EU ‘carbon leakage’ list is outdated, says report


The European Commission is using an "outdated" list to grant free carbon emissions allowances to industries which say they face the risk of relocation abroad – or ‘carbon leakage’ – due to the bloc’s climate policies, a new study says.

The number of industrial recipients of free carbon allowances would be nearly halved if criteria used by the EU to assess the risk of carbon leakage were brought into line with real-world data, says the analysis by CE Delft, an independent research and consultancy organisation.

“The EU’s 2009 impact assessment [into carbon leakage] is now so divorced from reality as to be totally irrelevant,” Bryony Worthington, a British baroness and the founder of the environmental group Sandbag, told a launch meeting for the paper in Brussels on 9 April.  

“We are trundling along with a policy that’s doing nothing but wasting everyone’s time and money and I think it's high time for the ETS to be recalibrated,” she added, referring to the EU Emissions Trading System.

In 2009, the European Commission first began granting free allowances to around 60% of industrial sectors covered by the ETS, due to a perceived risk of carbon leakage.

But if the EU’s criteria, due to be reviewed next year, were updated to reflect today’s data, CE Delft estimates that the number of eligible companies would fall to 33%.

>> Read our LinksDossier: EU industry and the 'carbon leakage' threat

The new report locates three flawed assumptions, which were written into the EU's current listing procedure in 2009:

  • Carbon prices were expected to hit €30 a tonne by 2020 but currently hover between €4 and €5 a tonne – and could fall to zero if a backloading proposal is rejected in the European Parliament next week.  
  • Exposed sectors were slated to overshoot their benchmarked free allowances by 60% but due to recession, “an exposure rate of 20% now seems more likely”.
  • Non-EU countries were not predicted be participate in the ETS. However, Croatia, Iceland, Norway and Liechtenstein have already joined the scheme, with Australia and Switzerland set to link up in 2015.

Drastic reductions

“Applying more realistic assumptions regarding price, supply and trade conditions would imply a drastic reduction of the number of sectors eligible for additional free allowances,” the report says.  

It also predicts that the percentage of Europe’s emissions covered by the scheme would plummet from 95% to just 10%.

While crude oil and natural gas extraction would still be entitled to free credits, industries such as cement, refined petroleum, basic iron and steel, lime, and paper and paperboard would all need to part-auction their allowances.

However, such sectors retort that they are already facing high energy prices and say that EU climate regulations – particularly the ETS – are impeding their competitiveness.

“We have a unilateral climate policy which is imposing massive costs on industry and which is perhaps even counter-productive because it is forcing industries to move to other zones,” Gordon Moffat, secretary-general of the steel association Eurofer, told EURACTIV in an interview earlier this year.

He added, however, that because the steel sector depended on geographical proximity to a supply of good quality materials, and local market access, there would always be commercial steel production in Europe. 

Eurofer has previously taken legal action to overturn the EU’s benchmarking rules for free allowances, allocated to the sector’s top 10% of most efficient factories, claiming that the bar had been set too high.

A flood of free allowances

According to numbers crunched by the environmental group Sandbag for EURACTIV, the real problem has not been a drought of free allowances but a flood.

“In total, manufacturing sectors accrued roughly 680 million spare allowances over 2008-2011 worth some €10.5 billion as a result of what the Commission has previously called an ‘unintended over-allocation,’” said Damien Morris, a senior policy officer for Sandbag.

The EU has tried to address such past over-allocation by ending the hand out of free allowances to power utilities which took windfall profits and increased prices for consumers anyway.

Brussels acknowledges that its carbon leakage list is outdated, and hopes to implement a new benchmarking list in 2016, following next year’s review. 

Speaking at the launch of the new CE Delft report, Hans Bergman, the head of the European Commission’s benchmarking unit, said that the CE Delft data would be taken into account in a new impact assessment document, exploring options and implications.

However, with one eye on the upcoming backloading vote, he signalled that the Commission’s hands could be tied on the issue of the €30 a tonne price.

“There is some reference to the price in the [existing] legal directive and that’s a bit of a legal analysis. We have to see to what extent we are bound by that,” he said.

Phantom leakage?

Industrial resistance to changes in the benchmarking rules seems likely. Wolfgang Weber, a spokesman for German chemical company BASF, told the Brussels launch event that it was “too early to call” the failure of the current regime.

Confronted by a US industry fuelled with cheap shale gas, “why should we say that we should now buy allowances?” he asked. “Who would that help?”

European competitiveness has often been evoked by industry groups, although there is a paucity of evidence proving the scale of the carbon leakage problem, or even its existence.

Experts say it would be difficult to ever provide this sort of proof, partly due because of the often contested and multifaceted nature of such business decisions.

Chris Beddoes, director general of Europia, the European oil refineries association, told EURACTIV that 12 refineries had shut down in Europe in the last three years, partly because of carbon prices – currently over €4 a tonne – and other climate legislation.

In a cut-throat economic environment, “carbon leakage is the straw that breaks the camel’s back and finally swings an industry to relocate elsewhere,” Beddoes said.

However, “not much carbon leakage has taken place,” Sander de Bruyn, the CE Delft report's author, told the Brussels meeting. Studies showed that companies used surplus allowances in setting product prices, he said.

Asked by EURACTIV whether carbon leakage was leading European carmakers to shift plants to regions with lighter fuel efficiency standards, Ivan Hodac, the secretary-general of the European Automobile Manufacturers Association (ACEA) replied bluntly: “No”.

Chris Beddoes, director general of Europia, the oil refiners association, said: “When our exporters pay a full price for carbon, and compete in the gasoline market for example, they may lose out in the bid against someone who doesn’t pay the carbon price. Is that going to make them shut down? Not necessarily, but it reduces their competitiveness and ability to produce for export markets. When investors look at what they are going to do, they say ‘is this going to be a long term disadvantage for our export and home markets? Would I put my money there or go somewhere else?’” Free allowances were “the least-worst option,” he added.

Uncertainties over the EU’s revision of the carbon leakage list were adding to the problem. “Most refineries don’t know how many free allowances they’re going to get yet so we are way behind schedule and now we are even talking about maybe reducing some,” he said. “Imagine you are a [potential] investor – and you say: ‘Well, we don’t really know what our costs are going to be, because we are not sure whether were going to get free allowances or not and when are we going to know that? Well the commission is going to decide in an untransparent process.’ People are going to take this into account in a competitive world.”

However Bryony Worthington, the founder of the environmental group Sandbag, said that carbon leakage was difficult to assess, and often exaggerated. “The carbon price will be such a small factor in future investment plans for industry,” said Worthington, a life peer in the British House of Lords. “You have to take into account all sorts of other risks including land values, currency risks - which are massive – feedstocks, and these are bigger issues. This discussion is being distorted by [a phenomenon which has] a very small impact. If you want to talk about economic costs more broadly and the cost of fossil fuels, it’s a separate issue to whether or not the ETS is doing what its supposed to do.”

The EU’s current rules on carbon leakage were “almost completely opaque,” she continued. “Anybody else new to this discussion would be completely lost. It’s really complicated, with lots of rivalries built into it. The Commission is under pressure because of crazy rules which have a massive impact - or no impact - as everyone lobbies to make sure that their vested interests are protected. Free allocations are a licence for lobbying. It has become political and needs to be depoliticised. A new directive should put in the right structures going forward to ensure that things survive.”

Carbon leakage has been an important argument in the design of the Third Phase of the EU ETS.

By giving free allowances to industries prone to competitive disadvantage because of the EU’s climate policies, Brussels tried to shield energy-intensive industry from high carbon costs.

Read our LinksDossier: EU industry and the 'carbon leakage' threat

But as the mid-term review of the carbon leakage list in 2014 approaches, it appears that many of the core assumptions used to define the current list of sectors receiving free allowances may be “outdated,” the CE Delft report says.

  • 2014: Mid-term review of the EU’s carbon leakage list
  • 2020: Phase IV of EU ETS begins

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