European emissions trading system, success or failure?

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European emissions trading system, success or failure?

The price of CO2 is on everyone’s lips and adds to the concerns of consumers who have been increasing their costs for the purchase of energy since a couple of years ago’ summer. Starting with the drought that we suffered in the country since the beginning of 2016, passing through the nuclear crisis in France that same winter, added to the continuous rise in the prices of coal pressed by China and a steadily escalating oil. We must also add the sharp rise in the prices of emission rights, which were already pointing to rise in the middle of the year, tripling their historical average price, a reference that has reached a five-fold increase when returning from holidays.

One session was enough for the prices of emission rights to rise by almost 4€/MWh on 10 September, accumulating a rise of 17.72€/MWh since the beginning of the year and reaching the maximum value of the last 10 years, becoming a nightmare for the EU. The ETS system was set up to decarbonize the energy markets on the continent, displacing the energy industry from the use of coal to cleaner fuels, such as natural gas or renewable energies, but for the time being, coal has not been abolished and on top of that it is putting even more pressure on the energy markets.

Figure 1: Evolution of emission rights prices, Source: M-Tech

How can it be that a supposedly controlled market has suffered so much volatility?

The rapid rise in prices to 10-year highs, followed by heavy losses in subsequent sessions with high price volatility, clearly indicate the presence of speculative money in the market. As commodities move, the CO2 market has attracted speculators interested in obtaining quick returns and they are causing intraday volatilities of more than 5€/MWh. Particularly when the indicators underlying demand continue to give bullish signals to the energy futures markets.

Another point that supports the speculative movement, has been the immediate downward correction of prices that placed them at levels of August prices after information of an intervention in prices by the European Union, because as indicated in the Emissions Trading Scheme (more info in the link to the blog), a committee appointed for such a function could intervene in prices if they tripled the average price of the last two years for six months.

This rise directly affects the competitiveness of industry not only in Spain but in Europe, since the countries did not have enough time to move the European directive yet. Above all, those who were most ambitious when it came to setting targets, such as Denmark, Ireland and Sweden, and not being the most polluting.

And of course, the UK, Germany and France are at the top of the most polluting countries on the continent.

Figure 2: 2020 targets per country for emission reductions, Source: European Parliamentary Research Service

Even so, there is one fundamental that is not so much talked about and that is in anticipation of the launch of the Market Stability Reserve (MSR). A mechanism that will serve the European Union to adjust the supply of allowances as Europe moves away from coal-fired power plants. So, the market is discounting a reduction in the supply of allowances ahead of time.

Therefore, the current situation is as follows; electricity markets at peak prices due to weather factors and because coal is rising more slowly than natural gas, this has reopened the coal ban, so that, as long as coal continues to participate in the generation mix, demand for allowances will continue to be strong and thus maintain their high prices. Depending on the country, the switch from coal to gas will be profitable when emission allowances reach €30-35.

The EU introduced the emissions system with the objective of not losing competitiveness in international markets, thus choosing a mechanism that is self-adjusted according to compliance with emission reduction targets. However, it seems that the system has become the perfect business for traders with the power to alter the balance of the market. At this point, it leads us to wonder whether a fixed rate on emissions would have been better than a market subject to ups and downs that mainly affect the stability of the EU economy.

Sonia Díaz | Energy Consultant

By | 2018-09-25T12:38:20+00:00 September 25th, 2018|Categories: Energy Markets, Featured, M·Blog|Tags: , , |Comments Off on European emissions trading system, success or failure?