Considerations and opportunities attaching to post-brexit UK carbon reduction policy options Note by the UK Emissions Trading Group (ETG) Introduction 1. This paper reports back from a review undertaken by the UK Emissions Trading Group (ETG) of the considerations and opportunities attaching to post-brexit ETS options, including a UK scheme linked to the EU ETS. It cross refers where necessary to a companion paper presented in the form of slides which reviews post-brexit non-ets measures that can be adopted singly or in combination. Without prejudging any final preference, some ETG Members are interested in further development of some of these measures. 2. Because the ETG has a broad constituency, members have a range of opinions about what UK carbon reduction policy options should be in place post-brexit. Many want to retain a close relationship with the EU ETS; some prefer a non-ets instrument; some are still undecided. This paper and the companion paper adopts the standard ETG approach in reviewing options but not recommending any one in particular. 3. One constant, however, is that ETG Members are increasingly concerned about the very limited time available firstly to understand the impact of BREXIT on UK participation in the EU ETS, and secondly to negotiate and implement any kind of linked scheme or alternative needed, even with the addition of a short transition period. 4. Importantly, whether an ETS remains or an alternative measure is chosen, ETG members see protection from the risk of carbon leakage as a key priority that must remain an important element of any scheme. The starting points 5. This paper acknowledges the following: The UK has its own Climate Change Act (2008). The Act requires a net UK carbon account for the year 2050, and national GHG budgets which are now in place up to 2032. Regulatory measures to help achieve UK GHG Budgets will continue to be needed. While all the options for the Post BREXT future of the EU ETS may remain open, time is running short to elaborate necessary regulation. A transitional period is thus preferred to give more time and to also enable EU ETS to continue to the end of Phase 3. Although a transitional period has been agreed in principle, it is subject to conclusion of a Brexit deal Nothing is agreed until everything is agreed. 1
The Options It is the Government s stated intention that current EU law, given UK legal status under the European Act 1973, will be fully transposed into UK Law. This means that the default position of ETS in the UK is the current EU ETS (Phase 3) and it will become a UK ETS in UK Law following assent of the UK Withdrawing Bill. Some amendments will be required e.g. to remove reference to EU bodies. The Withdrawing Bill (currently under discussion in Parliament) will also enact EU ETS regulations and decisions into UK Law so should ensure smooth operation of a UK ETS outside the EU. 6. An ETG BREXIT Workshop in November 2016 identified 4 ETS options plus Something else (i.e. non-ets options) for post BREXIT application: i ii iii iv v EU ETS Reloaded - EEA or similar arrangement, e.g., Norway (assuming that this is politically feasible). Mirror - a separate possibly linked - UK ETS that mirrors as far a possible the EU ETS but outside an EEA type arrangement. Linked UK ETS - a new improved UK ETS linked to EU ETS by joint recognition and fungible allowances for compliance - cap in line with carbon budgets and agreed with EU - similar basic architecture and broad coverage but flexibility on detailed design (e.g., allocation and leakage criteria, sectors, gases, contribution to EU funds). Stand-alone UK ETS- A new, bespoke, ETS designed for domestic purposes - Linkage friendly. Something else (i.e. non-ets options). 7. In addition to these 4 ETS options, as noted in the third bullet above there is a default option of maintaining the current Phase 3 EU ETS if no changes are made or ETS alternatives enacted. 8. The ETG has given no further consideration to Option i and Option ii since they essentially accept EU ETS Phase 4 and therefore offer very little opportunity for regulatory fine-tuning of the ETS rules to apply to UK Installations - other than through EU ETS Phase 4 implementing measures that are still to be resolved. We have therefore focused on Options iii and iv which present more scope for change. Option iii (Linked UK ETS) 9. Option iii (Linked UK ETS) could build on the precedent of the Swiss-EU ETS linking Agreement where some differences were negotiated. We have produced a draft list of ETS-relevant desirable elements for consideration by UK negotiators seeking a UK/EU Linking Agreement see Appendix A. Some members would prioritise securing an agreement on linkage over inclusion of additional scheme elements. Option iv (Stand-alone ETS) 10. In the case of Option iv (stand-alone UK ETS), items listed in the desirable elements at Appendix A can also be considered. Issues attaching to the adoption 2
of Option iv which could also apply in the case of a hard Brexit (i.e. no transitional agreement) - are listed in Appendix B. In this event, as well as evaluating realistic options for a standalone UK ETS, ETG members are interested in further development of some of the non-ets alternative measures. Consequences and mitigation of a Hard Brexit (i.e.no transitional agreement) 11. A Hard BREXIT on 29 th March 2019 is to be avoided. It would risk regulatory contractual and/or investment ambiguity for UK (and EU) businesses: in particular The UK Government would be unable to cope with the administrative burden of legal separation from the EU including EU ETS. Opportunities for UK linking to the EU ETS may be delayed in politically difficult aftermath of a Hard BREXIT. 12. The ETG believes there are two immediate possibilities which could help manage the above Hard BREXIT risks: A. The UK would issue and auction allowances independently. It would credit any EU ETS allowances cancelled in the EU Registry with a UK allowance in the UK Registry. UK installations would tend to keep existing EUAs in the EU Registry and surrender them for UK allowances when needed. B. Stopping the clock (i.e. suspending) on the UK ETS in exceptional circumstances of BREXIT may be considered. This is to ensure smooth changeover (particularly with reference to registry operation, installation re-permitting etc.) and avoid legal ambiguity. 13. In any period of UK ETS suspension, ETG members still anticipate continuation of installation reporting and monitoring of ETS emissions. But with no EU ETS carbon price, there would be a risk to renewable fuel projects in the suspension period. Monitoring and reporting 14. Appendix C is a list of changes suggested by ETG Members that could be considered to simplify monitoring and reporting. ETG June 2018 3
Appendix A: Draft List of desirable elements for inclusion in linking negotiations Note: The greater the divergence from the EU ETS, the harder it will be to agree a UK-EU ETS linkage agreement with the Commission. 1. Carbon Leakage Continuing access to free allocation for sectors at risk of carbon leakage is critical. Currently the system for calculating sectors at risk lacks transparency and risks being based on data not relevant to EUETS Sectors/sub sectors. 2. Small Emitters Exclusion thresholds Regulating small emitters is neither cost effective for Competent Authorities and installations nor is it necessary. Exclusion of small emitters allows concentration of effort on larger emitters. Using EUTL data for EUETS emissions year 2017 1, the following potential exclusion thresholds are apparent: - up to 25KtCO2/year = 60% installations excluded for loss of 2.68% emissions reduction from the ETS scheme - up to 50KtCO2/year = 73% installations excluded for loss of 5.59% emissions reduction from the ETS scheme ETG members thus favour a much higher annual emissions exclusion threshold than the current 2.5 KtCO2e/year for exclusion rather than the use of opt-out of selected installations or sectors. A higher threshold would also allow for the exclusion of hospitals, as many would be caught by the higher small emitter thresholds and so fully removed from the scheme. 3. Electricity allocation From Phase 3 Electricity Generation receives no free allocation to prevent a distortion between potential suppliers to the electricity grid. However, this rule causes a distortion in other sectors. For example, CO2 emissions from offshore platform gas turbines are eligible for free EU allowances (EUAs) when used to drive compressors or pumps. However, when gas turbines are used to produce electricity to supply all an offshore platform s needs (including compression and pumping) their CO2 emissions are currently not eligible for free allowances. In addition, the latest offshore platforms use all-electric drive systems to help reduce their emissions via greater operational flexibility, as well as reducing lifetime maintenance costs. With no free allocation for electricity production, such installations are disadvantaged in terms of carbon leakage risk. 4. State Aid Guidelines and Indirect Emissions Compensation Currently indirect compensation is determined by sector/sub sector via EU State Aid Guidelines which are up for renewal in 2020. Industry sectors are determined by electricity imports but this should be based on installation electricity consumption 1 The dataset excludes all Aviation, closed installations and installations with no emissions 4
(i.e. Imports plus self-generation less exports to grid) to allow for on-site generation and exports to the grid. Compensation should be at installation rather than sector level to allow relevant coverage of complex manufacturing sites. Given that the Government has already announced that post UK Brexit State Aid rules would be administered by the UK Competition and Markets Authority, such changes are within its own jurisdiction, though the new regime & its appeals process are currently unclear. The UK would need to at least match EU levels of support. In addition, the business level test for carbon cost compensation is very narrow and overly restrictive compared to the business level test for renewables compensation. 5. Enforcement & Guidance Current extensive EU Guidance on EU ETS would no longer have jurisdiction in the UK Post Brexit. Members favoured use of existing relevant UK Competent Authority harmonised Guidance, with access to existing EU ETS guidance as a point of reference. 6. Benchmarking - Sector and fall-back approach issues Would UK installations participate in the EU sectors average top 10% benchmarks? While it would help harmonise UK and EU sectors for carbon leakage purposes, there remain issues of making benchmarking work in practice particularly in the event of a UK standalone ETS. Concerns include a lack of installations in a sector to form a benchmark based on the average of the top 10% of installations; lack of data transparency on how an EU ETS benchmark was actually derived; relevance of the EU sector benchmark to UK sectors. There was the issue of implementing the Council Conclusions of Oct 2014 that free allocation at the level of the sector benchmark must continue for sectors subject to the risk of carbon leakage. There was also disquiet on DG CLIMA s view to use top average 10% methodology on heat, fuel mix and process emissions benchmarks. The use of a narrower range for the fall-back approach is overly demanding since these Fall-back approaches already contain elements of allocation reduction: Fuel mix is already based on low emission natural gas, not EU average emissions. Heat the benchmark is already updated in line with achievable boiler efficiency. Process emissions a reduction factor for allocation is already employed. Any UK scheme post Brexit should avoid eroding the principle of Carbon Leakage by adopting unachievable benchmarks; it should also avoid the creation of multi sector competitive benchmarking as there is little or no inter-sectoral relationship to define relevant allocation. 7. Transparency Any linkage of EUETS to a UK scheme will need to satisfy Member States that the UK is operating a linked scheme fairly and to the agreed rules. Transparency becomes a 5
key to rebuild trust. Already Phase 4 is throwing up disquiet on how carbon leakage calculations are made and with what data. Calculations need to be replicable; it was pointed out that many trade associations hold more sector relevant data than Eurostat/UK BEIS. In terms of Government relationship with industry in the transition period, there must be greater transparency on sharing EU ETS Phase 4 related regulatory proposals, how decisions are to be made, and with what information. 8. Data The UK statistical services should review the quality and sufficiency of UK submitted data used to underpin sector allocation decisions - sector GVA (collected on an enterprise basis), and import / exports / consumption by value. UK Statistical Office s future relationship with Eurostat might be unclear, but efforts should be made to continue submitting UK data and thus have reciprocal access to EU Data and access to long time series data sets. 9. MRR simplification issues A list of issues promoting simplification under ETS emissions Reporting and Monitoring forms Appendix C. 10. Inclusion of waste incinerators The UK has the opportunity to create a level-playing field across all large CO2 emitters. For example, waste incinerators burn the same waste as other industrial sectors - who are required to include emissions from such waste in EU ETS, while waste incinerators do not. Inclusion of waste incinerators should therefore be considered. 6
Appendix B: Issues for a implementing a UK standalone ETS A legally robust version of all current EU regulations on cancellation of the Single European Act (1972) is the stated intention Government via the Withdrawing Bill). UK secondary legislation to embody the current EU ETS Phase 3 Directive and associated EU Regulations & Decisions is planned to be on UK statute books by March 2019. This should allow for a workable ETS for the UK. There will be a need for industry/user scrutiny and feedback on draft UK ETS Regulations prior to BREXIT. Regulatory Transparency is in everyone s interest to avoid unintentional consequences. The critical components and decisions needed to deliver an operational standalone UK ETS include: o Design Issues Sufficient UK market liquidity? How would a UK Allowance market and participants be regulated? o Operational Issues: Establishing a UK Registry to enable free allocation, Govt. auctioning and trading transfers between accounts. Transfer of installation data from EU TL (alternative is to recreate data from scratch). Establishing trading accounts to facilitate allowance transfer between parties. Advance production of Market Data (starting with emissions year 2017). This is to facilitate UK ETS supply and demand and thus estimates of value, scarcity and price. Publication of UK Installation data(emissions, allocation, and NACE 4 coding are vital). EUA credit import facility from mainstream EU ETS? o UK Govt nominated account in EU TL. Any allowances that enter the account are either voluntary retired/ cancelled/ held indefinitely o UK Govt issue matching UK Allowance in UK Registry to transferor UK Installations is re-issue of GHG permits required? o In the event of a Hard BREXIT there are some potential alternatives, particularly if it is not possible to operate a new UK only ETS registry. These include Suspension of EU ETS (akin to Aviation Stop the Clock ) - A last resort, noting that any such temporary cessation could have a have a detrimental effect on, projects, which could be cancelled or delayed EUA recognition - UK ETS continues, but compliance can also be via surrender of an EUA in a designated EU Registry Account in return for issuance of a UK Allowance in the UK ETS 7
Note: There are also alternatives to ETS in the companion paper to this that reviews post-brexit non-ets measures that can be adopted singly or in combination. These include CCL, CCA and a carbon tax. Without prejudging any final preference, ETG Members are interested in further development of some Option 5 measures in the event of a UK Standalone ETS scheme with no Linking. 8
Appendix C ETS Monitoring and Reporting simplification issues This is the current list of issues that ETG Members are keen to see included in any future ETS scheme: Inclusion Adjust lower threshold to exclude small emitters (with/without their inclusion in some equivalent programme at MS discretion) Adjust definition of combustion to exclude certain fuels (e.g. acetylene used for welding) and/or exclude all small bottled gases (e.g. define them as mobile ) and other very small combustion sources as inconsequential below a set threshold Define mobile plant consumption below a set threshold as mobile, even if stationary in use Exclude thermal oxidisers used for safety/odour abatement Permitting Simplify permit (e.g. installation name & installed capacity; major sources & fuels only) and require detail to be maintained in site records Review what is considered significant change that triggers a mandatory permit/mp variation Remove requirement to notify non-significant changes. Guidance Simplify guidance documents to focus on areas that really need interpretation (especially for small emitters) and to use plain English (not legalistic) language Improve & make pragmatic guidance on determining emissions factors for flaring (e.g. use MolWeight data from Ultrasonic meters to create a correlation) Improve guidance on what is a significant vs non-significant change Encourage operators to keep their systems/procedures simple within the rules (many over complicate) Provide timely training/guidance for new scheme/rules Monitoring Use of National Grid default factors for mains gas (i.e. no additional gas analysis required); Reduce document retention requirement to fiscal or EPR minimum; Review UK s definition of reportable emissions (currently effectively 100%) which doesn t match Directive s definition (currently verified emissions) to reduce burden on operators and/or exclude de-minimis sources from reporting; Allow for adjustments between years where in one year there is an un-correctable overstatement which could be offset in the next year Remove Uncertainty calculations for fiscal meters Introduce minimum threshold for sources to be classified as Major Allow option for a total mass balance approach for an installation For commodity materials allow use of product specification to determine emissions factors Remove annual improvement reporting 9
Verification Exempt very small emitters from verification (or decrease frequency of verification provided they remain below a set threshold) Exempt small/ trivial sources from verification Replace verification with random CA audit & penalties Scrap requirement for verifiers to check off-shore facilities as regulators inspect annually Scrap requirement for verifiers to check meters in-situ 10