The EU Emission Trading System — Praise and Next Steps

Today I went to a thought-provoking symposium regarding a future-proof energy system, organised by the University of Leuven (KU Leuven).

There was a lot of talk in both social media and newspaper about the findings of the KU Leuven researchers. The researchers, active in fields of economics, engineering, science and philosophy defended the European Emission Trading System (ETS) in a paper. They used a scientific approach searching for the truth without ideological biases. In the media the work of the researchers was criticized, mainly on the quote that “an individual won’t help solving climate change by flying in Europe”, as flights within the EU do fall within the ETS. In this article I will show you how the ETS works and why the symposium was very interesting.

Working of the CAP and Trade

The north star metric in solving climate change is the amount of CO2 emissions we emit. The faster we can decrease CO2 emissions, the less risk on a climate crisis. Reducing CO2 emission should be as cost-effective as possible.

Economists found the most cost-effective ways to reduce CO2 are carbon taxes and emission trade systems. The EU decided to use the trade system, as countries feared the name “tax” and it’s possible to set fixed limits in a trading system but not in a taxation system. In the ETS, companies in the industrial sector and the energy sector (and since 2012 the aviation sector within Europe) can buy and trade permits to emit CO2. The price of these permits is determined by the market.

Now let’s use an analogy to show how the ETS can help to save climate change, regardless of your individual choices. Suppose the EU decide to limit fishing and only allows 1 billion fishes to be fished. The EU creates a “fish trading system”. Now, you may think overfishing is a serious problem and therefore you decide to make an individual choice to stop eating fish. Despite your personal choice to not eat fish, still 1 billion fishes are fished. This is what we call the “green paradox” of demand-side measures. You can apply the same reasoning to the ETS.

So, the genius of the ETS: it works, even when people won’t voluntary change their behavior. And yes a substantial amount of persons will never change their behavior e.g. my colleagues eating at a McDonalds so they don’t have to participate on “vegan friday lunch” at work.

Pricing and Evolutions

In 2005 the EU launched the emission system. We notice the price level was lower than expected, since the economy didn’t grow as fast as expected. Due to the low price, the ETS was not as effective as it could be. Therefore in 2018 the EU revised the ETS system: the cap decreased faster and the MSR “market stability reserve” system was introduced to avoid sharp price decreases.

Consequences of the ETS

The EU is responsible for 50% of the climate policy in Europe, the member states for the other 50%. As some sectors (e.g. house warming and cars) will be electrified and electricity production falls within the ETS, the EU policies will be increasingly important in the future. This is beneficial as member states apart only emit a tiny part of the global carbon emissions.

European energy market

Fossil fuels were very important to create the welfare we currently live in. To deal with climate change we should replace fossil fuels with new energy sources. Nuclear should still play an important role as solar and wind are intermittant techniques that need a backup.

Hydrogen may be a good solution, but takes op too much space. For trucks and chemicals hydrogen make a good option. Biomass is not a durable option, since it’s not intensive enough.

An important aspect is interconnectivity, if we make extensive use of intermittant energy sources like wind and solar, connected energy system can decrease the variance in energy production.

The most important is to not exclude any technology within the energy research portfolio. No one was expecting to be solar and wind energy a real solution 20 years ago. Nuclear plants may be too expensive to build now, a new generation of nuclear plants may be more viable.

Question marks about ETS

While ETS is a genius system and is important, ETS alone won’t solve climate change. Innovation is a big part of the solution.

Innovation and breakthroughs

Innovation is not part of the ETS. Jos Delbeke, climate officer, was present to defend his view.

By gradually decreasing the caps (and increasing prices only slow), factories may opt for quick wins in existing technologies instead of completely rebuilding their factories using new technologies. The companies that decided to completely rebuild the factory may need more investment, but also have to pay more for the permits in mean time. A long term vision and breakthrough innovations (rather than quick wins) may be needed to achieve zero emissions.

Stef Proost, energy economics professor, suggested car companies to both invest research in cars with fuels (make them more fuel efficient) as well as electric cars. But in 2050 all cars should be electric, since fuel cars always will emit some level of CO2. Fuel cars may be used by customers around 15 years, so we should stop selling cars with fuel at last in 2035 to obtain zero emission for car transport in 2050.

Though, Stef Proost did argue correctly we spend a too much share (99% of green energy budget) on subsidizing green energy when compared to green energy research (less than 1% of the budget).

Correct caps and pricing

You can argue the price of the permits is too low. Take for example the European aviation. The ETS increased the kerosene price, but only by a little bit. In the ETS only CO2 emissions are taken into account, not the other emissions of airplanes. This may underestimate the consequences for the climate of flying.

Though, thanks to the adaptation in the ETS prices are increasing.

The role of social and individual movements

Climate activists and people that are “holy” in their beliefs still have a role to play. They can inspire us and the EU too still take action and invest in solving the climate problem, even though behavorial changes may not be as effective as you intuitively may think.