The role of carbon pricing
Georg Zachmann
Key messages
The ETS does largely what it is supposed to do Credibility is key Do not start out in a second best-world More analysis is needed to convince MS that they gain from
a “first-best + redistribution” world
Agenda
1. Introduction2. Performance of the ETS 3. Details, Details, Details …4. EU vs. MS 5. Conclusion
Conceptual Framework
First best policy adresses individual externalities with optimal solutions
Mapping investment barriers to different types of climate investment
Externalities Pub
goodInfor prob
Behavl failure
other barriers
Env’t (–)
Tech (+)
SoS (–)
Low-carbon tech
P S S P S N P
Energy savings
S S S N P P N
REDD P N N P N N NSequest P S S P S N P
P = Barrier of primary importance for the investment at hand.S = Barrier of secondary importance for the investment at hand.N = Barrier of no (little) importance for the investment at hand; or not analyzed in
detail.* = Policy failures are potentially very important and, thus, merit a visual
representationin the table. However, the grading P, S, and N is not useful for policy failures as it isalways important to correct them should they be made.
Source: Calthrop, Kolev, Riess, Zachmann (2012)
Mapping investment barriers to possible solutionsProblems Externalities Pub
goodInfor prob
Behavl failure
other barriers
Env’t ( – )
Tech ( + )
SoS ( – )
Markets Establishing property rights P P N N N N NCreating new marketable goods
P N P N S S N
Incentives Taxes P N P N N N NSubsidies S P S S S S S
Rules Frameworks P P P P P P P*Command & control S N S N P P NNudge N N N N P P NEnhanced appraisal N N N N P N P*
Insurance N N N N P P P**Non-market supply N N S P P N P***
Source: Calthrop, Kolev, Riess, Zachmann (2012)
2. Performance of the ETS
1. Introduction2. Performance of the ETS 3. Details, Details, Details …4. EU vs. MS 5. Conclusion
ETS emissions by country
Crisis year
Phase I Phase II
Zachmann, Abrell, Faye (2011)
ETS constraint emissions
Dependant variableGrowth rate of emissions (2008-2007) - Growth rate of emissions (2006-2005)
Phase dummy -0.036**
changes in turnover 0.191***
changes in employment 0.0007
Adj R-squared 0.17
Emissions dropped more than production Cap was binding Not compensated by leakage
Zachmann, Abrell, Faye (2011)
ETS tightening affected sectors differentlyPaper and
paper products
416 firms
Non-metallic minerals806 firms
Basicmetals
159 firmsElectricty
heat660 firms
Phase dummy -0.029 -0.087*** -0.095* -0.001
• Cap-and-trade incentivizes reductions with highest marginal abatement cost -> arguably more efficient than command-and-control
Zachmann, Abrell, Faye (2011)
But, ETS prices lower than expected
11
3862838694
3876238828
3889638964
3903039098
3916439232
3930039366
3943439500
3956839636
3970239770
3983639904
3997240038
4010640172
4024040308
4037440442
4050840576
4064440710
4077840844
4091240980
4104641114
411800
5
10
15
20
25
30
35
EEX Carbon Emission Allowance Settlement Price
Source: Datastream
Pric
e
But, Initial Allocation MattersDependant variable
Growth rate of emissions (2008-2007) - Growth rate of emissions (2006-2005)
Total Sample AF05 <1.15 AF05>1.15
Phase dummy -0.036** -0.034*** 0.002
changes in turnover 0.191*** 0.19*** 0.21***
changes in employment 0.0007 -0.03 0.07
Adj R-squared 0.17 0.21 0.23
• The tighter cap in Phase II was effective since emissions decrease
• Under allocated companies in allowances for 2005 reduced their emissions the most
Zachmann, Abrell, Faye (2011)
Profit Margin 2004-2005 2004-2008Impact of EU ETS -0.53 -0.51 *
Under allocated firms (AF<1)Impact of EU ETS -0.22 -1.95 *
Over allocated firms (AF>1)Impact of EU ETS 2.14* 2.32 *
But, Huge Windfall Profits
Overallocated firms have benefited significantly from the EU ETS in terms of profitability
Underallocated Firms did lose Overall effect surprisingly slightly negative
Zachmann, Abrell, Faye (2011)
3. Details, Details, Details …
1. Introduction2. Performance of the ETS 3. Details, Details, Details …4. EU vs. MS 5. Conclusion
Details, Details, Details …
There are a number of details that determine the performance of the EU ETS– Cap– Initial allocation– Coverage– Dealing with leakage– Locking in prices– …
All of them are disputed
Detail 1 – Cap
Present– ~2 bn allowances– -1.74 %
Future– Keep the path and – Change the path now (e.g., 2020, 30%)– Change the path in the future (e.g., 2030, 40%)
Detail 2 – Initial allocation
Grandfathering Benchmarking Auctioning
Detail 3 – Coverage
Widen: Inclusion of more sectors in the ETS Deepen: strengthen the long-term price signal in the ETS Enlarge: link to foreign systems
Detail 4 – Leakage
Indirect leakage cannot be tackled Proposals for direct leakage:
– Free allowances– Border adjustment taxes (imports or imports+exports)– Carbon consumption tax– Allowance based system
Risks:– Trade wars (see aviation)– Industrial policy– Overly complex mechanisms (calculating life-cycle emission ?)
Detail 5 – Fixing prices
Different price targets Floor price, price Collar, price Ceiling €0-€100 Fixed or moving limitMethods Taxes Managing the annual or period cap Option contracts
4. EU vs. MS
1. Introduction2. Performance of the ETS 3. Details, Details, Details …4. EU vs. MS 5. Conclusion
Distributive Effects of European Climate Policy
The three main policies (RES, ETS, EE) affect member states differently
23
ETS: Central Europe has the highest potential for reducing emissions but is also most vulnerable
Source: Zachmann (2011)
24
ETS: 2013 allocation rules to compensate primary effects
Source: Zachmann (2011)
RES: Differing competitiveness (RCA)
Wind Turbines 2008Solar Cells 2008
RES: Differing Support levels
26
RES support levels in a cross-section of EU countries (low,mean,high in €/MWh)
Source: CEER 2011
RES: Differing Support policies
27
Austr
ia
Czech
Republi
c
German
y
Denmark Spa
inFin
land
France
Hungar
yIre
land
Italy
Netherl
ands
Portug
al
Swede
n
United
Kingdom
0
50
100
150
200
250
010002000300040005000600070008000900010000
Solar RD&D for 2009 (in million USD [2010 prices and PPP])Wind RD&D for 2009 (in millon USD [2010 prices and PPP])Renewables RD&D for 2009(in millon USD [2010 prices and PPP])Net Support Expenditures In millions USD (2009)
Source: IEA 2012; EcoFys, Fraunhofer ISI, TU Vienna EEG, and Ernst &Young Report:
“Financing Renewable Energy in the European Energy Market”
Deployment
5. EU vs. MS
1. Introduction2. Performance of the ETS 3. Details, Details, Details …4. EU vs. MS 5. Conclusion
Conclusion
The big horse-trading: Burden sharing Effort sharing Initial allocation …Þ There are a lot of pretty un-distorting redistribution
schemesÞ Do not start out in a second best-worldÞ More analysis is needed to convince MS that they gain from
a “first-best + redistribution” world
Example: De-risking low-carbon investments
Public bank auctions put options to investors
Investor will choose a hedging strategy
Investor get‘s payoff if carbon price is too low
ETS exposure on the balance sheet of public banks increases credibility of the ETS for all mkt participants
30
Strike
Strike
2010 2015 2020 2025 2030
2010 2015 2020 2025 2030
ETS
Pric
eET
S Pr
ice
Examples for an Asian option 2020 to 2030
No payoffAverage ETS price higher than strike
payoffAverage ETS price lower than strike
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