Aligning Phase 4 EU ETS reform with reality

Today Sandbag published a new briefing on Phase 4 reform of the EU ETS, providing new insights on different scenarios for reducing the surplus of European Union Allowances (EUAs). Below is a summary of the key messages and findings that are detailed in the briefing:

• Sandbag is proposing that the Phase 4 EU ETS cap should be realigned to match the reality of emissions in 2020, preferably accompanied by an increase in the Linear Reduction Factor.
• In 2015, emissions covered by the EU ETS were already below the level of the cap for 2020^[1]. Emissions are expected to continue falling through the remainder of this decade, driven mainly by increasing deployment of renewables and weak electricity demand. By 2020 emissions look likely to be over 10%, and perhaps much more, below thecap at the end of Phase 3, which was set in 2010 and so fails to reflect current realities. This will lead to additional surplus allowances generated from the start of Phase 4, continuing through all or most of the Phase.
• A simple adjustment to bring the cap at the start of Phase 4 into line with the reality of emissions would go a long way towards solving this problem by reducing the Phase 4 cap, likely by around 2 billion tonnes or more over the 10 years of the phase. There are few easier and more natural adjustments to the scheme which would have such an impact.
• Aligning the cap with actual emissions tightens the cap more quickly and more effectively than changes to the Linear Reduction Factor (LRF). The LRF would need to approximately double from the currently proposed value of 2.2% to 4.2% to have the same effect on cumulative emissions over Phase 4 as rebasing the cap, even in a relatively high emissions case. Even then changing the LRF would have a slower effect than changing the starting point of the cap. Increasing the LRF in addition to rebasing is nevertheless preferred as a way of improving the effectiveness of the scheme in Phase 4.