Focus: Compensation for indirect carbon costs

The compensation regime for indirect carbon costs has received little attention up to now, but this could change as stakeholders ask for an EU-harmonised approach.

When designing the EU emissions trading system, protection has been granted to industrial producers to avoid firms relocating where costs from climate regulation are lower, which is known as carbon leakage.

Direct carbon costs, or the actual cost that an industrial firm has to bear to purchase EU allowances for compliance, is partially offset through free allocation.

A separate mechanism is in place for indirect carbon costs, or higher power bills resulting from power producers hiking tariffs because of their carbon buying costs.

While free allowance distribution is harmonised at an EU level, countries decide if they should compensate industry for indirect costs. The process is governed by EU guidelines and subject to EU state aid rules. Only six countries are allowed to issue this type of compensation – Spain, UK, Greece, Belgium, Germany and the Netherlands.

Fragmentation

At the moment, compensation is calculated based on installations’ production levels, electricity consumption and the carbon intensity of the electricity supplied in different areas.

The commission approved the UK’s plan at the beginning of phase III, and electro-intensive users have been compensated up to now with £84.6m, said a spokeswoman for UK Department of Energy and Climate Change.

Germany has decided to compensate firms for 2014, although this is still subject to approval by the commission, said a spokeswoman for the German federal economic affairs ministry.

The Belgian federal economic affairs ministry has not responded to ICIS’s request for information. According to a source at Belgian NGO Bond Beter Leefmilieu, the Flemish government gave about €50m to 104 energy intensive companies in the Flanders region of Belgium in April.

In Spain, a decree was passed in December 2014 which entitles indirect carbon compensation grants to be made for 2014 and 2015.

Data from the commission indicates that plans by Spain and the Netherlands have been approved for 2013, and Greece for both 2013 and 2014.

The economic ministries of Netherlands and Spain did not respond to questions by the time of writing on Thursday.

Market impact

In the next trading period (2021-2028), free allocation will continue, according to guidelines agreed by the European Council last year. The text states that “both direct and indirect costs will be taken into account, in line with the EU state aid rules.”

The European Commission is expected to soon propose phase IV design rules. Several stakeholders have called for the harmonisation of indirect cost compensation (see EDCM 18 March 2015).

The text will also address how to use a pot of unallocated allowances that are scheduled to be included in the market stability reserve (see EDCM 7 May 2015). These allowances were originally scheduled to be allocated for free to industry in phase III but will remain unallocated by the end of the trading period.

The commission indicated it could use them to deal with carbon leakage.

A diplomatic source which took part in the reform negotiations on the council side said Italy wanted such permits to be used for reimbursing industry for indirect carbon costs.

If this is the chosen route, unallocated allowances could be given out as additional free allocation, or sold at auction to fund an indirect cost compensation scheme. saloni.sardana@icis.com and silvia.molteni@icis.com