Huge oversupply in EU carbon market persists despite emergency fix

Data released on Monday shows that despite an emergency intervention to remove 400 million emissions allowances, the oversupply in the EU’s carbon market was barely dented in 2014. Analysis from Sandbag finds that, against expectations, the market surplus decreased by just 10 million last year, leaving the total at 2,088 million.[i] The official Impact Assessment for the emergency measure (approved in February 2014) anticipated the surplus would to drop to roughly 1,570 million as a result of the intervention. This has proven to be completely divorced from reality.[ii]

Greenhouse gas emissions in the EU are falling fast,[iii] even as the economy recovers,[iv] but the rules governing the carbon market are failing to keep pace. Total emissions included in the scheme (including aviation) fell to 1,870 million tonnes (CO2e) in 2014, down 91 million tonnes (4.7%) from the previous year. This finds them falling over twice as fast as the annual reductions in the cap, which ratchets down by just 38 million allowances each year.

Policy makers have known for some time that the EU’s flagship climate policy needs fixing, however, proposals to reduce the volumes of allowances being created have met with stiff opposition from industry and some Member States. This is despite the fact that the majority of the huge surplus in allowances arises from industrial sectors who collectively were awarded 14% more free allowances than were needed to over their emissions over 2008-2014 and have also been able to submit hundreds of millions of cheap offset credits into the scheme.[v]

In 2014 400 million allowances were withdrawn under the Backloading Decision, which removes a total of 900 million allowances from auction over 2014 to 2016 before returning them to market over 2019 to 2020. Backloading was proposed as an emergency measure until structural reforms could be agreed to address the growing disconnect between the EU’s carbon budget and the emissions that are policed by it.  Despite this emergency intervention, the huge surplus in the market remains stubbornly high.

Backloading reduced the supply of EU allowances in 2014 to 1,604 million tonnes.  Access to allowances was however increased by 256 million carbon offset credits purchased from overseas and submitted into the scheme. Despite the market being in over-supply with low prices, 2014 saw a surge in offsets from ETS companies in anticipation of new regulations that would make many even cheaper offset credits inadmissible.[vi]  As a result the surplus in 2014 only declined by 10 million allowances, reaching 2,088 milllion in total.

The data released on Monday comes in the midst of negotiations to agree a more sustainable, long-term policy fix to address the problem of over-supply in the market. The Commission has proposed a Market Stability Reserve (MSR) which would automatically remove excess allowances in times of over-supply, returning them to market if demand increases. The EU Parliament and Council have each recently agreed welcome measures to strengthen the Commission’s original proposal, which now needs to be resolved in Trialogue negotiations between the three decision making bodies.  The MSR , like the Backloading Decision, has faced considerable opposition but yesterday’s data release confirms once again, that just as those opposing the emergency measure were wrong, those attempting to block or weaken more permanent reforms are also wrong.

Damien Morris, Sandbag’s Head of Policy says:

“The failure of the backloading decision to tackle the over-supply crippling Europe’s carbon market should serve as a stark warning against timid new fixes to the scheme. Latest emissions data supports the need for a much more ambitious programme of reforms. These figures should hopefully discourage any backsliding and spur a swift conclusion to MSR negotiations, but we also need to increase the EU’s overall climate ambition as this is ultimately what determines the effectiveness of its emissions trading policy.”

Notes

Update 05/05/15: We initially misinterpreted the offset communication from the European Commission in regards to how some 25m offsets were distributed over 2013 and 2014. This means impact of backloading decision was even smaller than our initial claim, and the surplus decreased by just 10 million in 2014 (rather than 35 million).