Download Enabling an Efficient Carbon Market

An Introduction to
Carbon Markets
Financial Markets Group
London School of Economics
15 May 2008
Sam Fankhauser
IDEAcarbon
1
Overview
• Why markets?
• The efficiency of markets
• Permits vs. taxes
• Carbon markets
• EU Emissions Trading System
• The Kyoto mechanisms
• Voluntary markets
• The future of carbon markets
• Creating a market
• Policy environment: the global deal
2
The need for emission cuts
From the Stern Review
3
Sharing the abatement burden
Emissions (Tonnes of Carbon Per Capita)
6.00
United States
5.00
Can-Aus-NZ
4.00
Russia
Japan
Developing country (non-Annex I) countries
W. Europe
3.00
EITs
2.00
South
Africa
Middle East
Latin
America
1.00
China
Other Asia
India
Other
Africa
0
1000
2000
3000
4000
5000
6000
Population (Million)
4
The benefits of emissions trading
•
•
•
Effectiveness
•
Track record in
reducing
emissions
Efficiency
•
emission reduction
at lower costs
Integration
•
Finance and
technology flow to
emerging markets
Cost of meeting Kyoto targets for the USA, 2010
US$ billion
90
80
70
60
50
40
30
20
10
0
No trading
Annex 1 trading
Full trading
Source: Manne and Richels (1998)
5
Taxes vs permits
• Economic efficiency argument
• Taxes: certain cost, uncertain quantity
• Permits: uncertain cost, certain quantity
• Optimal choice depends on the slope
of marginal abatement, damage cost
curves (Weitzman)
6
Taxes vs permits
MAC
MB
target
Steep MB curve
Marg. Abatement Cost
Marg. Abatement Cost
Flat MB curve
MB
MAC
target
7
Taxes vs permits
MAC
MB
target
Choose permits
Marg. Abatement Cost
Marg. Abatement Cost
Choose tax
MB
MAC
target
8
Taxes vs permits
• Political economy arguments are more
conclusive
• International carbon tax agreement
difficult to achieve
• Domestically, industry prefers
(grandfathered) permits
9
Grandfathering – a source of profit
Meuro (2006)
CEZ: Revenues
EBITDA
Value of EUAs
Net sales
5,625
2,268
738
245
Drax: Revenues
EBITDA
Value of EUAs
Compliance purchases
946
583
326
40
RWE: Revenues
EBITDA
Value of EUAs
Compliance purchases
44,256
7,861
2,436
141
10
Overview
• Why markets?
• The efficiency of markets
• Permits vs. taxes
• Carbon markets
• EU Emissions Trading System
• The Kyoto mechanisms
• Voluntary markets
• The future of carbon markets
• Creating a market
• Policy environment: the global deal
11
More than one carbon market
• Allowance market (cap-and-trade)
• EUA
• AAU
EU Emissions Trading System
• CER
• ERU
Clean Development Mechanism
• CFI
• VER
Chicago Climate Exchange
Kyoto International Emissions Trading
• Kyoto mechanisms (baseline-and-trade)
Joint Implementation
• Voluntary market
Voluntary carbon offsets
12
…dominated by the EU ETS
Source: World Bank
13
Heterogeneous prices
Source: Reuters Interactive
14
The Kyoto Mechanisms
• Clean Development Mechanism
• Annex I firm/country financing emission reductions
in a non-Annex I country
• Joint Implementation
• Same as CDM but between entities in Annex I
countries
• International emissions trading
• Trade of AAUs between Annex I parties
• Green Investment Schemes
15
A closer look at the CDM
Technologies
Sellers
Source: World Bank
16
A growing pipeline
2,400
1,600
1,200
800
400
HFC & N2O reductio n
CH4 reductio n & Cement & Co al mine/bed
Fuel switch
Jun-07
Mar-07
Dec-06
Sep-06
Jun-06
Mar-06
Dec-05
Sep-05
Jun-05
Mar-05
Dec-04
Sep-04
Jun-04
Mar-04
0
Dec-03
Million CERs
2,000
Renewables
Energy Efficiency
Source: IDEAcarbon / ECON Global Carbon Report
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Accounting for project risks
PIN rating per risk category
Kyoto and Em ission
reduction fram ew ork risks
Project risk (Technology,
Size, Com plexity)
Project definition and
execution
Project context and
environm ent risks
Project developer risk
18
Kyoto supply
Number
of
Projects
PDD
volume pre2012 (mt)
Predicted
delivery
(mt)
CDM - issuing
213
506
363
CDM –registered
525
490
362
CDM - under
validation
1,548
1,039
715
CDM - before
validation
3,600
841
505
JI - all stages
350
174
107
Total pre-2012
6,236
3,050
2,052
19
CER Supply
2,500,000,000
2,000,000,000
1,500,000,000
1,000,000,000
Scenario 1
Scenario 2
Scenario 3
500,000,000
0
20
Compliance Demand
Category
Purchaser
Non-EU ETS
EU Governments
Amount per year
Total 2008-2012
108-120
540-600
Canada
14
70
Switzerland
2
10
Norway
7
35
New Zealand
7
35
Australia
0-18
0-90
Japan (public)
40-60
200-300
Japan (private)
30-40
150-200
Sub-total
208 - 266
1040 - 1470
EU ETS*
15 – 90*
45 – 450*
Total
223 - 356
1,085 - 1,920
21
Clearing the market
Inventory is larger than potential demand
• Serve public sector demand first
• Less price elastic
• Price differentiation allows to charge more
• Serve private sector demand
• Price elastic, demand determined by in-house
•
abatement options
Downward pressure on prices
• Bank supplies into post-2012 period
• Regulatory uncertainty means sale at a discount
22
The 2008-12 market
23
Question mark: AAUs
400
US
19.3%
300
Reductions required
200
Reductions
required
100
(MtC)
EU
6.4%
Japan
8.5%
Canada
23.5% Australia
15.4%
OOECD
12.7%
0
-100
EU-A
-46.4%
OEIT
-78.9%
-200
Increases allowed
Ukraine
-83.6%
Russia
-43.6%
-300
Source: World Bank
24
EU Emissions Trading Scheme
• 11,000 installations in 27 EU countries
• Energy, refining, minerals, metals, pulp&paper
• Annual compliance requirement
• Targets set in National Allocation Plans
• Mostly grandfathering, some auctioning
• Possibility to import Kyoto carbon
• At least three trading phases
• Phase I 2005-07
• Phase II 2008-12
• Phase III 2013-20
25
Price volatility
… a sign of insufficient market information
Source: IDEAcarbon / ECON Global Carbon Report
26
Collapse of phase I price
50
Surplus of allow ances in 2005
Surplus of allow ances in 2006
40
mtCO2
30
20
10
0
-10
-20
Mineral industry Metal industry
Others
Pow er & Heat
Pulp & paper
Refineries
Source: IDEAcarbon / ECON Global Carbon Report
27
Price drivers in the EU ETS
• National Allocation Plan
•
Both phase II and phase III through banking
• Ratio of coal to gas price
• Determines fuel switching
• Marginal abatement cost elsewhere
• Weather
• Cooling / heating demand
• Hydro availability
• Output / GDP
• Process emissions in industry
• Electricity demand
28
Prospects for Phase II
100
Cap = 2,105 mtCO2
90
Quota price (€ per tCO2)
Cap w ith
80
credit
70
imports
60
50
40
30
20
Base case
Higher grow th (+1%)
5% decline in industry
10
0
1,700
1,950
2,200
Emissions (mtCO2/year)
29
Chicago Climate Exchange
• Self-described as “world’s first and North
America’s only voluntary, legally binding, rulesbased GHG reduction and trading system”
• Established in 2000 with currently 312 (voluntary)
members
• power, automotive, chemical industry; banks, universities,
municipalities; project developers, offset aggregators, NGOs
• Six gases, both allowance-based and offset
credits
• In 2006 about 10.3 MtCO2e were transacted,
worth US$91m; as of July 2007 26.3 MtCO2e had
been traded on the exchange
30
Overview
• Why markets?
• The efficiency of markets
• Permits vs. taxes
• Carbon markets
• EU Emissions Trading System
• The Kyoto mechanisms
• Voluntary markets
• The future of carbon markets
• Creating a market
• Policy environment: the global deal
31
Growing European market
Source: IDEAcarbon, ECX
32
North America
• US state-level
• Regional Greenhouse Gas Initiative (RGGI)
• Western US Initiative
• California AB 32
• US federal level
• Lieberman-Warner Climate Security Act
• Before the Senate in H1 2008
• Other bills in both House and Senate
• Canada
• Intensity targets for large emitters
33
Asia - Pacific
• New Zealand (NZ ETS)
• Starts trading in summer 2008 with forestry
• Covering all emissions by 2013 (industrial
processes by 2010)
• Australia (AETS)
• Starts trading in 2011
• Covering >70% of emissions (ex. Agriculture,
forestry, fugitive emissions)
• Japan
• Focus on voluntary schemes (JVETS)
34
Open issues
• Permit allocation
• Auctioning, grandfathering, benchmarking
• Scope
• Difficult sectors like agriculture, transport
• Upstream vs. downstream
• Safety valves against price spikes
• Carbon leakage and competitiveness
• Linking with other schemes
• CDM imports
• Linking with other schemes (e.g. NZ – Aus)
35
Long-term: Markets in 2020
• Carbon markets in practically all OECD
countries
• Regional schemes linked by an extended,
enhanced CDM
• Underlying assets: 7.5 billion allowances,
worth 200 billion?
• Of which > 4 billion in a US federal scheme?
• Trading volume: 8 – 13 billion tCO2
• What is the global deal?
36
The “global deal”
• Long-term target: a 50% cut by 2050
• For a 450 - 500 ppm stabilisation target
• Consistent with G8, EU rhetoric
• Equitable burden-sharing
• Up to 80% cut in developed countries
• Developing countries get help on technology,
carbon finance
• The next 6 months are crucial
• Target: agreement by 2009, ratified in 2012
• Next step: G8 Japan (summer); COP (Poznan)
37
Contact Details
[email protected]
Tel +44 20 7664 0205
www.ideacarbon.com
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