Incentives for energy efficiency and innovation in the European Emission Trading System

Panel: Panel 7. New economic instruments

Authors:
Joachim Schleich, Fraunhofer Institute for Systems and Innovation Research
Regina Betz, University of New South Wales

Abstract

We analyse the rules provided in the National Allocation Plans of the EU Member States (MS) for the first period (2005–2007) of the EU emission trading system (EU-ETS) with respect to their impact on energy efficiency and innovation and on technology variety. The allocation rules considered are total quantity of allowances allocated, allocation methods (auction versus grandfathering), rules for banking of left-over allowances into the second period (2008–2012), allocation to newcomers and closures of installations, and information about future allocation.

Since the overall allocation appears rather generous, allowance prices are expected to be low, in particular since almost all MS prohibit banking into the second period. Thus, price-induced innovation effects will be weak. Similarly, the auction shares are too small to have any innovation effects. Closures result in a stop of further allocation, providing disincentives for innovation. In several MS these disincentives are softened because allowances may be transferred to new installations. However, new entrants typically receive allowances for free based on specific emissions and projected output. These specific values are either based on benchmarks for homogenous product groups or depend on best available technologies. In some countries a plethora of benchmarks within the same product categories threaten to thwart the flexibility provisions of the EU-ETS. Finally, future allocation rules are vastly unknown, amplifying the uncertainty about the benefits of new investments. In conclusion, existing allocation rules provide only modest incentives for innovation.