will be sufficient longer.
87,2%
1.244
1.085
26
45
86,4%
1.260
1.088
30
75
Industry EU ETS allocation incumbents + new entrants for direct emissions, with WAE with ILRF
-12,9%
-17,4%
-20,2%
1.072
1.072
13
-57
1.480
76
84
Under these assumptions, there is only 1334-1088 = 246 Mton left for auctioning in 2030. This low
auction volume by 2030 clearly demonstrates the need to have an additional significant Strategic
Reserve to avoid skyrocketing carbon prices.
In this system, industry as a whole can only be a net-seller of allowances for the direct emissions if the
actual improvement rate would surpass the assumed ILRF of 0.8% points per year.
The table above does not yet contain the allocation for indirect emissions. This is elaborated below.
Note that in 2027 the difference between the total cap and the allocation for direct emissions, the
volume left for auctioning, is 1449-1078 = 371 Mton EUAs.
14.1.2. Weighted Average Efficiency benchmark for the allocation of indirect
emissions – effect on auction volume
Presently the total industry consumption in the EU-27 is about 1,100 TWh/year, which is about 1/3 of
the total gross generation of ∼ 3,300 TWh/year. The industry consumption is about 40% of the final
electricity consumption of ∼ 2,800 TWh/year (300 TWh of the energy branch, 200 TWh network losses
and about 10-15 TWh pumped storage).
The EU ETS industry sectors are within this scheme because these are the most energy and carbon
intensive ones. Probably these carbon-intensive industries consume about 17.5% of the final electricity
consumption, thus roughly 500 TWh/year. Based on an estimated EU average CO2-factor of 0.75 ton
CO2/MWh or Mton CO2/TWh the indirect allocation, without reduction factors, would then be 375 Mton
EUAs. This is initially ∼ 20% of the total EU ETS volume.
However, we estimate that about 50%-60% of the indirect allocation would (or should) be used by the
Member States for the financial compensation, say about 200 Mton EUAs. The net extra needed
indirect allocation to improve competitiveness would then be 375-200 = ∼ 175 Mton EUAs.
With the total indirect allocation of the estimated 375 Mton EUAs we get the following picture:
Average cap
Mton in 2008
including the new
excluding aviation
Average cap
2013
Mton
Mton in 2010
including the new
excluding aviation
2.276
2.199
2014
Mton
2015
Mton
2016
Mton
2017
Mton
2018
Mton
2019
Mton
2020
Mton
-38,264246
-38,3
-38,3
-38,3
-38,3
-38,3
-38,3
-38,3
2.084,301856
2.046
2.008
1.970
1.931
1.893
1.855
1.816
2.084.301.856
-115
-191
Total
Mton
15.603
-268
-383
-459
-12,9%
-17,4%
-20,2%
780
-300
480
1.987
Assume industry EU ETS allocation with Weighted Average Efficiency (WAE) benchmark
0,80%
480
60
60
60
60
60
60
60
60
1433 (Commission NIMs publication: 809 Mton/0.94 CSCF + 200 Mton extra + 375 Mton for indirect allocation)
100%
99,2%
98,4%
97,6%
96,8%
96,0%
95,2%
94,4%
1.949
1.910
1.872
1.834
1.795
1.757
1.719
14.823
1,25%
Industry EU ETS allocation incumbents + new entrants for direct + indirect emissions, WAE without ILRF
2021
1.451
1.440
6
24
2022
1.451
1.428
-5
19
2023
1.451
1.417
-17
2
2024
1.451
1.405
-29
-27
2025
1.470
1.411
-23
-49
2026
1.488
1.416
-17
-66
2027
1.507
1.422
-11
-78
2028
2029
2030
1.778
1.740
1.702
1.663
1.625
1.587
1.549
1.510
1.472
1.434
1.678 1.640 1.602 1.563
1,25%
1.525
1.487
1.449
1.410
1.372
1.334
Industry EU ETS allocation incumbents + new entrants for direct + indirect emissions, WAE with ILRF
Industry EU ETS allocation incumbents + new entrants for direct + indirect emissions, WAE without ILRF
Industry EU ETS allocation incumbents + new entrants for direct + indirect emissions, WAE with ILRF
Under these assumptions the extended NER would be depleted after 2030. In times of economic recession and crisis,
1.451
1.451
18
93,6%
92,8%
92,0%
91,2%
90,4%
89,6%
88,8%
88,0%
1.525
1.544
1.564
1.583
1.603
1.623
1.643
1.664
1.428
1.433
1.439
1.444
1.449
1.454
1.464
1.459
-6
0
5
10
16
21
26
31
-83
-84
-78
-68
-52
-32
-6
25
NER would be refilled (ex-post system), then this NER will be sufficient longer.
-78
1.480
87,2%
1.685
1.469
36
61
86,4%
1.706
1.474
40
101
103
85
Now we see that in 2027 the 1449-1078 = 371 Mton EUAs as shown in the previous table are virtually
completely needed for the indirect allocation (this is the 375 Mton in 2013 with a compounded growth
of 1.25%/year minus the lower allocation through the ILRF of 0.8% points per year). Thus, these 371
Mton EUAs are still available for the power industry in 2027, but the auction volume has decreased to
virtually zero (1449-1459 = -10) in already 2027. In 2030 there would be a shortage of 1334-1474 =
140 Mton EUAs, with ∼ 370 Mton EUAs there will be 246 Mton EUAs available for the power industry.
This sheds another light on the (enthusiastic) ideas to increase the linear reduction factor (LRF) for the
total EU ETS cap from 1.74% to e.g. 2.25% or even more – without considering the decrease of
allocation to industry which is coupled to the LRF in the present Directive, thus deteriorating instead of
improving competitiveness and the resistance to carbon leakage – and also to set-aside a considerable
allowances’ volume for destruction. As demonstrated in this study, the top 10% benchmarks and then
on top of this multiplied with the LRF of 1.74% (so assuming a similar effect as the CSCF) are not
feasible to facilitate industrial growth in Europe.
For comparison the effect of the top 10% benchmarks multiplied with the present LRF of 1.74% is
shown, in which we assume also full indirect allocation (instead of incomplete financial compensation):
Average cap
Mton in 2008
including the new
excluding aviation
2.276
Average cap
Mton in 2010
including the new
excluding aviation
2.199
2013
Mton
2014
Mton
2015
Mton
2016
Mton
2017
Mton
2018
Mton
2019
Mton
2020
Mton
-38,264246
-38,3
-38,3
-38,3
-38,3
-38,3
-38,3
-38,3
2.084,301856
2.046
2.008
1.970
1.931
1.893
1.855
1.816
2.084.301.856
-115
-191
Total
Mton
15.603
-268
-383
-459
-12,9%
-17,4%
-20,2%
780
-300
480
1.987
Assume industry EU ETS allocation with top 10% benchmark w/o CSCF
Allocation decreases with LRF of 1.74%
1,74%
480
60
60
60
60
60
60
60
1233 (calculated from the Commission NIMs publication: 809 Mton/0.94 CSCF + 375 Mton for indirect allocation)
100%
98,3%
96,5%
94,8%
93,0%
91,3%
89,6%
87,8%
1.949
1.910
1.872
1.834
1.795
1.757
1.719
14.823
60
1,25%
Industry EU ETS allocation incumbents + new entrants, direct + indirect with top 10% without LRF
1.249
1.249
1.249
1.249
1.249
1.265
1.280
1.296
Industry EU ETS allocation incumbents + new entrants, direct + indirect with top 10% with LRF
1.249
1.227
1.205
1.184
1.162
1.155
1.147
1.138
15
-6
-28
-50
-72
-79
-87
-95
Cumulative allowances from NER
9
-19
-69
-140
-219
-306
-401
Average industry growth of 1.25%/year by debottleneckings / capacity creep plus new factories may be sufficient for 8 years, but there is no NER after 2020, needed for investment decisions in phase 3.
There will also be production growth within the existing production capacities.
2021
2022
2023
2024
2025
2026
2027
2028
2029
1.778
1.740
1.702
-401
2030
1.663
1.625
1.587
1.549
1.510
1.472
1.434
1.678 1.640 1.602 1.563
1,25%
1.525
1.487
1.449
1.410
1.372
1.334
86,1%
84,3%
82,6%
80,9%
79,1%
77,4%
75,6%
73,9%
72,2%
1.313
1.329
1.346
1.362
1.379
1.397
1.414
1.432
1.450
Industry EU ETS allocation incumbents + new entrants, direct + indirect with top 10% with LRF
1.130
1.121
1.111
1.102
1.091
1.081
1.070
1.058
1.046
-104
-113
-122
-132
-142
-153
-164
-175
-187
Cumulative allowances from NER
-505
-617
-739
-871
-1.013
-1.166
-1.330
-1.505
-1.693
Under these assumptions the extended NER would be depleted by ∼ 2027. But in times of economic recession and crisis, NER would be refilled (ex-post system), then this NER could be sufficient until ∼ 2030 or
1.480
70,4%
1.468
1.034
-200
-1.893
longer.
From this table the following observations can be made:
•
At a compounded industrial growth assumed at 1.25% per year (as from 2018), the decrease
of the total allocation to industry (direct + indirect allocation) with the LRF of 1.74% points per
year (as proxy for the CSCF) is higher than the increase of the allocation due to growth.
•
Then the NER, assumed at 100 Mton/year for the period 2021-2030, is de facto not needed. In
this calculation the allocation for growth is taken from the NER and from the lower allocation to
industry (thus the NER would grow instead of being used).
•
By 2030, the remaining auction volume would be only 1334-1086 = 248 Mton EUAs. With the
indirect allocation of ∼ 400 Mton, that would be ∼ 700 Mton EUAs for the power industry.
-1.104
86
•
Thus, the difference between the proposed allocation based on WAE benchmarks and the ILRF
of 0.8% and the top 10% allocation with the LRF of 1.74% is 700-246 = ∼ 450 Mton in 2030.
This is the difference between a re-industrialising Europe and a Europe with huge investment carbon
leakage. If the allocation of allowances to industry would remain the same after the Structural Reform
of the EU ETS, a Europe with huge investment carbon leakage would become a self-fulfilling prophecy.
14.2. WAE benchmark and indirect allocation – effect on auction volume and the economy
Based on the estimates above, the effect of the WAE benchmark and the indirect allocation would be a
reduction of the auction volume of about 375 Mton EUAs (200 direct + 175 indirect). This is initially ∼
20% of the total EU ETS volume and roughly 35% of the auction volume (the derogation volume of no
auctioning in 2013 decreasing to zero in 2020 for Polish and other electricity producers is disregarded).
At a carbon price of € 30/ton, this represents a value of € 11 bn/year. This is indeed a lot of money.
However, the aimed improvement of competitiveness is required to avoid carbon leakage and to
support the fourth 20% target of the 2020 agenda: to move the manufacturing industry share from
the present 16% to 20% of GDP of the European Union by 2020.
The European Commission (2009) published the impact of the direct and indirect emissions on gross
value added (GVA) for each industry sector. For the bigger emitters, this impact was: chemical subsectors between 5% and 10% (fertilizer industry much higher), cement industry 45%, steel industry
about 10%, aluminium production 14% and paper and pulp sub-sectors 5%-10%. This impact analysis
is based on € 30/ton CO2 and 75% auctioning of the direct emissions, thus about 75% x 900 = 675
Mton CO2. The impact of the indirect emissions was based not on the marginal but on the average
emission of electricity, this is 0.465 ton CO2/MWh respectively ∼ 0.75 ton CO2/MWh. Thus the
calculated indirect emissions were (0.465 / 0.75) x 375 Mton CO2 = about 235 Mton CO2 (note that
this 375 Mton CO2 is the estimated indirect EU ETS emission (see above under paragraph 14.1), which
is incidentally the same volume as the required extra allocation to industry based on WAE benchmark
and indirect allocation).
With these estimates above of the direct emissions of 900 Mton CO2 and the indirect emissions of
about 375 Mton CO2, the calculated auctioning part is 63% ({675 + 235} / {900 + 375} = 810 /
1275). Therefore, the real impact of full auctioning would be 1/63% higher; thus a calculated impact of
10% on GVA becomes almost 16%.
If we assume an average impact of 10% as calculated with the method of the Commission, the total
industrial GVA would be {810 Mton CO2 x € 30/ton CO2} / 10% = € 243,000 mln/year. This is the
same as {1275 Mton CO2 x € 30/ton CO2} / 16%. This represents a GVA of € 243,000 mln / 1,275
Mton CO2 = a GVA of € 190/ton CO2 really emitted. If the average impact was for example 15%, the
GVA would be € 162,000 mln, thus about € 125/ton CO2 really emitted.
When the effects on the value chains in Europe are taken into account as well, the total GVA will be a
factor of at least 1.5 higher (purchasing of goods and services, directly connected downstream
activities; this factor is increasing because of outsourcing and higher automation and specialisation).
Then the value at stake will be roughly € 185-285/ton industrial manufacturing output.
Therefore, if a production carbon leakage of e.g. 100 Mton CO2 per year happened, a shift of GVA
outside Europe of € 185-285/ton CO2 would represent a welfare loss for Europe of € 18-28 bn/year.
The prevention of such a carbon leakage loss has a positive economic effect, which is in this example a
much higher than the loss of auctioning revenue € 11 bn/year of the Member States. With further
87
production carbon leakage and in addition investment carbon leakage, the economic loss for Europe
would become much higher.
Production carbon leakage is the beginning of the end. When producers shift production from the
European Union abroad, the loss of GVA leads to less profitable and very soon loss making operations
while the same (all things equal) GVA is shifted outside the European Union. Accordingly, the
producers will strive for cost reductions in their European installations (while ensuring they still can
produce on the level of at least 51% of median 2005-2008 or median 2009-2010 production levels)
and, more important, will shift their attention to operations outside the European Union, which will also
shift investment in expansions outside the Union. Investments in growth and in maintaining operations
by replacing older less efficient installations will not take place in the European Union anymore.
To put this into perspective for new industrial investments: if e.g. 1,500 Mton allowances from the new
entrants’ reserve were to be utilised by new industrial activities in the EU ETS between 2015 and 2030,
the positive economic effect would amount to € 275-425 bn in this timeframe. This would on average
be € 18-28 bn/year additional GVA in Europe (this figure is low in 2015; it snowballs to a relatively
high value by 2020-2030). With investment carbon leakage, such industrial growth would be lost. This
potential loss must be compared with € 11 bn/year less auction revenues at € 30/ton CO2. In addition,
no investment carbon leakage implies more tax revenues and less costs for unemployment.
15. Conclusion Structural Reform EU ETS
The proposed solutions for a structural reform of the EU ETS tackle the structural problems as outlined
in this paper. The following parameters of the present EU ETS are addressed to improve industrial
competitiveness and thus to avoid carbon leakage:
(a) A predictable and unrestricted indirect allocation for the indirect (electricity) emissions.
(b) A safe and accessible new entrants’ reserve for after 2020, which avoids under-allocation for
growth and which avoids over-allocation during recession or crisis.
(c) A realistic certainty for the carbon leakage status in order to be eligible for an unrestricted free
allocation of allowances for direct and indirect emissions.
(d) For products with a product benchmark, an allocation based on a Weighted Average Efficiency
(WAE) benchmark, in some exceptions based on e.g. a quartile 4 benchmark, with an Industry
Linear Reduction Factor (ILRF) of e.g. 0.8% points per year better reflecting technological
progress.
(e) For products without a product benchmark (the fallback benchmarks), the allocation for growth
(new entrants) is based on the application of state of the art technology without an annual
reduction factor for at least 15 years after start-up of an expansion or new installation.
(f) All allocations for direct and indirect emissions must be based on actual production (“ex-post”).
(g) The assurance of long-term availability of allowances at an affordable price, thus avoiding
skyrocketing carbon prices, for growth of manufacturing industry in line with economic activity
and the technological improvement rate, which is especially relevant in absence of a Global
Climate Agreement with equal burdens for industry globally. The formation of a significant
Strategic Reserve is recommended to that end.
The European Union cannot afford carbon leakage of incumbents and new entrants, neither
economically nor environmentally. This would lead to an unprecedented crisis of the EU ETS, far
beyond what is presently perceived as “crisis of the EU ETS”. If carbon leakage were really start to
occur, the very existence of the EU ETS would be at stake.
88
16. WAE benchmark with indirect allocation and actual production – Australia
From the perspective of the Australian ETS (although now in political trouble), the proposed changes
are not drastic at all. In Australia, the industry benchmarks are based on Weighted Average Efficiency
and there is an indirect (electricity) allocation, of 1.0 ton CO2/MWh. The allocation is based on actual
production; the provisional production is ex-post adjusted to actual production.
89
17. Appendix 1: History of information to the European Parliament about carbon leakage
In 2008 there were meetings in the European parliament on 15 May (organised by Ms Avril Doyle,
rapporteur) and 5 June (organised by Ms Dorette Corby, shadow rapporteur ITRE). In the 15 May
meeting, the importance of the “carbon price signal” was stressed by, among others, Öko-Institut (see
Öko-Institut – Matthes (2008-a)) and Climate Strategies (see Climate Strategies – Grubb (2008a) and
ex-post allocation was rejected for this reason.
As various Members of the European Parliament (MEPs) were not confident in the reasoning and the
possible consequences, MEP Ms Eija-Riitta Korhola (also shadow rapporteur ITRE) organised on 10
June 2008 a roundtable where various industry representatives spoke. The industry speakers
promoted a benchmark-based allocation, a.o. Cefic – Botschek (2008), indirect (electricity) allocation,
see Eurochlor – Steel (2008) and Norsk Hydro – Madsen (2008) and a dynamic allocation (with ex-post
adjustment to actual production), see IFIEC – Grünfeld (2008a) and IFIEC – Schyns (2008) presenting
the inconsistency between the product carbon price signal and the resistance to carbon leakage.
In order to try to finalise the debate on ex-post, Ms Avril Doyle organised a special meeting about this
crucial issue on 26 August 2008. The controversy between against ex-post, see Climate Strategies –
Grubb (2008b) and pro ex-post, see IFIEC – Grünfeld (2008b) was not resolved. Mr Jos Delbeke of the
Commission explained his objections against ex-post: ex-post jeopardises the total cap and gives
uncertainty on the amount of free allocation to individual companies, undermines predictability and
certainty of the carbon market, undermines the incentive for technological innovation (production
subsidy), leads to higher overall cost, due to an increased carbon price, and therefore an increased risk
of carbon leakage and would fundamentally change the architecture of EU-ETS, see European
Commission – Delbeke (2008).
However, the statement that the total cap would be jeopardised was already solved in 2006 by CeficIFIEC, which was checked through an independent study by Ecofys (2008), published and presented in
March 2008 in the presence of a.o. DG Climate Action (and later send directly to Mr Delbeke). The
reasoning about the uncertainty for companies with an ex-post allocation is surprising, given the fact
that most companies and virtually all federations asked for ex-post allocation. The undermining of
technological innovation, related to the production subsidy (which mitigates the carbon leakage) is
elaborated in this report; at higher carbon prices if compared to global auctioning, the technological
innovation will be the same or even higher for manufacturing processes and products. The reasoning
by Mr Delbeke that ex-post would cause more carbon leakage than an ex-ante allocation has never
been observed in any literature (this reasoning is not correct, as shown in this study).
Based on the unsatisfactory outcome of this debate, the president of IFIEC (Hans Grünfeld) asked for a
thorough re-evaluation and reporting, which resulted in Schyns-Loske (2008). Most literature
progressed after 2008 to the necessity to move from historical (ex-ante) to actual production (ex-post)
in the allocation in order to avoid carbon leakage.
Regarding ex-post allocation, IFIEC (2010-b) mentions about the Court case of Germany against the
European Commission (page 14): “In sum, the Court concluded that ex-post adjustments to actual
production do not create uncertainty for operators and are certainly not detrimental to decisions for
investments to reduce emissions as the Commission believed and – possibly or apparently – still
believes. …Still today the Commission insists on a frozen ex-ante allocation with the argument that the
market must be able to function properly, thus ignoring this judgment of the Court.”
The Commission based its proposals, and may still do, on incorrect assumptions and therefore did not
inform the European Parliament and the Council adequately.
90
18. Appendix 2: Observations in the report TNO (2009)
Apparently, DG Climate Action was not aware of the faulty concept when they asked TNO for the first
carbon leakage assessment. The report “Greenhouse gas efficiency of industrial activities in EU and
non-EU”, TNO (2009), contains the faulty concept (page 3):
“This process is called carbon leakage, generally defined as an increase in greenhouse gas emissions in
third countries where industry would not be subject to comparable carbon constraints. ... The question
if carbon leakage occurs ...depend on the country of origin and the country of destination of a reallocated industry. Or in other words: industry in the EU is not always more efficient than in the rest of
the world. As such, it is not possible to say whether re-location of industry from the EU to a developing
or another OECD-country will lead to carbon leakage.”
The mentioned increase of emissions is approximately correct (to be precise, if the carbon efficiency
would be the same in the relocated country), however subtracting the emission of a closed down
facility in the EU is wrong and in conflict with definitions by e.g. UNFCCC and IEA.
The report continues concerning industries with a high share of electricity consumption [like
aluminium, chlorine, etc.] (page 4):
“The result of this study suggest that if relocation would happen under the [EU] ETS, the movement in
the first place would be away from economies that are largely coal based. If that is true, than [then]
carbon leakage would be zero or limited.”
These incorrect assessments can be found in the whole body of the report, for example about steel
(pages 27):
“A movement from ‘clean EU’ (which we can define of roughly ca 700 kg CO2/ton steel) to the USA
(500 kg CO2/ton steel) would not result in an increase of global emissions. It would give a reduction of
almost 30% per ton steel instead. ...
A movement from ‘dirty EU’ which we can define as ca 1100 kg CO2/ton steel, to China (ca 1800 kg
CO2/ton steel) would result in a more restricted carbon leakage of about 700 kg CO2/ton steel.”
Concerning ammonia (pages 44-45): “In case of relocation from Eastern Europe to a developing
country it would probably be carbon neutral. Movements from Western Europe to other OECD countries
would be also carbon neutral.”
Concerning steam crackers (page 50): “In the absence of country specific information, the only
conclusion with regard to carbon leakage is that relocation of ethylene production from the EU to USA
probably would not lead to carbon leakage.”
Concerning the cement industry (page 63): “Applying BAT in countries with current high emissions per
ton of cement and keeping the current fuel mix, however, could nullify the carbon leakage in case of
movements to these countries.”
We understand that this TNO report, on order of the Commission, did not play any important role in
the first assessment of the Carbon Leakage List in 2009. But this report should have been – and still
should be – corrected, on order of or by the Commission, to remedy its faulty analysis to inform all
stakeholders correctly.
91
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(Standing Committee of the European Glass Industries), Euro Alliages (Comité des Liasons des
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92
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Scheme; a review applied to the electricity sector, Prof Kornelis Blok et al, March 2008.
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Delbeke, EU ETS hearing European Parliament, 26 August 2008.
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93
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94
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Unlocking Competitive Industry - full report - 8Jan14

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