POWER PRODUCTION ACROSS EU MEMBER STATES
ON THE ALLOCATION OF EMISSION ALLOWANCES IN
THE EUROPEAN EMISSION TRADING SCHEME
Master’s Thesis of International Economics & Business
Faculty of Economics
Rijksuniversiteit Groningen
Author: Linda Lesterhuis
The European Emission Trading Scheme has been a topic of discussion since its cre-ation. This thesis introduces the age bias problem which may arise in the assignment of emission allowances to installations. The allocation of the emission allowances is done by the Member States by the construction of a National Allocation Plan based on a number of criteria set up by the European Commission. This thesis focuses on the allocation to the power production sector of four countries, Germany, The Netherlands, Portugal and The United Kingdom. The allocation plans are evaluated based on the implementation of the criteria and the allocation mechanisms used.
Abstract iii
Table of Contents iv
List of Tables vi
1 Background Information 1
1.1 The European Emission Trading Scheme . . . 1
1.2 The National Allocation Plan . . . 2
2 Introduction 4 2.1 Introduction to Research . . . 4
2.2 Purpose . . . 5
2.3 Problem Definition and Research Questions . . . 5
2.4 Approach . . . 6
3 Theoretical Background 7 3.1 Literature Review - National Allocation Plan Evaluation . . . 7
3.1.1 General Evaluation . . . 8
3.1.2 Evaluation Allocation Mechanisms . . . 10
3.1.3 Evaluation Allocation to the Energy Sector . . . 12
3.2 The Directive Criteria . . . 14
3.2.1 Presentation Directive Criteria . . . 15
3.2.2 The Directive Criteria and Age Structure . . . 16
3.2.3 Problems related to the Implementation of the Age Criteria . 19 4 Methodology 21 4.1 Selection of Member States . . . 21
4.2 Identification Power Production . . . 22
4.3 Identification Age Structure . . . 22
4.4 Data Collection . . . 23
5 Data Analysis - Power Production 24 5.1 Power Production Europe . . . 24
5.2 Power Production Member States . . . 26
5.3 Inventory Age Structure Power Production . . . 31
5.4 Evaluation Differences in Power Production . . . 34
6 Results 37 6.1 Implementation Age Criteria . . . 37
6.1.1 Germany . . . 37
6.1.2 The Netherlands . . . 38
6.1.3 Portugal . . . 39
6.1.4 The United Kingdom . . . 40
6.1.5 Evaluation Implementation Age Criteria . . . 41
6.2 Allocation mechanisms . . . 42
6.2.1 Germany . . . 43
6.2.2 The Netherlands . . . 43
6.2.3 Portugal . . . 44
6.2.4 The United Kingdom . . . 44
6.2.5 Evaluation Allocation Mechanisms . . . 45
7 Conclusions 47
8 Recommendations 49
Acknowledgements 50
1.1 Individual Kyoto targets EU Member States . . . 2
3.1 Categorization Directive criteria . . . 17
5.1 Age structure power production Germany . . . 31 5.2 Age structure power production Germany + weighted capacity . . . . 32 5.3 Age structure power production The Netherlands . . . 32 5.4 Age structure power production The Netherlands + weighted capacity 33 5.5 Age structure power production Portugal . . . 33 5.6 Age structure power production Portugal + weighted capacity . . . . 34 5.7 Age structure power production The United Kingdom . . . 34 5.8 Age structure power production The United Kingdom + weighted
ca-pacity . . . 35
6.1 Summary implementation age criteria Member States . . . 43 6.2 Summary allocation mechanisms Member States . . . 46
Background Information
1.1
The European Emission Trading Scheme
One of the greatest challenges of today is the global climate change. Global warm-ing, mainly caused by greenhouse gas (GHG) emissions, calls for urgent action. The biggest factor of present concern is the increase in carbon dioxide (CO2). The
Ky-oto PrKy-otocol from the United Nations Framework Convention on Climate Change (UNFCCC) sets targets to signatories on the reduction of GHG emissions. Both the European Union (EU), as the European Community, and its Member States (MS) are signatories to the Kyoto treaty. The EU Burden-Sharing Agreement includes the obligation to reduce greenhouse gas emissions by 8% by the years 2008-2012 compared to levels in 1990. Individual targets (table 1.1) to MS are based on the country’s eco-nomic structure and its power generation mix.
An emission trading scheme is considered to be among the most cost effective instru-ments to reduce GHG emissions. To help ensure that Europe’s industrial infrastruc-ture reduces harmful emissions through energy efficiency improvements and cleaner processes and technologies, the EU Directive for the Trade in Greenhouse Gas Emis-sion Allowances: Directive 2003/87/EC (the Directive) was adopted in 2003. The
Table 1.1: Individual Kyoto targets EU Member States Country Target France 0 % Germany −21 % Lithuania −8 % Netherlands −6 % Portugal +27 % Sweden +4 % UK −12.5 %
Source: European Commission
following European Union Emission Trading Scheme (EU ETS) commenced opera-tion in January 2005. The EU ETS is a cap-and-trade system, the cap being the total amount of allowances to be allocated. The environmental targets are in the form of absolute maximum emission volumes. The EU ETS directly involves 25 countries and various sectors. Participants at this market are large installations of the energy intensive industry, including electricity generation. Each facility gets a maximum amount of emission allowances for a particular period. The EU ETS operates with five-year trading periods, including an initial three-year trial period (2005-2008). To comply with the system, facilities can either reduce their emissions or purchase al-lowances from facilities with an excess of alal-lowances. The EU ETS covers 30-50% of the national GHG emissions in the MS.
1.2
The National Allocation Plan
finally the proposed plan has to be published and the European Commission has to be notified for acceptance.
The European Commission (EC) distinguishes six different steps in the set up of a NAP[8].
Step 1: Top-down analysis to define the share of emissions covered by the Directive.
Step 2: Bottom-up exercise to collect data from installations companies. Step 3: Consolidation of top-down and bottom-up information.
Step 4: Setting allocations for sectors and installations.
Step 5: Treatment of new entrants
Step 6: Completion of the National Allocation Plan.
Introduction
2.1
Introduction to Research
The EU ETS is supposed to lead to major gains: low cost emission cuts, incentives to develop and invest in cleaner technology, incentives to save energy and make effi-ciency improvements. However, while a proper implementation of the scheme would indeed bring potential economic benefits and boost immense innovations while saving the environment, today many discussions are going on about how well the EU ETS is operating.
The focus of discussion of different articles evaluating the system varies from the allocation to new entrants, the treatment of closures, to the direct impact on the environment. Lots of articles focus on the allocation mechanisms used and the most frequently stated critique is the overall over-allocation of emission rights by MS. While most evaluations focus on the macro-economic allocation level this thesis will focus on the allocation to individual installations, the micro level. This thesis will introduce the age bias problem, which can lead to inefficiencies and unfairness of the allocation of emission allowances in the EU ETS.
2.2
Purpose
The purpose of this research is to illustrate the limitations of the allowance allocation in the EU ETS by introducing the age bias problem.
2.3
Problem Definition and Research Questions
The allocation of emission rights in the EU ETS is done by the construction of NAPs. The most widely used allocation mechanism is grandfathering. Grandfather-ing is based on past emissions, therefore companies which emitted the most in the past receive most of the emission rights. In the EU ETS, the biggest polluters are the producers of electricity. The biggest polluters in electricity production are the old power installations. Besides the fact that old installations receive relatively more emission rights than modern installations based on their past emission, they are also favored above new installations because they are better able to reduce their emissions by innovating or by simply shutting down and be rebuild. The allocation plans are constructed by the MS individually. Because MS differ in the age structures of their power production the allocation mechanism based on past emissions can favor some MS above others. This situation leads to the following problem definition:
The difference in age structure of power production between Member States leads to inefficiencies and unfairness in the EU ETS.
To show the existence of the age problem the following questions will be investi-gated:
Q1: Is the age structure is properly taken into account by the allocation mechanism
of the EU ETS?
Q2: Do Member States have different power production age structures?
production sector?
In this thesis these research questions will be answered and some suggestions to improve the allocation process of the EU ETS will be made.
2.4
Approach
This thesis started with some background information, introducing the EU ETS and the NAP. The following main part will start with the theoretical background, fol-lowed by the methodology, data analysis and results, and ends with conclusions and recommendations.
Theoretical Background
The presented possible age bias problem is based on the evaluation of different articles discussing the EU ETS and allowance allocation by NAPs. In the following chapter the findings from this evaluation will be discussed. Special attention is paid to the allocation mechanisms, as the age bias is mainly caused by the allocation through grandfathering, and to the allocation to the power producing sector, the sector of focus in this thesis.
The EC set up different criteria to guide the allocation of allowances by the MS. Some of these criteria are directly linked to the age of installations and could diminish any age bias. However, there are a couple of problems concerning the implementation of the criteria. This chapter also presents the Directive criteria, their link to the age structure as well as the problems related to their implementation.
3.1
Literature Review - National Allocation Plan
Evaluation
The notion of an European emission trade system evoked discussions about the most efficient and fair way to allocate the emission allowances. Since the start of the trading
scheme many articles have been written evaluating its operation. In this section the main critiques, the effectiveness and fairness of the allocation mechanisms and the challenges faced by the power producing sector, are discussed.
3.1.1
General Evaluation
In the evaluation of the NAPs three main critiques can be distinguished. First allo-cation is said to be too generous. Consequently MS rely more on additional Kyoto credits and sectors not covered by the EU ETS will face stronger GHG penalties in order to meet Kyoto targets. A last frequently stated comment is the flexibility given to MS.
countries participating. Besides the industry environmental NGOs, like the Climate Action Network (CAN) Europe, play a major role, trying to ensure that the environ-ment, instead of the industry will be the big winner of the EU ETS.
The generous allocation of allowances leads to a higher level of emissions than would be desirable from the perspective of the Kyoto target. This may imply that com-mitments to the Burden Sharing Agreement are not completely met by the ETS. Countries therefore need to make extra efforts in other sectors. Sectors participating in the trade could therefore be favored over other sectors, which violates one of the objectives of the NAP: to ensure a fair distribution of the efforts to reduce GHG emis-sions. The Linking Directive (2004/101/EC) allows MS to use external credits from the Kyoto Protocol’s project mechanisms; which provide for projects to be carried out in other countries and to receive credits for emissions reductions or limitations. Concerns on the use of external credits are mainly raised by environmental NGOs[12]. They doubt the quality of external credits because their use and impact is less clear. Using external credits to meet Kyoto objectives also reduces the innovative effective-ness of the ETS and consequently its credibility. Another disadvantage raised on the use of external credits is its effect on the tax burden, which may increase when countries need to finance the purchase of credits abroad. These critiques however disregard the fact that external credits are a useful mechanism for countries to meet their Kyoto targets. The limit on the use of external credits during the first phase of the EU ETS was set by the Commission on an average of 10%.
same plants may be treated differently in different MS. This may even lead to com-petitive distortions. However, MS are not given complete flexibility because of the evaluating role the EC plays. The EC ensures a degree of common application of the rules and can decide to reject a NAP in part or in full.
3.1.2
Evaluation Allocation Mechanisms
The mechanism used in the initial allocation is of great importance because it is one of the determining factors of the success of the EU ETS. The possible allocation mecha-nisms differ in their impact, on the environment and the economy. In this sub-section the three mechanisms allowed are analyzed based on their efficiency of trading, their impact on various segments of society, and on the overall costs of achieving the emis-sion caps. Their use in the allocation plans is discussed and questioned based on the experience in the ETS so far.
Benchmarking can be assigned in order to take into consideration installations’ pos-sibilities to reduce their emissions and rewards producers using CO2 efficient
instal-lations. A disadvantage for producers is that benchmarking does not include sunk costs. There are three important conditions which must be agreed upon when using benchmarking[10]. First, agreement should be made on the nature of the benchmark; fuel, technology or production-based. The second important agreement which needs to be made is on the metric used. At last the availability of data should be ensured. To avoid problems on the allocation in, for example, the energy sector benchmarking is best to be based on production. The best suitable benchmarking mechanism is considered to be production-based allocation with emission factors based on the Best Available Technology (BAT). For an installation is calculated as the installations’ pro-duction multiplied by the specific emission applicable for the best available technology for comparable installations[5]. Unfortunately finding data on BAT levels is compli-cated and costly. Allocation based on benchmarking however, avoids complexity in assigning rights to new entrants because it is not based on historic information. Con-sidering the environmental impact, allowances are as in grandfathering distributed for free and can thus reduce the emission reduction incentive. Benchmarking is not widely used mainly due to the fact that the construction of benchmarks is relatively complicated and involves the collection of lots of data.
is mainly used because of the above mentioned efficiency argument and the possi-bility to generate revenue. There are two reasons why this argumentation can be questioned[24]. Firstly, there can be asymmetry between bidders. Secondly, value maximization does not always guarantee efficiency. Two different ways of auctioning can be used, ascending-bid and sealed-bid. During an ascending-bid auction partici-pants have the option to raise their bids, in sealed-bid they can only submit their final offer. Good auction design depends on two issues, attracting entry and preventing collusion[16]. In ascending auctions bidders can use early rounds to signal how they might collusively divide the benefits and use later rounds to punish any rivals who fail to cooperate. Entry can also be deterred in ascending auctions, since a weaker potential bidder always knows that a stronger bidder can overbid. In sealed-bid auc-tioning there is only one round so no opportunity for signaling or punishment, which support collusion. Furthermore, a weaker bidder knows that there is a chance of vic-tory and therefore entry is promoted. However, sealed-bid auctions are not perfect either. Sealed-bid auctions are more likely to result in inefficient outcomes because bidders with lower values can beat opponents with higher values. The most striking feature of the European telecom auctions was the high prices paid and the follow-ing decrease of market value of biddfollow-ing companies[24]. The high prices were paid because of great expectations on the future of the UMTS (third generation mobile telecommunication), which ended up to be too exaggerated. The surplus gained by the auctioneer, the Government, is should be used carefully. It can be accounted for as Government revenue, and/or some of it can be redistributed to the winner in order to let him pay a fairer price. In the first phase of the EU ETS auctioning is rarely used. In the absence of a global climate change regime, countries fear disadvantages in the ETS international competition level.
3.1.3
Evaluation Allocation to the Energy Sector
emitters. These emitters are responsible for setting prices in the market. The price effect depends on three factors[17]. First; on the change in marginal costs on which the price is based. Second, on the producer’s incentive to pass on the transfer of wealth generated by the free allocation of emission rights to the end users. And at last; on the expected behavior of demand on price changes. The cost free allocation can be seen as a transfer of wealth. This transfer of wealth can be used by produc-ers in the electricity market to compensate fixed costs, leading to a reduction in the mark-up. If this consequently leads to a difference in price depends on the pricing behavior of producers. In a competitive market an increase in marginal costs directly leads to an increase in prices. In imperfect competition prices are set higher than marginal costs and pricing behavior of producers mainly depends on the expected reaction of consumers on price changes. The price can also be influenced when the allocation of emissions is based on output. CO2 intensive installations then receive
more allowances than relative efficient ones. Therefore producers could be motivated to switch to a more CO2 intensive way of producing. More CO2 intensive
instal-lations means more emission, which can cause inflation on the price of CO2. The
actual behavior of the electricity producers after the introduction of the EU ETS indeed led to higher prices. However, this situation is not simply explained by apply-ing the theory explained above. Aside from an increase in prices due to an increase in marginal costs, producers took into account opportunity costs in setting prices. Producers claimed to have the right to increase prices because emission allowances represented a monetary value and they did not have the opportunity to sell them. One can argue that the raise in prices was not properly controlled by the market regulator. The arguments propagated by the producers can be questioned because of the fact that emission rights were a gift, given out for free, which should be taken into account when considering the fact that they did not have the opportunity to sell them.
plans was that the allocation was too generous, mainly caused by the industry lobby. Electricity producers can be divided into two groups; large and small producers, which are represented by different organizations having different interests [18]. The small producers which are mainly public-owned CHP (co-generation of heat and power) plants are relatively less important and do not influence the ETS much. The large producers however are the most important emitting sector of the programme. They are represented by the EURELECTRIC. The great diversity of technologies used to generate electricity and the differences in impact on the environment limits the abil-ity of the lobby organization. Some authors argue that shortage was allocated to electricity generation [11]. This under-allocation is caused by two rationales. Firstly, countries believe that the ability to abate emissions in the power sector is less costly, just by simple switching from coal to gas installations. Secondly the power sector doesn’t seem to face international, non-European competition.
An important factor in allocating emission allowances to power plants is the fuel used to produce electricity. Different mechanisms can favor different fuel-mixes. Grandfa-thering in general favors CO2 intensive installations. Benchmarking favors the most
efficient producers, linking allocation to performance, as does auctioning. Installa-tions can also be treated differently because of differences in implementation of the Directive criteria, which will be discussed in another section.
3.2
The Directive Criteria
positive influence on the age problem, are discussed.
3.2.1
Presentation Directive Criteria
To arrive at a NAP that is as fair and efficient as possible it should meet the following criteria, listed in Annex III to the Directive [1]:
1. The total quantity of allowances to be allocated for the relevant period shall be consistent with the Member State’s obligation to limit its emissions pursuant to Decision 2002/358/EC and the Kyoto Protocol, taking into account, on the one hand, the proportion of overall emissions that these allowances represent in com-parison with emissions from sources not covered by this Directive and, on the other hand, national energy policies, and should be consistent with the national climate change programme. The total quantity of allowances to be allocated shall not be more than is likely to be needed for the strict application of the criteria of this An-nex. Prior to 2008, the quantity shall be consistent with a path towards achieving or over-achieving each Member State’s target under Decision 2002/358/EC and the Kyoto Protocol.
2. The total quantity of allowances to be allocated shall be consistent with assess-ments of actual and projected progress towards fulfilling the Member States’ contri-butions to the Community’s commitments made pursuant to Decision 93/389/EEC.
3. Quantities of allowances to be allocated shall be consistent with the potential, including the technological potential, of activities covered by this scheme to reduce emissions. Member States may base their distribution of allowances on average emissions of greenhouse gases by product in each activity and achievable progress in each activity.
4. The plan shall be consistent with other Community legislative and policy instru-ments. Account should be taken of unavoidable increases in emissions resulting from new legislative requirements.
5. The plan shall not discriminate between companies or sectors in such a way as to unduly favor certain undertakings or activities in accordance with the requirements of the Treaty, in particular Articles 87 and 88 thereof.
7. The plan may accommodate early action and shall contain information on the man-ner in which early action is taken into account. Benchmarks derived from reference documents concerning the best available technologies may be employed by Mem-ber States in developing their National Allocation Plans, and these benchmarks can incorporate an element of accommodating early action.
8. The plan shall contain information on the manner in which clean technology, in-cluding energy efficient technologies, are taken into account.
9. The plan shall include provisions for comments to be expressed by the public, and contain information on the arrangements by which due account will be taken of these comments before a decision on the allocation of allowances is taken.
10. The plan shall contain a list of the installations covered by this Directive with the quantities of allowances intended to be allocated to each.
11. The plan may contain information on the manner in which the existence of com-petition from countries or entities outside the Union will be taken into account.
The criteria can be categorized in two ways. First on their obligation to be imple-mented, criteria can be mandatory, partly mandatory or optional. Secondly on the level on which they act, whether they should be taken into consideration in the deter-mination of the total quantity of allowances, on sector/activity level, or on installation level. The different criteria are categorized in table 3.1.
3.2.2
The Directive Criteria and Age Structure
Directive criteria which can directly be linked to the age structure are criteria (3), criteria (7) and criteria (8)[21].
Criterion (3): Reduction potential
Table 3.1: Categorization Directive criteria
Mandatory(M)/ Total Activity/ Installation Optional(O) level Sector level
(1) Kyoto commitments (M)/(O) X
(2) Assessments of emissions (M) X
development
(3) Potential to reduce (M)/(O) X X
emissions
(4) Consistency with other (M)/(O) X X
legislation
(5) Non-discriminant (M) X X X
between companies or sectors
(6) New entrants (O) X
(7) Early action (O) X
(8) Clean technology (O) X
(9) Involvement of the public (M)
(10) List of installations (M) X
(11) Competition from (O) X
outside the Union
Source: Commission of the European Communities [21].
the potential of the installations. When criterion (3) is well implemented the distri-bution of allowances reflects the relative differences in potential.
Criterion (7): Early action
be used to reward early action. Countries can choose a relative early base period, which improves the grandfathering position of companies which made early efforts. Countries can make a two-round allocation and allocating extra allowances to early action installations after initial allocation. A lower correction factor can be used for installations which have undertaken early action. And early action can also be taken into account by using benchmarking to reward installations with low carbon inten-sity. Caution is in order when rewarding early action. Early efforts may be made due to other legal requirements, public finances or profitably investments which already paid themselves off. Or reduction in emission can simply be caused by a production decrease of the shutdown of a factory.
Criterion (8): Clean technology
Installations with a low carbon intensity and state of the art technique may be consid-ered as clean technology and be rewarded by implementing criterion (8). An example of such a clean technology is the combined generation of heat and power (CHP). Cri-terion (8) can be implemented by applying a different compliance factor, or a bonus, or by using double benchmarks, for heat and electricity. Sometime a distinction is made between new and existing CHP plants.
The above described criteria are all interrelated with each other[21]. Criterion (8) can be seen as an extension of criterion (3), because installations using clean tech-nology would be likely to have a lower technical reduction potential. Furthermore criterion (8) and (7) are linked because early action most of the times implies an investment in clean technology.
with a relative young age structure will implement the criteria more strictly than the MS with a old power producing sector. Since the criteria are mainly to reward new installations and thus disadvantage old ones leaving less emission rights to be allocated.
3.2.3
Problems related to the Implementation of the Age
Criteria
The bias in the NAPs, caused by the difference in treatment of relative old and new firms, is supposed to be solved by the introduction of the above mentioned criteria. There are, however, some problems related to the implementation of these criteria.
The first problem is that the criteria are partly overlapping. As already discussed, all mentioned criteria are not only related to age but also to each other. Plants having undertaken early action in clean technology are expected to have a lower reduction potential. This overlapping can clearly be shown by figure 3.1.
Figure 3.1: Overlapping Criteria
Criterion (3): Reduction potential, is only to be implemented mandatory on total level and optionally on activity level, in the allocation to individual plants there-fore no problems arise related to this criterion. Criterions (7): Early action and (8): Clean technology, however, both concerns the allocation on installation level. To avoid over-allocation the Commission recommends MS not to apply both criteria unless early action did consist of an investment in clean technology. This decision, however implies that plants having undertaken early action to reduce emission in no matter which way are rewarded in the same way as plants having undertaken early action reducing emissions by investments in clean technology. It can be argued that given this decision companies are not eager to invest in innovative clean technologies, because doing so is not rewarded. This contradicts one of the objectives of the EU ETS, to encourage innovations in environmental friendly technologies.
The second problem is the autonomy given to MS. Since MS are given lots of freedom to implement the criteria in their own way and even are free to choose not implement all of them, differences in the treatment of same sectors and installations arise.
The last problem is the lack of quantified instructions. The Commission does not give clear definitions on what to identify as reduction potential, early action or clean technology. Neither defines it specific benchmarks on the emissions reductions to which early actions and clean technologies should lead. This lack of quantified in-structions does again lead to differences in implementation between MS and risks over allocation.
Methodology
4.1
Selection of Member States
The MS chosen to investigate are France, Germany, Lithuania, the Netherlands, Por-tugal, Sweden, and the United Kingdom. Those specific MS are chosen because it is expected that their power production sectors differ significantly. Germany and the United Kingdom are of special importance because they are the biggest players in the EU ETS. France and Sweden appeared to be interesting because they both have a small share of fossil fuels in their electricity generation. Portugal is included in the investigation because it is a Mediterranean country, which economic structure often differs from other parts of Europe. Lithuania is included because it is a new country on the European market, which economic structure still has some old East European features. At last the Netherlands is included, because of personal interest and because the Dutch energy companies are said to be among the world’s best in terms of energy efficiency.
4.2
Identification Power Production
The power production sector of each MS is identified by the power production capacity of the largest electricity companies of the MS. The plants included in the analysis are plants participating in the emission trading scheme. Power plants fueled by renewable energy, including hydropower, and nuclear energy are therefore excluded. Since the analysis of the power producing sectors of France, Lithuania and Sweden showed that most of their plants were fueled by nuclear- and hydropower these countries were left out of further analysis.
4.3
Identification Age Structure
The age structure of the power production of the MS is derived from the age of the power plants. The age is calculated by subtracting the starting year of operation from the year today, 2007.
The tables in Appendix A to D include information on the country of origin of the power plant, the name of the operating company and the installation, the year of commissioning, its capacity and its source (fuel-mix). The results of the data analy-sis are presented in chapter five.
are not included in the analysis.
4.4
Data Collection
Data Analysis - Power Production
The introduced age problem is illustrated by the differences in age structure of power production of MS and their differences in NAPs. To test if MS actually have different power producing age structures, this section includes an inventory of the age structure of power production of the individual MS. However, before focusing on the age struc-ture, some background information on power production in Europe and descriptions of the electricity markets of the individual MS are given.
5.1
Power Production Europe
The European electricity market is a dynamic market; the liberalization process, the enlargement of the EU, new market entrants and of course the environmental issues show that this market is ever changing. Formally the European market consisted of vertically integrated monopolies, but the process of opening up the internal Euro-pean market included the liberalization of the electricity market. This liberalization process is put into force in 1996 by Directive 96/92/EC, leading to the unbundling of activities. The enlargement of the market, caused by the new MS and new market entrants also leads to a more competitive environment. Although the European elec-tricity market is well established, a shortfall in power production is expected; several nuclear plants will shut down and other power plants, which have served for more
than 40 years, will close as well.
The fastest growing source of energy in Europe is natural gas[4]; many investments are particularly made in the construction of gas combined cycle power plants, which require low investment costs and rapid construction time. These plants are also rel-atively efficient and have low emission levels. The main reason for the decreasing of traditional use of coal is that coal-fueled power plants produce a high amount of emis-sions. The use of oil decreased heavenly during the mid 1970s because of the oil shock and it continues to do so because its price still is relatively high. After the oil crisis countries started to build nuclear power plants to generate electricity. Several Euro-pean countries have recently introduced policies to reduce the use of nuclear energy and are also planning to shut down their plants because of the dangers involved and the high amounts of nuclear waste they produce. It is expected, however, that in the future the use of nuclear energy will increase again due to lack of an alternative; other possible energy sources will run out. Apart from that, the generation of electricity by nuclear plants does not produce CO2emissions. Concerns about the environment also
led to more use of renewable energy sources; the European hydroelectric generation is already widely developed. Growth is mainly expected in the use of wind turbines; Europe’s wind park already accounts for 65% of the world’s installed capacity.
Production: 2699.0 TWh Capacity: 690.00 GW
Main producers: Electrict de France, E.On
Primary energy sources: coal, natural gas, nuclear CO2-emission: 3403.6 Mt
5.2
Power Production Member States
France
Historically France has been highly dependent on imports because of its limited re-sources of fossil fuels. After the oil shock in the 1970s France started to built nuclear power plants and is nowadays the most independent country of Europe. 80% of the French electricity generation is nuclear, which implies that France has a low amount of CO2 emissions. The French electricity market fully opened up in 2007; however
it remains the most concentrated electricity market in Europe. Although the state-owned company, Electricit de France (EdF) partly liberalized in 2004 it still has a very dominant position.
Production: 547.6 TWh Capacity: 109.69 GW
Main producers: Electricit de France Primary energy source(s): nuclear CO2-emission: 386.92 Mt
Share EU ETS: 7.2%
Source: IEA [3] & [2] (data of 2004)
Germany
the use of renewables. The German Government is also planning to phase out nu-clear dependence and close all nunu-clear facilities by 2012. The closing down of aged and inefficient coal fueled plants, increases the need for new generating technologies. Germany opened up its market fully and at once in 1998, canceling completely the historically territorial monopolies. The current German electricity market is mixed; central and decentral, because of vertical and horizontal contractual connections. The market is pluralistic dominated by few major companies.
Production: 577.5 TWh Capacity: 114.24 GW
Main producers: RWE, E.On, Vattenfall, EnWB Primary energy source(s): coal, nuclear
CO2-emission: 848.60 Mt
Share EU ETS: 22.9%
Source: IEA [3] & [2] (data of 2004)
Lithuania
market however remains small and highly concentrated; Lithuania therefore promotes the construction of a Baltic market, to increase competition.
Production: n.a. Capacity: n.a.
Main producers: Liuetuvos Energija Primary energy source(s): nuclear, hydro CO2-emission: 12.68 Mt
Share EU ETS: ¡1%
Source: IEA [3] & [2] (data of 2004)
The Netherlands
The Netherlands is one of the biggest producers of gas in the world. 60% of electricity is generated by gas, second primary energy source is oil. To decline its dependence on these sources, as well as to be able to ensure supply in the future and decrease GHG-emissions the Dutch Government promotes the use of renewable energy sources. However, those clean sustainable sources are still not as competitive as fossil fuels. The Netherlands was one of the first European countries to start restructuring and liberalizing its electricity sector and meeting EU Directives on Electricity. A big step in the privatization of the market included the unbundling of activities and ownership.
Production: 96.6 THh Installed capacity: 18.78 GW
Main producers: Electrabel, E.On, Essent, Nuon Primary energy source(s): natural gas
CO2-emission: 185.75 Mt
Share EU ETS: 4.4%
Portugal
of its electricity production comes from coal and fuel power plants, the remaining part mainly comes from hydroelectric sources. Portugal does not have any nuclear power plants. The Portuguese Governments is very ambitious when it comes to the use of renewable energy and wants half of its energy-mix to be renewable by 2010. It invested in large wind park projects and in 2006 the world’s largest solar power plant began operation in Portugal. In 1994 Portugal started liberalization and separating activities to eventually partially privatize the electricity market. Portugal has a ver-tically integrated dual market structure, party public partly private. Its dominating generating company Electricidade de Portugal (EdP) still is partially state-owned. Before July 2008 Spain and Portugal will operate on a single Iberian market.
Production: 43.5 TWh Installed capacity: 11.43 GW
Main producers: Electricidade de Portugal Primary energy source(s): coal
CO2-emission: 60.33 Mt
Share EU ETS: 1.7%
Sweden
Historically Swedish main energy sources were domestic hydro and imported oil. In the 1960 Sweden started with the production of electricity from nuclear energy sources, which substituted the use of oil. The Swedish energy-mix nowadays is al-most fossil free, half of its electricity production is generation by hydro power and the remainder mainly comes from nuclear power plants. The Swedish electricity market is liberalized since 1996, however one company continues to dominate the market, Vattenfall which generates more than half of Swedish electricity.
Production: 148.5 TWh Installed capacity: 32.71 GW
Main producers: Vattenfall
CO2-emission: 52.16 Mt
Share EU ETS: 1.0%
The United Kingdom
The United Kingdom has always been self sufficient, because of its natural gas and petroleum sources in the North Sea. A great deal of its electricity supply also came from coal, but when its consumption reduced in the 1970s the use of coal also re-duced. Nowadays the fuel-mix is very diverse including gas-, coal-, an d nuclear-fired power plants. The United Kingdom consists of three separated electricity markets; England & Wales, Scotland, and Northern- Ireland. The English electricity market was completely liberalized in 1999.
Production: 378.5 TWh Installed capacity: 73.31 GW
Main producers: E.ON UK, RWE nPower, Centrica Primary energy source(s): natural gas, oil, nuclear CO2-emission: 537.05 Mt
5.3
Inventory Age Structure Power Production
In this section a number of tables are given showing the age structure of power pro-duction of different MS. The power propro-duction sectors of France, Lithuania, and Sweden are not included because their power plants are mainly fueled by nuclear-and hydropower nuclear-and therefore excluded from the EU ETS.
Germany
The average age of power production in Germany is 27.85 year. The age structure is given in table 5.1.
Table 5.1: Age structure power production Germany Age No. Plants % Of Total
0 - 10 7 9.7 10 - 20 14 19.4 20 - 30 16 22.2 30 - 40 24 33.3 >40 11 15.7 Total 72 Source: Appendix ??
Table 5.2: Age structure power production Germany + weighted capacity Age No. Plants % Of Total
0 - 10 47 13.4 10 - 20 54 15.3 20 - 30 77 21.9 30 - 40 115 32.7 >40 59 17.8 Total 352 Source: Appendix ?? The Netherlands
The average age of power production in The Netherlands is 18.72 year. The age structure is given in table 5.3.
Table 5.3: Age structure power production The Netherlands Age No. Plants % Of Total
0 - 10 8 20 10 - 20 16 40 20 - 30 12 30 30 - 40 4 10 >40 0 0 Total 40 Source: Appendix ??
Table 5.4: Age structure power production The Netherlands + weighted capacity Age No. Plants % Of Total
0 - 10 20 15.6 10 - 20 52 40.63 20 - 30 40 31.3 30 - 40 16 12.5 >40 0 -Total 40 Source: Appendix ?? Portugal
The average age of power production in Portugal is 23.38 year. The age structure is given in table 5.5.
Table 5.5: Age structure power production Portugal Age No. Plants % Of Total
0 - 10 2 25 10 - 20 0 -20 - 30 4 50 30 - 40 2 25 >40 0 -Total 8 Source: Appendix ??
Table 5.6: Age structure power production Portugal + weighted capacity Age No. Plants % Of Total
0 - 10 20 35.1 10 - 20 0 -20 - 30 31 54.4 30 - 40 6 10.5 >40 0 -Total 57 Source: Appendix ??
The United Kingdom
The average age of power production in The United Kingdom is 18.08 year. The age structure is given in table 5.7.
Table 5.7: Age structure power production The United Kingdom Age No. Plants % Of Total
0 - 10 21 42.9 10 - 20 11 22.4 20 - 30 5 10.2 30 - 40 12 24.5 >40 0 -Total 49 Source: Appendix ??
The average age of power production in The United Kingdom taking into account the capacity of the installations is 23.72 year. The age structure is given in table 5.8.
5.4
Evaluation Differences in Power Production
Table 5.8: Age structure power production The United Kingdom + weighted capacity Age No. Plants % Of Total
0 - 10 51 27.7 10 - 20 36 19.6 20 - 30 18 9.8 30 - 40 79 43 >40 0 -Total 184 Source: Appendix ??
the oldest power producing sector followed by Portugal, the Netherlands has a relative young sector and the United Kingdom’s power producing sector includes the newest power plants. Although the differences in average age are not very convincing the dif-ferences become more clear when looking at the age structure-categories. Especially the difference between Germany and the UK is obvious, most German power plant are between 30 and 40 years old, whereas most plants in the UK are between 0 and 10 years old. Again Portugal has a relatively old structure, 37.5% of all power plants are between the 20 and 30 years old, and the Netherlands has a relative young age structure most plant ranging from the 10 and 20 years old.
Ranking according to average age:
1. Germany
2. Portugal
3. The Netherlands
4. UK
the Netherlands. The age structure tables show that Germany and the Netherlands basically keep the same overall structure; most of the German plants are situated in category four (30-40) and most of the Dutch in category two (10-20), with relative small differences in percentages. The only switch in the German structure is that Germany now has less plants in category two (10-20) than in category five (¿40), which proofs the existence of big old coal installations. The differences in the age structure of Portugal and mainly the UK are more striking. Most Portuguese plants remain in category three, but the equal distribution between category one and four has now shifted; the share of young plants is larger than the share of old plants. In the unweighted table of the UK the first category included most power plants, leading to the conclusion that the UK has a young power producing sector. However, the weighted table shows a different situation, most power plants are now situated in the fourth category, leading to the conclusion that the UK has one of the oldest power producing sectors.
Ranking according to weighted average age: 1. Germany
2. UK
3. The Netherlands 4. Portugal
Results
This chapter links the theoretical background to the power production data. First, a closer look is taken to MS’ individual implementation of the different Directive age criteria. Next their allocation mechanism is discussed paying extra attention to the consideration of the age structure.
6.1
Implementation Age Criteria
In this section the differences in implementation of the criteria related to age are evaluated and linked to the differences in age structure of the different MS. None of the MS take early action directly into account in the second phase of the trading scheme, they however consider early action when choosing a base period in their allocation formula. National allocation in both phases includes special provisions for clean technology, especially for CHP installations.
6.1.1
Germany
Source: Nationaler Allokationsplan 2008-2012 fur die Bundesrepubliek Deutschland[7] & National Allocation Plan for the Federal Republic of Germany 2005-2007[13].
Criterion 3: Reduction potential
The way of implementation is not explicitly mentioned in the NAP. However since criterion 3 is mandatory it can be assumed that the reduction potential is taken into account when allocating emission allowances[7].
Criterion 7: Early action And Criterion 8: Clean technology
The implementation of the optional criteria during the first phase of the EU ETS contributed to not intended rearrangement effects between enterprisers. Therefore, and in order to simplify the allocation process, the German Government has decided not to implement the criteria in the second phase. However, in special circumstances, when companies undertaken early action are disadvantaged and facing an unreason-able burden they can be compensated by an increase of the emission rights allocated.
In the first NAP criterion (7) on early action was taken into account by a compliance factor, which was intended to be granted to the installations for a period of 12 years. Therefore its way of implementation is shortly discussed. A compliance factor may be applied when installations are considered to have committed early action or are newly commissioned. Existing installations need to demonstrate a reduction in CO2 emissions. The reduction is determined by the change in average annual emissions per unit of output. The amount of the reduction required depends on the year in which the installation was commissioned (see appendix ??).
Installations commissioned between 1 January 1996 and 31 December 2002 are consid-ered new and assumed to have achieved at least the defined reduction; they therefore do not have to supply evidence.
6.1.2
The Netherlands
Criterion 3: Reduction potential
Cost effectiveness and technological potential are taken into account in the setting of the emission reduction targets. Targets are based on reference estimates, which differ between sectors. The Dutch energy sector primary burns gas, and is among the world’s best in terms of energy efficiency. This sector can therefore allow its CO2
emissions to rise, because there are no relatively low-cost measures left to improve its operation.
Criterion 7: Early action
The allocation formula includes a factor which is related to relative energy efficiency and as such takes into account improvement measures which have been taken in the past.
A distinction is made between companies that participate in existing voluntary agree-ments and countries that not participate in such agreeagree-ments. The reduction factor assigned to companies that have honoured the commitments is zero. If an installation even performed better than required under the agreement it’s rewarded with extra allowances. Companies that do not participate in the agreements will only get the same treatment if they can prove that they have made every effort to sufficiently improve energy efficiency. Otherwise a reduction of 15% will be applied.
Criterion 8: Clean technology
The Dutch Government decided not to use criterion 8, because energy-saving mea-sures are already taken into account by early action. The co-generation of heat and power is also regarded as early action.
6.1.3
Portugal
Criterion 3: Reduction potential
The reduction potential is incorporated in the different reference scenarios. For each sector the efficient reduction potential is evaluated based on the emission values as-sociated to the BATs.
Criterion 7: Early action
The use of reference years ranging from 2000 to 2004 allows to take into account efficiency improvements carried through throughout the last years. There is therefore no need for an additional mechanism to reward early action. The chosen reference period also takes into account the existence of atypical years, which will not be the case when only recent years are taken as reference.
Criterion 8: Clean technology
The Portuguese Government states that the EU ETS mechanism it self already cre-ates an incentive to invest in clean technologies, when establishing an opportunity cost on CO2 emissions and therefore no additional action is needed. The investment in co-generation results in an increase of emissions of the installations. To guarantee that new projects in this area are not negatively discriminated a reserve of allowances was created for new installations.
6.1.4
The United Kingdom
Source: EU Emission Trading Scheme - Approved UK Phase II National Allocation Plan 2008-2012[9].
Criterion 3: Reduction potential
The reduction potential is evaluated and taken into account in the modeled projec-tions of emission from sectors.
The UK does not reward early action, because it is said to be to difficult to identify instances of early action. Major decreases in emissions are taken into account by a reference period of 2000-2003, incorporating data for early years, avoids penalties for early action.
Criterion 8: Clean technology
The UK does not implement criterion 8, because it believes that clean technologies are already rewarded by the emission trading scheme, allowing companies using clean technologies to sell their allowance surplus. CHP installations are considered as a different sector and assigned free allowances.
6.1.5
Evaluation Implementation Age Criteria
New power plants are considered to be more efficient and more likely to use clean tech-nologies than old plants. Relatively young power producing sectors are thus expected to have less potential to decrease its CO2 emission, to have undertaken early action and use clean technologies. Therefore MS having a relative young power producing sector are expected to implement the reduction potential criterion more strictly and take into account the optional criteria. MS having a relative old sector are expected to be less strict in the consideration of reduction potential and not to implement the criteria which reward early action and clean technology.
The incorporation of the differences in reduction potential between installations is not explained in the German NAP. Improvements in energy efficiency through early action or clean technologies are not rewarded. Special cases in which companies seem to be disadvantaged by making additional investments including CHP plants are treated with special care
technologies are both considered to result in an improvement in energy efficiency and also taken into account by the formula. The Government does not implement cri-terion (8). However, since the use of clean technologies in combination with early action leads to even higher energy efficiency, the Netherlands does take into account both improvements and there is no discrimination.
The reduction potential of each sector is calculated taking into account in the Por-tuguese reference scenarios. There are no special rules for early action and clean technology in the Portuguese NAP. Portugal considers the emission trading system and its chosen reference period capable of rewarding extra energy efficiency. A reserve however is created for CHP installations.
In the UK the low reduction potential is taken into account by basing the distribution of allowances on projected emissions which will be lower for newer firms. Early action and clean technology of installations are not taken into account. However, penalties on companies which have undertaken action are avoided by choosing a relative recent reference period. CHP installations, often considered as clean technology are given free allowances.
A summary of the implementation of the age criteria by the MS is given in table 6.1.
6.2
Allocation mechanisms
Table 6.1: Summary implementation age criteria Member States Country Reduction potential Early Action Clean technology
Germany n.a. - CHP
Netherlands Different reduction Energy efficiency Indirectly by energy
targets factor efficiency factor
Portugal Different reference -
-scenarios
UK - Indirectly by CHP
reference period
6.2.1
Germany
Allocation mechanism used: grandfathering Reference period: 2000-2005
General allocation formula:
Sector budget = individual allocation = historic emissions (average emission 2000-2005) * compliance factor
The energy sector is assigned with a compliance factor different than other indus-tries.
6.2.2
The Netherlands
Allocation mechanism used: grandfathering and 4% is auctioned Reference period: 3 out of 2001-2005
General allocation formula:
The energy sector is assigned with another compliance factor and windfall profits are taken into account by a cut in the allocation formula.
Additional information is given in appendix F.
6.2.3
Portugal
Allocation mechanism used: grandfathering Reference period: 3 out of 2000-2004
General allocation formula:
Individual allocation = historic necessities of heat (average heat generated for combus-tion 3yrs from 2000-2004) * combuscombus-tion emission factor + historic emissions (average emissions 3yrs from 2000-2004)
The co-generation sector is assigned with another maximum emission factor for com-bustion.
6.2.4
The United Kingdom
Allocation mechanism used: grandfathering + 7% is auctioned Reference period: 2000-2003
General allocation formula:
Individual allocation = incumbent’s historic emissions/sum of historic emissions of incumbents in sector * total available allowances in sector
Individual allocation to LEP = individual plant’s registered Transmission Entry Ca-pacity * sub-sector standard load factor * sub-sector standard emissions factor
Additional information is given in appendix F.
6.2.5
Evaluation Allocation Mechanisms
The age structure can influence the distribution of the emission rights through the allocation mechanism. To evaluate its impact some components of the allocation for-mula are of special importance. First the allocation mechanism used, grandfathering, benchmarking or auctioning. As argued before grandfathering directly favors old in-stallations, basing the number of allowances on past emissions. When grandfathering is used the second factor of importance is the base period chosen. The longer and earlier the period, the more likely it is that new installations are not discriminated. At last extra factors included in the formula may support early action and clean technology and thereby support relative new installations.
All MS use grandfathering as general allocation mechanism. The UK uses besides the standard grandfathering methodology a technique and fuel-based benchmark formula to allocate allowances to Large Electricity Producers. The UK as well as the Nether-lands have also decided to auction a percentage of their emission rights available.
The base periods of the different MS do not differ much. Among the MS analyzed Germany has the longest base period, of five years, the other MS all use a 3 year reference period, and besides the Netherlands all MS’ reference periods start in 2000. There is thus no clear distinction between the reference periods.
allowances for energy efficient installations, being mainly new ones. The allocation to power installations in the UK is done by the already mentioned benchmark; this benchmark formula also includes an efficiency factor.
A summary of the implementation of the age criteria by the MS is given in table6.2.
Table 6.2: Summary allocation mechanisms Member States
Country General allocation Allocation Reference period Extra factors
mechanism mechanism power
production
Germany Grandfathering Grandfathering 2000-2005
-Netherlands Grandfathering + Grandfathering 2001-2005 Energy efficiency
4% auctioning factor
Portugal Grandfathering Grandfathering 2000-2004
-UK Grandfathering + Benchmarking 2000-2003 Energy efficiency
Conclusions
The theoretical part of this thesis shows that an age bias arises in the allocation of emission allowances in EU ETS when MS use grandfathering as allocation mechanism. The EC Directive’s criteria are not able to completely compensate for this bias. Not only are the criteria only partly mandatory the MS are also given much flexibility in implementation. The autonomy given to the MS is thus the biggest problem of the EU ETS when attention is paid to the age bias problem.
The power production sectors of different MS are analyzed to investigate if there actually exist large differences in the age structures. The power production instal-lations are first structured according to age only, and next taking into account their capacity. The first way of structuring (based on the unweighted average age) shows that Germany and Portugal have relative old power producing sectors and the Nether-lands and the United Kingdom have relatively young ones. When the installation’s capacity is taken into account (weighted average) the ranking changes. Germany re-mains to have the oldest age structure, but the UK ranks second place. The Dutch power production sector still is one of the youngest ones, but the Portuguese sector is even younger. The existence of differences in the age structure of power production between MS is proved by this analysis. However, a clear ranking can not be made because of the differences in the unweighted and weighted ranking.
Recommendations
Although MS are not easily categorized according to the age structure of their MS, and its therefore difficult to investigate if the MS take into account the age structure when constructing their NAPs, the theory clearly shows the existence of an age bias. This age bias is mainly caused by the wide use of grandfathering as allocation mech-anism and the incapability of the Directive criteria to avoid discrimination among installations. The existence of the age bias has been demonstrated in this thesis, the next question is: How to solve it? The incapability of the Directive criteria is mainly caused by the autonomy given to the MS. An improvement will be to assign stricter rules to the implementation of the criteria. Another way to avoid the discrimina-tion of young installadiscrimina-tions is using aucdiscrimina-tioning or benchmarking as general allocadiscrimina-tion mechanism. In order to arrive at a fair allocation to individual installations situated in different MS, the benchmark could be constructed by the EC instead of the MS individually. Assigning emission allowances according to a set of features, including age may solve the age bias problem.
In the summer of 2005 I went to Montpellier, France, to study abroad. I had a won-derful time: met great people, improved my French, and got the opportunity to take economic courses covering subjects, which were not offered at my home university. One of these courses was Economie Environmentale, Environmental Economics, dis-cussing the Kyoto Protocol and European climate policy. Motivated by this course and newspapers heading ”Global Warming” I decided to write my Master’s Thesis about the European Emission Trading Scheme.
I would like to thank my supervisor Prof. Jepma for its insights, guiding me through the different stages of writing a Master’s Thesis and the brainstorm sessions giving me extra motivation and inspiration to keep on writing. I would also like to thank my family for showing their interest, especially my parents and sister who kept on having faith in me finishing university. Special thanks go out to all my friends who kept listening to my endless complaints. Finally I want to thank Daan and Johan, my LaTeX heroes.
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