From the mid to late 2000s there was feverish enthusiasm over the potential for market based schemes to reduce greenhouse gas emissions and increase energy efficiency. Europe led the world by launching the first carbon cap and trade program and the first energy savings certificate program (aka white certificate). Now, less than a decade from the launch of these programs, the results have been mixed.
On Thursday, January 24, 2013, the price of carbon credits within the European Union Emissions Trading System (ETS) fell by 40% at one point to as little as 2.81 euros before recovering to approximately 4 euros. The plunge came after a vote in Brussels failed to support the ailing carbon credit market by delaying the release of future permits to reduce supply. The price of carbon has been lower than expected largely because the economic downturn has resulted in lower carbon emissions and thus a surplus of carbon credits. In addition, many believe that the oversupply of carbon credits was caused by generous initial allocations. While the lack of demand for carbon credits may not sound like a problem to environmentalists, according to Gilbert Metcalf, Professor of economics at Tufts University, the unfortunate consequence may be the dampening of clean tech innovation in Europe. If the price of carbon remains low, industrial and power industries may not invest in fuel switching or more energy efficient technologies.
The ETS, which includes 31 countries, was launched in 2005 in an effort to reduce greenhouse gas emissions. Under the cap and trade scheme, the European Union established a cap on the amount of carbon that can be emitted within the participating countries. The ETS auctions off allowances that can be used to cover carbon emissions or traded to other industrial factories or power plants.
Modeled after the ETS, in November 2012, California became the first U.S. state to launch a cap and trade program. By all accounts it was a success. The first auction attracted three times as many bids as permits and achieved a price slightly above the floor price established by regulators. The auction sold permits accounting for all allowable 2013 carbon emissions and raised approximately $233 million which may be used to provide relief to residential customers for higher electricity rates as a result of a switch to cleaner energy. Perhaps anticipating the price decline plaguing the European market, California regulators incorporated two provisions to support carbon prices. The first is a price floor for each auction and the second is an allowance price containment reserve. The latter would help balance supply and demand by banking excess permits if an auction fails to sell out or releasing banked permits if the price rises to high. California’s second auction will be held in February 2013 and will provide a clearer picture as to its potential success.
Energy Savings Certificates
Like cap and trade, Europe was first to the starting line to launch an energy savings certificate program (ESC). The U.K. launched the first such program in 2002 followed by Italy and France in 2005 and 2007, respectively. The ESC is similar to cap and trade programs. Participating countries set mandates for energy efficiency and establish allowances that represent a reduction of one unit (most often MWh) that can be traded in the open market. There are several methods used in establishing the price on an ESC. Prices are set by market factors but supported by a penalty for non-compliance. ESCs can also be traded as carbon offsets and therefore tied to the carbon credit markets.
Though similar, Europe’s ESC programs have proven much more complicated than the ETS. Measuring energy savings can be tricky. Allowances can be designed to incorporate estimated savings over the expected lifetime of the efficiency measure or to represent energy savings accrued annually. But to do so, a baseline of energy consumption must be established. The baseline can be a moving target where it is difficult to determine what the business as usual level of energy consumption would be. Furthermore, transaction costs are higher for ESCs due to the complexity of monitoring and verification. On the other hand, there are several important benefits to the ESC market. ESCs can reduce the payback period of energy efficiency upgrades and increase market participation by allowing any private owners to retire a ESC to, for example, reduce their carbon footprint. ESCs may also reduce the compliance cost of energy efficiency mandates while encouraging further energy efficiency measures.
In the U.S., ESCs have not gained traction. Currently, 24 states have energy efficiency standards or mandatory targets and at least five states have seriously considered an ESC program; however, Connecticut is the only state actively trading energy savings certificates. Its Renewable Portfolio Standards requires that electricity suppliers meet 4% of electricity demand through energy efficiency and combined heat and power (CHP) which can be partially met through ESCs. Under its ESC program, Connecticut allows CHP, demand response and load management as eligible activities. There is little public information on Connecticut’s program so its success cannot be easily evaluated.
While market based schemes to increase energy efficiency and investment in cleaner technologies that reduce greenhouse gases seemed promising into the late 2000s, the lack of broad implementation has certainly dampened any enthusiasm in the U.S.. All this could change if a federal cap and trade program is enacted. Until now, California and Connecticut will serve as the pioneers of cap and trade and energy savings certificate programs and will be closely monitored by other states seeking to establish similar programs.