The European Commission has cut by an average of 12% the number of free EU allowances (EUAs) that countries requested for their industrial installations for phase III (2013-2020) of the EU Emissions Trading System (ETS), the commission said late Thursday in a statement. Prices continued to rise on the news.
Free allocation to some 10,000 installations in 28 countries will be cut by 5.73% for 2013 compared with preliminary requests, with the cut getting progressively deeper to reach 17.56% in 2020 (see table). Analysts previously estimated a cut between 1% and 15% for 2013 (see EDCM 12 July 2013).
Despite the cut, over phase III industrials will still receive some 43% of the phase cap (or 6.6bn EUAs) for free, with more available to new entrants. According to a commission chart, 2013 free allocation will be higher than annual phase II emissions, excluding 2008.
The long-overdue decision by the commission - based on analysis of the National Implementation Measures (NIMs) each EU country submitted - paves the way to the actual allocation of the permits, which is estimated to take "between one and three months".
For the transfer - originally due by end of February - to take place, national authorities must take a final decision on national allocation and submit the figures to the commission, which will check them and communicate to the ETS Registry, after which national authorities can kick off the transfers.
The lower-than-requested free EUA allocation was calculated with the help of the so-called cross-sectoral reduction factor, as the bottom-up sum of the countries' preliminary calculations exceeded the top-down calculation of the maximum free allocation under EU rules.
The mismatch happened for a number of reasons, the commission said. With industrials free to choose between two baseline periods (2005-2008 and 2009-2010) for the production data used to calculate the free allocation, each installation chose the period with higher production levels to get more free allowances. "Allowing each installation to make this choice has resulted in an inflated aggregate production level for allocation purposes", which the correction factor eliminates, the commission said.
A second "considerable" factor was the EU's current carbon leakage list. It groups the sectors deemed at risk of relocating to low- or zero-carbon-price regions and grants EU companies in these industries additional free permits. "With many sectors featuring on the current carbon leakage list, many installations receive a high level of free allocation," the commission said.
The calculations could change again if the carbon leakage list, which will be revised in 2014, is shortened. This could cause industry, where it is no longer classified to be at risk of carbon leakage, to receive fewer free allowances. This could have an impact on the correction factor for the later years of phase III, the commission said.
2013 auction volume not changed
The decision on free allocation also inorms auction volumes, as all EUAs available under the cap, but not allocated for free, must be auctioned.
With the free allocation cut, some 66.3m more allowances are to be auctioned for 2013. However, the commission has decided to move this volume directly to 2014.
"Adding a considerable volume in the last two or three months of the calendar year and adjusting the auction calendars accordingly may disrupt the market," it said, adding that the decision was taken by agreement of the EU countries and the auction platforms EEX and ICE.
But this figure could still change, analysts said. For a few installations, the NIMs of Germany and the Czech Republic were found "not to be entirely compliant" with the rules, which led the commission to reject the allocation for now, until changes are made to bring it in line. Carbon analytics firm Tschach Solutions, now part of ICIS, calculated that the volumes of these installations add up to over 35m EUAs. This means that additional free allocation of over 30m EUAs for 2013 could be made if they reapply, which could further push up the 2014 auction volume.
Impact on prices
"Following the delivery of free allocations, the price of EU allowances might temporarily come under pressure, as some companies are likely to use the opportunity to gain liquidity by selling (part of) their positions," according to a research note by Unicredit. But the bank said it doesn't expect any sustained price decline, as other market participants will likely step in when they identify "attractive" entry levels for buying EUAs.
According to Tschach Solutions, the news has a bullish impact short-term, and the shift of auctioning to 2014 is less bearish for Q4 than before. On the long term, however, the shift of the auction volumes will add up to 2014 supply.
First industrial reactions were critical of the decision, with the Confederation of European Paper Industries (CEPI) labelling the cut "huge". "The European Commission will have to give maximum clarity on the calculations made," said Marco Mensink, CEPI's deputy director general, in a statement. "This information should have been on the table in the back-loading debate where proponents of strong measures stated that the industry will not have to buy any credits in the coming period," he added.
The paper sector will receive the fifth highest number of free EUAs in phase III (247.3m) (see graph for sector comparison). Silvia Molteni