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December 2008 PF 08-13 Profiles Economic instruments and clean coal technologies ‘More financial incentives are needed for CCS’ ‘There is uncertainty as to how CCS projects can be funded’ ‘The EU ETS remains the only international cap and trade system for CO2’ Clean coal technologies increasingly play a key role in government policies to mitigate greenhouse gas emissions. This report examines several major international developments in climate change policy since the publication of The impact of emissions trading on the coal industry by the IEA Clean Coal Centre in 2004. The first phase of the European Union Emission Trading System (EU ETS) was completed between 2005 and 2007 with an evaluation and recommendation for improvements published by the EU in January 2008. There have been a range of studies and reports published covering climate change and the role of economic instruments including the Stern Review (2006) and the Intergovernmental Panel on Climate Change (IPCC) Fourth Assessment report published in 2007. In addition, carbon capture and storage (CCS) has been identified as a potential key technology in mitigating carbon dioxide emissions. However, there has been considerable uncertainty around how CCS projects can be financed. The recent EU review of proposed changes to the EU ETS and CCS directive provides a good opportunity to assess the impact and effectiveness of emissions trading and other economic instruments on the coal industry. The EU ETS remains the only mandatory cap and trade system for CO2 emissions which operates across national borders. There are proposals to establish emission trading systems in other countries including the USA, Australia and New Zealand. The EU ETS is often quoted and used as an example of how an economic instrument such as emissions trading can be used to mitigate GHG emissions. With many countries also opting to use this mechanism it is useful to explore how successful it has been with regard to clean coal technologies. In the Phase I trial trading period of the EU ETS between 2005 and 2007 it was partially successful in creating an incentive to reduce CO2 emissions through the establishment of a carbon price and institutional frameworks to allow Carbon market volumes and values in 2006-07 Volume, MtCO2-e 2006 value, million US$ Volume, MtCO2-e 2007 value, million US$ Allowances AS EU ETS 1104 24,436 2061 50,097 New South Wales 20 225 25 224 Chicago Climate Exchange 10 38 23 72 UK ETS NA NA 1134 24,699 2109 50,394 537 5,804 551 7426 Secondary CDM 25 445 240 5451 Joint Implementation 16 141 41 499 Other compliance and voluntary transactions 33 146 42 265 611 6536 874 13,641 1745 31,235 2983 64,035 Subtotal Project based transactions Primary CDM Subtotal Total trading of substantial volumes of European Union allowances (EUAs), which are the units traded within the EU ETS. This occurred even when the price for the EUA dropped dramatically in 2006. This is a reflection of how the EU ETS carbon market is not a typical commodity market and is policy-driven with several variables influencing it, including science, media, and public opinion. Demand for EUAs is also based on policy decisions and on how the allowances are allocated to market players as well as the use of the Clean Development Mechanism (CDM), Joint Implementation (JI) or the banking of allowances for future trading periods. In terms of transaction and monetary value the EU ETS dominates the global carbon market, compared to the voluntary market. According to the World Bank, over two billion EUAs were traded in 2007 at a market value of US$50 billion. Point Carbon reported that in 2006 the volume of carbon traded increased from 1.6 Gt to 2.7 Gt in 2007. The table gives details of the carbon credits traded internationally in volume and value. The European Commission has indicated a desire to have 10-12 CCS demonstration projects implemented by 2015. This is an admirable and essential goal, to reduce GHG emissions as well as to accelerate the deployment of CCTs. However, the European Commission has been unclear about the financing of these projects. There is uncertainty around the share of investment the European Commission will provide. Other countries such as the USA are also exploring economic instruments providing revenue to build demonstration CCS projects. The report evaluates the first phase of the EU ETS and the proposed changes for the next two phases, as well as what is happening in other countries. The economic instruments examined are a carbon tax, fiscal incentives, emission trading and the use of voluntary agreements. The main conclusion is that no one economic instrument will be enough to provide incentives for CCS projects in their current form. Some of the key conclusions from the report are: ● Progress has been made in developing financial incentives for CCS although there is still a financial gap to bridge. Even with an EUA price of around A28 this would ● ● ● ● still be A12-15 short of making CCS a more attractive investment and that is at the low end of the scale with some analysts predicting that an EUA price of A60 would be needed. Developing countries where coal is expanding rapidly such as China and India will need some form of carbon price to encourage the development of CCS. The CDM currently does not recognise CCS but the current Bali Action Plan UNFCCC negotiations may find a solution. Fiscal incentives such as feed-in tariffs, enhanced capital allowances and capital grants which have been used by policy makers to increase the uptake of renewable power such as wind could also play a role in increasing the use of CCS. A carbon tax is unlikely to play a major role internationally due to the difficulty of agreement on a suitable level and how to distribute the revenue. Voluntary Agreements can play a role in developing countries where there are no mandatory emission reduction policies. However, the majority of developed countries, such as those in Europe have a mandatory emissions trading system with many other countries developing this option, so Voluntary Agreements will likely only play a role in sectors not covered by emissions trading. More financial incentives are needed if CCS is to be deployed within the next 10–15 years at a major scale. Each issue of Profiles is based on a detailed study undertaken by IEA Clean Coal Centre, the full report of which is available separately. This particular issue of Profiles is based on the report: Economic instruments and clean coal technologies John Kessels CCC/142, ISBN 978-92-9029-461-0, 48 pp, November 2008, £255*/£85†/£42.50‡ * † ‡ non-member countries member countries educational establishments within member countries IEA Clean Coal Centre is a collaborative project of member countries of the International Energy Agency (IEA) to provide information about and analysis of coal technology, supply and use. IEA Clean Coal Centre has contracting parties and sponsors from: Australia, Austria, Brazil, Canada, China, Denmark, the European Commission, Germany India, Italy, Japan, Republic of South Korea, the Netherlands, New Zealand, Poland, Russia, South Africa, Sweden, Spain, Thailand, the UK and the USA. Gemini House 10-18 Putney Hill London SW15 6AA United Kingdom Tel: +44 (0)20 8780 2111 Fax: +44 (0)20 8780 1746 e-mail: [email protected] > Internet: www.iea-coal.org.uk