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UK trade body urges government to link its ETS with EU as carbon prices slump

The trade association also reiterated that “weak and volatile” carbon prices under the UK ETS were undermining investment in clean energy, and with the introduction of the EU’s Carbon Border Adjustment Mechanism, UK companies could incur “hefty costs” for simply trading with its largest export market.

UK carbon prices slumped to record lows in recent months as Prime Minister Rishi Sunak rowed back on some key climate commitments. Reduced gas-for-power burn, a higher share of renewables in the energy mix and shaky manufacturing data also dragged prices down.

“If low carbon prices persist, the Treasury could lose out on GBP3 billion in revenue per year and from 2026, UK companies exporting to the continent could end up paying half a billion pounds a year in carbon taxes to the EU as a result of the bloc’s Carbon Border Adjustment Mechanism,” Energy UK said in a statement.

Lost revenues

UK Allowances, or UKAs, plunged to an all-time low of GBP33.50/mtCO2e ($40.65/mtCO2e) in intraday trading Sept. 21, Intercontinental Exchange data showed. Prices have recovered slightly since then, but they remain at a discount of almost $40/mt to EU Allowances, or EUAs.

Platts, part of S&P Global Commodity Insights, assessed UKAs at GBP37.55/mtCO2e ($45.53/mtCO2e) on Oct. 30, and EUAs at Eur78.72/mtCO2e ($83.53/mtCO2e) on the same day.

Energy UK said that over the past six months carbon prices from the UK’s ETS have raised over GBP1 billion less than if prices had remained at last year’s levels.

“Linking our carbon pricing regime with the EU’s would exempt UK companies from these costs and remove the problems caused by the disparity between the two schemes,” said Energy UK’s Deputy Director Adam Berman. “It would also stabilize and strengthen our carbon price, sending a powerful signal to bring forward investments in homegrown clean energy that can cut bills, reduce emissions, and bolster our energy security.”

UKAs have averaged GBP58.56/mtCO2e ($71.05/mtCO2e) so far in 2023 as of Oct. 27, compared with an EUA average price of Eur87.49/mtCO2e ($92.75/mtCO2e) over the same period, data from Platts showed. Meanwhile, UKAs averaged GBP79.08/mtCO2e ($95.95/mtCO2e) in 2022, compared with Eur81.17/mtCO2e ($86.05/mtCO2e) for EUAs.

Piers Forster, interim chair of the UK’s influential Climate Change Committee, told S&P Global in a recent interview that carbon price worries were “really hampering good green investment. It is making the whole thing slow down, which is not good.”

Some UK-based renewable energy companies have also recently written to the government in recent months about concerns over the price direction of the country’s compliance carbon market.

ETS linkage

Energy UK urged the government to take steps to link the UK ETS with EU ETS, especially with CBAM phasing in from 2026 to 2034.

“Such a move would exempt UK companies exporting to Europe from the CBAM, saving them billions in potential tax payments, provide higher revenues for the Treasury, and cut red tape through the removal of complex reporting requirements for companies,” it said.

The EU’s new carbon border tax, whose transitional phase started Oct. 1, will officially be phased in from 2026 to 2034, in step with the phasing out of free allowances in the EU ETS. Initially, importers will be required to buy certificates for 2.5% of their emissions in 2026, rising to 100% by 2034.

CBAM essentially levies a tax on imports of selected carbon intensive materials and products (including aluminum, cement, electricity, fertilizers, hydrogen, iron and steel) into the EU, removing the gap between the EU Emissions Trading System carbon price and export country of origin carbon price.

If UK carbon prices remain at a sharp discount EUAs, UK companies will have to pay a hefty cost on the price disconnect if they still want to keep exporting these goods to the EU.

“We strongly believe that both sides would benefit from linkage, so we urge the government and the EU to get round the table before UK companies start paying the price,” said Berman.

The main purpose of the tax is to reduce the risk of carbon leakage — EU industries relocating abroad — and encourage importer nations to introduce their own carbon markets and, so, limit CBAM impacts on their traded goods.

UK reforms

In early October, the UK ETS Authority also said it was exploring measures of a supply adjustment mechanism, which could help link closer to the EU ETS.

The EU ETS has the Market Stability Reserve, which helps provide stability by matching the delivery of allowances with changes in demand. The MSR, in place since January 2019, addresses the current surplus of allowances and also improves the system’s resilience to major shocks by adjusting the supply of allowances to be auctioned.

“This provides an openness to regulating the market in a way to ensure more scarcity and support prices with better alignment with EU ETS,” said Roman Kramarchuk, head of future energy analytics at S&P Global.

The UK ETS Authority decided to limit the number of carbon allowances for companies to buy in 2024 to 69 million mt, the lowest since the ETS came into force in 2021 and a fall of 12.4% from this year.

This announcement helped UKAs rebound to over GBP50/mtCO2e, but prices have again slumped on weak demand from the power and industrial sectors.

The UK ETS has been operational only since January 2021. Like the EU ETS, it regulates CO2 emissions from power generation, emissions-intensive heavy industries and aviation.

Author: Eklavya Gupte