International analysis and commentary

The EU’s environmental policies: a partial success story

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In December 1997, in the ancient imperial capital of Kyoto, leaders from more than 180 countries gathered to discuss and agree on how to reduce the global warming caused by carbon dioxide emissions produced by human activities. At the time, it is likely that the European Union already had in mind the creation of the largest market in the world for the trading of greenhouse gas emissions, named in 2005 the European Union Emissions Trading System.

Over the years, the system has shown, not only to be capable of creating economic value on a par with any other stock exchange, but also to succeed in reducing the amount of greenhouse gases. The 28 member countries of the European Union – joined by Norway, Iceland and Lichtenstein two years later – encouraged by the results, dared to set two big and ambitious targets, namely a first reduction of 21% of emissions by 2020 and a second decrease of 43% by 2030. In a short time, the system, formally established by the Directive 2003/87/EC, from a simple response and commitment to the Kyoto Protocol was transformed into a pillar in economics and in the integration of the European Union.

The directive established that any production plant located in one of the 31 countries that falls into the category of large carbon dioxide emitter can be run only if its emissions do not exceed the set threshold. Otherwise, the facility must compensate annually for its emissions by purchasing emission allowances for each ton of carbon dioxide or any other gas that has a potential global warming effect, such as nitrous oxide (N2O) and perfluorocarbons (PFC). In other words, the system authorizes companies to pollute against a penalty that is brilliantly transformed into a financial product that is freely tradable on capital markets, such as the London-based European Climate Exchange (ECX) and Rome’s Gestore Mercati Elettrici (GME).

The underlying rationale is that polluting companies, to avoid incurring costs without creating any added value, invest in process innovation and green technologies to limit their emissions, or even convert their production facilities that currently use oil, coal and natural gas. Companies that improve their production processes, and in so doing reduce emissions, can trade emission allowances with one another as needed, thus making gains when prices are favorable.

The goals of the EU carbon emissions trading scheme. Source: https://www.youtube.com/watch?v=qxdxBfZKoa0

 

The distribution of emission allowances among the 31 countries takes into account the concentration of the most polluting industries. It takes place according to the level of industrialization of the country, precisely the emissions from power and heat generation, oil refineries, steel works and production of iron, aluminium, metals, cement, lime, glass, ceramics, pulp, paper, cardboard, acids and bulk organic chemicals. Considering the percentage of greenhouse gases emitted in the European skies in 2015, the latest data available, we have in first place Germany (20.3%), followed by Great Britain (11.3%), France (10.3%), Italy (9.7%), Poland (8.7%) and Spain (7.5%).

According to the European Environment Agency (EEA), the EU Emissions Trading System allows to limit the emissions by more than twelve thousand energy-intensive plants and by 1,400 airlines connecting the thirty-one countries and covers about 45% of greenhouse gas emissions.

The emission trading system is a market in every respect, such as that of capital or electricity, managed by financial intermediaries like banks. The European market is not only the first in the world by constitution, but also the first for economic value estimated at about 12.4 billion euros at the end of 2017, which is equivalent to three quarters of the global emissions market. According to some, the EU emissions market is even the energy market that makes most of all, that is, more than the shares of the major oil and mining companies.

In 2018, the price of emission allowances more than tripled from the initial seven euros per ton of carbon dioxide equivalent emitted into the atmosphere, to about 23.50 euros at the end of the year. This is amazing growth considering that almost all of the large oil companies have lost stock value, from 1% of French Total to 6% of British BP, from 12% to 25% of Chevron and ExxonMobil respectively, but the same fate has affected the revenues of the large Arab and South American oil companies controlled by national governments.

As analysts confirm, the trend in the price of emission allowances is almost exponential growth. If this winter continues to be cold as it is, then it is very likely that the production of electricity and heat will have to resort to fossil fuel plants, many of which are used only as a reserve, and therefore the price is certainly bound to rise. This is a bad sign for the containment of climate change, despite that renewable sources represent the most important part of newly-built power plants – precisely 70% on a global scale, according to data provided last December by the European Environment Agency, a growth never seen before.

If this situation persists, the management costs of the most polluting industries, which are also the largest and most powerful, are destined to increase, and so reducing the profits of large investors, including national governments, which may at some point explicitly ask to switch to renewable energy or to other clean and low-carbon technologies. Therefore, the positive aspect of this is that the renewable energy industry may benefit from an even greater push towards new, cheaper and more user-friendly developments.

In fact, many oil companies, particularly the European ones, are publicly declaring their economic commitment to achieving the objectives of reducing global warming, a commitment that has become more audacious in recent years. This is particularly true for the Anglo-Dutch Royal Dutch Shell, which with its “Climate Action 100+” program has confirmed that it is still committed to investing two billion dollars a year in alternative technologies. This is equal to 8% of its annual research and development budget, a declaration that leaves no doubt about the direction that large oil companies are about to take. These investments are aimed, not only at the development of renewable energy, but also at the decarbonization of traditional fossil fuels that mankind realistically needs at least until 2050.

However, the International Energy Agency (IEA), contrary to what one might think, reports that the largest investments in research for the development of low-carbon technologies are not in the energy sector, but in other industries such as the automotive industry, where intense competition forces the main producers to make vehicles closer to zero emissions.

The emissions trading system therefore has a significant and growing weight on the European economic and environmental system, and this could encourage ineluctable changes and accelerate pressing commitments. However, the initiatives of individual companies are not enough, even if they are large corporations: a European industrial policy plan is needed to support not only businesses, but also research centers and universities for an integrated and coordinated collaboration in order to achieve national and community strategic long-term objectives. What is at stake is even more than Europe’s competitiveness.

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