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This tex needs to be changesThe European Union Emissions Trading Scheme (EU ETS) is a trans-national cap and trade system aimed at reducing the EU’s impact on global warming. It has been in place since 2005, and is in its second phase, the first ending in 2007.

Sites buy allowances at auction, with the ultimate aim to reduce overall carbon emissions by reducing the total number of allowances.

Who’s affected?

Phase II targets the 10,000 largest energy and industrial sector installations, contributing to just over 50% of the EU CO₂ emissions and 40% of all greenhouse gases. The installations themselves are picked solely by their CO₂ output, and cover such heavy industries as:

• Electricity generation
• Iron & steel
• Mineral processing industries (e.g. cement manufacture)
• Pulp & paper processing industries

Talks are currently underway to expand the net during the next phase, catching the aviation industry, maritime transport and forestry.

How does it Work?

For most cap & trade systems, how to distribute allowances is not a major concern, however most cap & trade systems only affect one country, so within the EU this allocation is particularly tricky. The reason this scheme is problematic for the EU is that it cannot put one country at an advantage over another – it has to be fair and proportional for all members. Each member state compiles an emissions report – the National Allocation Plan, and hands it to the European Commission to oversee fair distribution for each nation’s allowances. In Phase I this process was widely viewed as a failure; news arose that some countries had given too many allowances, protecting their home industries.

In theory, you cap allowances equivalent to less than your estimated annual CO₂ emissions. These allowances have a monetary value; if you emit less than your allowances permit, you have a surplus, which you are then able to sell to another member of the scheme in the opposite position – emitting more than their allowances permit. In the EU ETS an allowance is equal to 1 tonne of CO₂.

These allowances circulate on a free market, constantly traded through;

• Direct, inter-operator trade
• Brokers
• European Climate Exchange (akin to a stock market)

By having fewer allowances than emissions, the result, hopefully, is that at some point emissions reductions are going to be made. In order for there to be trade, some people must be able to sell, and others have the desire to buy. The only way to sell an allowance is if the operator’s emissions have dropped below what he/she has been allocated – a reduction in CO₂.

In phase I these allowances were given out free, and emissions in the EU rose during the period 2005-2008 (2,012 – 2,050million tonnes CO₂*). This was a devastating blow to the scheme, and so, in the re-structuring for phase II, allowances are auctioned. During the previous UK auction (4th June 2009) 4.2million were distributed at a clearing price of €13.83 (£11.99) each.

* Source: European Commission Press Release 23 May 2008