Gaps remain in the regulatory oversight of the EU’s Emissions Trading System (ETS), despite efforts to bolster its security after high-profile cases of fraud, the European Court of Auditors has warned.
The ETS was set up in January 2005 to help achieve the Kyoto Protocol objective of reducing greenhouse gas emissions by 8% by 2012. It sets emissions limits for energy-intensive industries like steel, cement and electricity generation. Emission allowances can be given, bought at auction or traded, with each giving the right to emit one tonne of CO2.
Despite that, EU auditors said, there was still no clear legal definition of emissions allowances.
Oversupply after the recession has meant the price of permits has stagnated at about €7 a tonne. The system has also weathered many storms, including massive VAT fraud, quota thefts, various scams like Ponzi schemes.
EU auditors said there had been “continuous improvements” by the European Commission to protect the ETS market in their report, which was published yesterday (2 July). But there were still some issues that needed to be addressed to further strengthen the market against risk.
“Given the considerable financial stakes involved in the multi-billion euro carbon market […] improvements are needed to the framework for protecting market integrity, and the system as a whole needs to be better implemented, said Kevin Cardiff, of the European Court of Auditors.
The Latvian Presidency of the EU has put forward the date of 1 January 2019 to start reforms of the ETS.
>>Read: Latvian Presidency proposes 1 January 2019 as start of reformed CO2 market
VAT
It is estimated that VAT fraud between June 2008 and December 2009 cost 5 billion. The ETS market was particularly vulnerable to such cross-border trading criminal activity.
The Commission rolled out legislation to allow member states to put the obligation on VAT onto the person buying the allowances.
But at the time of the audit, almost a third of national governments had not put the reverse charge mechanism onto their lawbooks.
That meant the risk of VAT fraud in the ETS was still not full addressed, the report said.
There was still no EU-level oversight of the emissions market, the auditor’s report said. Cooperation between national regulators and the Commission was also not good enough.
National regulators can request information from the EU’s registry of transaction under certain restrictions, but rarely do.
That could mean that distortions and anomalies with potentially serious effects could be missed.
National supervisors could not get a complete picture of any suspicious cross-border transaction, the report said. The Commission does not the legal power to supervise such transactions.
At the same time, national authorities had lost direct access to national registries, which had been centralised at the level of the Commission in the Union Registry.
Although the Commission manages the centralised database, it can’t exploit that knowledge to the full because of data and confidentiality issues.
Regulation
The ETS allowances market was included in the scope of the EU’s Markets in Financial Instruments Directive and Market Abuse Directive and Regulation.
Those rules don’t cover compliance traders, those who trade to obey regulation rather than for profit, some smaller market participants and bilateral over-the-counter spot traders, auditors said. Over the counter spot trades take place immediately between two parties without the supervisison of an exchange.
Auditors told EURACTIV that the risk from those sectors not covered by the markets and instruments rules was relatively small but it did exist.
In its response to the auditors, the Commission said any significant issues in regulation and oversight should be addressed when necessary.
An evaluation of emission market regulation, rules which are currently being implemented, may take place in reports to the European Parliament and Council of Ministers in 2019.
>>Read: Carbon pricing: a challenge for the future
Background
With a turnover of some €90 billion in 2010, the EU's Emissions Trading System is the world's largest carbon market. About 80% of it is traded in futures markets and 20% in spot markets.
The ETS aims to encourage companies to invest in low-polluting technologies by allocating or selling them allowances to cover their annual emissions. The most efficient companies can then sell unused allowances or bank them.
The system had been heavily criticised for containing a number of major flaws, but is nonetheless being imitated around the world. Thailand and Vietnam have recently unveiled their own ETS projects. China has launched several ETS projects. Mexico and Taiwan are also planning to introduce their own carbon markets.
Timeline
- 1 January 2019: Proposed date of ETS reforms
Further Reading
European Court of Auditors