TheEUEmissionsTradingSchemeAllowancePrices, TradeFlows, CompetitivenessEffects
The upcoming European EmissionsTradingScheme (ETS) is one of the more controversial climate policy instruments. Predictions about its likely impact and its performance can at present only be made to a certain degree. As long as the National Allocations Plans are not finally settled the overall supply of allowances is not determined. In this paper, we will identify key features and key impacts of theEU ETS by scanning the range of likely allocation plans using the simulation model DART. The analysis of the simulation results highlights a number of interesting details in terms of allowancetradeflows between Member States, of allowanceprices, and in terms of the role of the accession countries in the ETS. An important finding about the impact of the new ETS with respect to achieving emission reductions more efficiently, i.e. at lower cost, is that savings can only be realized if the cap on emissions is distributed between the ETS sector andthe rest of the economy in such a way that the different abatement costs are taken into account. This would imply a relatively small allocation of emissions to the ETS sector. The second important result concerns the role of the accession countries. Even if they do not supply their hot-air in the ETS market, they contribute substantially to the cost savings of the ETS by offering low cost abatement options.
Finally, RES-E support schemes are also understood by politicians as an effective tool of industry policy. They are expected to foster the leadership of European firms in future technology markets. TheEU explicitly mentions possible positive impacts on regional and local development, export prospects and employment opportunities. In addition, it is emphasized that RES-E schemes may particularly benefit small and medium-sized undertakings and independent electricity producers (European Parliament/Council of the European Communities, 2001). Exemplary data for the German industry seems to confirm these expectations. The sales volume for renewable energy technologies produced in Germany amounted to 25.5 billion Euro in 2007. This figure corresponded to an increase by 155 percent from 2003 to 2007. Moreover, the renewable energy industry had roughly 250,000 employees in 2007. This implied a 55 percent increase since 2004. According to estimates of the Federal Ministry of the Environment, about 60 percent of this employment effect can be attributed to the existing RES-E support scheme (BMU, 2008, pp. 27-28). However, the net effects of RES-E policies are possibly smaller. Detrimental impacts on overall economic development may result from crowding-out effects in the fossil-fuel sector and increases of electricity prices (Frondel et al., 2008; 2010). Empirical estimates of net employment effects of RES-E support schemes are quite mixed. Some confirm an increase in employment (Lehr et al., 2008; Wei et al., 2010), while others find zero or negative effects (EWI et al., 2004; Hillebrand et al., 2006).
Source: CITL; own calculations.
When emission caps were determined average annual GDP growth rates of 2.2% were assumed for the second trading phase. Under these presumptions andthe stronger intervention of theEU Commission in National Allocation Plans the cap was set well below the cap of the pilot phase, in a way – it was thought – that would guarantee scarcity of emission certificates in the second trading period. For 2008 the overall EU cap was binding with verified emissions exceeding allocation by 8.9%. If assumed economic growth rates had been realized this would have implied an increased incentive for emission abatement measures resulting from a binding cap and rising allowanceprices. For 2009, however, the unexpected exogenous shock of the economic crisis, reflected in a decline of GDP by 4% compared to the previous year, translated into a sharp drop in verified emissions. Allocation again exceeded verified emissions resulting in a total net long position of 4.0%. Although in 2010 the economy started to recover which also resulted in a modest rise in emissions, theEU wide emissions cap was again not binding. For 2011, the surplus of allowances further increased due to the warm winter and still modest economic growth. These results for the second trading period point at the difficulties of ex ante set caps when considerable uncertainty of future economic development prevails.
This study analyses the intra-EUtrade of the world's chief wine exporters, namely Italy, France and Spain. Using an augmented version of the gravity model we empirically assess which of the three countries have experienced growth in intra-EU market trade. Effects of transportation costs, as well as demand and supply gaps between origin and destination countries, on the size of bilateral trade ﬂows were speciﬁcally taken into account. Estimation results highlight the differences between bulk and bottled wine, providing useful information for European producers and policy-makers involved on regulation of wine sector. As concern bulk wine, Italy and Spain show no element of growth in competitiveness, while France shows a statistically signi ﬁcant annual decrease. In contrast, estimates for bottled wine all show a growth tendency, albeit with a different magnitude of coefﬁcients. Italy is the country with the highest trend, followed by Spain and France which instead has a decidedly modest growth in export values. However, analysis of pricing policies shows that France does not appear to target an increase in export volumes so much as an increase in average unit price, while Italy, and especially Spain, have a tendency to increase export volumes, also to the detriment of prices. & 2016 UniCeSV, University of Florence. Production and hosting by Elsevier B.V. All rights reserved.
These ﬁndings show that theEU ETS has eﬀectively reduced GHG emissions in the regulated sectors without incurring substantial competitiveness e ﬀects. Put diﬀerently, ﬁrms abated emissions without those abatement activities showing up negatively in competitiveness. Most likely, the design of thescheme so far (over-allocation, mostly for free) has prevented the negative e ﬀects for ﬁrms on average. While this is good news for the current level of European competitiveness, could this mean short-term gains for long-term pain? A low carbon price undermines incentives for early investments in low-carbon technology and could a ﬀect the system’s dynamic e ﬃciency (minimization of long run abatement costs). Therefore, negative competitiveness eﬀects may just arise later, when more ambitious abatement will be required. At the same time, Vailles et al. (2017) argue that in Phase IV, energy e ﬃciency and renewable energy policies will enable emissions reductions that are already su ﬃcient to meet theEU ETS target. Finally, other elements suggest that ﬁrms would be capable of absorbing higher carbon prices, as demonstrated by their ability to pass costs onto consumers and due to the low burden of energy costs on average. Therefore, we conclude that strong negative e ﬀects on competitive- ness under the current and near-future design of thescheme are unlikely. In consequence, this means that pol- icymakers need not implement further relief for the average regulated ﬁrm.
Figure 4 shows the resulting welfare costs of the three scenarios UNI, NoCDM and LimCDM. Whereas a unilateral achievement of the Kyoto targets 3 would lead to an average welfare loss of 0.7% in the EU15, this loss rises to 1.8% when the ETS is introduced without using CDM and JI. This illustrates thetrade off between efficiency gains through trading among member states andthe intersectoral distortions within each economy. The efficiency gains from the ETS are apparently netted out for many countries by the distortions imposed by the inefficient allocation of internal caps to the ETS and non-ETS-sectors. A comparison of Figure 3 with Figure 4 supports this. Countries with a large divergence between allowance price and implicit tax in the non-ETS sectors, such as Austria, Spain, and Italy experience a strong negative welfare effect through the ETS. In contrast, the ETS-sectors in France, Greece andthe UK are more restricted than the non- ETS sectors, but due to the low level of restrictions the welfare effects are negligible. There is one country where the efficiency gains from the ETS outweigh the distortions from different marginal abatement costs, that is Denmark. The implicit tax in the unilateral scenario is 60 €/t CO 2 whereas theallowance price in ETS is less than 10 €/t CO 2 . Denmark apparently benefits so strongly from trading that the distortions between sectors are outweighed by the low abatement opportunities in the rest of theEU.
One factor is the sheer scale. TheEU ETS is the biggest such scheme in the world by an order of magnitude. At allowances pri- ces in the range of EUR 10–30/t CO 2 , the value of allowances issu- ed every year is EUR 20–60 bil- lion, compared with the US’s East Coast NOx trading programmes (EUR 1.1 billion) or SO 2 trading schemes (EUR 2.8–8.7 billion). 1 The sheer scale of theEU ETS means that it could affect the costs of key industrial sectors more than any previous environmental policy – perhaps more than all the others put together. Yet part of the prob- lem in the debate over theEU ETS is the tendency to make sweeping generalisations, not least about costs andcompetitiveness impacts. Figure 3 provides some context, by plotting the potential cost impacts of a EUR 20/tCO 2 price on the most carbon-intensive manufacturing activities, against the value-added of these activities, using the UK example. Cement and steel stand out; for no other significant activity do such carbon costs amount to much more than 10 per- cent of value-added even if they had to pay in full. Free allocation does much to protect cement, steel and a number of other sectors. Out of 159 activities in this study, only 20 – amounting to about 1 percent of value-added in the UK economy – face a full carbon cost impact exceeding 4 percent of their value-added. This does not make the costs minor, but in terms of potential trade impacts with other regions of the world, it does set them in the context of other international differentials of raw materials, labour costs, interest rate impacts and exchange rate variations, for example. Slovakia
In 2003 the basic conditions of the European market for emission allowances (or permits) were agreed on, where one allowance gives the right to emit one ton of CO 2 . In the first phase of theEU ETS
emissions permits were predominantly grandfathered to the affected firms by allocation mechanisms formed by national politicians. During the three years of the first period firms could bank and borrow within the years, however, no exchange with later periods was allowed, so that the first period was a self- contained market unaffected by future caps. The general rules are given by the Commission, however, there is a wide delegation of tasks to the member states concerning allocation procedures, registration of firms, their certificates andemissions as well as the setting of an overall country-specific emissions cap. In this paper we analyze how the implementation of theEU ETS affected the involved firms’ stock returns. By conducting an event study, we can detect how investors value information about announce- ments concerning verified emissions. One would expect to find positive as well as negative abnormal returns as a reaction on the general information about theemissionstrading market. The announcement of the effective emissions reveals information about the true amount of emissions needed for stock market participants. Investors can then correct their beliefs about the used technologies and applied abatement possibilities of the individual firm and hence stock prices react. In the cross sectional analysis we find evidence for the asset value hypothesis and only weak evidence for the abatement hypothesis, suggest- ing that investors were more concerned about the asset value of the permits issued to the firms than the induced abatement.
TheEU ETS can in fact be seen as a pioneer and as a first important step towards a global ETS. Developments of extra-EU ETS have made great progress in Norway and Switzerland who are designing schemes closely related to theEU system. Since discussions on linking the systems are already underway, these countries could be linked to theEU ETS as soon as 2010. In the medium-term perspective up to 2020, however, further candidates for linking to theEU ETS have to be considered: First, Canada is promoting the Large Final Emitter System which plans to cover energy-intensive companies which account for almost 50 per cent of total Canadian greenhouse gas emissions (CEPA Environmental Registry, 2005). However, thescheme is intended to be based on intensity targets and to include a “Price Assurance Mechanism” capping allowance costs at 15 Canadian dollars. This would lead to a very different ETS compared to the European one, which makes a direct linking of the two systems rather difficult. Second, Japan has started the Pilot Project of a Domestic EmissionsTradingScheme on a voluntary basis, with about 30 private companies participating in the program (Japanese Ministry of the Environment, 2004). Third, Russia – having ratified the Kyoto Protocol – would have good reasons to develop a domestic emissionstrading system in order to be linked to the European schemeand exploit a larger market for the sale of excess permits. Although Australia andthe United States have not proceeded to ratify the Kyoto Protocol, individual states in both countries are promoting sub-national trading schemes to be established: in Australia the New South Wales (NSW) Greenhouse Gas Abatement Scheme is already operating (NSW government, 2006), in the U.S. the Regional Greenhouse Gas Initiative is promoted by nine Northeast and Mid-Atlantic states (RGGI, 2006). As a consequence, there are strong signs for future ETSs to be established in non-EU countries and potentially linked with the European scheme by 2020. Following the European ETS, emerging schemes can – like the Canadian or Japanese systems – be expected to include mainly energy-intensive industries.
across regions much easier and effective and at the same time reduce sunk costs that each pilot invests in facilities for its own tradingscheme if they are not consistent with
national ones and will have to be eliminated as a national ETS starts operating. The pilot regions are taking the lessons learned in the first compliance year. Indeed, the pilot regions are amending the interim provisions whenever necessary to improve the operation of their ETS. As the sole pilot to mandate the covered enterprises to purchase a proportion of initial allowances, Guangdong sets the reserve price in the initial auction at Yuan 60 per ton of allowance (GPDRC, 2013). By mandating the covered enterprises to purchase the fixed quantity at the predetermined prices, this pilot would make these enterprises directly feel the cost of emissions, thus pushing them to cut their emissions. However, this fixed price approach could not reflect their abatement cost or demand, nor would it be coupled with theallowance price in the secondary market (Duan et al., 2014). Moreover, the mandatory purchasing has led to objections from some of the covered enterprises. Based on the mandated 3% purchasing of 350 million tons of allowances, 242 companies covered need to purchase 10.5 million tons of allowances for complying their 2013 caps. But from six auctions from 16 December 2013 to 5 May 2014, only 178 enterprises purchased 9.76 million tons of allowances (Tanpeifang, 2014a). This means that 64 enterprises covered have still not purchased their allowances in 2013, thus leaving all their free allowances on hold. Consequently, these enterprises are unable to engage in allowancetradeand to proceed with their compliance. One of the two enterprises, which failed to comply with theemissions caps, argued that it is unfair to purchase the allowances, given that enterprises in other parts of China do not need to pay for them. Based on an evaluation of this mandatory purchasing through auctioning in the first compliance year (Wang, 2014), Guangdong has decided that in the second
A regional maritime market based mechanism targets emissionsand thus activity arising at certain point of the globe and does not differentiate between the origins of the transport service provider. In contrast to a more standard application of a cap-and-trade approach, for example the EUETS for stationary installations, such a scheme has to cater for the fact that only a certain part of theemissions of the international transport pool is subject to the regulation. Imagine for example an ETS regulating only the total amount of emissions resulting from shipping freight to theEUand leaving out emissions for instance arising from transporting freight from Australia to China. Given the importance of specific transport flows for our research question, instead of using transport services directly as an input in the different sectors or for final demand, in our model, the output of the international transport pool is put into relation with thetradeflows present in the economy. Similar to the production of standard commodities in the basic WIOD CGE model, all transport services associated with a particular trade flow are produced on the basis of a four-level CES function as outlined in Figure 1. The sum of value-added VA (r) from all regions is joined with a Leontief aggregate of energy A (eg,r) and
60 ever before” (p. 432) and introduced a new method called “the buy, bank, burn program where, as the name suggests, one buys and banks allowances to be burned only in the future, once the emission cap has become exogenous; that is, when emission flows into the MSR end” (ibid.). Hence, since the allowances bought by nongovernmental organi- zations are not directly canceled like before but banked, they are not withdrawn from the market but count as banked instead which is why they do not reduce but might even in- crease the intake into the MSR and with that the potential cancelation via the cancelation mechanism (ibid.). The point in time when the bought allowances are burned is decisive since before burning them, the allowances are a part of the bank and it depends on the size of the bank whether there is an intake in the MSR in the next year. Since it might be the case that the size of the bank fluctuates around the threshold value, i. e. falls below it several times and rises above it again, like estimated by Osorio et al. (2020), the allow- ances should only be irreversibly cancelled if it is safe to expect that the threshold value will not be exceeded again. With this “buy, bank and burn” method, “[p]arties outside EU ETS can burn allowances at more than 100% efficiency, partly paid for by regulated in- dustries” (ibid., p. 433) since “[i]n order to offset 1 ton of emissions, an agent need only buy and bank 3/5 tons worth of allowances” (ibid.). This is why today a new service to buy, bank and later burn EU ETS allowances is offered by organizations like Compensa- tors*, 50ZERO or ForTomorrow (Compensators* e.V., 2020a). As an advantage of their offsetting service, they emphasize that emissions are avoided within Europe where per capita emissions are comparatively high and with this the incentives for European indus- tries to reduce emissions are strengthened whereas other offsetting organizations focus rather on projects in the global south (ibid.). Some of them directly work together with scientists, e. g. Grischa Perino controls the operations of the Compensators* organization as an additional authorized account holder of theallowance account (Compensators* e.V., 2020b). To conclude, consumers can use these services to buy, bank and later burn allow- ances to contribute to a reduction of total emissions in theEUand campaigns might hence also recommend this option. Compared to campaigns aiming at a demand reduction where consumers might spend their money elsewhere andthe clean input might leak to other sectors, campaigns recommending to donate to a buy, bank and burn program seem to not face these leakage effects.
The results of the qualitative empirical analysis were not very uniform. A diverse range of opinions and perceptions was found to exist concerning the relevance of EU ETS for the waste management sector. This was even true for results within the three groups’ research and policy, waste management, and industry. It was thus not possible to identify a single overarching theme, or a specific topic of clear relevance to any particular group. Despite this, however, it was possible to filter out a few main points which may prove useful in examining underlying causalities (e.g. the possibility of passing on costs and how this is related to levels of competition, or the extent to which existing high environmental standards act as a constraint in pursuing further emission reductions in the waste management sector). In general, factors such as uncertainty, price instability, innovation or investment incentives, and Joint Implementation (JI) or Clean Development Mechanism (CDM) projects do not appear to be of any major concern to those surveyed. The interviews, however, revealed that the framework conditions relating to inclusion of the waste management sector in theEU ETS play a vital role. The factors most frequently cited by respondents in this respect were emission allowance allocation, additional costs, andthe indirect impact arising from further treatment of waste in the waste management sector resulting in additional savings in greenhouse gas emissions in other sectors of the economy.
rise and dominance of neoliberalism andthe international climate action under the UN are investigated.
4.1.1. The rise and dominance of neoliberalism
According to David Harvey, neoliberalism is a “theory of political economic practices” which assumes that the welfare of human beings can be best reached by individual entrepreneurial freedoms within a context of strong private property rights, free markets and free trade (Harvey 2005: 2). The state‟s role is to set up institutions which create and secure this institutional framework and to ensure the orderly functioning of the markets. In fields where there are not yet markets, like in education or environmental pollution, the state should create them. However, the state should not intervene in already existing markets (Harvey 2005: 2). Neoliberalism uses the neoclassical economic theory as „scientific‟ legitimation for the laissez-faire ideas (Bresser-Pereira 2010: 7). This macroeconomic theory is based on the concept of the „homo economicus‟, which means that consumers as well as producers are acting rationally as they always aim to maximise their own benefits or profits (Rogall 2013: 74). Within the transactions all actors have the relevant information fully available in order to make the right decisions (Rogall 2013: 75). A further main assumption of the neoclassical economic theory is that humans are always acting in their best interest, which in total results in the best for the society (Rogall 2013: 75 f.). Government interventions are rejected by this theory as through prices, wages and rents markets automatically reach a balance. Thereby, it is assumed that all costs and benefits are included in the calculations of the market participants. This means that there are no external effectsand also no overuse of goods or production factors. The central assumption is that an undisturbed market economy without governmental interventions will lead to welfare for the whole society (Rogall 2013: 79 f.).
demand on markets. Reduction efforts by companies are not defined by the regulating authority as under a command and control regime. Hence, liquid and transparent markets are of great importance. Transparency in markets (about pricesand traded volumes) is beneficial as it provides information to all market participants. In the US SO2 trading program, prices for private transactions were unknown to others and hence assessing a “fair” price was accomplished with relatively high informational costs. The market was not very liquid meaning that finding a potential seller/buyer was accomplished with search costs. These factors lead to relatively high transaction costs in general and hampered the efficient exchange of permits andthe efficiency of theemissionstrading system as such. Since the price is generated at primary auctions or sells (initial permit allocation by authority) and at secondary markets (exchanges over the counter trade), liquidity and transparency within the market is crucial for minimizing transaction costs and facilitating efficient exchange of permits. Allowing intermediaries to be active in permit trading can play a crucial role here. Also markets for machinery and equipment to achieve emissions reductions can be of importance. While in the case of SO2 trading, retrofitting of existing plants to reduce emissions was relatively easy, technical solutions for the reduction of CO2 are more complex because of the non-existence of end-of-pipe technologies for CO 2 emissions. If markets for energy efficient machinery and equipment are sticky, transaction costs can hamper the effective transformation of the economy (Heindl, 2011).
Table 6 drives home the point that the relative importance of the pre-existing tax distortions associated with refined oil and natural mainly depends on the size of the respective tax base and tax rates for each fuel in each partition. The major bulk of refined oil consumption occurs within the transport sector which is not included in theEU ETS; in addition, the refined oil tax rate in the ETS partition is 2.8 times higher than in the non-ETS partition. Natural gas is taxed at a significantly larger rate in the ETS than in the non-ETS partition although the tax base in relatively larger in the ETS sector. Thus, for both fuels, there exist relatively large tax distortions in the non-ETS partition. Introducing a minimum price shift abatement towards the ETS partition, in turn reducing the efficiency losses in the non-ETS partition as the carbon tax on fuels that are already subject to relatively high taxes is lowered. Although the tax rate on coal in the non-ETS sector is sizeable, its impact on efficiency is negligible due to its small tax base (similar effects are obtained for other pre-existing taxes which are not shown
A first insight on the correlation of CO 2 pricing and product prices may be gained from a simple graphical illustration of the development of CO 2 and of output prices, e.g. placing CO 2 price trends on the x-axes and product price trends on the y-axes of a chart. While this approach seems straightforward for the electricity sector (with information on daily or hourly spot market prices available), it provides a major challenge for sectors other than electricity. No single price index exists for products that are much less homogenous than electricity. Rather, for most industries, each product has its own market price that may or may not be affected by theEU ETS. Optimally, each of these prices would need to be correlated to CO 2 prices in order to assess the impact of theEU ETS. Such an analysis would, thus, require collecting a vast amount of product price data, which most often is not publicly available. Alternatively, aggregate price indices may serve as proxies. However, these data are often reported on an annual basis only and would not provide sufficient data points to perform a correlation analysis. For some products, quarterly and/or monthly data may be available. Apart from the problems associated with the collection of prices on manufacturing products, a correlation analysis would face another important set of challenges. First and foremost, a simple correlation of product pricesand CO 2 costs would most likely not provide statistically significant conclusions. A number of simultaneous reactions may lead to changes in product prices which would not allow to single out a CO 2 price based effect. A time series regression would perform well if the main explanatory variables were included. This implies that prices for all variable inputs to production (energy prices, intermediate input prices etc.) would need to be included. In addition, changes in product prices may be driven by developments outside of theEU ETS system boundary. High steel demand from China, for example, affects international steel pricesand provides a parallel and exogenous driver of product prices in the European Union that would need to be separated from CO 2 based price effects.
Why is it important to understand a phenomenon that displays a zero effect? Finding no negative effects from theEU ETS on firms runs counter to past arguments of industry lobby groups (Monjon, Quirion, 2011; Hanoteau, 2014). Also, in economics “there is no free lunch” so there may be hidden negative side effects from theemissions reductions. In fact, positive and negative side effects from theEU ETS on firms may cancel each other out. For example, negative effects from increased costs may, in theory, be overcompensated by positive innovation effects. Therefore it is important to understand the different channels at work. In parallel, emissionstrading has distributional effects such that certain firms or sectors may benefit while others may face additional challenges (Flues, Thomas, 2015). This is important to understand in order to be able to direct additional support and this way implement a successful ambitious climate policy while minimising the risk of carbon leakage. Generally speaking, an understanding is vital for reducing the cost of achieving certain environmental goals. Finally, some special interest groups or lobbies have an interest in shaping concerns about potential negative competitivenesseffects such as job losses. Therefore, understanding the channels of theeffects of climate policies on outcomes such as productivity and employment is important – even (more so) when these effects are unexpectedly close to zero. In theory, a cap-and-trade system imposes extra costs on firms (e.g., Deschenes, 2014). This is because they either have to implement abatement activities or to purchase emissions allowances unless there is free allocation. In addition, firms face transaction costs and costs for monitoring, reporting and verification of emissions (MRV). These costs may lead to a loss of competitiveness depending on the market structure and on the design of the policies, e.g. exemptions. Moreover, theeffects are contingent on who is covered by the policy, e.g. whether it is a unilateral policy. It is of relevance whether (foreign) competition exists and which regulation competitors underlie. Notwithstanding, environmental policies could also have positive effects on firms’ competitiveness. For example, these policies may trigger innovation with potentially positive consequences (Porter, 1996; Porter, van der Linde, 1995). Also, net selling firms benefit if emissions allowances are freely allocated and over-allocated, and have a positive price on theemissions market. Hence, there may be positive and negative partial effects from an emissionstradingscheme where the overall effect is not generally clear.
Carbon emissions in 2012 decreased due to weak economic activity in the euro zone. In comparison to 2011 theemissions of installations regulated by theEU ETS declined by 2% to about 1,867 million tCO2 in Europe. In contrast, carbon emissions of regulated installations in Germany increased slightly by 0.5% to 452.6 million tCO2, as low coal prices favoured the burning of coal for electricity generation andthe strong winter extended the heating period. The accompanying increase in price volatility stimulated trading volumes and affected the firms’ trading behaviour in 2012. The regulated companies increased their allowancetrading activities in comparison to the previous year. The results of the survey show that a higher share of firms (66%) was engaged in the carbon market and that active firms traded more frequently. The remaining firms were inactive, mainly due to sufficient free allocation of EUAs. During the second phase of theEU ETS, the majority of the surveyed firms (78%) had already built up large reserves of EUAs, holding average amounts of about 123% of their verified emissions in 2012. Especially small firms that do not have the capacity to engage in the market actively use their reserves for compliance in order to minimise the frequency of transactions.
of the total amount of certificates of Phase III (2013-2020). 21
Should it be of concern that a large share of emissions certificates is allocated for free? This allocation method is challenged by some economists (e.g. Cramton, Kerr, 2002; Hepburn et al., 2006) who prefer auctioning. Free allocation may not reflect marginal abatement costs and thus create competitive distortions. Moreover, free allocation is often referred to as a subsidy in the literature (Jegou, Rubini, 2011; Neuhoff et al., 2006; Böhringer, Lange, 2005). In addition – depending on the allocation mechanism – free allocation could influenced by pressure from individual companies or other interest groups more heavily than auctioning. When combined with cost pass-through, free allocation may increase firms’ profitability (see hypothesis no. 3). Auctioning could be more environmentally effective than free allocation because its positive price may induce greater investment in low-carbon technologies (Milliman and Prince, 1989, 1992; Cramton and Kerr, 2002, p.2). Still, under free allocation the opportunity costs of the emission certificates remain, thus generating incentives for abatement and investment signals (Requate and Unold, 2003). In particular, comparing free allocation and auctioning with identical caps, the difference between both allocation mechanisms is a distributional matter. As far as we know, no empirical ex post evidence stating that free allocation enables better economic performance than auctioning has been provided so far. Therefore, we leave this topic to future research. In conclusion, it is difficult to attribute the large amount of free allocation causally to the empirical findings which show no negative effects of theEU ETS scheme. Still, we have seen that this allocation method has prevailed by far since 2005. This result is important to remember for the subsequent two hypotheses which will be over-allocation and cost pass-through.