There’s no denying that the European Union’s Emissions Trading System (EU ETS) is, in its current configuration, failing as a carbon market. The bloc’s attempt to put a price on carbon—and therefore incentivize emissions reductions—was bold, but its execution has been flawed from the beginning. The problem is easily identified: the price for carbon credits in this system is entirely too low to effectively motivate heavy emitters to change their behavior. But solving that problem—reforming the market—is proving devilishly difficult.
One of the reasons the EU ETS carbon price is so low has to do with how many allowances it doled out when it was first being set up. Shortly after its creation, the 2008 financial crisis hit European industry hard, and led to a natural dip in greenhouse gas emissions as businesses suffered. But the carbon market lacked a proper mechanism to match the ebbs and flows of the EU’s economy, which helps explain why there have been so many extra credits floating around: a glut of carbon credits predictably produces a low carbon price.
To address this, the EU created the Market Stability Reserve (MSR), which is designed to “soak up” these extra allowances and provide Brussels more resiliency in the face of future shocks to the system. However, the MSR hasn’t fixed the problem yet. Carbon credits are still dirt cheap, and the phase-out of the credit glut will be gradual. There’s a real fear in the EU that an overzealous correction could create a carbon price that’s too high, which might induce heavy industry to pack up and leave for regions without any carbon market to speak of. That process, called carbon leakage, is a worst case scenario, as it cuts no emissions and loses jobs and economic activity for the EU. It’s no wonder, then, that the hand on the proverbial tiller of the EU ETS has been so cautious in correcting course.
With yet another UN climate summit coming up next month, the EU is desperate to shore up its carbon market. According to Reuters, a draft document is in the works that would double the rate at which the MSR takes extra permits out of the system, and to move up the date of this necessary haircut. But it won’t be easy to fix this market when so many European countries stand to take an economic hit. Much of central and eastern Europe is still heavily reliant on coal production (including, ahem, Germany), in addition to heavy industry and all of the emissions that that entails. It will be hard to convince countries like Poland and Hungary to get on board with a policy that could do a lot of good for the planet’s climate but a lot of harm for their national economies. And therein lies the rub.