Climate Change Series For more than 12,000 industrial installations in Europe, monitoring CO2 emissions and calculating how much they will need to emit in future are now just routine aspects of business operations.
If companies calculate that they will need to emit more than the quota of emissions allocated to them by government, they buy extra emissions allowances on the European Union’s carbon market. If they decide they are more likely to end up with more quota than needed, they sell the spares.
Carbon trading offers one of the clearest examples of how greenhouse gas output can affect business performance, in a regulatory environment in which limits are placed on carbon.
Take Drax, the UK’s biggest coal-fired power station. Profits at the generator fell 45 per cent to £150m in the first half of this year, owing largely to an increase in the cost of coal but also to the £100m cost of buying carbon permits. Drax responded by announcing it would invest £2bn in three new biomass power plants, cutting its need to buy carbon allowances and giving the company access to subsidies for green energy.
This is exactly how the EU’s Emissions Trading Scheme (ETS) is supposed to work. Focused on businesses in certain energy-intensive sectors, the system is intended to penalise increases in emissions and reward reductions.
Other countries are now looking to bring forward their own carbon trading schemes. Japan has launched an experimental – and voluntary – scheme for its businesses that will work on similar principles. Barack Obama, president-elect of the US, has pledged his support for the introduction of a mandatory federal carbon cap-and-trade system in the US.
The US already has a functioning mandatory carbon trading system among several north-eastern states. The Regional Greenhouse Gas Initiative (RGGI), launched this autumn, covers power utilities in the participating states, requiring them to buy at auction enough permits to cover their emissions each year.
This could be a model for a federal system, says Jonathan Schrag, executive director of RGGI, adding that in the future, the carbon cap on the system can be tightened. “Once the mechanism is in place it’s easy to adjust. I look at it like a geyser in the ground: RGGI is putting a faucet on top, and it is for the state governments to turn the tap.”
Some companies are supporting carbon trading, but others are wary that it will reduce their competitiveness against exports from countries, such as China, where there is no price on carbon.
European chemicals, steel and aluminium companies have joined the chorus warning of “carbon leakage” – where businesses move to regions where they face lower environmental regulation. Such companies are demanding concessions from governments.
For instance, in the EU, companies received their permits free in the first phase of the ETS, from 2005 to the end of 2007. From 2008 to 2012, companies receive most free but have to pay for a proportion of their permits. From 2013, it is proposed that power companies would have to buy all their permits at auction, and other companies would have auctioning phased in up to 2020. Sectors such as metals, which consider themselves at high risk of carbon leakage, want to continue receiving their quota for free.
Carbon leakage is also a fear in the US, and president-elect Obama and proponents of cap-and-trade in Congress are likely to face stiff opposition from companies arguing that business – and the associated emissions – will simply move to China if the carbon price is too onerous.
Another effect of carbon trading is to raise power prices, as electricity generators pass on the cost of buying permits to their customers.
The Polish government, for instance, has objected to EU plans to auction permits to power producers, instead of allocating their quota for free as was done in the past, on the grounds that it would impose extra costs amounting to billions of Euros on its generators, which rely heavily on coal.
But Lord Browne, former chief executive of BP, the energy company, and now a partner at Riverstone Holdings, a private equity company specialising in energy, says the rise in the electricity price owing to the ETS was “infinitesimal” compared with other factors.
“Moving these things around hardly changes the pool price of electricity – the cost of energy has gone up as it has become more expensive to make,” he says. “It does not make much difference in what we actually pay. Reductions in the base oil and gas [price] overwhelm anything that is happening in the [renewable subsidy] and ETS space.”
These debates will be rehearsed often in the next few years, as countries discuss whether to embark on carbon trading, or the future of existing trading systems.
Fiona Harvey is environment correspondent
