Emissions Market Faces Fresh Overhaul in Europe’s Green Deal

(Bloomberg) -- The world’s biggest program to reduce pollution is set for reforms that would see Europe increase the scarcity of carbon emission permits and put the region on track to meet its ambitious climate goals.

Options for the European Union’s Emissions Trading System include accelerating the annual pace at which the program’s pollution cap declines, known as the linear reduction factor, according to Germany’s environment ministry. Another is strengthening the so-called stability reserve that controls the supply of permits.

The price of EU carbon allowances jumped to a 14-year high earlier this week as the bloc considers a stricter 2030 climate target. The discussions are part of the Green Deal strategy for the region to reach climate neutrality by the middle of the century.

“The ETS will certainly make an important contribution,” Germany’s environment ministry said by email. “Both the change in the linear reduction factor and a strengthened market stability reserve are central levers for the further development of the ETS in line with market requirements.”

The flagship cap-and-trade program covers about 45% of EU greenhouse-gas emissions by imposing pollution limits on almost 12,000 facilities owned by power producers and manufacturers from Renault SA to ThyssenKrupp AG. Companies that emit less can sell their unused permits to those who need more.

The program ensures emissions are being reduced by controlling the number of allowances, which are predominantly sold to companies at auctions. Pollution caps shrink each year. The annual decline is 1.74% in the current trading phase until the end of this year and 2.2% from 2021. There is no price floor or ceiling.

Under a more ambitious 2030 target, the pollution caps would decrease even faster, meaning fewer permits being allocated to companies in the system. Bolstering the Market Stability Reserve, which currently removes 24% of surplus allowances each year, would also translate into lower supply.

Germany, which holds the rotating presidency of the EU until the end of this year, is also seeking to address calls to introduce a carbon floor price.

A “moderate minimum price” can be a useful addition to the existing rules in order to secure long-term investments in innovative technologies, in line with the climate-neutrality goal, according to the environment ministry.

“It is important, however, that a moderate minimum price does not permanently override free price formation on the market,” it said. “This could damage the functioning and broad acceptance of this volume-based instrument.”

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