If the European Commission wants to stimulate “green growth”, as its official policy states, then the Emission Trading System (ETS) is the wrong instrument.
That’s one of the major conclusions of a new study from the prestigious Italian free-market think tank Istituto Bruno Leoni (IBL). The authors, Stefano Clò and Emanuele Vendramin, argue that a carbon tax would be much more suitable to the goals of the EU’s green growth agenda than an emission trading scheme. The ETS is the EU’s flagship climate policy instrument, but it is widely criticized for being ineffective.
At first sight it might seem to be paradoxical: the premier Italian free-market think tank Istituto Bruno Leoni (IBL) has just released a report that comes out against emission trading and in favour of a carbon tax. Emission trading, or ‘cap-and-trade’ is, after all, a market-based instrument, one that was especially designed to achieve emission reductions with minimal interference in the free market process. It was successfully used to reduce NOx and SO2 emissions in the US in the 1990s, and was adopted by the EU starting in 2005 to reduce CO2 emissions under the 1997 Kyoto Protocol.
The EU’s Emission Trading Scheme (ETS), which is about to enter its third phase in 2013, is by far the world’s largest greenhouse gas emission trading scheme, representing more than 80% of the global carbon market. Despite the fact that the Kyoto protocol encouraged the instrument of emission trading, no other major country or region followed the EU’s example in setting up a cap-and-trade system, although some local schemes are in operation, such as in New Zealand and in some States in the US.
In Europe, the ETS has consistently come under heavy criticism ever since it got started. Many studies have concluded that the ETS has so far failed to provide incentives to market players to invest in reduction emission technologies. It is also generally accepted that many participants managed to pocket ‘windfall’ profits under the scheme. The main problem with the ETS at this moment is the low price of carbon allowances. The CO2 price in the ETS collapsed to zero at the end of the first trading period (2005-2007) as a result of overallocation. In the current second phase (2008-2012), carbon prices initially rose, only to collapse again when the recession broke out. Prospects for the upcoming third period (2013-2020) are uncertain, but if the system is not changed, prices are not likely to rise to a level that will be sufficient to stimulate new investments in low-carbon technologies.