Emissions trading

Are these emissions real? (Source: Pavel Ahmed)

Emissions trading continues to court controversy following recent events which have seen Romania, an EU ETS country, suspended from trading its Kyoto Protocol emissions units by the UN. The knock-on effect has been to exclude Romania from the spot market in EU ETS allowances (EUAs) for a predicted period of six months.

This incident highlights the ease with which EUAs can be fashioned out of unverified emissions. In Romania’s case, a substantial surplus of Kyoto units (which can translate into EUAs) was created on the basis of inadequately reported emissions. It is therefore understandable that the UN has stepped in to prevent flooding the market with these “tainted” instruments. However, the actual existence of the units in the first place raises questions as to the verifiability of what feeds into the EU ETS.

Emissions reporting failures

The UN’s Kyoto Protocol enforcement branch found that Romania’s standards for monitoring and verifying projects which generated emissions units fell short of the UN-mandated requirements. Estimating emissions from forest management was identified as a particularly serious issue as they formed the bulk of the country’s greenhouse gas emissions.

As previously discussed on Climatico, the EU ETS has already experienced a host of problems generated by Member States’ shortcomings in adequately administering the trading of EUAs. However, the problem goes even deeper: the very emissions on which the EUAs are based are not always properly monitored. This means that EUAs do not necessarily guarantee the existence of corresponding efforts to cut down the release of greenhouse gases in the atmosphere. On the basis of figures not backed by properly verified and transparent reporting, Romania would have been able to use some of its allocated Kyoto units for compliance with the EU ETS. This could have had serious negative consequences for the scheme’s emissions reduction credentials.

Damage to the EU emissions market

The failures in verification have a potentially wider impact on the EU emissions market. The UN’s suspension of Kyoto units trading translates into Romania’s exclusion from spot trading of EUAs under the EU ETS. This may turn out to have grave effects on the EU emissions market as it causes uncertainty (since the date for lifting the suspension has not yet been firmly set) and could undermine general investor confidence in the market, according to the Joint Implementation Action Group. Since the viability of the EU ETS is premised on a liquid and functioning emissions market, this could deal another serious blow to its environmental goals.

More specifically, the suspension also hurts Romanian firms which are regulated by the EU ETS. This regime aims to incentivise polluters to reduce their emissions by allowing them to do so at the lowest cost. In theory at least, regulated firms can choose to cut emissions either by installing greener technologies or by trading EUAs in the market in order to cover their greenhouse gas output. Since a substantial part of the Kyoto units would have been allocated to Romanian firms for use within the EU ETS, the suspension has the effect of temporarily excluding these firms from the emissions market and thus damaging their reputation as market participants. This is another way to damage the EU emissions market as a whole by depriving it of valuable and much needed volumes of trade.

What is the alternative?

The UN’s apparently drastic response can be justified in view of the blow that would have been dealt to the Kyoto Protocol if unverified (and potentially ungrounded) emissions units would have been allowed into the market. On the other hand, credible arguments have been made that the damaging effects of this decision on the international market in emissions and the EU ETS far outweigh the risk of affecting the Protocol’s environmental integrity. Each path comes with its own caveats. It must not be underestimated how difficult it is to achieve a generally acceptable trade-off between successful environmental protection and a viable emissions market.

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