Emissions Trading German
The implementation of the European Emissions Trading Scheme (EU-ETS) has been heavily discussed during the last years. It started on 1st of January 2005. This paper tries to analyse the design of the EU-ETS and the German National Allocation Plan (NAP) that are surely the result of a political process and not an optimum in a strictly economic way. This work focuses on the functioning of the Emissions Trading Scheme (ETS) in Germany and especially on the electricity generating industry. The main question is whether the allocation rules used in the German NAP exclude some reduction possibilities. In this case, the ETS could not work ideally. This would be economically inefficient.
In the first part of this work, the general functioning of the European ETS and its implementation in Germany is explained. The second part prepares the analysis of the third part. In order to be able to analyse the specific situation in the electricity industry, some reference power plants are defined. Different reduction potentials are described and possible allocation methods are discussed. With this knowledge it is possible to start the analysis whether the ETS will work in the German power industry. Here, the thesis will focus on the effects that future allocation has on the reduction strategies of companies in the present and on the design of the so called transfer rule and new entrants rule. The new entrants rule of Denmark will also be compared with the one of Germany because Denmark uses a fuel unspecific benchmarking, and Germany a fuel specific benchmarking.
2 Greenhouse gas emissions allowance trading in the EU
2.1 General description of emissions allowance trading
An emission trading scheme is a market based environmental instrument, sometimes also called cap & trade system (Spieth, 2002). This means that the total amount of allowances that can be emitted within a certain time period is determined in advance. This is the cap. Initially, the allowances are distributed to single emitters. There are different possibilities for the initial distribution of the allowances. Afterwards, the allowances can be traded. Companies with specifically low reduction costs are likely to reduce emissions and sell allowances. On the other hand, companies with specifically high reduction costs are likely to buy allowances if this is cheaper than reducing their emissions. The price of allowances is determined by the market. It depends on the total reduction demand and the abatement cost curve. If the reduction demand is low, it can be reached with cheap reduction options. However, if the reduction demand is higher, the price is determined by a more expensive reduction option. A cap and trade system can theoretically be used for limiting the emissions of different pollutants. The EU-ETS only limits the amount of the greenhouse gas CO2 that can be emitted. A cap & trade system would be most efficient if it would cover all sources of all greenhouse gases worldwide. In this case, no reduction option would be excluded and therefore the price would be lowest. At the moment, cap & trade systems always work regionally and only cover some sectors and not all pollutants. This has to do with the transaction costs of different pollutants. In the following chapter, the design of the European Emissions Trading Scheme will be discussed.
2.2 The EU Emissions Trading Directive
The implementation of the Emissions Trading Scheme in the enlarged European Union is based on the Directive “Establishing a scheme for greenhouse gas emission allowance trading within the Community” (hereinafter called ETS-Directive) of 13th of October 2003, (EU Commission, 2003a). This directive determines the general functioning of the ETS. The first trading period covers the years 2005 to 2007. The second period will cover the years 2008 to 2012 (Article 11, ETS-Directive). Only CO2 is included in the first period of the ETS, but the other five greenhouse gases covered by the Kyoto Protocol may also be included from the second period on. The ETS-Directive further defines which installations have to take part in the ETS. These are installations from the energy industry (combustion installations, refineries, coking plants), the iron industry, the mineral industry (glass, cement, bricks, lime), and the paper industry if they exceed a certain production volume. Power plants, for example, have to take part if they exceed a thermal heat input of 20 MW. Diffuse point sources from the household and traffic sector are not taking part in the ETS. The allocation is regulated in Articles 9 to 11 and in Annex 3 of the ETS-Directive. Allocation means the initial distribution of allowances to enterprises. The allocation is carried out by the EU member states, which draw up a National Allocation Plan (NAP). The amount of CO2 allowances that is available in the ETS depends on the so called macro allocation. In their NAPs, member states define the share of emissions that they will allocate to the emissions trading sector. The sum of the emissions from the sectors taking part and the sectors not taking part in the ETS (e.g. traffic) has to be equal to the overall Kyoto target in the second ETS period, which is the first Kyoto Period. For the first trading period of the ETS, the participating countries do not have a Kyoto target yet. The ETS-Directive (EU Commission, 2003a) states that, “the quantity [allocated] shall be consistent with a path towards achieving or overachieving each Member State's target”. The total amount of allowances that is available in the ETS depends on the macro allocation of the different member states. Together, they define the total cap for the EU-ETS. The EU Commission has the right to reject a NAP if it is not consistent with the rules laid out in the ETS-Directive. The EU Member States were supposed to hand in the NAPs to the Commission by 31st of March, 2004, at the latest. Many countries failed to hand in their NAPs on time. The new member states had to hand in their plans until 31st of May, 2004. Afterwards, the Commission audited the plans for 3 months and had the right to reject them. In many cases, the EU member states had to change their NAPs. The member states issue the allowances by 28th of February each year. The emissions have to be monitored each year. On the 30th of April, installations have to surrender one allowance per tonne of CO2 emitted in the year before. This will happen for the first time on the 30th of April, 2006, when an amount of allowances has to be surrendered that equals the total emissions in the year 2005.
2.3 The German NAP
The allocation in Germany is regulated by a law called Zuteilungsgesetz (ZuG). It was published on the 1st of August, 2004 (BMU, 2004a). The initial NAP was published in April 2004. Some slight changes were introduced during the legislative procedure. The ZuG and the initial NAP differ in some paragraphs. For the further analysis, the final version of the ZuG will be used and called German NAP. The German NAP regulates the macro allocation of allowances. In the first trading period, the energy and industry sector can emit 503 million tonnes of CO2 per year. The other sectors (households, transport and trade/commerce/services) are allowed to emit 351 million tonnes of CO2 per year. From the 503 million tonnes of the energy and industry sector, 499 million tonnes are allocated to the installations taking part in the ETS. Some small installations are part of the energy and industry sector, but they are not taking part in the ETS because their installed capacity is lower than defined in the ETS-Directive. This is the reason why only 499, and not 503, million tonnes of CO2 are allocated annually to the installations covered by the ETS. In the years 2000 to 2002, the average emissions of the installations taking part in the ETS were 501 million tonnes of CO2. Emissions trading will reduce the total emissions by 2 million tonnes per year. This might not seem much, but it is important to notice that the emissions of the energy sector increased by 12 million tonnes of CO2 from 2000 to 2002 (BMU 2004a). Therefore, the real emission reduction of the ETS is bigger than 2 million tonnes of CO2 because it also stops a further increase of the emissions of the energy sector. The main task of a NAP is to line out how these 499 million tonnes of CO2 are initially distributed to the installations taking part. In the German NAP, allowances are mainly distributed through grandfathering. This means that the allocation in the first period from 2005 to 2007 is based on historical emissions in a base period. This base period is defined as the years 2000 to 2002. In the first period, the annual allocation equals the average emissions in the base period, multiplied with the compliance factor. If the compliance factor is 1.0, the allocation in the trading period is equal to the average emissions in the base period. The compliance factor is generally lower than 1.0, because some allowances are set aside for new entrants, and the total amount of emissions is to be reduced with emissions trading. In the first period, the compliance factor was chosen to be 0.9709 in Germany. This means that a plant that had average emissions of 1000 t of CO2 per year in the base period gets allowances for 970.9 t of CO2 per year in the first trading period. For future trading periods, the base period will be fixed in the corresponding NAPs of these periods. Future NAPs will have to be completed 18 month prior to the start of the trading period. For the second trading period, this is end of June 2006. The impacts of the choice of the base period and the choice of the allocation method in the second period on the functioning of the market in the first period will be discussed later. The NAP for the second ETS period has not been compiled yet, but the current NAP for the first period already contains a lot of rules that only make sense if grandfathering is also applied in the future. These are the so called malus rule, § 7 (7), and the early action rule §12.
Early actions are taken into account in the German NAP. Early actions occur when power plants achieve an emissions reduction prior to the start of the ETS. As a reward, these power plants are getting a compliance factor equal to 1.0. The calculation, whether a power plant has the right to get early actions, is very complicated and depends on the specific emissions reduction and the date of the emissions reduction. The issue of early actions is not studied in further detail in this work.
For some power plants, the allocation in the German NAP is based on benchmarks. For new- entrants, the maximum electricity benchmark has been defined at 750g CO2 per kilowatt hour (kWh) electricity. This is about the amount that a new hard coal fired plant emits.
II. Conceptual and analytical framework
In order to analyse the efficiency of the allocation rules of the German NAP, six reference power plants are defined. Furthermore, possible emissions reductions are quantified, and the results of different allocation rules are shown. On the basis of this section, it will be possible to analyse the efficiency of the German NAP in part III of this work.
Assumptions about compared reference power plants
For the further analysis, six different reference power plants with typical characteristics are defined. These plants use the following fuels with the respective specific emissions: