Flexibility in the market for international carbon credits and price dynamics difference with European allowances

The Paris Agreement establishes a mechanism to allow a Party to benefit from greenhouse gases emissions reductions conducted in a host Party to fulfil its nationally determined contribution. In this context, the objective of this paper is to improve the understanding of carbon offsets price dynamics, in comparison with regular carbon markets allowances. We combine a cointegration approach with risk premium considerations to compare the price dynamics of European Union Allowances (EUA) and Certified Emission Reductions (CER) in the second phase of the European carbon market. By taking account of breaks identified in the series, we find that, while the EUA and CER returns present comparable dynamics, the long-term relationships between the price of these two types of permits and their drivers differ significantly. Given the impact of energy prices (positive for coal and negative for gas) on the CER price, we suggest the existence of a supply-side effect for credits. We find that the price elasticity of allowances with regard to the coal and gas prices is negative in time periods of low economic activity and positive in the rest of the time. We explain the latter by the fact that the market is not tight and the former by the effect of the economic activity on the price of commodities and energy

Limited Sectoral Trading between the EU ETS and China

In the negotiations of the United Nations Framework Convention on Climate Change (UNFCCC), new market mechanisms are proposed to involve Non-Annex I countries in the carbon markets developed by Annex I countries, beyond their current involvement through the Clean Development Mechanism (CDM). Sectoral trading is one such mechanism. It would consist of coupling one economic sector of a Non-Annex I country, e.g., the Chinese electricity sector, with the carbon market of some Annex I countries, e.g., the European Union Emission Trading Scheme (EU ETS). Previous research analyzed the potential impacts of such a mechanism and concluded that a limit would likely be set on the amount of carbon permits that could be imported from the non-Annex I country to the Annex I carbon market, should such a mechanism come into effect. This paper analyzes the impact of limited trading in carbon permits between the EU ETS and Chinese electricity sector when the latter is constrained by a 10% emissions reduction target below business as usual by 2030. The limit on the amount of Chinese carbon permits that could be sold into the European carbon market is modeled through the introduction of a trade certificate system. The analysis employs the MIT Emissions Prediction and Policy Analysis (EPPA) model and takes into account the banking–borrowing of allowances and the inclusion of aviation emissions in the EU ETS. We find that if the amount of permits that can be imported from China to Europe is 10% of the total amount of European allowances, the European carbon price decreases by 34%, while it decreases by 74 % when sectoral trading is not limited. As a consequence, limited sectoral trading does not reverse the changes initiated in the European electricity sector as much as unlimited sectoral trading would. We also observe that international leakage and leakage to non-electricity sectors in China are lower under limited sectoral trading, thus achieving more emissions reductions at the aggregate level. Finally, we find that, if China can capture the rents due to the limit on sectoral trading, it is possible to find a limit that makes both regions better off relative to when there is no international trade in carbon permits.The authors wish to thank Henry D. Jacoby for helpful comments and suggestions. The Joint Program on the Science and Policy of Global Change is funded by the U.S. Department of Energy, Office of Science under grants DE-FG02-94ER61937, DE-FG02-93ER61677, DEFG02-08ER64597, and DE-FG02-06ER64320; the U.S. Environmental Protection Agency under grants XA-83344601-0, XA-83240101, XA-83042801-0, PI-83412601-0, RD-83096001, and RD-83427901-0; the U.S. National Science Foundation under grants SES-0825915, EFRI

Short-term impacts of carbon offsetting on emissions trading schemes: Empirical insights from the EU experience

The Paris Agreement established a new mechanism by which a country can offset some of its emissions reductions in other countries. Its design is still under negotiation. While taking advantage of cheaper abatement opportunities enables efficiency gains, the impact on the price volatility in the emission trading schemes is unclear. We conduct an empirical analysis of the short-term impacts of these credits on the standard carbon markets, using the European Union experience with accepting credits for compliance in the second phase of its scheme. With vector-autoregressive models allowing regime changes at a priori unknown dates, we analyze the structural relationship between the prices of allowances and credits. Although one might expect that the allowance and credit markets influence one another, we find that, before November 2011, knowing the credit price variations helps to better predict the allowance price variations while, after November 2011, it is the opposite. We explain this by expectations and restrictions regarding credits. For the transmission of shocks and the impact on volatility, the influence is mainly from allowances to credits. The allowance price volatility explains between 56% and 72% of the credit volatility whereas the latter explains less than 2% of the former

Lessons from the EU effort sharing decision for supranational climate cooperation: A firm-level analysis

As an example of supranational climate policy coordination for sectors not covered by carbon trading, the European Effort Sharing Decision set national targets for emission reductions for the time period 2013-2020. Member States were free to decide the national policies to implement to achieve these objectives. This is the first quantification of the impact this regulation had on the emissions of the corresponding firms. We exploit the differences along three variables: a national-level treatment intensity, an exposure index defined at the firm level and a time dimension (before or after the introduction of the policy). We find that, even in countries with no stringent target, emissions from exposed firms tended to decrease more than emissions from non-exposed firms. In addition, each percentage point increase in the stringency of the treatment leads to a 6.1% reduction in emissions for an average exposed firm. This provides interesting insights for other supranational climate agreement

What to Expect from Sectoral Trading: A U.S.–China Example

Abstract and PDF report are also available on the MIT Joint Program on the Science and Policy of Global Change website (http://globalchange.mit.edu/)In recent United Nations Framework Convention on Climate Change (UNFCCC) negotiations, sectoral mechanisms were proposed as a way to encourage early action and spur investment in low carbon technologies in developing countries, particularly in the electricity sector. Sectoral trading, which is one such proposition, involves including a sector from one or more nations in an international cap-and-trade system. In order to assess potential impacts from such a mechanism, we analyze trade in carbon permits between the Chinese electricity sector and a U.S. economy-wide cap-and-trade program using the MIT Emissions Prediction and Policy Analysis (EPPA) model. We find that this sectoral policy induces significant financial transfers between the two countries. In 2030, the U.S. purchases permits valued at $42 billion from China, which represents more than 46% of its capped emissions. Despite these transfers, there is only a small change in Chinese welfare. In the U.S., the availability of relatively cheap emissions permits significantly reduces the cost of climate policy. In China, sectoral trading increases the price of electricity and reduces the amount of electricity generated, particularly from coal, while opposite effects are observed in the U.S. Despite increases in the price of electricity in China, only small increases in electricity generation from nuclear and renewables are projected in the timeframe of our analysis (2010- 2030). Because the price of coal decree ses, we also find that sectoral trading leads to emissions increases in non-electricity sectors in China, a form of internal carbon leakage.This study received support from the MIT Joint Program on the Science and Policy of Global Change, which is funded by a consortium of government, industry and foundation sponsors

Local economic impacts of wind power deployment in Denmark

An argument sometimes used to support renewable energy is that it may contribute to job creation. On the other hand, these technologies often face local opposition. On the case of Denmark, the country with the longest experience with wind power, we examine whether the installation of new turbines had local economic benefits. We use a quasi-experimental set-up and exploit time and regional variations at the municipal level. We find that the deployment of wind power contributed to the increase in personal income for entrepreneurs and some retirees. As municipalities received payments from wind investors ahead of the construction, the new wind revenues were followed by increases in local public spending. Regarding employment, we find very minor effects in some sectors but the aggregate local employment does not change significantly

Using emissions trading schemes to reduce heterogeneous distortionary taxes : the case of recycling carbon auction revenues to support renewable energy

While emissions trading schemes are developed by nations to mitigate their greenhouse gas emissions, behavioural studies have shown that the political and public acceptability of these market-based instruments depends on the way the associated revenues are used. One option the general public approves of is to use them to support renewable energy. If this consists in reducing a pre-existing electricity levy that heterogeneously applies to the various sectors of the economy, the reduction of this distortionary tax thanks to the carbon revenues results in general equilibrium effects that may have unequal sectoral impacts. This is what we examine in the case of the European Union. With a modelling approach including a detailed disaggregation of European sectors, we find that using auction revenues from the Emissions Trading Scheme (ETS) to support electricity generation from renewable sources results in a 2% rise in electricity demand in the whole economy due to the reduced electricity levy that electricity consumers have to pay to support renewable energy. This results in a 1.8% ETS carbon price increase. The carbon constraint for the non-ETS sectors is 5.9% looser as a consequence of the larger electricity use by these sectors. While the energy intensive sectors generally benefit from electricity levy exemptions, we observe that, due to the energy and ETS price increase, the combination of these exemptions and of the use of carbon auction revenues to support renewable energy makes the ETS sectors worse off than if carbon revenues are transferred to households. In aggregate, the recycling option analysed here results in a GDP gain due to its impacts on the non-ETS sectors, the reduction of the electricity levy and associated distortionary effects

Carbon Price as Renewable Energy Support? Empirical analysis on wind power in Denmark

Empirical analysis on wind energy in Denmark is used to quantify the impact of the various support policies in place in the last decade and infer the carbon price that would lead to the same level of deployment under the hypothesis of revenue certainty equivalence. Probit analysis on monthly data is used to test the impact of electricity price and support policies on the observation of new turbine connections to the grid. The support level is the dominant factor while the impact of the past electricity price is limited. A feed-in tariff regime significantly brings in more wind energy than a fixed premium. No difference between the impacts of a variable and a fixed premium is found. The probability of new connections as a function of the support level and the policy type is used to give an indication of the carbon price level that would support similar renewable deployment

Analyse Economique des Mécanismes Possibles de Couplage du Marché Carbone Européen avec les Pays Emergents

In the international negotiations on climate change, new market mechanisms are considered to include emerging countries in the carbon market developed by more industrialized countries beyond the Clean Development Mechanism (CDM). The dissertation is composed of complementary analyses that aim at quantifying the impacts to expect from these sectoral mechanisms. Chapter 1 simulates sectoral trading between Chinese electricity sector and a hypothetical cap and trade in the United States, with the MIT Emissions Prediction and Policy Analysis model. This computable general equilibrium approach is extended to the case of coupling between the European carbon market and the electricity sector of several emerging countries. Without any limit on the amount of permits that can be traded, the welfare in the emerging countries involved decreases despite the financial transfers associated with the trade in permits. Chapter 2 introduces a limit on the amount of permits that can be traded, in the case of coupling between the European carbon market and Chinese electricity sector. The limit induces a price difference between the two regions. When the associated rent is allocated to Chinese households, sectoral trading can be pareto improving. Chapter 3 is a time series analysis of the coexistence between CDM credits and European carbon permits. It examines the impact of the financial nature of carbon permits on the interactions between carbon markets. Chapter 4 quantifies the conditions of deployment of wind power in Denmark and compares them with the carbon price level observed in the first two chapters, and in Phase II of the European trading scheme.Dans le contexte des accords internationaux sur le changement climatique, de nouveaux mécanismes de marché sont proposés pour inclure les pays émergents dans le marché carbone développé par les pays plus industrialisés au-delà du Mécanisme de Développement Propre (MDP). La thèse rassemble des analyses complémentaires visant à quantifier les impacts à attendre de ces nouveaux mécanismes sectoriels. Le premier chapitre est une modélisation, avec le modèle d'équilibre général calculable Emissions Prediction and Policy Analysis du MIT, du couplage entre un hypothétique marché carbone américain et le secteur électrique chinois d'une part, et entre le marché carbone européen et le secteur électrique de plusieurs pays émergents d'autre part. Le niveau de bien-être dans le(s) pays émergent(s) diminue malgré les transferts financiers liés à la vente de permis. Le chapitre 2 introduit, dans la simulation d'un accord entre le marché carbone européen et le secteur électrique chinois, une limite au volume de permis échangés entre les deux régions. Si la rente associée à la différence de prix induite entre les deux régions est attribuée aux foyers chinois, il est possible de trouver une situation pareto améliorante pour l'Europe et la Chine. Le chapitre 3 est une analyse en séries temporelles qui vise à étudier, sur l'expérience de la coexistence des permis européens et des crédits MDP, l'impact de la nature financière des permis carbone sur les interactions entre marchés carbone. Le chapitre 4 examine les conditions du déploiement de l'énergie éolienne au Danemark et les compare avec les niveaux de prix carbone observés dans les deux premiers chapitres