The European Commission might have expected climate campaigners to welcome its plan to extend emissions trading to buildings, shipping and road transport, but putting a price on emissions from these sectors, and allowing emitters to use a traded market to comply, has left them deeply concerned.
Emissions from buildings, shipping and road transport have until now been outside of the EU’s Emissions Trading System (ETS), which puts a price on emissions and enables companies to buy and sell carbon allowances to help them meet their emissions goals at the least cost. However, proposals to extend emissions trading to those sectors are set to be unveiled on 14 July as part of a broad package called ‘Fit for 55’, designed to update EU laws so the union can meet its new 55% greenhouse gas reduction target for 2030.
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By GlobalData
Many environmentalists are sceptical. French MEP Pascal Canfin, who chairs the European Parliament’s environment committee, warned the Commission’s green deal chief Frans Timmermans in June that the move would be “politically suicidal”. “Do not make the mistake of extending the carbon market to heating and fuel. We experienced it in France, it gave us the Yellow Vests,” he said during a parliamentary debate, referring to the protest movement that erupted in France in 2018, forcing the government to backtrack on a fuel tax. The fear is that the cost of ETS compliance will be passed on to EU citizens – particularly impacting those in rural areas who are not able to afford an electric or fuel-efficient vehicle.
According to a leaked draft of the proposal, the Commission will not add these sectors to the existing ETS but rather create a separate stand-alone system for them, similar to a nascent system that already exists in Germany. It would be levied on the suppliers of the fuels in the market, who can be expected to pass the cost on to their customers. Once fully up and running it would function like the normal ETS, but smaller. However, exact details about when and how auctions for permits to emit carbon will be conducted is not yet known.
The new trading system for buildings and road transport would be established from 2025, while a system for maritime shipping would start with a phase-in period between 2023 and 2025, with full compliance from 2026.
Separate but equal
Having a separate system was important to some stakeholders. Alain Mathuren, communication director for FuelsEurope, which represents refiners, says if the EU wants to use the ETS then the industry association is supportive of a dedicated ETS for road transport but not of including it in the existing ETS. The reason is that a dedicated system can better adjust to the needs of the sector, and any revenues raised could be ring-fenced for reinvestment; for example, to promote the uptake of low-carbon fuels.
Others would like to see revenues recycled to address socio-economic impacts that would flow from increasing fuel and heating costs. In Germany, the introduction this year of a separate ETS for transport and buildings has led to an increase of €0.07 per litre of petrol and €0.08 per litre of diesel.
Judith Kirton-Darling, a former MEP who is now deputy general-secretary of trade union federation IndustriAll Europe, believes carbon pricing is inappropriate for road transport. “We and a number of other organisations in the Brussels environment space have strongly opposed the extension of carbon pricing to road transport, partly because [carbon pricing] is based on the principle that economic actors make rational choices,” she said at a recent event in Brussels.
“But mobility isn’t always a question of choice, it is also a question of constraints. If you are applying carbon pricing, you are effectively applying a regressive taxation in the model”, she added, which disproportionately impacts those on lower incomes. If pricing is to be applied, she argues, then a separate system that could return revenues to poorer households would be preferable. There is also concern that industrial actors are pushing for this ETS inclusion because they think it will relieve them of their existing obligations under the EU’s effort-sharing regulation, which covers non-ETS sectors. Some hope for an easier ride within a dedicated ETS than they have had out of it – particularly if existing excise duties and other taxes on transport fuels are scrapped as compensation.
Studio Gear Up, a Netherlands-based consultancy, has done research into vehicle affordability. New electric cars are still more expensive than ICE vehicles, and there are very few e-cars yet available on the second-hand market. For example, it found that in France new electric cars such as the Renault Zoe and the Tesla Model 3 are not within the affordability range for anyone except the top 20% of earners. In Hungary, according to the research a new Renault Zoe is 378% more expensive than what the highest income group is willing to spend on a car – €6,540. Research is continuing into other countries in Europe, but the picture that is emerging suggests lower-income consumers will still be driving ICE vehicles for some time.
“If the ETS wants to raise the price for ICE and fossil fuels, it is going to be vital there should also be support to provide green options for the ICE driver,” said Loes Knotter, a partner at the studio Gear Up. “It is vital that you have the money to invest in low-carbon liquid fuels. Otherwise, the ETS plus carbon taxes and CO2 standards are all piling up, making things for the combustion engine driver a lot more expensive.”
The Commission is trying to address both the socio-economic and technology investment concerns by setting up a fund to invest the proceeds of the new ETS. Last month, Timmermans announced the creation of a “climate action social fund”, which will allow member states to compensate economically vulnerable citizens, he told the European Economic and Social Committee.
However, the details of how this will work are still unclear. Would this be direct support schemes for people struggling to pay their fuel bills, or would it be investment in low-carbon ICE technologies to make it easier for them to use fuels not subject to the ETS costs? “The ETS [revenues] will be taken at European level but channelled to the countries,” said Mathuren from FuelsEurope. This could lead to different governments using the funds in different ways, representing “another fragmentation of the single market”, he says.
Germany shows the way
Perhaps the biggest unknown about the new system is what carbon price it will impose. The nascent German example, the only such national system in the EU, provides few clues because it dictates the carbon price for the first five years. Adopted in 2019, the system only started this year and will set a gradually rising price until allowances are auctioned from 2026. The first-year price has been fixed at €25 per tonne (/t) of CO2, rising to €55/t by 2026, when auctions start. Initially, allowances will be auctioned within a price corridor of €55/t and €65/t, before price restrictions are lifted from 2027.
By comparison, the current price of an EUA – the allowance in the EU ETS – is hovering around €50/t. A draft analysis by the Commission expects the EUA price to rise to as much as €85/t by 2030 as a result of the overall reforms to the ETS proposed as part of its 'Fit for 55' package.
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“The German system currently doesn’t really function like an ETS,” says Andreas Graf, a project manager with the Berlin-based think tank Agora Energiewende. “It has the basis for a future ETS in that the regulated entities are defined, but it currently functions more like an excise duty system.” That means the German law faces some legal uncertainty; Germany’s constitutional court may yet rule it is a tax.
For that reason, the EU system is expected to avoid fixed prices. Were it to be considered a tax, that would require unanimous approval from all 27 EU governments rather than a majority vote – with Poland guaranteed to veto.
“There is no reference to a fixed price at all in the draft proposal," says Graf. "Rather, they even talk about front-loading the auctioning of emissions allowances, which probably provides for more liquidity in the first years,” says Graf. The EU system is much more likely to end up with a market stability reserve mechanism, by which the regulator could auction additional allowances to dampen high prices, or withhold allowances if prices fell too far. Such a mechanism is included in the EU ETS, which has not been deemed to be a tax, but that means there will be uncertainty about where the price will end up.
Coverage in question
It is also not known whether the EU system will cover exactly the same fuels as its German equivalent. The latter covers emissions from transport and heating fuels such as petrol, diesel, heating oil, natural gas and coal. It also includes heating emissions in the buildings sector and remaining energy and industry facilities not covered by the EU ETS. It does not cover aviation fuel or non-fuel emissions such as methane. The German government says 4,000 companies are obliged to purchase permits under this system; these are not the emitters themselves but rather the fuel suppliers or companies that put fuel into circulation.
In theory, part of the revenues from the German system (with €40bn expected to be raised from now until 2024) are supposed to be used to lower the renewables surcharge for power consumers and provide other relief measures for citizens and industry, although the specifics have not yet been released.
Given that Germany jumped the gun by launching its own system before the EU’s, it is also unclear how it will interact with that of the EU. It will inevitably have informed the Commission’s thinking and, although the leaked draft of the proposal coming from the Commission is not an exact carbon copy, it seems similar enough that the German system could be easily incorporated. However, the Commission’s proposal could be changed significantly by the European Parliament and national governments during the legislative process over the coming months.
Germany, and German MEPs, will work very hard to prevent Brussels ending up with a very different system from Berlin’s. Since 2019, the German government has been working with other like-minded countries such as France to push for CO2 pricing for sectors not yet in the ETS, and to introduce a floor price. In 2019, German Chancellor Angela Merkel said Berlin needed to move ahead with its own system, and if an EU system could not be agreed, Germany would work on creating a “coalition of the willing” of EU countries to set up a shared system.
Meet the resistance
The German government may, however, be underestimating the strength of feeling about this in the European Parliament, and the major concerns about a Yellow Vest-style backlash. “This is, I imagine, going to be one of the biggest political debates in the whole package,” says Kirton-Darling at IndustriAll Europe.
The resistance is making for strange bedfellows. At a recent event in Brussels, Canfin found himself in the unusual position of agreeing with Polish Climate and Environment State Secretary Adam Guibourgé-Czetwertynski. “The Commission seems to be making the choice of taxing poorer households,” said Guibourgé-Czetwertynski. “I think politically this is a mistake and we should rather look for other options to achieve our targets.”
Canfin has not been reassured by Timmermans’s fund to reinvest the ETS profits back into those poorer households paying more for fuel. “If your budget as a household is €50 at the end of the month, you can’t wait one year to be reimbursed by a bureaucratic thing that starts at the European level, and then trickles down to the capitals. These households don’t have time,” he said. He suggested that the Commission’s proposal should delay the introduction of carbon pricing on transport and buildings by two years, giving policymakers more time to find better solutions.
However, others point out that in the meantime, these sectors would remain without a price for polluting. Given that EU emissions from transport and buildings remain the two hardest sectors to tackle, climate campaigners may come around to supporting the proposal once it is out if it is viewed as the only available option on the table.
