For a more recent analysis of the EU ETS, please see our case study [PDF].
The EDF report, The EU Emissions Trading System: Results and Lessons Learned [PDF], reviews the performance of the EU ETS from 2005, and focuses on three central questions:
- Is the EU ETS reducing greenhouse gas emissions in Europe?
- Is the EU ETS efficiently meeting its goals, given media attention to over-allocation of allowances, price volatility, windfall profits, and the integrity of international carbon offsets?
- Has the ETS addressed its security vulnerabilities, and did these vulnerabilities affect the system's emission reductions?
Results and recommendations
Since its start in 2005, the EU ETS has driven significant reductions in greenhouse gas emissions even during periods of growth in Europe's gross domestic product, sparked innovation in low-carbon processes, and achieved these results at just a fraction of predicted costs, with no negative effects on Europe's overall economy. Discussions will continue in Europe on proposals to tighten the EU ETS pollution limits further – not only to strengthen emission reductions, but also to stimulate economic growth.
Based on our analysis of the EU Emissions Trading System, EDF has identified six major lessons from the EU ETS, and developed policy recommendations to strengthen or establish strong emissions trading systems in countries, regions and states around the world.
1. Significant emission reductions at minimal cost
- Emulate the successful design of – and improvements to – the EU ETS, including its focus on the environmental integrity and enforceability of the emissions cap, to unleash the proven effectiveness of cap and trade in stimulating low-carbon innovation.
- Stimulate long-term emission reduction investments by maintaining a predictably declining, enforceable, science-based cap on carbon.
2. Increased investments in reducing emissions
Although over-allocation of allowances and a sharp drop in their prices occurred during the program's pilot phase in 2005-2007, the policy stability created by longer-term targets subsequently led to durable investments in reducing emissions and deploying low carbon strategies.
- Base emissions caps and resulting allowance allocations on measured and verified historical emissions, rather than on estimated or projected emissions.
- Provide a predictable long-term policy environment that allows banking of allowances between trading periods.
3. Windfall profits
Windfall profits occurred in some member states but can be avoided using a variety of policy tools.
Recommendation: Establish appropriate regulatory oversight of public utilities, and auction some or all allowances.
4. Some improvement in management of offset programs
Reforms have improved the elements of the EU ETS that allow emitters to tender credits earned from projects reducing emissions in developing countries ("offsets"), but further reforms would be useful.
- Ensure offset programs have rigorous monitoring and accounting methodologies to clarify that emission reductions are "additional" (i.e., below a credible baseline)
- Adopt reforms that allow international offset credits only from jurisdictions that have capped some portion of their emissions, or only from least-developed countries.
- If linking to other nations' emissions trading programs, do so preferentially with nations that adopt caps or limits on major emitting sectors.
5. Reduced fraud and theft
The EU ETS has made significant progress in preventing any recurrence of the tax fraud and theft of allowances that occurred during the program's early years.
Recommendation: Establish effective governance and regulatory bodies, as well as preventive electronic security systems, to adapt to evolving cyber attacks and other market security threats.
6. More investments in low-carbon solutions
Companies and entrepreneurs have responded to the ETS and its complementary policies with a diverse range of profitable investments in low-carbon solutions.
Recommendation: Institute an ambitious cap-and-trade system to encourage business to think creatively about reducing greenhouse gas emissions.
As the first large-scale CO2 cap-and-trade system, the EU ETS offers a unique opportunity for other regions, nations, states, and even local jurisdictions considering carbon-trading systems to learn from its experience and continue to build on its success.