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EU: Emissions Trading System (EUC Report)

I also thank the noble Lord, Lord Sewel, for this report. I agree with him that we should try to make this session rather less formal than maybe it would be in the Chamber, although I notice that we have not had any Committee-style interruptions or interjections yet—not that I am inviting them over the next 10 minutes. Reading through the ETS report took me back to my young management days when I was an energetic manager in industry. I was a member of the Bristol Junior Chamber of Commerce and we took part annually in a competition based on a business game. This was back in the 1970s, when computers did not exist in the form that they do now. We would be given a scenario. We decided a number of management actions, which we would fill in on a form and send off. They would be fed through a computer, along with forms from our competing junior chambers, and it worked out what would happen. When we came back the following week we found out what the results of our management had been, and then we made our next step. That reminds me of the EU ETS, except that we do not have a one-week gap—we operate on gaps of five years and seven years—but it is just as much in the fog of what else is going on. It is even more on the cutting edge of experimentation. But, instead of talking about junior managers and a theoretical company, we are talking about the future of the planet, its atmosphere and the major pollutant that we are trying to control, and about changing the habits of the whole of industry globally. That is the challenge. As many Members of the Committee have said, this is the key item in the climate change toolbox in Europe and the developed world. It accounts for some 50 per cent of carbon generally, so it has to work. We do not have much of an alternative. We have various regulations and incentives, such as renewable energy targets. But, at the end of the day, if this mechanism, which we have been investing in for some eight years or so, does not work, we have a problem overall. The mechanism is market-based. The noble Lord, Lord Giddens, is right; the irony of this to me was always that this mechanism was almost demanded by an American Administration—at the fag-end of the Clinton era, I seem to remember—and taken on by the EU. Then the US did not even put the Kyoto Protocol through Congress to be ratified. Therefore, we have a cap system that needs to decline between 2008 and 2020 by 21 per cent. Why has this become such an important item in the toolbox? It is one that we like to think can work but, as I believe the noble Lord, Lord Giddens, said, it is an easy way forward for the Government, and I do not say that pejoratively. It does not constitute an overt tax, even though it will affect prices, and, even better, it provides an income stream, so you win both ways: you are not only seen as not taxing the public but you have a significant income stream, to which I shall return in a minute. On the negative side, the problems were well outlined by my noble friend Lady Sharp. For example, we have oversupply in the first phase. In the second phase there will still be a problem of free issue, which means price variability. When a business is short of cash, it looks at its assets. If assets have been allocated to it for which it has not had to pay and which have a market value—even though IRRs are low at the moment, their present value is worth a lot more than their future value—it sells them and so the whole market moves down, although I know that it has bounced up slightly. With regard to the problem of flooding clean development mechanism units, the Commission has tried very strongly to restrict this although we are already committed to moving them forward from phase 2 into phase 3. Once they are there we are stuck with them, but the quality of incoming units could devalue the clean development mechanism EUAs. The good news is that the mechanics of the system have worked well. Verification is one of the most positive aspects of the EU ETS. I am not aware that anyone has questioned the monitoring of individual plants’ emissions, whereas claims of cheating are rife in more or less everything else to do with the European Union. The verification procedures are good because they relate mainly to large-scale installations or energy users. It would be preferable to address other sectors such as farming, agriculture or land management but problems around verification and having confidence in the scheme immediately arise. You have to have balance in that regard. On phase 3, I very much welcome the European Commission’s stronger management regarding the issuing of EUAs and its efforts to curb the inflationary aspects of clean development mechanisms. A further positive aspect is that the new-entrant reserves are also being reduced—down to 5 per cent, I think. Even then, they are allowed to be allocated only on a best-technology basis. However, if we had complete auctioning, new-entrant reserves would not be required. They exist only because we allow free allocations in the first place. Aviation will come into the scheme in 2012. It is a pity that we have to wait until 2012 for that but it is only three years away. However, there is no mention of shipping coming in, although the report says that it should be included where that is possible. That would be a good step. The calculations around aviation and shipping may be difficult but the emissions are reasonably easy to verify. On carbon leakage and the whole area of auctioning, we cannot get away from the fact that to get a proper carbon price to make the system really work we have to auction a very large proportion of the total. The Commission does not expect total free allocation to end until 2027, and the figure should be about 70 per cent by 2020. Again, we would not have had the fall in carbon price that we have had over the past month if we had had auctioning and people had to pay. You would not buy until there was a need, so you would not have the vast offloading of an asset, particularly when there is no co-ordination between member states as to when those annual allocations are let out. We are not sure whether the carbon price is going to come down again, because we are not clear when Poland is going to fully allocate the rest of its 2008 allocation, let alone its 2009 allocation. That is a major issue. I welcome the fact that we are moving out from just carbon dioxide into other greenhouse gases—nitrous oxide and perfluorocarbons. That is good, and I also welcome the de minimis rule. As the report says very well, we have to make sure that we do not have the situation that we had with car taxation where, if there is a big step up in costs, everyone designs a car to be below that level, so that everyone gets away with the taxation. There are a number of good things there. What concerns me greatly—I reflect many of the comments made by my noble friend Lady Sharp—is that we are heavily reliant on this one mechanism. If this does not work, the whole climate change strategy falls over in one step. We enter this debate and leave it knowing that it has to work. It includes only 40 per cent to 50 per cent of emissions. The next step down, which the UK Government are trying, the carbon reduction commitment, is only another 5 per cent or 10 per cent. Even beyond that, there is a long way to go. I absolutely agree with the noble Lord, Lord Browne, that every business that I have talked to, even large-scale ones, does not really take notice of the fact of the carbon price. No one really puts that into the spreadsheet or the investment appraisal, because it is so difficult to put it in, considering whether it will be there in the long term and what the price will be. Until that starts happening—that is the litmus test in the boardrooms of this country and of Europe—the system has failed. The report talks about the rest of the world, which is clearly pretty important, as the European Union is now only responsible for about 15 per cent of emissions. It is wrong to look at the developing world, particularly China, and say that now the largest polluter has to change its mind. I believe that China realises the challenges, but it also understands that it has to solve the huge rural poverty in its own nation. That is the only way that China can move forward. The will is there. We should never forget that although its production of carbon may have gone up quite substantially—now it is up to 27 per cent or 30 per cent of global emissions—a major proportion of that increase is to feed our consumption in Europe and North America. Its answer to us is, "You have put carbon into the atmosphere in the past, but now a large proportion of the carbon that we are putting into the atmosphere is for you to consume as you want to as western consumers". This scheme has to succeed. We are overcommitted. The market mechanism is right, if we can make it work. We have to apply it as it needs to be applied. That means a large proportion of auctioning of permits early on. I regret to say that we have to be very cautious about the number of clean development mechanism units that we allow into our own scheme. Philosophically, I absolutely believe that a tonne of carbon saved elsewhere is equal; it does not matter where it is. The problem is that in verification of those schemes, you devalue the gold standard in Europe. Because this scheme has to work, there has to be another way to make technical efficiency in the developing world work better. I do not say that I have the right answer to that, but we risk undermining the scheme. I should like to ask the Minister how the Government will use the £8 billion that they will get per annum by 2020. It is a nice revenue to have, and I would like to think that it will go into this area. The British Government have gone through two rounds of auctioning. What lessons came out of that that they would like to share with Europe and the Commission? How can we get carbon capture and storage to go at a much faster pace? I think we have already lost that one for 2020. Carbon price stabilisation was referred to by the noble Lord, Lord Browne. The noble Lord, Lord Turner, in a committee of the other place, talked about the possibility of floor pricing. Are the Government looking at that? Even if we meet all our EU ETS targets on carbon savings and reduce them by 80 per cent by 2050, what will our carbon consumption be by 2050 compared with in 1990?