The European Parliament has this week approved the EU ETS Directive, which means that only a rubber stamp from the Council is required for it to become law. By approving the Directive, the European Parliament has created a market that will probably be worth tens of billions of Euros annually from 2013 to 2020. So how will this big pot of money be distributed?

Distribution of EUAs under Phase III of the EU-ETS (Click on the image to view it - opens in new window)

As I discussed in my last posting, some of the carbon allowances (which are officially known as EU Allowances, or EUAs) will be allocated free of charge installations in sectors that are deemed to be at risk of ‘carbon leakage’ and to some power plants. This is represented by the grey area of the graphic accompanying this post. The rest will be auctioned by member states, and these are represented by the blue and green areas of the figure.

Most of the money raised in the EUA auctions will be retained by the governments of the EU member states as they auction them. This is represented by the blue area of the picture. The number of EUAs auctioned by each member state will mainly be proportionate to its CO2 emissions in 2005, but with some variations. Partly as a result of the recent negotiations some countries will receive more because they are relatively poor, or because a relatively high percentage of their energy comes from renewable sources.

One of the points agreed by the European Council last week was that the revenue raised by auctioning 300 million of the EUAs would be used to fund for Carbon Capture and Storage (CCS) demonstration projects.*  This would represent €6 billion, assuming a price of €20/EUA was achieved at auction. This is shown by the green area of the picture. The intention is that the demonstration projects would allow the European power sector to bridge the gap between the situation today where CCS is just a promising idea and a situation where CCS could be deployed commercially on a wide scale from 2020 onwards.

It is hoped that this will make the EU ETS produce an environmental double dividend: not only reducing emissions from existing industries directly by capping the number of EUAs available each year; but also funding the development of new low-carbon technologies at the same time.

Although €6 billion is clearly a large amount of money, it’s actually a relatively small slice of the expected total value of the EUAs that will be issued during Phase III of the EU ETS. The total emissions allowed under Phase III correspond to at least 14 billion EUAs. So if the price obtained for the EUAs auctioned for CCS reflects the average value of the EUAs during Phase III, no more than 4% of the total value of the certificates will go to the CCS demonstrators. The consortium that proposed the CCS demonstrator programme believes that 10-12 projects are required to robustly test all the possible CCS technologies, and estimated that €7-€12billion of public money would be needed to achieve this. So the amount actually agreed by the Council will probably fall short of this range, but it should be enough to fund at least some of the demonstrator projects, according to British Liberal MEP Chris Davies.

As things currently stand, member states have complete discretion over how they spend the rest of the revenue they earn from auctioning EUAs. Some of it could go to further assist CCS projects: the Directive allows individual member states to choose to use some of their EUA auction revenues towards the cost of building new ‘highly-efficient’ power plant, including up to 15% of the costs of fossil-fuel plants that are CCS-ready.

But there are signs that at least some member states are ready to use EU ETS revenue as a bargaining chip in international climate negotiations during 2009. The European Council meeting last week noted that there was a willingness to use ‘at least half’ the amount raised for mitigation efforts including reducing deforestation, R&D for renewable technologies and energy efficiency; and to fund adaptation efforts in the least developed countries. This idea will be on the agenda at the Spring 2009 meeting of the European Council, which will happen in Brussels on 19-20 March.

* The wording of the Directive suggests that some of this could go towards renewable energy technologies as well as CCS, but unlike CCS I have not seen concrete proposals for this. If anyone knows why renewables are also in the agreement, please let me know!

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