EU ETS:
allocation of CO2 allowances
and competitiveness
Damien DEMAILLY
ETUC: What jobs in a low carbon European economy?
20 & 21 Feb 2007
Introduction
EU ETS review: how to improve the system?
• EU harmonization
• Long term visibility
• Competitiveness : 2 aspects in the short run
• Market share : market share / employment losses, relocation,
CO2 leakage ?
• Profitability : windfall profit ?
• Cost Efficiency
The methodology to allocate allowances is crucial for the last two
points
 What are the possible methodologies in the future ?
 What are their impacts on competitiveness and their cost efficiency
ETUC: What jobs in a low carbon European economy?
20 & 21 Feb 2007
Cost-efficiency in a closed economy
Auctioning (AU) and Grandfathering (GF)
GF : the amount of allowances given for free is independent on current
firms behaviour
AU : allowances are auctioned
Two effects :
1/ Incentive to invest in low CO2 technologies
2/ Prices increase according to the CO2 embedded in production
• GF : opportunity cost & windfall profits
• AU : revenue for States / EU and eventual double dividend
 Consumers and manufacturers switch toward low CO2 products
ETUC: What jobs in a low carbon European economy?
20 & 21 Feb 2007
Cost-efficiency in a closed economy
Output-based allocation (OBA)
OBA : firms get an amount of allowances proportional to their production
1/ Incentive to invest in low CO2 technologies
2/ The cost of CO2 emission is not internalised in prices (No opportunity cost)
No incentive to switch toward low CO2 products.
Important loss of cost-efficiency
In a closed economy, GF and before all AU are more cost-efficient than OBA.
Current allocation methodology : “impure” GF: stands somewhere between
OBA and GF
NB: Pre-existing distortionary taxes make GF worst
ETUC: What jobs in a low carbon European economy?
20 & 21 Feb 2007
Real world Analysis
Competitiveness impacts
Real world: all countries are not CO2-constrained,
goods are traded, firms may relocate.
“ Except for electricity, markets are global. We are not able to pass any
cost increase to consumers because of international competition. Hence no
windfall profits under GF and huge collapse of our margins under AU. In
the long run, we will have to relocate to the detriment of EU employees and
of climate (CO2 leakage)”
lobbyist analysis (caricatured…)
ETUC: What jobs in a low carbon European economy?
20 & 21 Feb 2007
Real world Analysis
Competitiveness impacts
There are elements softening the “lobbyist analysis”
1/ Significant ability of EU manufacturers to reduce their CO2 intensity,
at least in the medium term
2/ Trade with non EU countries is not that high for various reasons :
transportation costs, product differentiation, service differentiation…
 positive pass-through without huge market share losses
3/ Relocation :
A medium term issue
Long term investment vs. uncertainty surrounding the future
international regime
ETUC: What jobs in a low carbon European economy?
20 & 21 Feb 2007
Trade-off Competitiveness & Cost efficiency
Option 1: Rely on previous elements / most economics studies
 AU for power sector, partial AU for trade open sectors.
Option 2: Rely on the lobbyist speech
 “impure” GF or OBA at least for trade open sectors
Option 3: Be ambitious but cautious
 AU + Border Tax Adjustments
My guess: might be designed to be WTO compatible and to prevent its
use for protectionist purpose. It’s up to the EU.
ETUC: What jobs in a low carbon European economy?
20 & 21 Feb 2007
ETUC: What jobs in a low carbon European economy?
20 & 21 Feb 2007